UK economy flatlines as recession held at bay... for now

It is hard to describe UK plc delivering a big fat zero as a positive for anyone but the economy has nonetheless kept one of the monsters under embattled prime minister Rishi Sunak’s bed from biting him.

For it to qualify for a stamp bearing a big red “R” for recession, there would need to be two consecutive three-month quarters in negative territory. But the Bank of England’s forecasters got it right this time with their prediction that the economy would flatline. No growth is not negative growth. The result is also better than the City had expected. Downing Street’s collective fingers will be crossed that the Bank gets it right again in future: it is predicting a modest pick-up in the current quarter.

A deeper dive into the figures will show you that while there was a modest rise in construction activity, and production (manufacturing, mining et al) was flat, the dominant services sector acted as a major drag, falling by 0.1 per cent. Notable within that is just how badly the consumer-facing service sector performed. It declined 0.7 per cent, in another demonstration of the impact the cost of living crisis, combined with the sharp rise in interest rates to 5.25 per cent, is having on the consumer economy.

High rates are serving their purpose in bringing inflation down – the UK rate is expected to show a sizeable fall when the October figure is published on Wednesday. But they are strangling growth and will continue to do that for some time to come because, as the Bank warned last week, the full effects have yet to be felt. We are, in fact, less than halfway there.

There were nonetheless a few more positives for Mr Sunak and his chancellor Jeremy Hunt, who issued another of his “stay the course” lines in response to the numbers. The month of September saw a modest pick-up, with growth of 0.2 per cent. Real wages have started to rise, which should ease the pressure on the struggling consumer economy, while the number of working days lost to strikes has declined, easing the drag on activity caused by Britain’s labour unrest.

Panmure’s Simon French took to X, formerly Twitter, to note that combined, all this “weakens [the] argument” that the UK is already in recession. We’ve heard that a lot recently. You could, he said, even make the case that “the UK economy has (so far) shown remarkable resilience to a huge rise in the cost of credit, cost of staples and geopolitical cross-currents”. The latter is a reference to the wars that have dominated the recent news cycle.

But his initial conclusion was still downbeat. “Difficult to draw any other conclusion than that the UK is trapped in [a] low-growth dynamic,” he said.

That is where the consensus lies. Capital Economics’ Paul Dales said in a note published after the release: “The Q3 GDP figures will spark a big debate about whether or not the economy is in recession (the published growth rate was 0.0 per cent, but GDP actually declined by 0.02 per cent or £173m).”

While that was still better than his forecast, he warned that the UK’s relative resilience comes with a sting in the tail: “The key point is that the economy is not weak enough to reduce core inflation and wage growth quickly. As such, we don’t expect the Bank of England will be able to cut interest rates until late in 2024, rather than in mid-2024 as widely expected.”

And this is where things get difficult for Sunak and Hunt. They would dearly like to be able to give the economy, the electorate and the government’s restive backbenchers a new year sugar rush with some tax cuts.

The problem with such a move, if you accept Dales’s case, is that it would be inflationary. That would only increase the Bank’s reluctance to help the economy by cutting rates, which look all but certain to keep 2024 on a pathway to zero growth for the entire year, even if that dreaded recession is ultimately held at bay.