• • Rising oil prices are dulling the outlook for global growth, which is forecast at 4.2 per cent a year in both 2011 and 2012.

• • World trade will rise by 7.8 per cent this year and 5.7 per cent in 2012.

• • Chinese GDP will grow by 9 per cent in 2011 and 8.1 per cent next year.

• • Despite the sovereign debt crisis, Euro Area GDP is expected to grow by 1.7 per cent this year and 2 per cent in 2012.

• • The American economy will grow by 2.6 per cent in 2011 and 2.7 per cent in 2012.

• • Japanese GDP will expand by 2.1 per cent this year and deflation will slacken from 1.5 per cent in 2010 to 0.1 per cent.

• • The economy will grow by only 1.5 per cent in 2011 and 1.8 per cent in 2012.

• • Consumer price inflation will be 3.8 per cent this year but fall to 1.8 per cent in 2012.

• • The sharp rise in oil prices will raise inflation by over ½ percentage point in 2011.

• • Growth over the next two years will come mainly from net trade.

• • Real disposable income will fall for the second successive year, by 0.8 per cent in 2011.

• • There is a case for delaying some of the austerity programme but accelerating planned increases in the state pension age.

Short-tem inflationary pressures have risen on a global scale in recent months and, given the source of the impulse is commodity markets, this dampens the prospects for growth in 2011 in most countries. Global food prices have been under pressure since July 2010, reflecting poor harvests in many parts of the world. Metals prices have also risen rapidly, while non-food agricultural price inflation accelerated towards the end of the year. We expect average food and other agricultural prices in 2011 to be more than 25 per cent higher than they were in 2010, while metals prices are expected to be more than 30 per cent above last year's average level, as shown in figure 1. The price of oil exhibited moderate inflation through September 2010, but rose sharply in the final quarter of the year. The rise in the price of oil may be a reflection of demand pressures from countries such as China and India, as well as the recovery in demand from advanced economies, while the weakness of the US dollar and an expected tightening of regulation following recent oil spills may also be adding to price pressures. The price of Brent crude currently stands at over $98 per barrel, roughly $19 per barrel higher than was priced into futures markets three months ago. Barrell, Delannoy and Holland discuss the macroeconomic implications of the recent rise in the oil price elsewhere in this Review. If sustained we expect this to reduce growth in the OECD by about ½ per cent this year. The impact on oil-intensive emerging economies such as China and India may be slightly greater, while oil exporters gain from the high price.

Our estimates indicate that the US economy regained pre-crisis levels of output in the final quarter of 2010, with a full recovery in the levels of consumer spending as well as both exports and imports (see figure 2 above). Investment and inventory levels, however, remain well below pre-crisis levels, offset by higher government spending. The pace of recovery moderated in the second and third quarters of 2010, when annualised growth averaged 2.1 per cent per quarter, somewhat below potential. However, the slowdown was more a reflection of a recovery in import penetration and correction to the level of world trade than a sign of global slump. Domestic demand expanded at an average annualised rate of 4.7 per cent per quarter, pulling in imports and allowing the net trade position to worsen. In the final quarter of the year import growth appears to have moderated, and we expect the current account balance to have stabilised at 3½ per cent of GDP. We estimate that GDP expanded by 2.9 per cent in 2010 as a whole.

The forecasts for the world and the UK economy reported in this Review are produced using NIESR's model, NiGEM. The NiGEM model has been in use at the National Institute for forecasting and policy analysis since 1987, and is also used by a group of about 50 model subscribers, mainly in the policy community. Most countries in the OECD are modelled separately, and there are also separate models of China, India, Russia, Hong Kong, Taiwan, Brazil, South Africa, Estonia, Latvia, Lithuania, Slovenia, Romania and Bulgaria. The rest of the world is modelled through regional blocks so that the model is global in scope. All models contain the determinants of domestic demand, export and import volumes, prices, current accounts and net assets. Output is tied down in the long run by factor inputs and technical progress interacting through production functions, but is driven by demand in the short- to medium-term. Economies are linked through trade, competitiveness and financial markets and are fully simultaneous. Further details on the NiGEM model are available on http://nimodel.niesr.ac.uk/.

As the global recovery strengthens, attention has to focus once again on the price of oil. The sharp increase seen in the last quarter of 2010 has raised serious concerns for the economic outlook. Oil prices have risen significantly since the beginning of 2009, and the rate of increase suddenly accelerated in the last months of 2010. Between September and December 2010 alone, oil prices rose by about $20, to reach $95 per barrel. Figure 1 compares the expected path of the oil price used in our forecast in October 2010 to that in January 2011, based on information from forward markets as well as an evaluation of supply conditions.

