UK monetary trends continue to support a positive view of economic prospects – the forecast here remains that GDP will rise by about 2% in 2013 versus a sub-1% consensus.
The monetary aggregates most relevant for assessing the immediate economic outlook are broad money M4 and narrow money M1 excluding holdings of financial corporations (i.e., comprising holdings of the household sector and non-financial corporations). Six-month growth of non-financial M1 rose to 5.6%, or 11.6% annualised, in April – the fastest since October 2005. Non-financial M4 has slowed modestly since early 2013 but six-month growth was still a solid 2.5%, or 5.1% annualised – higher than between June 2008 and July 2012.
Faster growth of M1 than M4 signals that the collapse in bank deposit interest rates since last summer is affecting consumer and business behaviour – the movement of money into more liquid forms is a likely precursor of a pick-up in spending.
Empirically, future economic activity is more closely related to real (i.e. inflation-adjusted) than nominal monetary trends. Real money expansion has been further boosted by a sharp, though probably temporary, drop in inflation – see charts. Recent real money trends suggest that growth prospects are at least as good as in mid-2009 – GDP is currently estimated to have risen by 2.4% in the year to the third quarter of 2010.
The consensus remains too negative on economic prospects partly because of continued credit weakness. While money leads the cycle, credit is a coincident or lagging indicator. There are signs, in any case, that the credit cycle is turning: M4 lending to households and non-financial corporations was unchanged in the six months to April while arranged but undrawn credit facilities – a leading indicator – are rising for the first time since 2007.
