This note provides some wider economic analysis to support the Statistical Bulletin relating to the latest GDP release and other major economic releases during the latest month. By drawing on the wider array of economic releases surrounding the GDP release, for example the labour market, trade, retail sales and inflation releases, this note attempts to provide a more comprehensive picture of how the economy has performed in the latest quarter and, where relevant, the latest month.
Against a backdrop of high tensions in Eurozone financial markets and weak global and domestic demand, economic output contracted by 0.5 per cent in the second quarter of 2012. The weakness in activity is broad based across key sectors of the economy with construction output continuing to act as a drag on economic growth.
The weakness in output is mirrored in the expenditure measure of GDP which shows that household and business demand remained muted in the second quarter of 2012, with demand weaker than indicated in the first quarter of 2012. The fragile nature of demand is also reflected in weak producer prices which indicate suppressed demand. The income measure of GDP shows that incomes across the economy remained muted with compensation of employees, however, showing a modest improvement.
On a positive note, consumer inflation has remained within the Bank of England’s inflation rate target for the third consecutive month. The labour market continues to display remarkable resilience which contrasts with the current picture of weak economic activity. This is discussed in more detail in an article by the Chief Economist of the ONS.
The second estimate of Gross Domestic Product (GDP) for 2012 Q2 reports that the UK economy contracted by 0.5 per cent. Although an upward revision from the first estimate of minus 0.7 per cent published last month, it is nevertheless still indicative of weak economic output. Seventeen quarters after the start of the 2008 recession, GDP growth remains significantly below its historical average and 4.2 per cent lower than its pre-recession peak. GDP growth can be described as broadly flat over the past two years.
The preliminary estimate of GDP for the second quarter of 2012 was estimated on the basis of a substantial drop in output in June, largely founded on the experiences in 1977 and 2002 when the Silver and Golden Jubilee celebrations respectively caused identical changes to the pattern of bank holidays. The second estimate of GDP for this quarter now includes ‘real’ June figures which allow us to have a clearer indication of the impact of the Diamond jubilee celebrations on economic output.
Reflecting weak domestic and global demand, the output measure of GDP continues to paint a weak picture with contraction broad based across the production, service and construction sectors. Despite an upward revision of quarterly construction growth from minus 5.2 per cent to minus 3.9 per cent in the second quarter of 2012, this sector remained the largest contributor to the negative growth of GDP. Services output, which makes up over three-quarters of total output, contracted by 0.1 per cent in the second quarter of 2012, following a modest growth of 0.2 per cent in the previous quarter. Among the service industries, all major sectors (apart from government) reported a decline in quarterly output with transport, storage and communication recording the largest fall (0.7 per cent in the second quarter). At 0.3 per cent, government output growth remained unchanged from the previous quarter. The production industries recorded a contraction of output with pockets of growth recorded in the utility (electricity, gas and air) sector.
The expenditure measure of GDP portrays weaker demand than indicated in the first quarter of 2012. In the household sector, shrinking average earnings (in real terms) and the general economic uncertainty have contributed to a cautious outlook by households. This is expressed in a negative growth in household final consumption expenditure which, at minus 0.4 per cent, is 0.3 percentage points lower than the contraction recorded in the first quarter of the year. Household expenditure is the largest single component of UK domestic demand and is therefore closely monitored as changes to it have a significant influence on GDP growth. When the Quarterly National Accounts are published next month, it will be possible to examine a more detailed breakdown of household expenditure data for further analysis of the sector.
