Follow this topicWhat will happen in 2010?
Here are my financial predictions for 2010.
It's the time of year when plenty of pundits open their big mouths and tell us what will happen in 2010. I can't resist joining in......
Base rate and inflation
Inflation will rise early in the year thanks to higher oil prices and VAT going back up to 17.5 per cent in January. As measured by the Consumer Price Index (CPI), inflation will peak at 3% or a little higher.
Later in the year, I reckon inflation will slip back. Now I know that's a bit of a controversial statement. Some people are convinced that the Bank of England's massive money-printing programme (Quantitative Easing) will inevitably lead to higher inflation but I'm not so sure. There still appears to be a fair bit of spare capacity in the economy and reduced government spending after the election will probably slow down the growth of demand.
What's more, Quantitative Easing will probably end in the spring and that in itself will be a deflationary step.
Given the benign inflation environment, the Bank of England shouldn't need to raise the base rate in the first half of 2010. We might see a rise to 0.75 or 1 per cent later in the year.
Government debt and gilts
Once QE has ended, the Bank of England will no longer be buying government bonds (gilts) in such quantities. Other buyers will have to be found and they will want to pay a lower price and get a better yield from their investment. That will mean higher long-term interest rates.
Long-term interest rates would also be boosted if the UK government's debt was downgraded by the ratings agencies. A downgrade would mean the agencies think there is a small risk that the government won't repay its debts. If there's a small risk that gilts won't be repaid, gilt prices will fall and that means higher long-term rates.....
Mortgages
The mortgage market will continue to ease but we won't return to where we were in 2006 any time soon. That's because the regulators will continue to insist that the banks retain more cash so that they can cope with any future crisis.
Higher gilt yields will push up rates on long-term fixed-rate mortgages. Short-term rates will probably only rise by a small amount as they're mainly governed by the base rate and Libor which should both stay low.
House prices
House prices will slip back a little in 2010.
The Conservatives look likely to win the next election and they will make big cuts in public expenditure. That will keep unemployment rising which will trigger forced sales of homes. What's more, according to Halifax, the house price/earnings ratio is still above its long-term historical average at 4.68.
As described above, there won't be a dramatic rise in mortgage lending, so that won't help house prices either.
VAT
The next government will be under huge pressure to improve the public finances. When Mrs Thatcher entered power in 1979, she raised extra cash by increasing VAT to 15 per cent. The next government could bring in an extra £12 billion by pushing VAT up to 20%.
Global economy
The global economy still looks fragile. Although another 2008-style crisis looks unlikely, you can't completely rule it out. Much more likely, we will see further mini-crises such as Dubai's recent trauma. Countries such as Greece and Ireland have severe budget problems.
The other source of trouble could be global economic imbalances. China exports way more to the US than it imports. Will China finally allow its currency to appreciate against the dollar and bring the two countries into balance? That could boost inflation in the developed world. It could also slow down growth in China.
China also holds a huge slug of US government bonds. What if it decides to sell some of those bonds? That could drive up interest rates in the US.
If we do see serious economic instability in 2010, China may well be at the heart of the storm.
So what do you think? Am I talking complete rubbish? Let me know in the comments box below....
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