The economy grew strongly in the third quarter according to recent figures, supported by private consumption, public spending and net exports. Moreover, real earnings growth accelerated notably, as the tight labor market fed wage pressures. Employment growth, however, softened in quarter-on-quarter terms, possibly on rising Brexit uncertainty. Looking to Q4, signs are less positive. In October, both the services and manufacturing PMIs fell, while annual retail sales growth slowed considerably and consumer sentiment worsened. On the fiscal front, the government recently presented an expansionary budget, which should support growth next year thanks to higher spending and tax cuts. In mid November, the UK and EU reached a preliminary agreement on Brexit withdrawal terms. Its ratification would support business confidence and investment, although there are serious doubts over whether the UK parliament will give the green light to the deal as it currently stands. • Growth should be fueled next year by the looser fiscal stance and higher wages boosting private consumption. However, private fixed investment will likely remain subdued until there is greater clarity on the Brexit front. A failure to seal a withdrawal deal with the EU before the UK departs the bloc in March 2019 is the key downside risk. Our panelists expect GDP growth of 1.5% in 2019, up 0.1 percentage point from last month’s forecast, and 1.5% again in 2020.

Inflation remained at 2.4% in October. Inflation should trend gradually downward in the quarters ahead, on higher interest rates and as the pass-through effects of higher oil prices and the weaker pound subside. However, greater wage pressures will likely slow the descent. Panelists expect inflation to average 2.1% in 2019 and 2.0% in 2020. The Central Bank kept the Bank Rate unchanged at 0.75% at its meeting ending on 31 October. Most panelists expect the Bank to wait until the UK leaves the EU in March next year before engaging in further tightening. FocusEconomics panelists see the Bank Rate ending 2019 at 1.08% and 2020 at 1.33%. On 16 November, the pound traded at USD 1.28 per GBP, weakening 2.6% from the same day in the previous month due to domestic political uncertainty. Looking to next year, the pound is set to appreciate. However, it will remain weaker than its pre-referendum levels and the evolution of Brexit negotiations will be key; if the UK leaves the EU without a deal, the pound could lose significant value. Our panelists see the exchange rate ending 2019 at USD 1.39 per GBP and 2020 at USD 1.41 per GBP.

POLITICS | UK and EU reach final withdrawal agreement, but UK parliamentary backing is in doubt On 14 November, the UK and EU finalized negotiations on the withdrawal agreement and presented an outline of the political declaration of the future UK-EU relationship. If the withdrawal agreement is ratified by the European Council and approved by the UK and EU parliaments, this would hugely reduce economic uncertainty, likely boost fixed investment and UK GDP growth in the near-term, and see the pound strengthen. However, there are serious doubts over whether the UK parliament will approve the deal as it currently stands. The withdrawal agreement covers the financial settlement between the two parties—thought to be in the region of GBP 40 billion—guarantees the rights of UK citizens residing in the EU and EU citizens residing in the UK, and establishes a transition period, lasting from the moment the UK leaves the EU at the end of March 2019 to the end of December 2020. Moreover, the agreement allows for the possibility of a single extension of the transition period by an unspecified amount of time. Such an extension could well be necessary, given the difficulty of finalizing a trade agreement by the end of 2020, and should reassure businesses. The fourth key aspect is the Irish backstop, which would come into force at the end of the transition period if the UK and EU fail to find a way to keep trade flowing freely at the Irish border. The backstop would lead to the creation of a “single EU-UK customs territory”; however, it could also see Northern Ireland remaining more closely aligned to the EU than the rest of the UK, and obliged to follow EU rules in areas such as VAT, excise duties and goods legislation. The backstop can only be terminated if the UK and EU “decide jointly”, potentially forcing the UK to remain within such a trading relationship indefinitely. The outline of the political declaration is narrower in scope than Prime Minister May’s Chequers plan, which was presented in July and had called for “frictionless” trade in goods, a common rulebook and the establishment of a “facilitated customs arrangement” to remove customs checks at the border. The outline speaks instead of a free trade area for goods with “deep regulatory and customs cooperation”, along with “zero tariffs, no fees, charges or quantitative restrictions across all goods sectors”. However, some customs checks would likely remain. The deal for services—particularly financial services, where the UK has a strong comparative advantage—is less comprehensive. Were such a trade deal to come into force after the transition period, it would hamper the UK’s long-term growth prospects compared to the status quo of remaining in the EU. However, if the withdrawal agreement is signed off, this would likely boost growth in the short-term, by supporting business and consumer sentiment and leading to a recovery in private investment—which has been measly in recent quarters. Irrespective, MPs are likely to initially reject the deal when presented in parliament, which should occur in December. For the opposition Labour Party the deal will likely overly constrain trade between the UK and EU. The Northern Irish DUP—which provides Theresa May with a parliamentary majority—will likely balk at the potential for regulations in Northern Ireland to diverge from those in the rest of the UK. Moreover, many pro-Brexit Conservative MPs will likely consider the deal leaves the UK too closely aligned to the EU— particularly given that there is the possibility of an indefinite Irish backstop.

