Soaring infection rates and a vaccination programme struggling to reach the required speed have led to new restrictions and put a dampener on the new-found positivity. Will the economic recovery be slow and painful, or could there be a rapid bounceback? And what role should pension funds play in it? 

 

A new national lockdown is currently on the cards after most of England has already been placed into the highest level of restrictions and schools have been closed in London and large parts of the South East. These further measures to stop the spread will extend the pain for many businesses that were perhaps hoping to be over the worst. 

 

 

The fast-changing situation means there are different views around what this year will bring for employers and investors. Will expectations need to be tuned down, or could there, on the contrary, be a spending bonanza as pent-up consumer demand promises a summer boost? 

 

Frank Eich, director at training provider Economicsense, says the overall outlook is bleak. Much will depend on how successful the vaccines turn out to be, and he adds that the government “really has no choice” about continuing to provide support. 

 

“We shouldn’t expect that the situation will miraculously improve for all businesses once the crisis is over: some sectors will recover, others will fall away. Indeed, there will be many ‘zombie' businesses existing only because of government support. We should expect major structural changes to the economy going forward,” he warned. 

 

As households begin to spend to relieve pent-up demand as the year progresses, there will be some bounceback, but a structural improvement will take longer, he says. If vaccines work as hoped, then a recovery to pre-pandemic levels around mid-2022 “sounds like a reasonable timeframe, with the economy continuing to rely on government support”, he predicts. 

 

Trend growth will be lower than it would have been anyway, however, because of Brexit. Eich suggests that the December trade deal is not as significant for the UK economy as the government seeks to portray it. 

 

“The trade deal focuses on goods, in which the UK has a comparative disadvantage and a significant trade deficit with the EU. Services, which account for around 80% of the UK economy and in which the country has a comparative advantage vis-a-vis the EU, and trade surplus, are largely excluded,” he points out. 

 

He believes it is “very unlikely” that the UK will be able to replace lost trade with the EU with new trade with other parts of the world in the foreseeable future.  

 

 

As a result of the lower growth, both fiscal and monetary policy will have to remain very supportive of the economy for years to come, and a challenge for the government will be to support businesses and workers while at the same time allowing for structural change, says Eich.  

 

“Government support needs to remain broad but also needs to become more flexible and forward looking. Monetary policy will have to remain supportive too even though central banks – including the BoE – will need to develop a strategy to regain policy space. But implementing such strategy – if it ever materialises – will be years away,” he argues. 

 

With such a difficult task ahead, the Treasury, Bank of England and Financial Conduct Authority last November announced the creation of a working group on “productive finance”, to look at how private asset owners like pension funds could help the recovery. The group’s work will build on the government’s Patient Capital Review and other previous attempts to tap private capital for national investment. 

 

"The issue of national savings and investment is perennial. What is the best way to channel national savings into productive investments?” says Eich. Pension funds have been identified as the source of useful capital in the past but encouraging them to invest in greenfield infrastructure has proven difficult given the risks associated with such investments. 

 

"Government would probably have to take a leading role in financing these projects, hoping for pension funds to contribute. And there is of course the usual question that needs to be answered: if the government can borrow at very low – even negative – rates, why does it not take advantage of that and invest itself?” he says. 

 

 

Not everyone is as sceptical about what the new year will bring. The deployment of involuntary savings and meeting of pent-up consumer demand is a central theme for Joachim Klement, analyst for strategy, accounting and sustainability at investment bank Liberum, who is bullish on stock markets for this year. 

 

“We think that thanks to the rollout of the vaccines, we have entered a new bull market where especially the hard-hit businesses in the leisure, retail and transport sectors will benefit from a significant re-rating,” says Klement, adding: “We expect UK stocks to rally by 50% in the next two years or more than 20% per year.” This is much more optimistic than consensus forecasts of around 10% return in 2021, he admits. 

 

The major pub companies, gyms and most retailers that have enough cash to survive this winter could be among those set to benefit from a reopening of the economy in spring. "Remember that both businesses and households currently sit on large cash reserves, which will be deployed once the crisis is over and the vaccines will be rolled out widely,” says Klement. 

 

 

But despite expecting a strong bounce in 2021, the recovery will be slower than in other countries, he says. The rebound will be higher because the UK suffered a steeper drop in the economy than our neighbours and the US, but it will also take longer to fully recover. 

 

And the timing of Brexit could not be worse. “This recovery certainly isn’t helped by Brexit, which will shave off about 4% of GDP over the next two to three years despite the trade deal,” he adds. 

 

The economy will therefore still need fiscal stimulus to recover, and in particular, to help those who became unemployed get back on their feet. 

 

“Investments in infrastructure and training for unemployed together with extended universal credit benefits would probably be the most effective fiscal policy measures,” says Klement, but can't be drawn on whether pension funds should play a part in investing for the recovery. 

 

As for monetary policy, “the Bank of England is powerless to stimulate the UK economy. Negative rates have not worked in the eurozone, Switzerland or Sweden, and they won’t work in the UK either”.