UK Avoids New Recession - But Underlying Growth Is Weak

Key points

• The UK is not in recession – the economy expanded 0.5% q/q in Q1.
• Underlying growth is however weak and the recovery is not on track.
• We expect only modest growth going forward and foresee little or no monetary tightening this year

The United Kingdom did not enter a new recession last year, figures released from the Office for National Statistics (ONS) showed. The economy expanded 0.5% q/q in Q1, in line with our forecast, but 0.3 percentage points below the projections of Bank of England and the Office for Budget Responsibility. The annual growth rate advanced from 1.5% to 1.8%.

The numbers cannot be interpreted as a proof of sustained recovery and we argue that the economic upswing is not on track yet. There is still plenty of spare capacity and the unemployment rate is well above its structural level. In order for us to correctly declare that underlying growth has returned, economic growth in Q1 should have been closer to 1.0%.

The ONS estimates that the bad weather late last year trimmed 0.5% off the level of output in Q4 as people could not get to work, building projects were stalled, goods went undelivered and Christmas parties were cancelled. It was anticipated that some of this activity would bounce back in Q1. In that light, today’s data are disappointing. We believe that the Bank of England will continue to worry about the robustness of economic growth in coming quarters. Also Q2 data will be difficult to interpret with the extra bank holiday for the royal wedding and depressing output, making a comparison with Q3 complex.

Preliminary estimates for Q4 will not be received until January next year so Bank of England will have plenty of time to sit on its hands doing nothing but citing uncertain economic data. Accordingly, we could easily end up in a situation in which Bank of England keeps the base rate unchanged at 0.5% throughout the year. As the ECB will most likely continue to normalise monetary policy, the rate spread between Euroland and the UK will widen, which should lead to a weaker pound against euro. We project a rise in EUR/GBP from 0.89 to 0.92 over the next three months