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Last Updated: Thursday, 13 September 2007, 23:28 GMT 00:28 UK
Credit crunch 'may hit UK growth'
Less money available for takeover deals could hit the economy
Economic growth in the UK may be as much as 1% lower in 2008 and 2009 as a direct result of the credit crunch, the Ernst & Young Item Club has said.

Its forecast, based on a "worst case scenario", said there was a chance that the turmoil would be contained within the financial services community.

But it added here were "worrying signs" that it could spill over into the High Street and housing market.

"Nursemaiding" by central banks may help minimise damage, the report said.


The credit crunch has followed woes in the US sub-prime mortgage sector, which specialises in loans to people with poor credit histories or on low incomes.

Rising interest rates have led to record levels of loan defaults and home repossessions - and that has sparked fears about which lenders might be exposed to the bad debts.

There has also been a slowdown in takeover activity, with banks less willing to lend the money needed to complete deals.

Professor Peter Spencer, the Item Club's chief economic adviser, said that the growth seen in recent years in the City of London was now looking vulnerable.

"Yes we will continue to see deals being done and other corporate activity taking place but we are unlikely to see the mega deals and mega bonuses that resulted from these extraordinary conditions," he said.

"This will have a ripple effect on everything from related industries to the top end of the housing market."

The US housing market looked set to weaken further, the report said, as falling levels of construction, along with concerns of further defaults on mortgages "would add to the risk of a generalised credit crunch".

Rising costs

The report noted that as well as in the US, other EU countries, including Spain and Denmark, were seeing a rapid cooling of their housing sector.

"Despite the very different dynamics of supply and demand in the UK, it is possible that this slow-down will prove contagious to the housing market this side of the Atlantic," Professor Spencer said.

He added that about two million UK borrowers who had fixed rate mortgages faced a tough time when those deals expired.

"When they do they are likely to see far more stringent terms around the conditions that UK lenders offer as well as an uplift in the monthly cost," Mr Spencer said.

The Item Club added that the US could expect to see a 1.5% cut in growth next year with Europe as a whole seeing economic expansion slow by a lesser amount than the UK.

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