IMF Concludes Economic Assessment Of UK

by Robin Pilgrim, LawAndTax-News.com, London

14 March 2006

The Executive Board of the International Monetary Fund (IMF) announced last week that it has concluded its Article IV consultation with the United Kingdom.

The IMF Board observed that:

"Macroeconomic stability remains remarkable, due in part to confidence-enhancing policy frameworks and generally sound implementation. With economic activity above potential in 2004, some easing of real GDP growth and rise of inflation in 2005 were expected. In the event, the slowdown in growth and rise in inflation were sharper than envisaged."

"The growth slowdown was driven mainly by a fall in private consumption growth, reflecting the cooling of the housing market, previous monetary policy tightening, and rising personal income tax revenues."

It added:

"Over much of the past decade, fiscal policy managed to contain — even reduce — debt while playing a useful countercyclical role. However, the sharp increase in government spending on public infrastructure and public services that began in FY2000/01 continued in FY2003/04 and FY2004/05. The result, as growth picked up, was procyclical stimulus, a growing deficit, and a rising debt ratio. In FY2004/05, the overall public sector deficit was 3¼ percent of GDP and end-year net debt amounted to almost 35 percent of GDP."

The IMF Board's Executive Directors welcomed the "UK economy's remarkable performance that has lasted more than a decade, and has been marked by continued economic expansion, falling unemployment, and sustained low inflation".

They attributed this to sound policies implemented by strong institutions and underpinned by monetary, fiscal, financial, and structural policy frameworks that have increasingly instilled confidence in the authorities' conduct of macroeconomic policies.

According to the IMF:

"Developments in 2005 put these policy frameworks to the test, with a slowdown in real GDP growth and a rise in inflation that were the sharpest in a decade, reflecting the economy's advanced cyclical position, the abrupt deceleration in house prices, and the sharp rise in oil prices. Monetary policy faced difficult choices, while fiscal policy needed adjustment in order to meet the authorities' fiscal rules."

"Prospects for the UK economy going forward are favorable, with growth expected to pick up in 2006-2007 on the strength of private consumption, and inflation remaining stable around the target. Directors observed that the current account deficit and the negative international investment position are not major concerns, and that there is no clear evidence of overvaluation of the exchange rate."

"At the same time, Directors noted that important uncertainties and risks surround the outlook, to which the authorities will need to remain vigilant. These include the degree of overvaluation of house prices; the impact of high energy prices on potential output; the potential effects of immigration on aggregate supply and demand; and — on the external side — the risk that a disorderly unwinding of global imbalances could affect the value of sterling."

The Article IV report went on to add that:

"Directors commended the supervisory authorities for skillfully meeting the challenge of overseeing a global financial center, and in particular for staying abreast of financial innovations in an environment marked by concerns about possible global underpricing of risk. They agreed that the banking system is well-capitalized and cost-efficient, and hence is well-positioned to absorb potential losses from financial market disturbances."

"Directors noted that specific risks — including exposures to commercial property, a possible loosening of corporate lending standards, and the growth of sub-prime lending — appear to be manageable."

"The rapid growth of credit risk transfer instruments, while providing important diversification benefits, has also created new risks. Directors therefore welcomed the authorities' efforts to publicize these risks and to address the transactions backlog. Going forward, it will be important to ensure that the development of market infrastructure and of financial institutions' risk management systems keeps pace with these innovations."

Finally, the report concluded:

"Directors praised the United Kingdom for its leadership role in promoting trade liberalization, especially of agricultural trade. They also commended the government for the recent and planned increases in overseas development assistance."

Recommended