1. How is the economy doing?
The preliminary estimate of UK GDP came in at 0.3% in the opening quarter of this year, down from 0.7% in the final quarter of 2016.
2. Which sectors have driven GDP growth in Q1?
Good news, the manufacturing sector added 0.1 percentage points to growth in the first quarter, continuing the positive trend seen in the final months of 2016. Services’ contribution to growth was also positive, but much weaker than in the previous quarter. The only drag on GDP came from the electricity and gas sector, which contracted by 3.2% in the first quarter. Time for rebalancing the economy?
3. Should we be worried about the slowdown?
Not that much. The 0.3% growth performance is in line with GDP growth over the past four years, i.e. since the recovery has gotten on track with quarterly growth often falling between 0.3% and 0.8%. Figures are also subject to revisions.
However the slowdown is happening. It mainly reflects the impact from higher inflation on consumers’ purchasing power.
4. Wait, didn’t economists predict the UK economy would enter into recession in 2017?
In a recent speech, MPC member Michael Saunders outlined three main reasons why the Bank of England downgraded the UK economic outlook back in August.
First, the Bank, in line with analysis by the OECD and the IMF among others, expected that Brexit would lower long-term growth prospects as it will impose restrictions on trade and labour supply. As the UK economy moved towards the new equilibrium, the gradual adjustment meant lower growth in the short term.
Second, the predicted slowdown in activity reflected the plunge in business sentiment following the UK’s vote to leave the EU. Back in August, the Bank anticipated this would cause investment and recruitment to drop substantially.
Finally, the dive in sterling was expected to pass through into higher consumer prices more quickly than what actually happened, damaging consumers’ pockets.
5. Why has the recession never happened?
Fortunately, economists have revised their judgements since then. The UK economic performance has been remarkably solid in the months following Brexit, with growth actually picking up in the second half of 2016. There is no reason why today’s data would throw the recovery off track. Uncertainty is likely to have weighed less than expected on businesses’ and consumers’ spending behaviours. Loose monetary policy and a better global outlook have also helped.
6. What does today’s data tell us about consumer spending slowdown?
Clearly, today’s data shows that consumer-facing sectors are struggling. Sectors selling more than 70% of their output to consumers, such as retail and accommodation and food services, have recorded the largest slowdown. In those sectors, growth was flat after having been at 2.8% on average over 2016.
7. What does today’s data tell us about investment trends?
Good news on this front. Investment-facing sectors are not doing that bad actually as we do not see any major slowdown in growth in those industries. Sectors with the highest share of output ending as capital spending such as electronics, machinery or professional and support activities (including R&D services for example) recorded a growth performance of 0.6% in 2017q1. This means that companies are (still?) pressing ahead with investment despite Brexit-related uncertainty, as our Manufacturing Outlook and Exec Survey have previously suggested.
The other explanation is the worldwide revival in investment activity in recent months. As these sectors are likely to be selling a big chunk of their output abroad, the upturn in investment is benefiting capital goods in the UK, with the weak pound also helping.
8. What about exports?
It can hardly be any clearer. The more sectors are selling abroad, the stronger was growth in the first quarter of 2017. Sectors selling more than 30% of output into export markets such as transport and machinery (excluding the erratic pharmaceuticals industry) have recorded an impressive growth of 2.6% in 2017q1.
9. Is this related to sterling?
No doubt the persistent weakness in the sterling exchange rate is helping manufacturers sell more goods abroad. It does not tell the whole story though.
10. World trade is picking up
After a prolonged period of weakness, global trade has finally turned a corner this year. Business surveys in the UK and in its major trading partners all pointed to a remarkable improvement in export activity in recent months. Our own Manufacturing Outlook indicated a turnaround in overseas sales at the start of 2017 , with the balance of manufacturers reporting increased export orders climbing to 25% from -2% in the previous quarter.
The momentum in export activity seen in business surveys has more than materialised. Data on export and import volumes from a range of key economies suggest that world trade growth looks set to reach a year-on-year growth rate of 4% in the first quarter of 2017. This would be the fastest pace of expansion in six years. The upturn looks fairly broad-based across advanced and emerging economies.
11. How is manufacturing doing?
The momentum seen in manufacturing activity in the final quarters of 2016 looks set to continue this year. Quarterly growth came in at 0.5% in the three months to March, slightly down from 1.2% in the fourth quarter of last year.
12. How is the subsectors picture?
Manufacturing subsectors also reflect the picture of the economy as a whole. Growth has been weaker in consumer-oriented sectors such as food and drink, reflecting the squeeze in households’ income. Metals also recorded a lacklustre growth, as the sector has been facing a surge in commodity prices used as inputs – particularly iron ore, where prices soared by 44% in six months.
By contrast, export-oriented industries are in good shape. Growth in machinery and transport equipment came in at 3.7% and 3.0% respectively in the three months to March.
13. Where does this leave us for 2017?
At this point, the carry-over is 1.3%, i.e. this is where UK GDP growth would be in 2017 should growth be flat in the remaining three quarters of the year.
14. What about the manufacturing sector?
For the manufacturing sector, the carry-over is 1.5% reflecting the strong performance seen in the past two quarters.
15. What to expect for the rest of the year?
The slowdown in consumer spending is likely to continue in the months ahead. Inflation will continue to drift up as companies are still passing through the depreciation in sterling into higher consumer prices. On the other hand, the subdued pace in wage growth is unlikely to abate any time soon as companies turn more cautious.
The jury on investment activity is still out. The slump predicted shortly after Brexit has not yet materialised, meaning that uncertainty is playing a minor role than previously thought.
Finally, UK manufacturers are benefiting from tailwinds in the global economy, with the weak pound playing in their favour. The trend is likely to prevail over the year and provides upside risks to growth.
16. Will today’s data affect the MPC decision next month?
Good question. In its latest Inflation Report, the Bank of England was expecting growth to come in at 2.0% for 2017. The weaker-than-expected performance in the first quarter suggest that forecasts are likely to be downgraded before the next MPC meeting next month.
How this affects the MPC judgement is under question though. Last February, one MPC member, Kristin Forbes, voted against maintaining the Bank’s rate at its current level. More recently, M. Saunders estimated that there was room for monetary policy to tighten before we see any major impact on the economy, but warned that “caution is warranted”.
Given that the slowdown in consumer spending materialised –and is certainly higher than the Bank predicted three months ago, a hike in interest rates remains unlikely in the current context of subdued wage growth.
17. What is happening in the world?
The stars are aligning in 2017. Growth came in at 0.3% in France 0.8% in Spain, both above consensus forecasts. However, US GDP growth came in at 0.7% below consensus expectations.