RBS 2010 Annual Report Download - page 398

Economic and monetary environment
Global recovery has continued in 2010, but the strength of the recovery
remains unevenly spread. Although most developed countries have
avoided a double-dip, they have been unable to find a firm footing from
which to build a solid recovery. This reflects the burden of high levels of
public and private sector debt, low consumer confidence and high levels
of unemployment.
In the UK, the Group’s largest market, economic conditions improved in
2010. Total economic activity, as measured by gross domestic product
(GDP), grew by 1.3 per cent in 2010. This followed a contraction of 4.9
per cent in 2009. However, a fall in activity in the final quarter of 2010
served as a timely reminder that, while conditions are generally improving,
the recovery is fragile. The UK’s inflation rate increased sharply, reaching
3.7 per cent by the end of the year. Yet policy makers kept the main
policy rate unchanged at 0.5 per cent throughout 2010, attributing the
pick up in inflation to temporary factors such as rising commodity prices
and an increase in VAT.
The recovery has helped many of our customers. Company trading
profits grew for the first time since 2008. The unemployment rate levelled
off at around 8 per cent, which is much higher than at the start of the
recession, but still relatively low compared to the peak in other recessions.
These factors supported commercial property prices, which were 6 per
cent higher in December 2010 than they were a year earlier, according to
the International Property Databank. Most of those gains came in the first
half of the year. The residential market was less robust; house prices fell
in the second half of the year, dragging the year-on-year growth rate to -1
per cent in December 2010, according to the Nationwide index.
The US economy registered the fastest growth amongst our principal
markets. GDP grew by 2.8 per cent, following a contraction of 2.6 per
cent in 2009. Despite this, the unemployment rate remained stubbornly
high, which prompted a further loosening of monetary and fiscal policy.
Inflationary pressures were generally subdued, but picked up somewhat
towards the end of the year. Policy makers pledged to keep Fed funds
rate exceptionally low for an extended period of time to provide a
necessary support to the economic recovery.
In Ireland, hopes of a recovery in 2010 were dashed, as GDP contracted
by an estimated 0.6 per cent. This followed a 7.6 per cent reduction in
2009. The Irish government requested a financial rescue package of €85
billion in November, equivalent to about half of Ireland’s GDP.
The general improvement in economic conditions must be viewed against
abackdrop of financial market turbulence at various points in the year,
most notably the sovereign debt crisis that affected the Eurozone
periphery. This led to a marked fall in risk appetite in Q2 2010 and, again,
in Q4 2010. Equity prices fell in the banking sector and there was a ‘flight
to quality’, which pushed down long-term interest rates on government
debt in some countries. This included the UK, where the 10-year gilt rate
fell from more than 4 per cent at the start of 2010, to less than 3 per cent
in October. UK gilt yields subsequently rose in the final months of 2010,
in anticipation of interest rate rises in 2011.
The increase in risk aversion also caused some sharp currency
movements. At one point the pound was 11 per cent down against the
dollar, but sterling rallied in the second half of 2010, to end the year just
slightly lower than where it started ($1.57 from $1.61). Sterling rose by 10
per cent against the euro in the first half of the year, before giving up
most of these gains, to end the year at €1.17 (from €1.13).
The economic outlook
We expect the global recovery to be maintained, but to remain uneven.
The pace of growth in the major developed economies, including the UK
and the US, is likely to remain sluggish by historic standards, and volatile.
This reflects high levels of indebtedness, fiscal rebalancing and the
expectation that interest rates will gradually rise. Emerging markets,
especially Asia, will continue to outperform as they are less encumbered
by balance sheet strains. Moreover, growth in countries like China and
India will continue to be underpinned by the process of ‘catch-up’ with
industrial nations.
RBS Group 2010396
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