UK ‘has 50% chance of slipping into recession within 18 months'

The Bank of England needs to use a sledgehammer to combat a severe economic downturn caused by the vote to leave the EU, one of Britain’s most respected thinktanks has warned.

In a grim assessment of the UK economy after the vote for Brexit, the National Institute of Economic and Social Research (NIESR) said 320,000 jobs would be lost by the third quarter of next year and warned that the economy had a 50% chance of slipping into recession in the next 18 months.

Inflation would increase to more than 3% for the first time in five years in late 2017 as the weak pound pushes up the price of imports and the government would be forced to borrow an extra £47bn in the next four years, NIESR said on Wednesday.

According to the thinktank, economic growth would slow to 0.2% in the current quarter from 0.6% in the previous three months and stagnate for the rest of the year. Growth is forecast at 1% for all of next year but conditions could worsen, it said. Its report followed a series of dire business surveys including one showing the economy shrinking at its fastest pace since 2009.

NIESR said the slowdown was caused by reduced business investment after Brexit, which threatened to disrupt companies’ most important trading relationships. Rising unemployment, muted wage growth and uncertainty would also hit consumer spending, it added.

Simon Kirby, principal research fellow at NIESR, said: “We expect the UK to experience a marked economic slowdown in the second half of this year and throughout 2017. There is an even chance of a technical recession in the next 18 months while there is an elevated risk of further deterioration in the near term.”

With the Bank set to announce its response to Brexit-induced economic uncertainty on Thursday, NIESR called on the monetary policy committee to act decisively by cutting interest rates and resuming its bond-buying programme, known as quantitative easing.

Cutting rates from 0.5% to a new record low of 0.1%, starting with a quarter point cut on Thursday, and buying another £200bn of government bonds could offset most of the effects of Brexit, NIESR said. The government may also need to step in with tax cuts or spending increases to support the economy, it added.

Jack Meaning, a NIESR research fellow, said: “If there isn’t a fiscal response, monetary policymakers should be using as much of a sledgehammer as they can. If they went to the limits they could almost but not quite offset the downturn we are forecasting.”

Kirby said focusing on the chances of a short recession risked distracting policymakers from the threat of long-term stagnation caused by prolonged uncertainty. An “endemic, long-lived problem where certainty does not return to normal levels” would be a big worry for policymakers, he said.

NIESR called on the Bank of England to “look through” an expected spike in prices that it said would prompt the governor, Mark Carney, to write letters to the chancellor next year explaining why inflation had exceeded 3% for the first time since March 2012.

Meaning said it would be better for the Bank to push up inflation temporarily than to hold off on monetary policy and risk the downturn taking hold.

Meaning’s comments echo those of Andy Haldane, the Bank’s deputy governor, who argued last month that his fellow rate-setters should act boldly to support economic confidence with rate cuts and other measures.

Jagjit Chadha, NIESR’s director, said there were doubts about how effective cuts to borrowing costs would be with rates already close to zero and little understanding about where the economy was heading.

NIESR said additional options included the Bank buying corporate bonds, though the supply was limited, and an extension of its funding for lending programme for Britain’s banks.

“One key question is whether the government should now issue bonds and use the money to develop long-term investment projects that yield a rate of return for those parts of the country that the referendum result tells us feel somewhat left behind,” Chadha said.