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How bad it will get, by the City analyst

The UK could be facing its worst recession in five decades, warns City analyst Danny Gabay.


The UK could be facing its worst recession in five decades, warns City analyst Danny Gabay, a former Bank of England economist.

Mr Gabay, 40, is a macro-economist at City consultants Fathom, which provides analysis and research on the global and political economy. He has been examining past recessions as a guide to what lies ahead and the findings, it seems, are bad news.

He tells JC Business: "The average duration for a UK recession is just over a year and can result in about two million job losses. But the bad news is there are some elements that suggest that this recession could be much worse than average."

He notes that the coming recession has many elements of the 1970s, 80s and 90s recessions. "And the really unfortunate thing is they might be additive, which could make it worse. There is the oil shock like in the 1970s, the sterling-crisis element like previous recessions and the housing boom/bust like in the 1990s. The one thing we have in our favour is that the Bank of England does have room to cut interest rates but it's too late to avert recession. All it can do is try to cushion the blow."

Before joining Fathom, Mr Gabay was an economist at JP Morgan, which he joined from the Bank of England, where he was one of the authors of the Bank's inflation report. Before that, he was a government economic adviser and worked on capital projects in the NHS.

Who does he blame for Britain's financial crisis? He says the Bank of England and the Government is at fault for not having the foresight to understand quickly enough how the situation in America would affect the UK. "And just like with any household, if you run the economy the way the government has - at the absolute limits of what's affordable - then any kind of negative shock will put you in trouble.

"I have argued since 2001 that the Bank of England was making a serious policy error in following the US by cutting interest rates to a level that was just far too low and for too long. While that might have seemed like a good plan, as the UK was the only major economy to avoid a recession in 2001, all they were really doing was avoiding mild recession then in the hope that the bigger recession to come wouldn't be their problem. But that's where we are today."

Where the Government is being disingenuous, he says, is that "it wants you to believe it was all their doing that created the boom but global forces that created the bust. Neither is correct. There was a global boom in which the UK participated and there was a global bust. The difference between the way the UK and others is suffering is that we made ourselves extremely vulnerable to this situation by allowing the economy to become so imbalanced."

He says the way politicians behaved was "like leaving teenagers in charge of the house for a weekend. That's what the politicians did with the financial markets. They had a huge party, taking all sorts of things that they shouldn't have. There is going to be long-lasting damage to the credibility of the Western financial system." According to Mr Gabay, as households in the UK, we owe 150 per cent of our net GDP. "All the goods and services that every man, woman or child generates in the UK in any year could not pay off the debt we owe. Each household owes 1.6 times the average wage. Now that's not good.

"We have lived way beyond our means. We have driven our saving ration down to its lowest level since the 1960s. For every pound we earn, we are saving around four pence. Historically, this has been closer to ten pence."

And the worrying aspect, notes Mr Gabay, is that we are facing this crisis with the fiscal policy cupboard "all but bare. I know the government will have to expand a lot but they are going to have to borrow, which is pretty much what got us into this mess".

He said: "Interest rates need to be cut aggressively and quickly but with caution. When implanting expansion fiscal policy, the government needs to be very careful about what it does so that it can be reversed quickly and the state doesn't end up with a burden. The really bad scenario here is that in fighting the near-term recession we create more trouble for ourselves later by creating conditions in which inflation will take off again, which will eventually force interest rates higher and higher."

What can we, as consumers, do to weather the storm? Do not immediately panic and decide to start saving a lot. "The best we can hope for is that the authorities find a way of convincing people to hold their nerve so that the process of rebalancing is gradual. There is going to be lot less borrowing going on and a lot less money going round the system, which will result in a rise in unemployment to rates we haven't seen for a generation."

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