Road to UK recovery 'long and hard'

The UK should brace itself for a "long, hard path" to recovery despite the prospect of an upturn next year, the Bank of England said today.

Governor Mervyn King said the UK economy had "only just started" along the road to recovery and warned that output would not return to pre-crisis levels for a "considerable period".

The Bank said there was a high level of uncertainty over the strength of the upturn and forecast that bank lending will probably remain weak over the next three years.

Despite the shock 0.4% fall in output between July and September, the Bank forecasts a faster growth rate for the economy over the next two years, peaking at around 4% year-on-year in the middle of 2011 before easing back to around 3%.

This was credited to the Bank's quantitative easing (QE) policy to boost the money supply - which was upped to £200bn (€220.8bn) last week - record low interest rates, a weaker pound and a stronger world economy.

But Mr King moved to quell optimism on the pace of recovery.

"It is going to be a long, hard path back to where we expected to be," he cautioned.

"Even if we get significant positive growth rates in the future, we have a long way to go before we get back to where we would have been."

David Page, of Investec Securities, said the report did not clear up the outlook for future monetary policy, adding that "the water is further muddied".

"The inflation report saw a range of upward revisions to its growth and inflation projections," he said.

"However, Governor King himself cast a more downbeat hue over proceedings, highlighting uncertainties and pointing to the long, hard road to recovery."

Economists were taken by surprise by the predictions - but highlighted that the forecasts do not take into account the full extent of measures likely to be put into place by the next government to wrestle the UK's deficit back to a manageable size.

Jonathan Loynes, chief European economist at Capital Economics, said the report appeared to be painting "a very optimistic path for the economy".

"Given the intense fiscal squeeze likely to be under way by then - which is not fully incorporated into the Bank of England's forecasts - we think such strong growth is very unlikely," he said.

Malcolm Barr, economist at JP Morgan, added that the forecast "remains a lot firmer than the consensus" on prospects for next year.

He said analysis of the 2010 prediction showed growth of 2.1% for 2010 as a whole, compared to consensus expectations of near 1% and his predictions of 1.6%.

Mr King said: "The big picture is that we have seen, right across the industrial world, a big fall in the level of output ... and it will take a long time to recover that."

Today's forecasts are based on the City's expectations for interest rates and the continuation of quantitative easing at its current level.

With these factors the Bank predicts that inflation will be below its 2% target in two years time - suggesting that interest rates could stay at the current record low of 0.5% for longer than expected, with more QE also an option.

Mr King said the Bank would keep an open mind on whether to boost its asset-buying policy further.

"I think we are very pleased by how successful the scheme has been," he added.

However, he said he would have preferred the growth of broad money to have picked up "a bit sooner".

In today's report, the Bank also predicted a bigger-than-expected spike in inflation to "well above target" at near 3% early next year, due to factors such as the end of the temporary cut in VAT in January.

The Bank's predictions take into account fiscal tightening included in April's Budget, but do not pre-judge any new announcements in the upcoming Pre-Budget Report on December 9.