Despite the squeeze on household incomes from higher commodity prices and an erosion of business confidence, the CBI still expects the economy to grow by 1.3% this year, compared to 1.7% forecast in May. GDP growth of 2.2% is expected in 2012, unchanged from May's forecast.
Positive net trade contributions this year and next are expected to help boost the UK economy, as export growth picks up, reflecting the competitive level of sterling, and imports are more muted because of subdued domestic demand. Exports growth of 7.7% is expected in 2011 and 6.9% in 2012.
Although many firms are well placed to increase investment spending due to the substantial cash surplus in the corporate sector, the CBI is warning that investor confidence has been eroded due to Eurozone instability and US debt issues. Only relatively modest investment growth of 3.7% is expected in 2011, but this is likely to pick up in 2012 to match historically strong levels (9.3%).
Commenting, John Cridland, CBI director-general, said: "The economic outlook has become even more challenging but we still expect the economy to continue to grow modestly this year and next.
"The global economy has slowed in the face of several shocks including the Japanese tsunami and soaring commodity prices.
"These factors have combined with political uncertainties around the Eurozone sovereign debt crisis, the wrangling in Congress over the US debt ceiling and the policy tightening in China, to erode confidence and soften activity.
"It may be a lacklustre recovery, but with solid net trade contributions and the positive impact of business investment, the UK will remain on a growth track."
The economy only expanded slowly in the second quarter, by 0.2%, but this is largely explained by special factors such as the reduced number of working days in April and serious supply chain disruptions following the Japanese tsunami. Quarter-on-quarter growth is expected to rebound to 0.8% in the third quarter and the economy will grow at a consistently modest rate of around 0.5% to 0.6% until the end of 2012.
Inflation is expected to be higher in the autumn and into next year than previously forecast, mainly as a result of increases in utility prices due to take effect later this year. But as the impact of the VAT rise falls away, inflation is set to moderate during 2012 and fall back closer to the Bank of England's 2.0% rate towards the end of next year.
The Bank is now expected to keep interest rates on hold until the first quarter of 2012 pending compelling evidence of a marked and sustained pickup in the economy. The CBI said modest interest rate rises of 0.25% are expected to begin in Q1 2012 through to Q4 taking the Bank rate to 1.5% by the end of the year.
Ian McCafferty, CBI chief economic adviser, said: "Economic conditions will be very tough for the rest of this year as household budgets continue to be squeezed by a combination of inflation and weak wage growth. But conditions will be a little brighter in 2012 as inflation eases back and take home pay improves.
"We don't expect the Bank to adjust interest rates until there are clear signs of a marked and sustained pickup in economic activity. This adjustment is now likely to come later than previously expected, in the first quarter of 2012."
