Britain is out of recession at last – but are you?

Britain is out of recession at last – but are you?

While the nation’s output of goods and services grew in the final quarter of last year, according to the latest official figures, many people will be wondering whether their own finances are actually in better shape.

By Richard Evans
Published: 9:33AM GMT 26 Jan 2010


For many the answer will be no.

Recovery can bring its own problems; for a start, rising demand tends to stoke inflation, which could prompt the Bank of England to raise interest rates – good news for savers, but not something that hard-pressed home owners would welcome.

 “The danger is that, with a return to growth, Britons will underestimate the hardships of recovery,” said Stephen Barber of Selftrade, the stockbroker.

So what are the prospects for our personal finances as the economic recovery takes hold?

Tax
With Britain borrowing record amounts of money, many expect public spending cuts or tax rises – or both – as the Government attempts to balance the books. Income tax could have to rise by as much as 5p in the pound, said Mark Dampier of Hargreaves Lansdown, the asset manager.

“We have been living through a phoney war, mainly because of the electoral cycle. No political party has the heart or the courage to tell it as it really is,” he said. “So we won’t get a real Budget until after the election and this will probably be worse than the infamous 1981 Geoffrey Howe Budget. So the real war will begin probably some time in July.

“What can we expect? I strongly suspect that the big tax takers – basic-rate tax and VAT – will rise, VAT to 20pc and basic-rate tax by 2p to 5p in the pound.”

He added: “The high level of government and consumer debt makes me feel quite pessimistic. It took over 300 years for us to have £380bn worth of public debt. It has taken this government 12 years to bring it to £850bn. Reducing it will mean a huge shock to our finances – the recession is not over for most of us.”

Adrian Shandley of Premier Wealth Management said: “After the election taxes will rise and, if this is coupled with a rise in interest rates and inflation, individuals could find themselves much worse off, with higher mortgage payments, higher taxes and a lower real value of their wages.”

Interest rates and inflation
Commentators are divided on the likelihood that interest rates will rise from their current unprecedented lows. Mr Dampier said official rates were unlikely to rise this year because a tough post-election Budget “would equate to a significant interest rate rise”.

But he pointed out that you don’t need the Bank of England to put up official rates for mortgage costs to rise. Lenders are by and large able to change their standard variable rates at will, while Skipton Building Society recently abandoned a pledge to keep its SVR within three percentage points of Bank Rate.

“Money is very expensive at the moment even though base rates are at a 311-year low,” Mr Dampier said. “While for home owners with a tracker mortgage 2009 probably proved to be rather good in terms of income, I think for the consumer who has kept their job the recession is only just about to start. I believe people are going to be in for a real shock. They have got used to a standard of living that goes up every year. I expect that standard of living for the next four or five years to fall.”

Ros Altmann, a governor of the London School of Economics, said interest rates would have to start rising at some point. “They cannot possibly stay at these low levels as the economy picks up,” she said. “But I fear that the Bank of England might keep rates too low for too long. This leads to a significant risk of rising inflation – indeed inflation is already well above the official target – and once inflation takes hold it may not be easy to bring it back under control.”

Higher interest rates might seem like good news for savers, who would finally see better returns on their money, she said. But if inflation rose faster than interest rates, pensioners’ and savers’ incomes would not keep up with increasing household bills. “Rising rates also means higher mortgage rates, which will put further pressure on many households’ incomes.”

Vicky Redwood of Capital Economics, the consultancy, said rises in interest rates looked unlikely. “So at least mortgage costs should stay low. But house prices still look overvalued and could start to fall again, leaving more households in negative equity,” she added.

Investments
While you would expect the end of a recession to be good news for the stock market, it’s worth bearing in mind that markets generally look ahead, so much of the good news will already be “in the price”. So instead of simply expecting the FTSE100 to soar, investors may have to be selective if they want to profit, experts say.

“A return to growth does not mean a return to pre-credit crunch investment strategies,” Mr Barber said. “Investors would do well to build portfolios which are both defensive and which take advantage of the new opportunities in Britain and across the world.”

Mr Dampier agreed, saying: “I think it becomes a real stock picker’s market. There are some areas of the stock market – high yielding defensives and special situations – which I think could blossom through a difficult time in the economy. But the general indices may well tread water.”

Bond investors may have to be more careful, Ms Altmann warned. “As the Bank of England begins to unwind its policy of quantitative easing, it will have to try to sell gilts. This will push bond yields up and prices down. Bond investors would lose money, while rising yields could also unsettle the stock market later on.”

Jobs
An immediate improvement in employment prospects is unlikely, experts say. Ms Redwood said: “Jobs will remain hard to find, with employers likely to remain nervous about hiring when the economic recovery is still sluggish. In fact, we expect unemployment to start rising again and it could even reach 3m.

“Even if employment holds up, that is only likely to be because firms are controlling costs by cutting or freezing pay instead. For many people, it will still feel very much like a recession.”

Ms Altmann agreed. She said: “Companies will not suddenly rush to recruit new staff until they are more confident that the recovery will last, so unemployment is likely to stay high and pay will not increase much if at all for most of us.”

Household bills
There is further bad news for consumers when it comes to council tax and household energy bills. “We can expect council tax to rise further as we are paying for the public sector pensions,” Mr Dampier said. “Utility bills will continue to rise, not only because of rises in commodity prices but also because of environmental taxes.”

http://www.telegraph.co.uk/finance/personalfinance/consumertips/7077807/Britain-is-out-of-recession-at-last---but-are-you.html?utm_source=tmg&utm_medium=TD_rec&utm_campaign=pf2701am