Quarterly Financial Services Outlook: Spring 2023

The global economy continues to sail through choppy waters following the pandemic and energy price shock last year.

Inflation now looks to have peaked across the major economies, with the OECD forecasting that global inflation will decline from 9.4% to 6.6% in 2023. However, the pace of decline is uncertain as labour markets remain tight and inflation spreads beyond the energy sector. As a result, central Banks are maintaining a hawkish stance in relation to interest rates for the time being.

Against this backdrop of on-going inflation and slowing growth the major banks have experienced mixed fortunes in 2022, with revenue and profitability generally lower than in 2021.

In the US the introduction of the Inflation Reduction Act, with the aim of trying to tackle inflation, strengthen economic competitiveness, innovation, energy security and move towards a greener economy continues to make the news.

Whilst it has been welcomed by climate activists and green capital investors in the US as a way of turbo charging the energy transition in the US, it has been controversial internationally.

Some studies have cast doubt on whether the bill will have a significant impact on inflation. Nevertheless, it is a significant step in the US’s fight against climate change, with the hope that the bill will release a large amount of new private sector investment in the green economy.

So what does all this mean for Financial Services organisations? The main consideration must be what this means to investment portfolios, as investments in green energy, manufacturing and technology in the US become more attractive and other investments – such as those with overseas manufacturing supply chain exposures for example – become less attractive. There is the potential for a major capital flight as a rising rate environment creates greater competition for investment internationally

In the UK, the economic landscape is even more challenging. Although the UK narrowly dodged a technical recession in 2022, GDP fell by 0.5% in December and the UK economy is the only major economy aside from Russia’s which remains smaller than it was before the pandemic, with the Bank of England expecting the economy to shrink in 2023 and not recover to pre-pandemic levels until 2026.

High inflation continues to drive up operational costs for FS organisations and their corporate customers, with total UK corporate insolvencies increasing by 57% in 2022 according to the Insolvency Service.

In addition, UK retail customers’ finances remain severely squeezed, with inflation-adjusted pay falling by 2.5% and personal insolvencies reaching a 3 year high in 2022, affecting demand for investment products and increasing loan defaults.

As a result of these challenging global economic conditions, we have seen a fundamental change in sentiment in the Financial Services sector, as organisations increasingly focus on their operating costs in order to safeguard their profitability.

Many have responded quickly and decisively, learning lessons from previous periods of economic uncertainty, but whilst short term cost cutting is relatively straightforward, securing a lasting reduction in the size of an organisation’s cost base without impacting productivity or customer experience is not easy.

But if financial results are to be improved in 2023 and beyond, it is essential that these programmes of change are well scoped and executed against the long term business strategy and remain focused on customer and regulator expectations as well as those of shareholders.

We will continue to monitor and share our views to ensure we are helping our financial institutions understand and navigate the implications of the changing macroeconomic landscape, both for their businesses and consumers.