In the latest issue of the Deloitte Economic Review, Deloitte’s Economic Adviser, Roger Bootle, considers what impact the recent trend of rising unemployment is likely to have on the UK economy. His main points are as follows:

• The rise in the number of people claiming unemployment benefits by 200,000 in the last year or so may not have the dramatically adverse effect on the economy of the rises seen in the 1980s and 1990s. The key distinction is that this time round higher unemployment has not been driven by large scale job losses but instead by sharp rises in the workforce population.
• There are a number of factors that have boosted the size of the UK workforce, with the most significant probably being the rise in the population itself. This mostly reflects a surge in immigration following the ascension of ten Eastern European countries to the EU at the start of last year. We estimate that around 500,000 immigrants entered the UK last year.
• On top of the rise in the population, there has also been an increase in the proportion of the population which is either in work or looking for work, otherwise known as the activity or participation rate. This most probably reflects a growing tendency amongst older workers to work for longer, presumably because they are concerned about their provisions for retirement.
• But it is also possible that firms have been reluctant to take on more people from this increased workforce, perhaps because of concerns about increased energy costs.
• However, the fact that employment growth has slowed most sharply in non-energy intensive areas, such as retailing, suggests that the main factor preventing employment from keeping pace with the workforce has been the cyclical weakness of the economy seen over the last few years.
• This message is supported by the news on wage pressures themselves, which appear to have eased over the last year as unemployment has risen.
• So what does this mean for the UK economy? There is a clear danger that, even though higher unemployment is not being driven by job losses, it will still have a dampening effect on economic activity by undermining job security and confidence amongst consumers.
• But it is more likely that the rise in unemployment over the last year or so has acted as a useful pressure valve in easing capacity constraints in the economy and keeping wage and inflation pressures subdued. This, in turn, has provided an environment conducive to robust economic activity. Indeed, it will only be when the economy fully recovers that we will see the full benefits of the increases in the UK’s workforce. These increases will allow the recovery to proceed more strongly and for longer.
  On a different note, in recent months the economy has shown some encouraging signs of re-balancing as the industrial and external sectors have benefited from the strength of overseas demand while consumer spending growth has remained below its long-run average.
  But it remains doubtful that the external sectors will be able to compensate fully for the rather slower growth of household spending than that seen over the last decade. This would be particularly the case if the US economy soon starts to slow, as we expect.
• While we have revised our forecast for UK GDP growth in 2006 a touch higher from 2.2% to 2.5%, we expect a modest slowdown next year to 2.2%. And even if growth turns out to be a bit stronger, the combination of spare capacity in the economy and intense competitive pressures is likely to keep underlying inflation pressures subdued.
• Overall, while the prospects of further falls in UK interest rates this year have evaporated, we think that speculation of rate rises by the autumn is premature. If and when the US economy slows, the pressure on UK interest rates will be down.

Ends

Notes to editors
This press release has been prepared by Roger Bootle, Economic Adviser to Deloitte.  If you have any questions regarding the views in it, please contact Roger Bootle directly on 020 7823 5000 or via email on business@capitaleconomics.com.

This press release contains general information only and is not intended to be comprehensive nor to provide professional advice.  It is not a substitute for such professional advice and should not be acted on or relied upon or used as a basis for any decision or action that may affect you or your business.  Deloitte & Touche LLP accepts no duty of care or liability for any loss occasioned to any person acting or refraining from acting as a result of any material in this publication.

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