- Focus Economics

China’s spectacular economic growth of recent decades will slow. 

Amid rising trade tensions with the United States, economic growth decelerated in the third quarter to levels not seen since the trough of the global financial crisis in 2009. This has piled pressure on the Chinese government to reignite economic activity. On the upside, growth in fixed asset investment ticked up in September, suggesting that the first bunch of stimulus measures have started to kick in. Moreover, the economy is benefiting from the front-loading of shipments ahead of planned additional tariffs to be imposed by the U.S. in January 2019, as well as by less restrictive anti-pollution policies. Meanwhile, on 20 October the government presented a new special deduction plan to be implemented in 2019, which builds upon the tax reform announced in August and hopes to support household consumption. More recently, President Xi Jinping vowed to support private companies in a meeting with top businesses on 1 November. State-owned firms enjoy preferential access to credit, which hurts private financing especially in a context of weak lending growth.  Looking ahead, China’s spectacular economic growth of recent decades will slow as authorities attempt to guide the country towards a more sustainable economic model. Moreover, headwinds from the tit-for-tat trade war with the U.S. and a potential sharp correction in the housing market are the main downside risks to growth. Despite this, a looser fiscal stance and a more accommodative monetary policy should cushion any sizeable economic downturn. FocusEconomics panelists see the economy growing 6.3% in 2019, which is unchanged from last month’s forecast, before decelerating slightly to 6.0% in 2020. 

Inflation stabilized at September’s 2.5% in October. Despite high energy prices, a weaker currency and relatively loose monetary policy, inflationary pressures will remain largely contained, reflecting weakening domestic demand. FocusEconomics panelists forecast that inflation will average 2.3% in both 2019 and 2020.  The People’s Bank of China (PBOC) uses a complex system to implement monetary policy, including the use of key benchmark rates, open market operations (OMO) and reserve requirement ratios. In recent weeks, the PBOC continues to inject liquidity into the system through OMO. Panelists expect that the one-year deposit and lending rates to close 2019 at 1.52% and 4.33% respectively, and 2020 at 1.57% and 4.33%.  The yuan continued to tumble in recent weeks and hit the weakest point in a decade on 31 October. The depreciation reflected spillovers from the ongoing trade spat with the United States and cooling domestic growth. Nevertheless, the yuan strengthened slightly in the following days and, on 9 November, it traded at 6.96 CNY per USD, a 0.5% weaker compared to the same day in October. Our panelists see the yuan ending 2019 at 6.95 CNY per USD and 2020 at 6.81 CNY per USD.

The weakest performance since the financial crisis in the third quarter spells sharper Chinese slowdown

The Chinese economy decelerated further in the third quarter as the effects of aggressive financial deleveraging bogged down growth. GDP expanded 6.5% in annual terms in Q3, down from the 6.7% expansion recorded in Q2. The figure was below market analysts’ expectations of 6.6% growth and the softest print since Q1 2009. In seasonally-adjusted quarter-on-quarter terms, GDP growth inched down to 1.6% from a downwardly-revised 1.7% expansion in Q2.

