RaboResearch - Economic Research

United Kingdom: growth stagnant, employment up?

Economic Quarterly Report


UK’s recovery is still very sluggish while the labour market is going from strength to strength. The economic outlook is unlikely to improve materially unless the pace of fiscal consolidation is slowed.

UK’s productivity puzzle: Stagnating economy and rising employment

UK’s GDP contracted by 0.3% q-o-q in 12Q4. Admittedly, the drop in GDP primarily reflected the unwinding of the boost from the Olympic games in 12Q3. Extended maintenance of the UK’s biggest North Sea oil field also contributed to the weakness of industrial production. But the big picture is still that the UK economy is hardly going anywhere. The fact that GDP stagnated throughout 2012 and is still 3.3% below its pre-crisis peak underlines that the pace of the recovery is very disappointing, especially when compared to past recessions (figure 1). As opposed to the sluggish GDP growth, the UK’s labour market is going from strength to strength (figure 2). Employment rose by 154,000 in the three months to December. Note that the number in full-time employment rose by a bigger 197,000 – the strongest quarterly increase since at least 1992. 

Figure 1: GDP is stagnating…
Figure 1: GDP is stagnating…Source: Reuters EcoWin, Rabobank
Figure 2: …amid rising employment
Figure 2: …amid rising employmentSource: Reuters EcoWin, Rabobank

Thus, either labour productivity has fallen to its H1 2005 level or UK’s GDP is being significantly underestimated by the statistical agency. Although we believe UK’s GDP can be revised somewhat higher in the future, we doubt it can completely close the productivity shortfall. On current estimates, private sector output per hour is around 15% lower than it would have been had it continued to grow at its pre-2008/09 recession average rate. According to the Bank of England (BoE), the productivity puzzle may be a direct consequence of the sustained weakness in demand (e.g. if firms hoard labour in anticipation of ‘better’ economic times). If true, productivity should rebound as demand strengthens. The BoE admits that the outlook is less rosy if factors associated with the financial crisis (i.e. tighter credit conditions and elevated uncertainty) have reduced growth in underlying productivity. If so, we can expect supply constraints to keep productivity low for a protracted period. Incoming data will hopefully give us a better idea as for what best explains UK’s productivity puzzle.

CPI inflation held steady for the fourth consecutive month at 2.7% y-o-y in January due to the rise in administered and regulated prices (figure 3). Into early 2013, hikes in household energy bills and the depreciation of the pound will further push inflation upwards. Needless to say that this is an unwelcome development for UK households, as real wages will continue to remain under pressure.

Will growth pick up in 2013?

UK’s economic activity will probably pick up somewhat in the coming quarters. Most importantly, the 12Q4 Credit Conditions Survey provided additional evidence that the positive impact of the recent credit easing measure (the Funding for Lending Scheme) is building. Of course, the private sector may not increase its demand for credit while being busy repairing balance sheets. However, we cannot expect the UK economy to reach ‘escape velocity’ amid severe economic headwinds. Recall, just over a third of the government’s planned austerity measures has taken place so far. As for monetary policy, the arrival of Mark Carney is not going to be a game-changer. Given the risks of permanently destabilising inflation expectations and the Bank’s increasingly flexible approach to inflation targeting, Mr. Carney is unlikely to opt for a nominal GDP level target (see our Special Report 13/04). Pushing for more quantitative easing or providing forward guidance on the stance of monetary policy cannot do the trick, in our view. The onus is, therefore, on the fiscal authorities to support the recovery by slowing down the pace of austerity. Sadly, the fact that Moody’s stripped the country of its prized AAA rating has not given the government a reason to ease its foot off the brake pedal. Note that the sluggish growth, and not the lack of willingness to push for austerity, was the main driver for the rating downgrade (see our Macro Comment 13/05).

Figure 3: Inflation pushed up by one-offs, again
Figure 3: Inflation pushed up by one-offs, againSource: Bank of England
Figure 4: Economic forecasts
Figure 4: Economic forecastsSource: Reuters EcoWin, Rabobank

This is a translation of a part of the Dutch version of the Economic Quarterly


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