Economy is growing but recovery doubts remain

Britain's economic recovery will continue in the months ahead, but the strength and sustainability of the bounceback remain in doubt, the Bank of England will warn today.

The Bank's Quarterly Bulletin, its review of the economy and financial markets over the three months to the end of Feburary, says there are a number of serious domestic and international threats to the UK.

Spencer Dale, the chief economist of the Bank of England, said there had been a number of conflicting economic factors at play in recent months.

"The improvement in the UK bank funding conditions that began in the second half of 2010 had been sustained," Mr Dale said. "More recently, uncertainty in financial markets increased in response to the emergence of political tensions in a number of countries in North Africa and the Middle East."

The bulletin also warns that Mervyn King, the Bank's governor, believes not enough work has yet been done to resolve the problem of international macroeconomic imbalances, with some countries maintaining large current account surpluses while others see big deficits.

Mr Dale said: "The governor concludes that, if agreement is not reached [on dealing with the imbalances] then at best, this could lead to a weak world recovery and at worst it could sow the seeds of the next financial crisis."

Other factors that may yet contribute to the way in which Britain's economic recovery develops include the slow growth of the money supply, labour market developments and conditions on the financial markets. The report gives little away on the latest thinking of the Bank's officials on interest rate policy, with the Monetary Policy Committee continuing to remain deadlocked over whether an increase is necessary to combat inflation, or whether higher borrowing costs could damage the recovery.

However, the bulletin does note that the financial markets now expect a tightening of monetary policy to occur sooner than they previously expected. "Markets expected the pace of policy tightening, both in the UK and abroad, to be faster that at the time of the previous bulletin," Mr Dale added.

The report also covers a period that ended before the earthquake and tsunami in Japan, which economists believe could have an enduring effect – likely to be negative in 2011 at least – on the global economy.

The bulletin follows a string of recent data releases suggesting that the UK economy has not bounced back from the quarter of negative growth seen at the end of 2010 – which was partly weather-related – as quickly as hoped.

The services sector, in particular, appears now to be stumbling, while construction has gone into reverse. Britain's manufacturing sector is still performing well, but exports have disappointed. The housing market now seems to be slowing sharply once more, while Nationwide Building Society said last week that consumer confidence was at a record low.

George Osborne, the Chancellor, will present his Budget for 2011-12 on Wednesday, and is widely expected to lay out a package of measures designed to stimulate growth and counter some of the fears noted by the Bank.

However, his ability to do so will be constrained by the troubled state of the public finances, as well as his pledge to get the deficit down with early spending cuts and tax increases.