The economic data also point towards a slowdown in business demand with Gross Fixed Capital Formation (GFCF) contracting by 3.2 per cent in the second quarter of 2012, following a 1.9 per cent growth in the previous quarter. This could suggest that, like households, businesses remain cautious in their outlook and would partly explain the weak construction output growth recorded this quarter. Private surveys of business confidence support this argument as they report that business optimism in the second quarter was below the historical average. In recent months, factors such as weak global demand and fears of a contagion effect in the Eurozone financial crisis have dampened business outlook and would to a large extent explain why business investment is weak despite what has been described as the ‘relatively good’ financial position of private non-financial corporations. Inventories, another component of Gross Capital Formation, showed a positive change in the quarter (£2.6 billion in the latest quarter). Although a relatively small proportion of overall investment (approximately 2 per cent), the cyclical nature of this component makes it a critical component to changes in GDP over the business cycle. It should be noted that the quarterly change in inventories includes an alignment adjustment.
In the second quarter of 2012, imports and exports volumes contracted, with the latter contracting more and leading to a widening of the trade deficit to £11.2 billion from £7.8 billion in the previous quarter. Reflecting the pervasive nature of the global slowdown, quarterly trade values declined with all top 10 trading partners of the UK. With economic uncertainty in the Eurozone area heightened by the financial crisis, it is not surprising that three of the four largest declines to our top export markets were to Eurozone countries. The slowdown in world economic activity in June is also confirmed by other indicators such as the OECD composite leading indicator which indicates a slowdown in economic activity in major OECD economies and emerging economies such as Brazil, Russia, India and China (BRICS).
The income measure of GDP corroborates weaker expenditure as it shows that incomes remained muted with the gross operating surplus of corporations (including the alignment adjustment) falling by 3.8 per cent compared with an increase of 1.2 per cent in 2012 quarter one. However, compensation of employees – the largest component of the income measure – saw a modest improvement over the quarter as it grew by 1.8 per cent from 1.1 per cent in the previous quarter. On an annual basis, this measure increased by 4.7 per cent, the highest annual increase since the start of the 2008 recession. Note that this statistic is presented in current prices so taking into consideration consumer price inflation, which averaged 2.8 per cent in the second quarter of the year, real earnings have grown by less. Nevertheless this presents a significant improvement from the household perspective.
Alignment adjustments are used to align the quarterly expenditure and income estimates to the headline GDP figure.
Output in the production sector fell by 4.3 per cent in June 2012 compared with June 2011. All four of the broad industry groups contributed negatively to production growth. Manufacturing output was the largest negative contributor, falling by 4.3 per cent in the twelve months to June. This was the sixth consecutive fall in the 12-monthly growth of manufacturing output. Mining and quarrying was the second largest contributor to the fall in the 12-monthly growth of manufacturing in June, contracting by 8.1 per cent in that period.
Output in June is likely to have been affected by the movement of the late May bank holiday to June and the additional bank holiday for the Queen’s Diamond Jubilee. This resulted in fewer working days in June and appears to have had a negative effect on output in the production sector this month; output in the production sector fell by 2.5 per cent between May 2012 and June 2012.
Considering the second quarter as a whole, production output fell by 0.9 per cent compared with the previous quarter. Manufacturing output also fell by 0.9 per cent over the same period. There were also falls in the mining and quarrying sector (-4.4 per cent) and the water and waste management sector (-3.2 per cent). However, the energy supply sector grew by 5.6 per cent over the quarter. The cool weather at the start of Q2 2012 was a factor in the increased output of the energy sector. However, the overall picture is one of a weak production sector.
Construction output fell by 3.9 per cent in the second quarter of 2012 compared with the first quarter of 2012. Output fell in eight of the nine sectors reflecting continued stagnation and weakness in the industry. The largest fall was in new infrastructure, which fell by 8.6 per cent on the first quarter of 2012 and by 24.8 per cent compared with the second quarter of 2011, when London Olympic projects were underway. The drop in output was more marked in New Work (-4.6 per cent) than in Repair and Maintenance (-2.7 per cent), further indicating a lack of forthcoming investment.
With construction projects linked to the Olympics over, the sector is now increasingly reliant on new developments in the housing sector that remains weak at the moment. Additionally, small and medium sized enterprises make up a significant proportion of the industrial make-up making access to finance a potential obstacle to growth. This is particularly significant because in times of economic uncertainly, they may not have the same access to financial markets as larger firms. Cuts in capital investment and weak business confidence have continued to act as a drag on this sector.
