Economic Outlook

Euro and UK Cyclical Outlook for 2022

Key regions will likely travel varied, volatile, and uncertain trajectories in 2022 as the global economy progresses from mid-cycle expansion toward late-cycle dynamics.

Here we share our 2022 outlook for growth, inflation, and policy for the Euro area and the UK. Access the full cyclical publications below, including detailed insights into economic trends along with investment implications.

Euro area: Robust recovery to continue beyond winter wobble

Nicola Mai

The Euro area is likely to continue to grow at an above-trend pace of around 4% overall in 2022, though growth is likely to be subdued in the early part of the year given lingering supply bottlenecks, higher energy prices, and virus-related social restrictions. A fairly brisk acceleration is then likely in the spring, when economic normalization looks set to continue, with the economy resuming its progress toward closing the gap with its pre-crisis trend. Risks to the outlook look fairly balanced, with the presence of excess savings and the potential for higher pent-up demand being a key upside risk, and with virus-related issues and supply bottlenecks being key downside risks.

Euro area inflation looks set to be above target, with headline inflation averaging around 3% overall in 2022. Sequentially, however, the trend for inflation looks set to be sharply downward, with inflation falling from 5% year-over-year (y/y) at the end of 2021 to around 1.5% y/y by the end of 2022. Contributing to the slowdown will be significant negative base effects in energy prices, as well as fading boosts from supply bottlenecks and reopening effects on core prices. Subdued wage growth, a history of inflation undershoots, and a lesser fiscal response to the crisis help explain why Euro area inflation has been generally lower than in the U.K. and the U.S.

The moderate inflation outlook suggests that the European Central Bank (ECB) will remain patient in terms of exiting from stimulus, keeping the policy rate at −0.50% and continuing to make net asset purchases – albeit at a progressively reduced pace – through the cyclical horizon. As for fiscal policy, some consolidation is expected in 2022, though mostly due to a roll-off of emergency measures rather than active fiscal tightening.

U.K.: Fiscal and monetary policy easing off the accelerator

Peder Beck-Friis

The U.K. has remained a growth laggard since the start of the pandemic, with quarterly GDP still below its pre-pandemic level – slightly weaker than in Europe, and much weaker than in the U.S. Exports have been particularly weak, likely in part related to Brexit. Looking ahead, we expect GDP to continue to normalize in 2022, up perhaps 4%–5%, as resilient private sector demand more than offsets a drag from less supportive monetary and fiscal policies. Sequentially, we expect growth to reaccelerate in early spring, following a weak start to the year when lingering supply bottlenecks and a modest drag from renewed virus concerns will likely weigh on activity.

As in much of the developed world, U.K. inflation has surprised to the upside. Energy prices have risen sharply, while supply bottlenecks, labor shortages, and reopening pressures have increased core inflation. We expect headline inflation to peak around 6%–7% in late spring – later than in the rest of Europe because of planned increases in regulated energy prices – before falling sharply as supply bottlenecks ease and reopening effects fade, with core inflation ending 2022 just above the Bank of England’s (BOE’s) 2% target. Inflation risks are two-sided: A large fiscal and monetary overhang may lead to a longer price level adjustment, while a quicker normalization in supply, in particular in labor participation, could lead to a sharper fall in inflation.

Policy is set to turn less supportive. The BOE raised its policy rate in late 2021, and in our baseline view, we expect another two to three hikes in 2022. Uncertainty is high, but as long as medium-term inflation expectations remain anchored, we expect the BOE to proceed gradually, easing off the accelerator rather than moving into a contractionary stance. Fiscal policy, meanwhile, will mechanically remain contractionary in 2022 as pandemic-related emergency measures continue to roll off. That said, we expect the government to announce more stimulus closer to the next general election.

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