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UK Growth is “on a plateau”

Is the UK economy grinding to a halt? Latest figures show that GDP in the first quarter of 2011 grew at only 0.5%. This follows on from a decline of 0.5% in the last quarter of 2010, which suggests that overall the economy has stood still for the past six months. As Joe Grice, chief economist for the ONS put it, the data points to “an economy which has been on a plateau” since last summer.

On the other hand, the prime minister described the figures as “good news”. So, what are we to believe? The Office for Budget Responsibility had been forecasting a growth figure of 0.8% as it was believed that the economy was seriously constrained by the four or five weeks of continuous snowfall at the back end of last year, and would start to play ‘catch up’ in the first three months of this year.

Although the VAT rise to 20% has kicked in during the first quarter, most of the other tax rises and spending cuts have not really been felt yet. This led Jonathan Portes, former chief economist at the Cabinet Office, to call for a scaling back of the “fiscal overkill”.

It is informative to look at the chart below copied from a recent blog by Hetal Mehta at Daiwa Capital Markets.

Source: Daiwa Capital Markets Europe Ltd blog by Hetal Mehta

When we look at a sectoral breakdown of the economy over the past four quarters, an interesting picture emerges. Manufacturing, which accounts for 13% of total output, has performed quite strongly, showing a 1.1% quarterly growth in each of the last two quarters. At the same time, the services sector, which accounts for 75% of output, grew at 0.9% in the first quarter of 2011, more than offsetting its 0.6% decline during the previous “Britain on ice” quarter.

The real problem was with the more volatile construction sector. As can be seen in the figure above, after experiencing a huge surge in the 2nd quarter of 2010, there has been a sharp deterioration, with the sector falling 4.7% in the first quarter of this year. This alone, wiped 0.3 percentage points off the GDP growth figure, and if it hadn’t been for this fall the OBR’s prediction of 0.8% growth would have been correct.

Construction could still recover in the remainder of the year, but is not a major part of the economy. It is the sudden collapse in this sector which kept GDP growth down. However, we would have hoped that the service sector, which should be the powerhouse of the economy, would be driving ahead, but in fact it remains fairly moribund. Daiwa Capital expects it to show only 0.5% quarterly growth for the rest of the year.

With manufacturing probably easing off from its recent growth rates, and with all the government austerity measures and public sector job losses to take effect, we cannot expect more than a desultory recovery. Interest rates will probably stay where they are for longer than many economists have been forecasting.

One final point is that this GDP figure is only the first estimate and there will be at least two further subsequent revisions. It may be that the final figure is higher than 0.5%, although don’t hold your breath.

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Posted in economic growth, GDP

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