Right-wing Jair Bolsonaro was elected president on 28 October, after a polarizing and turbulent election cycle. Bolsonaro campaigned on a largely market-friendly platform, vowing to continue with economic reforms and curb the worrysome fiscal deficit, which should bode well for the economy going forward if enacted. That said, Bolsonaro is a controversial and wildcard figure; he could thus have difficultly drumming up support in Congress to pass legislation throughout his tenure, while some uncertainty remains regarding his incoming policies. Meanwhile, mixed economic data is rolling in on the recovery. The unemployment rate fell in the third quarter and consumer confidence jumped in October, positive signs for household spending. However, industrial production contracted sharply in September and business confidence fell further the following month. Overall, growth is expected to have firmed in Q3 as the economy normalized after the truckers’ strike caused widespread disruptions in Q2.

After downgrading Brazil’s outlook last month, FocusEconomics panelists kept their view of 2019 growth unchanged this edition. Next year, the recovery should gain steam on the back of an improving labor market and robust fixed investment. Keeping the country’s finances on a positive trajectory is key to the country’s longer-term outlook and Bolsonaro’s pledges to pursue fiscal consolidation should keep growth on track. GDP is seen growing 2.3% in 2019 and expanding 2.5% in 2020.

Global economic growth appears to have lost steam in the third quarter in annual terms following Q2’s strong showing. A preliminary GDP estimate for the global economy put year-on year growth at 3.3% for Q3. While the print was a notch below the 3.4% increase from the previous period, it matched last month’s forecast.

The softer Q3 reading was driven in part by weaker dynamics in global powerhouse China, which saw growth fall short of expectations according to recent figures, amid rising trade disputes with the U.S. and subdued industrial production and investment. In order to shore up flagging activity, the Chinese authorities have loosened credit conditions, relaxed anti-pollution measures and unveiled plans to reduce taxes in recent weeks, with the impact of changes likely to be felt from Q4 onwards. Moreover, growth in the Eurozone likely dimmed in annual terms, despite remaining robust, due to a tough base effect arising from a stellar performance in 2017. In contrast, monthly indicators suggest the U.S. economy continued to roar ahead in the third quarter, buoyed by fiscal stimulus measures, low unemployment and elevated consumer confidence. The UK economy also appeared to perform well, although this was at least partly due to warm weather buoying consumer spending, and momentum is set to ebb in Q4.

Regarding emerging markets, economic dynamics in ASEAN and East and South Asia should have stayed robust, supported by solid domestic demand and strong labor markets. Most economies in Eastern Europe likely also chalked up healthy growth—buoyed by strong demand from the EU—although a rapid deterioration of economic conditions in Turkey dragged on the region’s performance. Economic activity in Latin America continued to be held back by political and financial instability in key economies such as Argentina, Brazil and Venezuela, while the Middle East and North Africa, and Sub-Saharan Africa regions should have benefited from higher prices for their key commodity exports.

More from Focus-Economics

Incoming data suggests that sluggish growth continued in the third quarter, after Q2’s deceleration. Industrial production growth waned in August and the manufacturing PMI edged down in September pointing to lackluster manufacturing activity. However, a booming tourism sector is expected to have buttressed momentum over the summer. Against a backdrop of languishing growth, the government unveiled its first post-bailout budget on 1 October. Authorities penned in a large primary surplus—greater than the amount agreed with its lenders—to shield them from having to cut pensions again. Although another round of unpopular pension cuts had been agreed upon, policymakers want to avoid the slash ahead of elections next year and stated that the European Commission has approved the budget. The government remains under close monitoring by its European lenders after the end of the third bailout. Meanwhile, the Finance Ministry and Central Bank announced they will begin lifting capital controls in the coming months as the economy slowly normalizes following the crisis.  An improving labor market and a pick-up in investment thanks to reduced uncertainty should drive the recovery into next year. That said, the economy’s long-term outlook is murky as doubts remain over the sustainability of the country’s debt load and the government’s willingness to continue running large primary surpluses for years to come. FocusEconomics panelists see GDP expanding 1.9% in 2019, which is down 0.1 percentage points from last month’s projection, and 1.9% again in 2020.

The IHS Markit manufacturing Purchasing Managers’ Index (PMI) edged down to 53.6 points in September from August’s 53.9 points, but remained above the critical 50-point threshold that separates expansion from contraction in business conditions in the manufacturing sector, where it has been for 16 months. September’s expansion was driven by growth in new orders and output. Both foreign and domestic client demand increased, buoying new business growth to a 13th consecutive monthly expansion. Meanwhile, input price inflation continued to decelerate from June’s recent peak, although still remained high due to increased prices on metal and wood products.