Outlook worst since dotcom bust

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By Chris Giles and Delphine Strauss

Published: January 2 2008 02:00

Britain this year faces the most difficult economic conditions since the dotcom bubble burst, according to the Financial Times ‘ annual survey of leading economists. It shows deepening pessimism about the impact of the global credit squeeze.

The survey of 55 top economists shows confidence has tumbled from a year ago. The experts also fear that compared with 2001-02, the scope for financial authorities to mitigate any downturn is far more limited.

Nearly nine in 10 think public finances are not in good order so there is no leeway for discretionary tax cuts or increases in public expenditure. The third most-mentioned risk to the economy is inflation, limiting the ability of the Bank of England to cut interest rates.

Nearly two-thirds of the economists – from the City, academia and including five former members of the monetary policy committee – thought house prices would fall this year [2008], although there was wide disagreement over the effect of a housing downturn on the economy. Even those usually optimistic sounded a more cautious note after five months of deepening financial market problems.

Sir Alan Budd, provost of Queen’s College Oxford and former chief economic adviser to the Treasury, said: “I’m quite worried … mainly because some of the problems are unprecedented and don’t seem to be responding to treatment.”

Many of the problems stem from abroad, especially the likelihood of a housing market slump in the US.

Sir Howard Davies, director of the London School of Economics, saw a high probability of a recession in the US. He added: “That would be likely to spread to the UK and some other European countries where property prices seem similarly out of line.”

But at home, concerns centre on the limited ability of the government to mitigate any slowdown because it was still running a large deficit when the economy was performing strongly between 2004 and 2007.

Martin Weale, director of the National Institute of Economic and Social Research, said: “The public finances are in very poor shape … HM Treasury has managed several years of self-delusion. No doubt it will explain that it did not foresee the credit crisis and use this as an excuse.”

With inflationary pressures likely to be evident in the first half of 2008, the majority view was that life had got much tougher for the Bank of England, particularly since banks’ unwillingness to lend had reduced the ability of the Bank to influence monetary conditions.

Most, nevertheless, hoped the Bank would choose to turn a blind eye to short-term inflationary pressures and cut interest rates, since they believed that the coming economic slowdown would control inflation and the economy needed the stimulus of looser monetary policy.

With house prices falling across the country, most economists did not think a troubled housing market would be the cause of further weakness.

Some of those predicting the sharpest falls in house prices were also the most confident about the economy’s ability to withstand a housing downturn.

Willem Buiter of the LSE, a former MPC member, predicted prices would decline by 30 per cent over the next couple of years with no major effect.

Richard Lambert, director general of the CBI, said that 2008 would be a difficult year, but that it was important not to exaggerate risks and “talk ourselves into something much worse” than the soft landing he thought likely.

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