UK economic gloom wildly overdone

The consensus narrative is that a rise in UK interest rates has been pushed back by “disappointing” economic news. The consensus rate view may be right as the MPC diverges further from its remit but the interpretation of recent economic data is questionable – the balance of news suggests that growth is continuing at or slightly above its trend or potential rate:

• The first-quarter GDP figures released last week imply that output of the industrial and services sectors – which account for 93% of the economy – rose by 0.8% between November and March, or 2.4% annualised. (This comparison removes the distorting effect of December’s bad weather.) The March level was 1.3% above the 2010 average, consistent with output growing by about 2% in 2011.

• Business surveys indicate further respectable growth in services and manufacturing. The PMI services new business index rose to a 13-month high in April and is above its long-term average. The PMI manufacturing new orders index fell sharply but remains consistent with growth and may have been depressed by Japan-related supply disruption and holiday effects. A weighted average of the two indices declined slightly in April but is at a level historically associated with solid expansion – see first chart.

• Capacity utilisation continues to rise in both services and manufacturing, according to the Bank of England agents’ survey, suggesting above-trend expansion.

• The construction sector depressed GDP over the winter but the first-quarter estimate implies a strong rebound in March. Construction is unlikely to act as a major drag for the year as whole, judging from construction new orders, which were 8% above their 2010 average in the fourth quarter.

• Labour market trends are consistent with growth at or above potential, with unemployment stable and aggregate hours worked over December-February 1.1% higher than six months earlier.

• Slumping consumer confidence and downward pressure on real household disposable income may be yesterday’s story. Real income could rebound strongly in 2012, reflecting recent higher pay settlements, a mechanical drop in inflation and further employment gains. The relative performance of retail stocks, which leads consumer confidence, has picked up since the start of April – second chart.