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Economics Weekly - UK to see positive economic growth in Q1 2010; Weekly economic data preview - Central banks, except perhaps the RBA, are set to leave rates on hold

Economics Weekly - 5 April 2010

 

UK to see positive economic growth in Q1 2010

 

UK economic growth revised up in Q4

In this weekly, we focus on the recent trends in UK GDP and the prospects for growth in Q1 2010.

 

Paradoxically, the upward revision to UK GDP growth in Q4 of 2009, to 0.4% from 0.3%, also saw a downward revision to growth in earlier years. Hence, the peak to trough fall in UK gdp during the recession just ended is 6.3%, down from 6.2% in the previous release of the data. For 2009 as a whole, there was a fall of 4.9% in GDP, the biggest fall in any single year since the figures have been recorded on this basis.

 

Moreover, the UK’s recovery from recession has been slower and the downturn deeper than that of the average of the G7 economies. UK economic growth fell for six consecutive quarters, from Q2 2008 to Q3 2009, whilst the average fall in the other G7 countries was four consecutive quarters.

 

...but earlier figures were revised lower, meaning the recession was even deeper than first thought...

We have identified the high degree of leverage in the UK as one of the reasons why the UK’s recovery has taken longer than in some other economies. Another reason, is the high share of the economy accounted for by services, which fell sharply in the recession. Given that the downturn was exacerbated by a global financial crisis, one of the features of the recession of 2008/2009 is that services output has contracted more than any other sector. In all the recessions since the 1960s, falls in services output have been modest to nonexistent. But in this downturn, services output has fallen by around 3.5%, see chart b. This makes this recession unique in recent UK economic history, and explains why the decline in the level of GDP has been so pronounced.

 

...but growth in Q1 was likely in line with Q4 2009

Looking to prospects for GDP in Q1 and the remainder of the year, monthly economic data so far released suggest that the recovery will be uneven. However, expansion at a similar pace to Q4 2009 is likely in Q1 (0.3-0.5%), but Q2 and Q3 could be more of a struggle, partly due to Budget and election uncertainty. In any event, the March Budget does not so far seem to have altered expectations about the path of the economy. Whether a later Budget has any impact remains to be seen. We look for UK economic growth of around 1% this year, with recovery to just above 2% growth in 2011.

 

Although growth needs to come from net exports, some revival of consumer spending is still crucial

 

There has been a very sharp rise in household saving rates in the UK, hitting a peak of 8.4% in Q3 2009, see chart d. This means that for economic growth to resume at a decent pace, that ratio must stabilise at around 7-8%. With business investment spending likely to remain weak as companies adjust their balance sheets, the onus will be on stocks and net exports to drive the modest economic recovery we expect in 2010. However, as chart c shows, given the 70% share of GDP taken by consumer spending, about half of the expansion in GDP this year will still come from that source.

 

The challenge for the UK is that a weak currency, which it currently has, is not enough to drive economic recovery: a focus on key fast growing export markets is also required. Nevertheless, with a large negative output gap, price inflation will fall back later in 2010. Hence, we look for official interest rates to remain low through 2010 and a Bank Rate of 0.5% will likely carry over to 2011. However, we would expect longer-term money market rates to remain much more volatile.

Trevor Williams, Chief Economist, Corporate Markets

 

Weekly economic data preview 5 April 2010

 

Central banks, except perhaps the RBA, are set to leave rates on hold

 

􀂄 Several major central banks take monetary policy decisions this week, but the most contentious could be the Reserve Bank of Australia, where interest rates may remain on hold at 4%, but with a significant risk of a quarter-point hike. The RBA lately has increased the emphasis on a measured pace of tightening, having already raised rates from a low of 3% in the past six months. In contrast, the Bank of England, Bank of Japan and European Central Bank are all expected to leave interest rates firmly unchanged. Moreover, the BoE is not expected to change its asset purchase target at £200bn. ECB President Jean-Claude Trichet may confirm the decision to continue to accept BBB- debt as collateral next year, as part of measures to support Greece. No doubt he will try to convince the markets that policy frictions in the euro zone have been resolved, but investors may beg to differ, with Greece set refinance about €20bn of debt in this quarter alone.

 

􀂄 In terms of European data, UK services PMI and industrial production will probably attract the most attention. German factory orders and final estimates of euro zone services PMI and Q4 GDP are worth more than cursory glance. Indeed, German orders are forecast to accelerate to around 21.4% on the year, the highest annual rate of growth since reunification, though of course the numbers are flattered by favourable base effects resulting from the collapse in world trade activity a year ago. We were a little surprised by the rise in the UK manufacturing PMI last week, but for the services PMI we still think a fallback from a very strong reading in February is likely and have pencilled in a forecast of 57.5 from 58.4, though this would still be significantly above the 50 no-change level. The ONS release of February industrial production, which we see rising 0.5% in the month, will help provide a firmer view on the official GDP growth estimate for Q1 (not due until Apr 23), though the National Institute for Economic and Social Research (NIESR) will make an unofficial stab at the number next week. Our own view is for a 0.3% quarterly rise in GDP.

 

􀂄 Eyes will be drawn to the US pending home sales figures on Monday to gauge conditions in the fragile housing market, after the surprise month decline of 7.6% in February, blamed largely on poor weather conditions. President Obama’s extension of first-time buyer credit last November for property sales that close by June 30th should help to buoy the market over the next couple of months and we expect the pace of decline in pending home sales to slow, falling by 0.4% in March. Housing will be a recurring theme during the week as we expect Tuesday’s release of FOMC minutes to expand on the decision to halt the buying of mortgage-backed securities at the end of March, completing the $1.25 trillion programme instituted in November 2008. Markets will look for reassurance that the Fed will reverse that decision if necessary. Further comments in the minutes or public statements from Mr Bernanke on Wednesday are expected to confirm rates will remain on hold, until more consistent evidence of a sustained economic recovery materialises. Thursday’s initial jobless claims are forecast to continue their downward trend to 435,000, with the 4-week average falling to the lowest level since September 2008. The US Treasury will be undertaking a number of auctions throughout the week including $74bn of 3-year notes, 10-year notes and 30-year bonds, and $8bn of 10-year TIPS.

Hann-Ju Ho, Carl Paraskevas

 

Economic Research,
Lloyds TSB Corporate
Markets,
10 Gresham Street,
London EC2V 7AE
,
Switchboard:
0207 626 - 1500
www.lloydstsb.com/corporatemarkets

 

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