The performance of the UK economy was surprisingly weak in the final three months of 2010. The Office for National Statistics (ONS) preliminary estimate of GDP suggests the economy contracted by 0.5 per cent in the quarter. Much of this can be attributed to the exceptionally bad weather in the weeks before the Christmas holidays. But even when this effect is excluded UK economic growth is estimated to have stalled. It is important to gauge the signal in this slowdown, because if it is continued it will affect Bank of England decision making and strengthen the case for restructuring and retiming the fiscal consolidation that is underway. The composition of growth is important in this re-evaluation of prospects. While one would expect the construction sector to be hampered by adverse weather, the contraction in services output was more surprising.

This note looks at estimates of the current scale of the output gap in the UK and at the factors that affect estimates of the trend rate of growth. These issues are central to the debate on macroeconomic policy, both in the short and the long run. The speed at which the economy returns to full capacity, along with the scale of the output gap, will be important factors affecting average growth over the next five years. In the longer term, trend growth at full capacity is not immutable, but rather depends upon the rate of labour augmenting technical progress and the growth of the labour force. In the medium term these factors can be added to by temporary bursts of capital augmenting technical progress and by changes in the user cost of capital that may change the optimal capital-output ratio. Other factors, such as the cost of materials, also affect potential output. Over the past few months there has also been a significant rise in oil prices, and we judge this to have a strong permanent component which will reduce trend growth in the short term and trend output in the longer term. Its implications are more fully discussed in Barrell, Delannoy and Holland in this Review.

Disparities in educational opportunities and attainments contribute a great deal to social and economic inequalities in the UK and other developed countries. First, it is well known that educational attainments are strongly positively related to employment rates and to pay. For example, among persons aged 25–59 in the UK, about 89 per cent of university graduates were employed in 2009 compared to 78 per cent of those whose highest qualifications were classified to Level 2 of the National Vocational Qualifications (NVQ) framework. At the same time average gross hourly earnings for 25–59 year old graduates in employment were roughly 80 per cent higher than for people in the same age group with NVQ Level 2 qualifications.

Social theorists frequently argue that social cohesion is under threat in developed societies from the multiple pressures of globalisation. This article seeks to test this hypothesis through examining the trends across countries and regions in key indicators of social cohesion, including social and political trust, tolerance and perceptions of conflict. It finds ample evidence of long-term declines in cohesion in many countries, not least as exemplified by the erosion of social and political trust, which is particularly dramatic in the UK. The trends are not entirely convergent, since on most indicators Nordic countries have become more cohesive, yet each country faces challenges. In the final section the authors argue that different ‘regimes of social cohesion’ can be identified in specific clusters of countries which are based on different cultural and institutional foundations. In the ‘liberal model’, which applies in the UK and the US, the greatest threat to cohesion comes not from increasing cultural diversity, but from increasing barriers to mobility and the subsequent atrophy of faith in individual opportunity and meritocratic rewards — precisely those beliefs which have traditionally held liberal societies together.

One of the main puzzles associated with the Great Recession has been the muted increase in recorded unemployment in the UK. In this paper we explore possible explanations for the behaviour of the UK labour market during the period of the recession. We establish that there has been significant underemployment, which partly explains the sluggish increase in unemployment, but also means that (i) significant numbers of workers are supplying fewer hours of work than they would like and (ii) when recovery comes, profit maximising employers are likely to increase the hours of existing workers, rather than making new hires. This particularly disadvantages the young. Our new analysis points to significant levels of underemployment among younger age groups — whether this is measured in relation to their actual hours of work, their desired hours of work, or their labour force participation.

This paper reviews the various elements that enter into the relation between higher education expansion and income distribution. Contrary to the prevailing ideology, the paper suggests that under certain conditions the mass expansion of higher education can contribute to greater income inequality. These conditions are related to three important variables not usually considered in the education-income distribution model: rising returns to university education relative to secondary and primary education, decreasing public spending differences between higher and lower levels of education, and increasing spending differences between elite and mass universities. All three appear to be increasingly common features of educational expansion in developing countries, including large ones such as China, Russia, Brazil, and India, although researchers are just beginning to observe such changing patterns of spending within higher education systems. The paper discusses the role that such payoffs and government education spending patterns can play in contributing to changes in income distribution using suggestive data from the developing countries.