The recent performance of the service sector, which has been a key source of GDP output growth in the last decade, has remained subdued compared to its historical average. Over the past couple of years, factors such as weak consumer confidence and sluggish real wage growth have contributed to the anaemic performance of the UK service sector.
In the second quarter of 2012 total output contracted by 0.1 per cent following a 0.2 per cent growth in the previous quarter. The quarterly growth in the second quarter is unrevised from previously published estimates. Within this sector, quarterly output growth of the main industrial sectors declined in the second quarter of 2012, apart from the government sector which recorded growth of 0.3 per cent in the quarter. Distribution, hotels & restaurants contracted by 0.1 per cent while transport, storage and communication, although revised upwards by 0.7 percentage points, still contracted by 0.7 per cent. Business services and finance (which makes up over 37 per cent of total services) was revised downwards to minus 0.1 per cent in the second quarter of 2012 from the initial estimate of a 0.1 per cent growth. This fall has been mainly due to activities of head offices, management consultancy activities and architectural & engineering activities, technical testing & analysis.
Four years after the start of the 2008 financial crisis, services output is currently one per cent less than its pre-recession peak in the first quarter of 2008. The weakness observed in total services produced is also reflected on the demand side that shows household and business appetite for services were muted in the second quarter of 2012.
Seasonally adjusted, the UK’s deficit on trade in goods and services was £11.2 billion in quarter two 2012, compared with a deficit of £7.8 billion in the preceding quarter. The worsening in the deficit is attributable to the increase in the deficit on traded goods, which rose from £25.0 billion in the first quarter of 2012 to £28.3 billion in the second quarter of 2012. Total exports volumes (excluding oil and erratic items) fell by 3.3 per cent in the second quarter while import volumes fell by 0.4 per cent.
Comparing the second quarter of 2012 with the previous quarter at commodity level, falls in the value of exports were driven by Chemicals (-£1.3bn), Cars (-£905m) and Oil (-£785m). The decrease in imports was largely due to Cars (-£321m) and Intermediate Goods (-£870m) although there was a notable increase in semi-manufactured goods (4.1 per cent) such as Silver (£791m), roughly half of which is used in products ranging from televisions to batteries.
There was a fall in the value of exports to all of the UK’s top ten significant trading partners in the second quarter of 2012, emphasising the weakness in demand not only from the faltering Eurozone, but from the flat lining world economy. Over the same period, the value of imports increased from four of the UK’s ten most significant trading partners. UK imports from China and the USA rose as well as those from Germany and the Netherlands, whose export-economies may be benefiting from the weak Euro. Of the six other trading partners which posted a fall in imports, five were from the Eurozone.
Partially offsetting the deficit on traded goods was the continued surplus on trade in services which was estimated to have decreased by £0.1 billion to £17.1 billion, compared with a surplus of £17.2 billion in the first quarter of 2012.
Retail sales volumes increased by 2.8 per cent in July 2012 compared with July 2011. Sales values increased by 3.1 per cent over the same period. Comparing the monthly change, which can be more volatile, retail sales volumes increased by 0.3 per cent from June 2012 and sales values increased by 0.8 per cent.
Non-food stores, which include spending on household goods and clothing, contributed 1.8 percentage points to the 2.8 per cent increase in sales volumes in July 2012 compared with July 2011. It contributed 1.5 percentage points to the 3.1 per cent increase in sales values over the same period. Non-store retailing, which mainly comprises market stalls and online retailers, contributed 0.8 percentage points to the rise in sales volumes and 0.7 percentage points to the rise in sales values in the 12 months to July. Food stores also contributed positively to sales volumes (0.4 percentage points) and sales values (1.2 percentage points) in this period.
Automotive fuel was the only main retail sector to contribute negatively to sales volumes (-0.2 percentage points) and sales values (-0.3 percentage points) in July.
