Inflation is expected to average 2.7% in 2017 and 2.6% in 2018, but this will not be enough to deter consumers, said Berenberg senior UK economist Kallum Pickering.
“At this mid-stage of the cycle, growth is entrenched, unemployment low and households feel confident enough to save a little less and borrow a little more.”
He added: “The rise in inflation will squeeze household incomes in 2017 and 2018 even as tight labour market conditions cause a modest rise in nominal wage growth. But it is unlikely to fully pass through into real consumption growth.”
Real household spending growth is likely to ease to a little below the 20-year average rate of 2.4% year on year. Berenberg predicts this will fall from 3.0% in 2016, to 2.3% in 2017 and 1.9% in 2018.
In the second half of 2016, growth in year-on-year retail sales (excluding auto) surged to 5.8%, compared with average growth in 2015 and 2016 of 4.4%.
Michael Baxter, economics commentator for The Share Centre, also pointed to February retail sales outperforming expectations – they rose by 1.4% month-on-month and by 3.7% year-on-year.
“Given that month-on-month retail sales had fallen in the three previous months there was always a chance of a mild bounce-back in February – the surprise relates to the scale of the bounce-back,” he said.
“We won’t know for sure until next month, when the data on average wages for February is released, but it is possible that we are already witnessing negative growth in real wages. With inflation likely to carry on rising this year, households are likely to see their disposable incomes, after allowing for inflation, fall.”
However, Pickering said household balance sheets have strengthened since the Lehman-crisis, debt-to-income has fallen and household wealth has risen. By increasing borrowing and saving less to target a desired level of consumption, households can smooth spending over the medium-term to compensate for the modest squeezes on real incomes.
Meanwhile, the Bank of England’s Agents’ summary of business conditions survey said to expect a slowdown in growth in consumer demand in the year ahead, largely driven by consumer goods sales as there is no change expected in consumer services (such as hotels, restaurants and transport).
The main factors expected to reduce consumer demand growth were changes in consumers’ real disposable incomes and changes in firms’ own pricing — both linked to the impact of the weaker pound.
The BoE said a fall in consumer confidence was also thought likely to be a drag on growth. Employment intentions within services are unchanged and in business services, limited headcount growth is expected.
The BoE said employment growth is also offset by a more general rationalisation to mitigate higher labour costs associated with the National Living Wage (NLW).