The Economic Grand (Inter)National Enrico Longoni RBS Group Economics October 2012.

The Economic Grand (Inter)National

Enrico Longoni

RBS Group Economics

October 2012

Back to recession…UK GDP (GBP bn, 2008 prices)

Source: Office for National Statistics

340

345

350

355

360

365

370

375

2005 2006 2007 2008 2009 2010 2011 2012

Austerity not to be blamed

UK Q2 2012 GDP – output approach (%q/q)

Source: Office for National Statistics

-3.9

-2.6

-0.9

-0.9

-0.1

-0.1

-0.5

0.3

Construction

Agriculture

Production

Manufacturing

Services

Business services & Finance

Government & other

GDP

Worse than the great depression?

90

95

100

105

t t+1 t+2 t+3 t+4 t+5 t+6 t+7 t+8 t+9 t+10 t+11 t+12 t+13 t+14 t+15 t+16

Output since start of downturn (= 100)

Great Depression

Great Recession

UK GDP during the Great Depression and the Great Recession (q/q)

Source: Bank of England and Office for National Statistics

UK labour market puzzle

Source: Office for National Statistics

-300

-200

-100

0

100

200

300

400

500

600

Q12010

Q22010

Q32010

Q42010

Q12011

Q22011

Q32011

Q42011

Q12012

Q22012

Public Sector Private Sector Cumulative net change

Employment: Private vs Public Sector

Deficit reduction…a long way to go

-5

-4

-3

-2

-1

0

1

10-11 12-13 14-15 16-17

Source: Office for Budget Responsibility

Most of the pain is still to come

75%

27%

88%

66%

88%

94%

0%

10%

20%

30%

40%

50%

60%

70%

80%

90%

100%

All fiscal tightening Tax increases Total spending cuts Investment cuts Benefit cuts Other current spendingcuts

Share of fiscal tightening still to be implemented after April 2012 (%)

Source: The Institute for Fiscal Studies

Corporates to the rescue?

Bureau of Labor Statistics

-5

-4

-3

-2

-1

0

1

2

3

4

5

1982

1984

1986

1988

1990

1992

1994

1996

1998

2000

2002

2004

2006

2008

2010

2012

Net Surplus of Private Non-Financial Corporations (cumulative % of GDP)

Bernanke to the rescue?

Source: Bureau of Labour Statistics

US labour market

0

50

100

150

200

250

300

Feb-1

1

Mar

-11

Apr-1

1

May

-11

Jun-

11

Jul-1

1

Aug-1

1

Sep-1

1

Oct-11

Nov-1

1

Dec-1

1

Jan-

12

Feb-1

2

Mar

-12

Apr-1

2

May

-12

Jun-

12

Jul-1

2

Aug-1

2

Sep-1

2

(00

0s

)

7

7.5

8

8.5

9

9.5

(%)

Change in non-farm payrolls (lhs) Unemployment rate (rhs)

US approach to fiscal policy

$100

$10,000

$1,000,000

$100,000,000

$1,000,000,000

$1,000,000,000,000

Walking along the “Fiscal Cliff”

A lot could happen

GDP (%y/y) Unemployment (%)

No fiscal cliff 2.5% 8.6

1 Full fiscal cliff -1.0% 10.1

2 75% of cliff -0.1% 9.7

3 Only tax cuts implemented 0.6% 9.4

4 50% of cliff 0.8% 9.3

5 Only spending cuts implemented 1.5% 9.0

6 25% of cliff 1.7% 9.0

Source: Group Economics

Super Mario to the Eurozone rescue?

“…All it takes to save the €…”

Source: Bloomberg & Group Economics

4.5

5.0

5.5

6.0

6.5

7.0

7.5

8.0

Jan Feb Mar Apr Ma Jun Jul Aug Sep

Italy (6.6% - 5.1%)

Spain (7.6% - 6%)

LTROs

OMT announcements

Something’s changed

Contribution to Global GDP Growth (Past and Present)

0%10%20%30%40%50%60%70%80%90%

100%

2001-2008 2010-2011 2012-2016

Advanced Economies Developing and Newly Industrialised Asia Other

Source: Datastream & Group Economics calculations

This slowdown is the start of a structural change

Source: Group Economics calculations

China GDP annual growth

GE forecast

0

2

4

6

8

10

12

14

16

2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017

Still plenty of investment left to go in China

Length of Railway (km)

0 50,000 100,000 150,000 200,000 250,000

China

US

Road Density (km per sqkm)

00.5

11.5

OECD ChinaAverage

EasternChina

CentralChina

WesternChina

Capital Stock ($ trn)

0 10 20 30 40 50

US

China

Underground Transport

0

50

100

Cities with populationover 5 million

Number of those citieswith a subway

UK fiscal policy – Plan A2,B, C

Monetary policy – rates low for how long?

Source: Bank of England & Group Economics calculations

0

1

2

3

4

5

6

7

2000

2001

2002

2003

2004

2005

2006

2007

2008

2009

2010

2011

2012

2013

2014

2015

Feb 2011

Feb2012

Aug 2012

Aug 2011

UK Bank rate and expectations

The UK remains a world leader

Wealthy

Highly skilled workforce

Innovative

8th most competitive economy

7th largest economy

World class education

Attractive for foreign investment

6th largest manufacturer

3rd largest exporter of services

10th largest exporter of goods

AAA rated

UK economic growth in the long run

4.4

4.8

5.2

5.6

6

6.4

1900

1906

1912

1918

1924

1930

1936

1942

1948

1954

1960

1966

1972

1978

1984

1990

1996

2002

2008

Spot the Great Depression

Source: Bank of England; RBS Group Economics

“Great things are not done by impulse,

but by a series of small things brought together."

