Senior economist Sanjay Raja wrote that since the bank’s last growth update, the “UK economic outlook has weakened further”.
He said that the UK was now in a “recessionary orbit” and growth was “likely to remain subdued” for the majority of the next year and beyond.
The bank forecasted that UK GDP would slow from 4.5% this year to negative 0.5% next year, before rebounding to 1% in 2024 and 1.25% around 2025.
Outside the long-term, Deutsche said it had identified three “key factors” that had “meaningfully altered our forecasts into Q4 2022”.
First, it said the UK’s fiscal policy would “provide more of an offset to lingering and persistent inflation”.
UK inflation hit 9.9% in August this year and the bank said inflation was more likely to “peak lower than previously expected” but it would be “sticker” than it was beforehand.
It said it now anticipated a return to the central bank’s target 2% inflation level around late 2024, a push back on its initial early 2024 timeline.
“There is some good news, however,” the economist said. “Despite sustained and elevated inflationary pressures on household budgets, fiscal policy has eased significantly.”
Raja said due to the new Energy Price Guarantee and “considerable sum of tax cuts” announced last week, “we now anticipate real disposable incomes to be less squeezed from the inflation shock, particularly across the next two years”.
He added: “Net-net, fiscal support should end up slightly offsetting the sustained inflationary shock grappling the economy.”
The second factor was higher interest rates, which is said will likely act as a drag on growth.
The Bank of England raise interest rates to 2.25% last month, facing widespread criticism for not committing to a bigger hike.
Raja said that they had revised their projection for the BoE “slightly” following the wake of recent fiscal news, as well as the swift reversal in last week’s currency and rates moves.
He said that “increased confidence that fiscal loosening would not be totally unfunded has resulted in some risk premium being taken out from UK rates and sterling”, and now expected the bank to hike rates by 100 to 125 basis points at the next meeting.
Deutsche’s economist said that as the interest rate closes in on 5% next year, the higher debt costs will weigh down on consumption for both households and businesses.
In turn, this is expected to push up the unemployment rather “further than our previous assumptions”, peaking at 5% next year.
The final factor the overall weakening of the global economic backdrop.
In the note, Raja said: “While fiscal policy in the UK should partially insulate households from the oncoming winter shock, the global backdrop will continue to depress sentiment for both households and businesses as we move rapidly to the end of the global business cycle.”
He added that the weaker sterling could “in theory” help support UK exports, but this would not be enough to outweigh the overall weaker external backdrop, which it said would “knock off nearly 0.2% from our GDP projections next year”.
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