Monthly economic brief: March 2023

Overview

Economic conditions continue to be extremely challenging in 2023 as the inflationary shock progresses through the economy. However, outturn data indicate that the Scottish economy has shown a greater degree of resilience than forecast during last year while latest UK and global projections set out a shallower downturn than was previously expected.

Latest GDP data estimates that the Scottish (and UK) economy avoided entering the recession during 2022 which had previously been forecast. That said, economic growth was largely confined to the first quarter of the year and effectively stalled over the following three quarters. The final quarter of 2022 saw Scotland's GDP grow 0.1% over the quarter and 0.6% annually, with flat quarterly growth in the services sector particularly weighing on overall output.

Scotland's labour market continued to perform very strongly at the headline level in the final quarter of 2022, outperforming the UK as a whole on the unemployment rate (3.3%), employment rate (76.6%) and inactivity rate (20.8%) indicators, although the number of economically inactive due to long term sickness remains high. Latest business surveys provide further evidence that recruitment activity has continued to moderate into the start of 2023 and there has been further rebalancing in the demand for and availability of staff, at least in the short term. However, the underlying tightness in the labour market and increased costs of living continue to place upward pressure on nominal pay growth. Average regular pay growth (GB) was 7.3% for the private sector in the final quarter of 2022 and 4.2% for the public sector and remains a key consideration for employers.

The inflation rate fell for a third consecutive month in January to 10.1%, providing further indication that inflation is now on a downward trend. Inflation is expected on average to fall to around 4% by the end of the year with the outlook for energy prices a key element of this. The fall in the Ofgem energy price cap for April and the forecast of a further fall in July presents an improving outlook for energy prices, however the scale and timing of benefit to households in the short term will be dependent on the level of government support (through the Energy Price Guarantee or otherwise) made available over the coming months.

However, for now, price rises continue to outpace earnings growth, resulting in a 4.1% fall in real terms pay over the year to January and emphasises that while the initial inflation shock may be starting to ease, the cost of living pressures facing households is a longer term concern, particularly as some cost of living support is expected to end in 2023-24.

Reflecting the underlying resilience in economic and labour market activity and the recent easing in the inflation rate, both consumer and business sentiment strengthened into the start of the new year. However, both remain notably weaker than their historical averages.

Looking ahead, the latest forecasts from the start of the year indicate that a recession (two consecutive quarters of declining output) remains likely in 2023 as consumers continue to face falling real household incomes and tighter financial conditions. Where savings or borrowing have supported spending to date, we may see consumption more exposed and at greater risk to these conditions in the year ahead.