The labour market has continued to display signs of resilience and improvement in the latest 3-month rolling period in contrast to weak economic output. This is set out in the article earlier described. Employment in quarter two, all aged 16 & over, rose to 29.5 million, up 201,000 compared with the previous three month period. The employment rate correspondingly rose from 70.6 to 71.0 per cent, the highest since March to May 2009.
The unemployment rate for quarter two fell to 8.0 per cent from 8.2 per cent in the previous quarter.
In quarter one 2012, the public sector lost 39,000 jobs and the private sector saw a rise of 222,000 jobs. Compared to Q1 2008, there are now 114,000 less public sector jobs and 133,000 less private sector jobs. However the cumulative path experienced has been different.
The number of people unemployed for over a year increased by 47,000 compared to the same three months a year ago. The rise in long term unemployment and youth unemployment presents important economic and human capital challenges for the future because both of these factors tend to contribute to more periods of unemployment during the course of a working life and lower overall earnings.
The headline consumer price index (CPI) annual inflation rose to 2.6 per cent, in July 2012, from 2.4 per cent in the previous month. Throughout 2011, the 12 month CPI inflation rate was above 4 per cent. However, since September 2011 the inflation rate has been falling and fell within the 1 percentage point bounds of the 2 per cent targeted rate in April 2012.
June experienced the largest fall in clothing and footwear prices (4.2 per cent) between May and June since the CPI was launched in 1996, suggesting that shops resorted to price discounting earlier than normal. The result of this is that clothing and footwear prices only fell by 2.6 per cent between June and July. However the total fall in clothing prices from May to July is in line with the decreases seen between these two months in previous years.
The recent downward trend in consumer prices is expected to provide much needed relief for households that have experienced a tight squeeze in real earnings in recent years.
Input prices fell by 2.4 per cent in the twelve months to July compared to a fall of 3.0 per cent in June. Although there was a 5.3 per cent increase in crude oil prices between June and July, oil prices have declined by 9.5 per cent in the year to July. This led to crude oil having a minus 2.6 percentage point contribution on the annual rate of change of input prices.
The second largest contribution to the negative movement in the input price index was imported metals (-1.1 percentage points). Copper, aluminium, steel, lead, nickel, tin and zinc prices have all decreased by over 20 per cent in the year to July.
The positive 1.2 percentage point and 0.6 percentage point contributions from Home food materials and Fuel (including the climate change levy) respectively, counteracted some of the large negative contributions.
Output prices rose by 1.7 per cent in the year to July 2012. The last time it was lower was in October 2009 when the index rose by 1.5 per cent.
Although the Brent oil price increased in July, the 1 month and 12 month change in the output price of petroleum products remained negative. In fact, petroleum products had the largest negative contribution (-0.4 percentage points) which may suggest that the deterioration of global output continues to hold output prices down. It may also be the case that the input price changes have yet to filter through to manufacturers.
The largest positive contributions to the 12 month output price rate came from tobacco & alcohol (0.8 percentage points) and other manufactured products (0.5 percentage points).
In July 2012 public sector net borrowing (excluding the temporary effects of financial interventions) was £0.6 billion, which was £3.4 billion higher than in July 2011, when net borrowing was -£2.8 billion (a repayment). Consequently, public sector net debt was £1,032.4 billion at the end of July 2012, equivalent to 65.7 per cent of GDP. Care should be taken while interpreting July figures because it is typically a month when high taxes on income and wealth are recorded due to self assessment returns and quarterly corporation tax figures.
Public sector net borrowing (excluding the temporary effects of financial interventions) in the current financial year to date (April to July 2012), is now £16.9 billion, which is £18.7 billion lower than in the same period of the previous year. Note that these figures have been distorted by two one-off events: the £28 billion transaction to the Government from the transfer of the Royal Mail Pension Plan and the £2.3 billion transaction to the Government from the closure of the Special Liquidity Scheme.
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