From now on, GDP figures in the UK will be watched with more than usual interest, because Britain is embarking upon the most significant fiscal tightening among the G7 nations. Can the economy withstand it?
Today’s GDP statistics for the third quarter, which show that the economy is growing at an annualised rate of 3.2 per cent, were much stronger than expected, and suggest that the economy is in better shape than many economists had predicted as the government is launching its fiscal retrenchment. However, the composition of the data is somewhat less encouraging than the picture painted by the headline figures.
The raw numbers just published show an economy growing well above trend for the second successive quarter, which helps to explain why unemployment figures have also been encouraging this year. However, the initial estimates for UK growth in each quarter are derived from the output side of the national accounts, and not from the expenditure side, which later provide estimates for demand components like consumption and exports.
Consequently, all we know from today’s data is how the 3.2 per cent growth rate breaks down into output sectors. This is where the numbers look somewhat less encouraging, because they have been substantially boosted by strong growth in public construction projects – a sector of the economy which is about to contract quite sharply.
Construction output grew by 4.0 per cent in Q3, and this alone added 0.25 per cent to the level of output during the quarter, or 1.0 per cent to the annualised growth rate of the economy. Much of this came in the public sector, due in part to the lagged effects of Labour’s stimulus packages, and in part to a catch-up from the exceptionally bad weather in Q1.
Unfortunately, we can already see that this boost will be temporary, because construction orders have now turned negative. In fact, it would not be too surprising if this sector drags down GDP growth by around 0.5-1.0 per cent in coming quarters, thus eliminating much of the boost we have seen in the past two quarters.
The rest of the economy
is estimated in the official data to have grown at an underlying rate of around 2.2 per cent in Q3, which is just about the same as the underlying growth rate in Q2. Furthermore, it is very close to the GDP growth rate which is implied by business surveys. As the graph shows, purchasing managers’ indices have dropped a little in Q3, but they are still consistent with an economy which is growing at an underlying rate of around 2 per cent.
This is the growth rate which we should care most about. It depicts an economy which is expanding at a solid, but unspectacular, pace. While this is a whole lot better than many economists had feared, it is not strong enough to be confident that the economy can withstand the 1.5 per cent per annum fiscal tightening which is implied by the chancellor’s plans, certainly not without more help from the Bank of England. The jury will be out for several years on that one.
