Questions of balance in the UK economy

The end of April saw the UK economy slip back into recession, contracting by 0.2 per cent in the first quarter of 2012, according to first official estimates.

The causes of the contraction are similar to those being experienced in the eurozone – government austerity, shrinking lending to households as the banks repair their balance sheets, and stubbornly high inflation that is eating into real incomes. When combined, these have resulted in rising unemployment, stagnant growth and anaemic demand from businesses and consumers.

According to the National Institute of Economic and Social Responsibility (Niesr), such weakness is likely to persist in the next couple of quarters, and means that growth this year will be close to zero. From the start of next year, however, Niesr expects more robust growth, with a sustained period of above-potential expansion from 2014, which is necessary to reduce the gaps in output and employment.

Azad Zangana, European economist at Schroders, says: “The double-dip recession comes as no surprise to us. We have been forecasting another recession since last November when the eurozone crisis intensified. Indeed, we are forecasting a further fall in GDP for the second quarter, which will be caused by the extra special bank holiday to celebrate the Queen’s diamond jubilee.”

Room for improvement

According to Rupert Watson, head of asset allocation at Skandia Investment Group, however, the GDP report is not consistent with most of the other data that has been released, which suggests the UK grew modestly at the start of this year.

He adds: “The UK’s GDP reports are subject to significant revision, often a long time after the fact. When there is a difference between the early GDP reports and the business surveys, the business surveys usually turn out to be more accurate.”

Activity in the service sector was reported to have grown by only 0.1 per cent in the first quarter, far weaker than the growth implied by other data. In addition, construction was reported to have fallen by 3 per cent, although the business confidence index for the sector rose to a fairly high level and was likely to have been boosted by the unseasonably warm weather in February and March.

Mr Watson says: “That the data is likely to be revised higher will not provide much comfort to the government since by the time it does few will care. Indeed, for the government, second quarter GDP is also likely to be weak. However, the third quarter is likely to be artificially inflated by 0.5 per cent, suggesting a strong third quarter report, which will be released in late October. While most of us will hopefully enjoy a warm summer, the chancellor may have to wait until the autumn.”