~Vincent van Gogh~

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A word from our lawyers

Source: ONS

What is happening in the labour market?

Cumulative change in private employment (000s)

-100

0

100

200

300

400

500

600

2011 Q1 2011 Q2 2011 Q3 2011 Q4 2012 Q1 2012 Q2

Employees FT Employees PT Self employ FT Self employ PT

UK growth: the long and winding road

GDP following recessions, start of recession = 100

Source: Datastream and Group Economics calculations

90

95

100

105

110

115

0 1 2 3 4 5 6 7

Years since start of recession

Typical UK recovery Recovery so far RBS forecast

1990s recession/recovery

Current recession/recovery

Fiscal rebalancing: a good start, but still far to go

Net borrowing as % of GDP

0

2

4

6

8

10

12

2001

/02

02/0

303

/04

04/0

505

/06

06/0

707

/08

08/0

909

/10

10/1

1

2011

/12*

12-1

313

/14

14/1

515

/16

16/1

7

OBR forecast

Source: Office for Budget Responsibility

Would a Plan B work?There is some additional debt capacity, but unquantifiable risks

Public sector net debt:GDP, UK forecast & selected countries in 2012

0%

20%

40%

60%

80%

100%

12-13 13-14 14-15 15-16 16-17 Ireland Italy Spain Portugal

Public sector net debt as % of GDP

IMF recommended debt:GDPceiling

Reinhart & Rogoff say growthfalters above this level

Debt:GDP likely unsustainable

High levels of household and public debt constrain growth

Public sector net debt as % of GDP, excluding financial sector interventions

0

10

20

30

40

50

60

70

2003 2005 2007 2009 2011

Household debt as a % of income

80

90

100

110

120

130

140

150

160

170

1990 1995 2000 2005 2010 2015

Source: Datastream & Group Economics calculations

Main economic problem facing the UK

61 5752 53 50 49 49

39 4348 47 50 51 51

Q2 10 Q3 10 Q4 10 Q1 11 Q2 11 Q3 11 Q4 11

The lack of economic growth - we need to spend and lend more to create jobs & keep business going

The size of the debt burden - we need to borrow less & save more to ensure we keep interest rates low

Corporates have the cash….

Government , 8.3%

Financial companies, 1.7%

Non-financial companies, 3.6%

Households, 1.4%

Rest of the World, 1.7%

0.0%

1.0%

2.0%

3.0%

4.0%

5.0%

6.0%

7.0%

8.0%

9.0%

Financial deficit Financial surplus

Government Financial companies Non-financial companies Households Rest of the World

Flow of funds financial surplus/deficit 2011 (% of GDP)

Source: Office for National Statistics

Drastic times, drastic measures?

Increase demand (symptom)

Massive fiscal stimulusQE maxLiquidity unbounded“Use it or lose it” deposit

taxPFI v2.0Beg to China

Reduce debt (cause)

(Big) “bad bank”Debt forgivenessFinancial repressionMonetise debtRaise interest ratesOutright default

China’s growth is slowing, should we be worried?

China - Loan Growth and Industrial Production - Y/Y Change

1012141618202224

Apr-10

Jun-

10

Aug-10

Oct-1

0

Dec-1

0

Feb-1

1

Apr-11

Jun-

11

Aug-11

Oct-1

1

Dec-1

1

Feb-1

2

Loan Growth

Industrial Production

Source: Datastream & Group Economics calculations

Emerging markets: huge export opportunity

% share of global GDP

Source: IMF

30%

35%

40%

45%

50%

55%

60%

65%

70%

1991 1993 1995 1997 1999 2001 2003 2005 2007 2009 2011 2013 2015

Developed Economies

Emerging Economies

Source: Datastream & Group Economics calculations

UK export market share & growth

(1)

(6)

(10)

(27)

(2)

(3)

(4)

(5)

(7)(8)(9)

(11) (15)(20)

0.0

2.0

4.0

6.0

8.0

10.0

12.0

14.0

-5.0 0.0 5.0 10.0 15.0 20.0 25.0 30.0 35.0 40.0 45.0

2011 Y/Y growth in exports (%)

Sha

re o

f UK

exp

orts

(%

)

Trade headwinds

Source: IMF

EZ problem markets

Major markets

Emerging markets

Source: Datastream & Group Economics calculations

Exports heading to the wrong places – for now

UK 2010 exports – by destination and growth rates

0

5

10

15

20

25

30

35

40

45

50

EZ US

Canad

a

Switzer

land

China

Russia

Brazil

India

South A

frica

Export growth (%y/y) Market share (%)Source: Office for National Statistics

EZ imbalances, more than fiscal

Unit labour costs: Germany vs. the PIIGS

70

80

90

100

110

120

130

140

150

1995 1997 1999 2001 2003 2005 2007 2009 2011

Germany Italy Greece Spain Portugal Ireland

Source: Datastream & Group Economics calculations