Commentary Directory

Whispers of a UK Contraction in Q3

Jacob Hess
August 22, 2023

Despite a quiet economic week, there were still some whispers of a struggling UK economy. The first estimate of Q2 2023 GDP growth came in as a slight acceleration over the previous four quarters at 0.2% QoQ where Q1 2023 was 0.1% QoQ. The marginal pick-up in growth showed that the economy resisted recession despite many seeing that as a strong possibility in the beginning of the year. It also showed that UK consumers were resilient in the face of a sharp increase in borrowing costs as a result of record Bank of England tightening. Signals of Q3 2023 are telling a different story however.

From ONS

In the second quarter, UK government expenditures made the largest contribution to growth at 0.65 ppts and was the only reason that there was a GDP expansion. That is unlikely to hold in the third quarter. Public sector borrowing for July came in weak at just is £4.3 billion which is £1.7 billion less than the £6.0 billion forecast by the budget office. This means that for over the last 12 months, public sector borrowing fell substantially from £14.9 billion in the previous 12 months to £8.2 billion. The spending is being constrained by higher borrowing costs. The report on public sector borrowing reported that the interest payable on central government debt in July was £7.7 billion, £1.5 billion more than in July 2022 and a July record.

Another notable sector in the Q2 GDP data was the production sector which saw output increase by 0.7% QoQ, a strong acceleration over the 0.1% QoQ in Q1. The bounce is unlikely to materialize into an industrial recovery as the sector faces many headwinds. The August CBI Industrial Trends Survey released today showed the effects of those headwinds. The Output Volumes index fell the most since September 2020 to -19%, down from 3% in July. Capacity fell due to a further decline in new orders. That index was -15% in August, down from -9% in July. On a more positive note, the softness in manufacturing activity did lead to the lowest reading on the selling price inflation index since February 2021 (8% in August, down from 18% in July).

The declines in public sector borrowing and manufacturing activity seen in data releases today are some initial signs of a Q3 contraction emerging. This is especially the case given that the weakness reported here is found in the strongest sectors of growth reported in Q2. Of course, there is still time for the data to reverse course, but that seems unlikely since the Bank of England’s rate hikes over the last few months are still coming into play. Analysts projecting a UK recession may finally see their predictions start to come true in Q3.