The UK economy continued its recovery in the final quarter of 2021, with the end of the Coronavirus Job Retention Scheme doing little harm to labour market prospects. In the coming months, consumer activity may take a dip as household incomes, already beginning to feel a squeeze from rapidly rising inflation, will tighten in April due to rises in energy prices as well as National Insurance contributions.

However, although inflation was outstripping earnings growth as 2021 drew to a close, there was little sign of any early stress on household budgets or financial decisions.

Consumer Spending

Chart 1: Credit card spending in month

Card spending looks to be approaching its pre-pandemic trend despite a slight drop in December, as shown in Chart 1. This was concentrated in the services sector and was most likely due to increased voluntary social distancing during the height of Omicron. Now the economy is free from restrictions, the remaining recovery gap may take longer to close. More persistent impacts of the pandemic look to have lasting effects on consumer demand, such as decreased spending on commuting due to working from home becoming the new normal.

Personal loan borrowing decreased in Q4 following a surge of demand in the middle of 2021 - this was likely to be partly driven by a spike in home improvement activity. Although seasonal dips are common over Winter, rising inflation and upcoming rises to costs of living further weighed upon the demand for loans this past quarter.

Though the impact of the household income squeeze on spending patterns throughout 2022 remains to be seen, it is likely that lower-income households will become constrained in relation to making larger purchases, signalling a potential K-shaped recovery in the economy.

Housing

The past year defied expectations for the UK housing and mortgage markets. House purchase activity soared, with a 41 per cent increase in the number of loans to buy property compared to 2020. This was driven by Covid-triggered social change and the Stamp Duty holiday, as well as delayed activity from 2020 due to the wider social distancing restrictions.

Overall housing market activity was equally strong in 2021; property transactions totalled just under 1.5 million, displaying the strongest year of housing market activity since 2007. As expected, house purchases dropped sharply in the fourth quarter following the end of the Stamp Duty holiday in September, as lending contracted across all regions in the UK. These falls in lending were most pronounced in the south of England, those regions having seen some of the strongest growth figures in 2020 amidst the ?race for space?.

Chart 2: House price earnings ratio and CPI inflation

House prices experienced strong growth in 2021 on the back of this surge in activity, with prices up ten per cent on the previous year according to Nationwide. As a result, the ?house price to income? ratio rose to record highs in 2021, beyond levels seen even before the global financial crisis (Chart 2). However, unlike post-2008, housing market activity as we emerge from the pandemic will be against a backdrop of high inflation, with CPI now expected to rise to seven per cent this year. Significant inflationary pressures will weigh more heavily on household balance sheets, and with mortgage lending rates likely to increase over time in reaction to the rising Bank Rate, effective demand will be suppressed.

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