The CBI’s latest economic forecast predicts slightly faster growth in 2010 after a strong pick-up in manufacturing activity, but cautioned that the recovery would be hampered by the budget deficit.

In its latest economic forecast, the lobby group predicts that the UK economy will grow by 1.3 per cent in 2010, up from one per cent in its March forecast.

The slight upward revision is said to reflect the relative strength of the economy over recent months, with industrial production showing solid growth and overseas demand for UK-made goods strengthening, buoyed by the relative weakness of sterling. The GDP forecast for 2011 remains unchanged at 2.5 per cent.

Quarter-on-quarter growth

After posting first-quarter growth of 0.3 per cent this year, the CBI expects the economy to grow by 0.8 per cent in the second quarter, followed by slower rates of 0.5 per cent and 0.4 per cent in the latter half of 2010. Quarterly growth is then forecast to pick up slightly from 0.6 per cent to 0.8 per cent over the course of 2011.

However, the outlook remains uncertain, particularly with government spending expected to fall sharply, as much-needed steps to restore the public finances are taken in the forthcoming emergency Budget.

Business investment is expected to stabilise this year, following last year’s record contraction, but will recover sluggishly as firms cope with spare capacity and take a cautious approach to spending decisions.

Inflation in recent months has come in higher than previously forecast following the increase in VAT, higher oil prices and increased import costs after sterling’s decline. However, it is predicted to fall back sharply over the coming year, dropping below the government’s two per cent target in the second quarter of 2011.

The Bank of England is expected to move away from the current emergency stance and nudge interest rates higher later this year. Monetary policy is expected to remain loose over the forecast period, with interest rates reaching two per cent by the end of next year.

UK exports are expected to grow by 5.3 per cent in 2010 and 6.9 per cent in 2011, with net trade expected to make a positive contribution to quarterly GDP growth rates through to the end of 2011. Unemployment is expected to peak at 2.7m early next year and to fall only slowly thereafter.

Public sector net borrowing is forecast to reach £152bn in 2010/11, before falling to £128bn in 2011/12, representing 10.4 per cent and 8.4 per cent of GDP respectively.

Ian McCafferty, CBI chief economic adviser, said: ‘The modest upward revision in our forecast for economic growth this year reflects a temporary strengthening in the pace of economic activity this quarter, with exporters benefiting from the global rebuilding of stocks.

‘We are encouraged by the coalition’s commitment to swift action to reduce the deficit, and the publication of the Office of Budget Responsibility’s independent forecasts should provide ministers with more realistic assumptions to work from.’

In a report published yesterday, the Office of Budget Responsibility predicted growth of 2.6 per cent next year, which is down from the 3-3.5 per cent predicted in March by the last government.