Revised fourth-quarter GDP figures confirm that a recovery is under way while nominal income is growing at a rate consistent with the inflation target, arguing against any further expansion of asset purchases.

Key points:

• GDP rose by 0.3% last quarter versus an originally-estimated 0.1%, with market-sector output up by 0.4%.

• Consumer spending rose for the second consecutive quarter, by 0.4%. A further increase in consumer confidence in early 2010, to above its long-run average, suggests a continuing recovery.

• A 5.8% fall in business investment was offset by a slower rate of destocking so total spending by companies was down by 0.9%. Improving corporate liquidity should support outlays and hiring in early 2010 – vacancies rose by 11% over November-January from the prior three months.

• GDP at current market prices rose by 1.1%, or 4.5% at an annualised rate, last quarter. Gross value added at current factor cost – a measure of aggregate wages and profits – grew by 6.0% annualised. The 2% inflation target is consistent with nominal income expansion of about 4.5% per annum over the medium term.

• GDP finished the quarter strongly: a monthly proxy based on services and industrial output was 0.4% above its quarter average in December – see chart. This reduces the risk of a first-quarter relapse although January is likely to have been depressed by bad weather.

Today's news, however, may not result in a further improvement in Labour's poll ratings. Historical analysis indicates that the popularity of the governing party is sensitive to changes in retail price inflation – a further rise to about 4.5% this spring may outweigh the poll impact of better GDP.

The US monetary base rose to another new high in the week to Wednesday – see chart – but the forecast in a previous post of a further large increase into the spring is no longer valid because of a Treasury / Federal Reserve decision this week to expand the supplementary financing programme (SFP) from its current $5 billion to $200 billion.

Under the SFP, the Treasury issues additional Treasury bills and deposits the proceeds with the Fed. The expansion of the programme means that the Fed will be able to finance remaining purchases of mortgage-backed securities (MBS) without creating new bank reserves, included in the monetary base.

While the monetary base is unlikely to rise much further, the recent expansion may have a positive impact on markets near term. Financing MBS buying by issuing Treasury bills rather than creating reserves, moreover, arguably makes little difference – the transaction still results in an increase in market liquidity while bills may be bought by banks and regarded as a close substitute for reserves.

It would have been more straightforward for the Fed to have sterilised the monetary base impact of MBS purchases by other means, e.g. selling Treasury securities from its portfolio, conducting reverse repos or raising reserve requirements. Officials were presumably concerned that such actions would suggest a tightening of monetary policy so chose the more circuitous route of SFP expansion instead.

Consumer confidence continued to strengthen in February, reaching a seasonally-adjusted -2 – well above the average of -9 since 1990 and the highest since February 2006. The rise was driven by improved expectations about the labour market and wider economy. A solid consumption recovery may already be under way – see first chart.

The confidence rise supports the view that the recent narrowing of the Conservative / Labour poll lead reflects economic factors, as discussed in the last post.

Interestingly, consumers' inflation expectations, having risen in prior months, stabilised in February, despite retail price inflation accelerating to an annual 3.7% in January – second chart. Households may have been influenced by the dovish forecasts in the latest Inflation Report, even though the Bank of England failed to predict the current spike. With RPI inflation likely to rise significantly further, this stabilisation may prove temporary. Retailers' price expectations are notably stronger than consumers' – second chart.

The confidence revival contrasts with weak news on business investment, which fell by a further 5.8% in the fourth quarter. Provisional investment estimates, however, are often revised substantially and the large decline is difficult to reconcile with rises in capital goods production and imports last quarter.

The latest ICM / Guardian poll shows the Conservative / Labour lead down to 7 percentage points from 11 points a month ago. This is similar to other recent polls by YouGov and ComRes – see ukpollingreport.

The ICM result is close to a 5 point prediction from the economic polling model discussed in a prior post. In this model, the popularity of the governing party relative to the main opposition depends positively on wage growth and house prices and negatively on retail price inflation, unemployment and interest rates.

Labour's catch-up, however, could be about to end. Assuming a further rise in inflation to 4.5% in the spring and stability of the other explanatory variables, the model predicts a rise in the Conservative lead to 11 points by May. Labour's hope must be that voters blame the Bank of England rather than the government for the inflation pick-up.

Recent commodity price gains and sterling weakness are putting strong upward pressure on manufacturers' input costs.

The Journal of Commerce industrial commodity price index – covering 18 materials used in manufacturing production including crude oil and natural gas – rose to a new recovery high last week. In sterling terms, the index is now 6% above the peak reached in May 2008, when the pound was at $1.95 – see first chart.

The second chart shows annual rates of change of the official producer input price series and the sterling-based Journal of Commerce index. Sterling commodity prices are 55% higher than a year ago – the largest gain since 1974. Input price inflation – an annual 8% in January – may rise to 20% or more this spring.

With output and orders recovering, the low level of sterling reducing competition from foreign producers and the Bank of England signalling no intention to tighten policy despite high inflation, manufacturers are likely to pass these increases on rather than absorb them in margins.