The last State of the Economy update was published in June, prior to the EU referendum vote. At that time, the outlook for both the UK and Scottish economies in 2016 and 2017, despite the challenges impacting the oil and gas sector, remained positive. Central to these projections was the assumption that the UK would vote to remain in the EU.
The EU referendum result had an immediate impact on economic and business sentiment in Scotland and the UK. This led to a review of existing economic forecasts as both Sterling and stock markets reacted to the vote. Four months on, there still remains a high degree of uncertainty, with most forecasters downgrading growth expectations for 2017 and beyond, reflecting the view that investment plans for the UK will be impacted negatively next year as a result of the uncertainty regarding future UK trading arrangements.
In considering the outlook for the economy, expectations and market sentiment continue to be highly sensitive to the political process relating to the EU referendum and signals of what negotiated outcomes are likely. This adds an additional layer of complexity to economic forecasts. Similarly, the market response, reflected in the depreciation of Sterling by around 17% and rising UK stock markets, alongside the monetary response of the Bank of England, is serving to bolster immediate economic activity. All of which clouds the outlook as the immediate data are stronger than expected, whilst the forecast outlook is much more downbeat. The latter reflects the fact that the key economic impacts will materialise more strongly as market access for goods, services, capital or labour are changed, which has not happened yet.
Scottish Economic Performance – Pre-EU Referendum
Data for the first half of 2016 showed a continuation of previous trends with subdued output growth but stronger labour market conditions. In the three months leading up to the EU referendum, Scottish GDP grew 0.4% over the quarter and 0.7% over the year. This was an encouraging rebound from flat growth at the start of the year, supported by a pick-up in growth in the Production sector. However, it also reflected the continued impact of low oil prices on North Sea profitability.
The resilience observed in the labour market during 2015, with employment and unemployment rates close to their long run averages, has been evident in the first half of 2016 also. Most recently, in the three months to August, unemployment fell to 4.6%, its lowest rate since 2008.
Post-EU Referendum Outlook
There is considerable uncertainty about the outlook for the UK and Scottish economies. Almost all forecasters have revised down their projections for 2016 and 2017. The outlook for the UK in 2017, based on the HMT average independent forecast, is for growth of 1.0%, down from an average forecast of 2.1% made prior to the referendum. There have been similar downward revisions in the forecasts for Scottish GDP growth.
All forecasts are conditional on a number of assumptions relating to the political process and the response of consumers and businesses. Expectations are key in driving short run economic sentiment and can change quickly, making any forecasts uncertain. What we can say is that activity in Scotland has been impacted by the EU referendum with business survey evidence signalling weak activity in the immediate aftermath of the vote. However, whilst business optimism is weak, there are encouraging signs of a pick-up in activity towards the end of the third quarter.
We also know that the Scottish Consumer Sentiment Indicator for Q3, published within this report, recorded its lowest level since the survey began in 2013. If the fall in consumer sentiment translates into less household expenditure then this will impact negatively on economic activity in Scotland. However, longer term, the key impacts relate more to any future changes in trading arrangements with the EU and uncertainty will persist until these are clarified.