Bloomberg News

Cameron Presses On With Budget Squeeze as Retailers Suffer

July 05, 2011

(Updates with U.K. services index in eighth paragraph.)

July 5 (Bloomberg) -- Prime Minister David Cameron’s refusal to compromise on the most ambitious fiscal squeeze since World War II is testing Britain’s recovery as consumers lose faith in the economy.

As he implements six years of spending cuts -- no postwar British government has managed more than two -- Britons’ confidence is waning and inflation is accelerating.

“The plan is hugely ambitious and it’s going to require a lot of political skill and a fair amount of good fortune,” said Simon Hayes, an economist at Barclays Capital in London. “The economy looks a lot weaker now than people would have hoped.”

Cameron is looking to the longer term gain of shielding Britain from the crisis that’s engulfed Greece and the euro region. The short-term pain to get there includes a pace of economic growth that may lag behind other advanced nations. U.K. retailers Kesa Electricals Plc and Dixons Retail Plc are among companies feeling the pressure, with the latter saying June 23 the economic backdrop remains “challenging.”

Furniture chain Habitat went into administration last month and chocolate retailer Thorntons Plc said June 28 it may close as many as 180 stores over the next three years. Carpetright Plc said the same day it is also shutting outlets.

U.K. share prices are trailing those in Germany and France. The FTSE 350 Retail Index is little changed this year, while the FTSE 100 has gained 2.1 percent. That’s less than the 5 percent by France’s CAC 40 and 7.8 percent by Germany’s DAX.

‘Home to Roost’

“We’re seeing this wave of administrations and shop closures,” said Chuka Umunna, a spokesman for the opposition Labour Party on business. He blamed a government decision to put up sales tax to 20 percent, which took effect Jan. 1. “The chickens are coming home to roost.”

An index of services stayed close to a three-month low in June, a report from Markit Economics today showed. While the gauge rose to 53.9 from 53.8 in May, Markit said the report masks “some worrying signs.” Separate surveys this month showed manufacturing and construction growth slowed in June.

Nevertheless, Cameron and Chancellor of the Exchequer George Osborne have rejected calls to slow the pace of the squeeze. Their plans envisage 110 billion pounds ($177 billion) of spending cuts and tax increases over four years and about 310,000 job cuts.

Interest Rates

Two-thirds of consumers said they cut back on spending recently, while 52 percent have less hope for the future, according to a survey in the News of the World on July 3. A GfK NOP measure of sentiment fell more than economists forecast in June amid an inflation rate that’s more than twice the Bank of England’s 2 percent target.

The central bank is setting aside inflation concerns for now to aid the recovery through the fiscal tightening. All 51 economists in a Bloomberg News survey forecast it will keep the key interest rate at a record-low 0.5 percent on July 7. Another survey shows the bank will maintain its bond program at 200 billion pounds.

“With a lot of countries cutting at the same time, the backdrop is difficult and monetary policy is more constrained,” said Richard Barwell, an economist at Royal Bank of Scotland Group Plc. “It’s not a great time for the household sector and it’s not going to get better anytime soon. But what would be a mistake is if the chancellor was to say, ‘I’m changing course.’”

Economic Outlook

Osborne’s plans may restrain a recovery that stalled in the six months through March. The International Monetary Fund sees the economy growing 1.5 percent this year and 2.3 percent in 2012. That’s less than the 2.2 percent and 2.6 percent it projects for the world’s advanced economies.

Consumer spending may be the weakest link after it dropped the most in almost two years in the first quarter. Real incomes fell in 2010 for the first time since 1981 and the U.K. Treasury predicts a further drop this year, marking the first back-to- back decline since the 1970s oil crisis and recession.

With the Bank of England forecasting that inflation will accelerate to more than 5 percent, that will further punish consumers whose average annual wage growth was about 2 percent in the three months through April.

Unrest is growing and thousands of government employees went on strike last week to protest job losses and pension cuts. Luanna Avagliano, who took part in a picket in London, said workers are feeling the squeeze.

‘Pay Cut’

“We’ve been in a two-year pay freeze, but it’s more of a pay cut,” she said. “These are ordinary people with rents, mortgages and bills to pay. We had a contract.”

Hayes at Barclays said that further central bank bond purchases may not be an effective boost to stimulus. One policy the government could consider are temporary tax cuts to encourage spending, said the former Bank of England economist.

“The question about whether we can get though the next few quarters without policy support is more of an issue than it has been,” Hayes said. “While the government is reluctant to even consider any form of fiscal support, there are question marks over that strategy as the effectiveness of quantitative easing is questionable.”

--Editors: Fergal O’Brien, Craig Stirling

To contact the reporters on this story: Svenja O’Donnell in London at sodonnell@bloomberg.net; Robert Hutton in London at rhutton1@bloomberg.net

To contact the editor responsible for this story: Craig Stirling at cstirling1@bloomberg.net


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