Western Europe August 14, 2019 / 10:12 am UTC

UK: Recession Risk to Affect Politics Before Brexit?

By Andrew Wroblewski

A “no-deal” Brexit was always supposed to accentuate risks that would push the UK economy into recession. However, if the gloomy economic news continues, the ensuing rising possibility that the economy may already be in recession will play an important role in an election campaign that already seems to be taking place. While a Q3 GDP drop may be averted, as companies continue to stockpile ahead of an increasingly likely no-deal Brexit, high-profile data in the run-up to the end of October is likely to remain distinctly gloomy.

Figure 1: A Range of Indicators Have Been Pointing South, Including Falling Vacancies

Source: Continuum Economics, ONS, Macrobond

A Q2 Decline That Was as Broad as It Was Expected

The extent of the q/q decline in Q2 GDP may have been unexpected, but the fall itself chimed with a range of indicators, not least the recent weakness in business survey data, of which the high-profile PMIs have been the most notable. Admittedly, the PMI data have been volatile and have not always been the most authoritative in forewarning about swings in the economy, at least those confirmed by subsequent official output numbers. However, the broad-based weakness in the PMIs, echoing the GDP numbers in showing marked declines in construction and manufacturing, as well as flagging services, is both important and illuminating. Firstly, it does not suggest that the UK is merely suffering from the global tensions that have hit manufacturing elsewhere. Secondly, such widespread weakness is less likely to be noise reflecting an unwinding of the Q1 Brexit-induced stock-build. This is especially so given corroborative evidence from other alternatively-sourced data, most notably the year-long fall in job vacancies (Figure 1).

Little Sign of Any Turn for the Better

This ongoing fall in vacancies, alongside business survey readings, suggests no letup in the economic slide as the current quarter unfolds. Moreover, the broad-based nature of the weakness highlighted by both official and survey data was last seen in 2012 (Figure 2) when the UK last courted genuine recession risks. It is worth noting that, in what was still a surprisingly upbeat assessment by the Bank of England (BoE) in its recent Inflation Report, the BoE still noted that the probability of the UK entering a recession by early-2020 had risen to one in three. This is notably the probability we have been attaching to such an outcome for some time.

Even so, at this juncture, it is more likely that the economy may avoid a further contraction, ironically because of the increased risk of a no-deal Brexit persuading both companies and households to rebuild precautionary inventories, albeit to less extent than seen in Q1. However, the situation may be touch and go, with key updates on the overall state of the economy in the form of monthly GDP figures (due on September 9 and October 10) likely to be important ingredients in what seems to be an emerging campaign ahead of a general election that we expect sometime in Q4, probably early in the quarter.

Figure 2: Broad-Based Decline in Output Now Unfolding

Source: Continuum Economics, ONS, Macrobond

Admittedly, Prime Minister Boris Johnson’s government will continue to play down any such signs of economic weakness, let alone contraction. It is already establishing a campaign that will seek to play off the electorate against the anti-Brexit Parliament while promising an abundance of electoral bribes (hence, a possible budget in late September or early October). However, any such economic weakness will clearly not help the government’s electoral aspirations however much it tries to maintain a pretense that the UK economy is fundamentally solid and immune to Brexit uncertainties.

4Cast Ltd. and all of its affiliates (Continuum Economics) do not conduct “investment research” as defined in the FCA Conduct of Business Sourcebook (COBS) section 12 nor do they provide “advice about securities” as defined in the Regulation of Investment Advisors by the U.S. SEC. Continuum Economics is not regulated by the SEC or by the FCA or by any other regulatory body. This research report has not been prepared in accordance with legal requirements designed to promote the independence of investment research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. Nonetheless, Continuum Economics has an internal policy that prohibits “front-running” and that is designed to minimize the risk of receiving or misusing confidential or potentially material non-public information. The views and conclusions expressed here may be changed without notice. Continuum Economics, its partners and employees make no representation about the completeness or accuracy of the data, calculations, information or opinions contained in this report. This report may not be copied, redistributed or reproduced in part or whole without Continuum Economics’s express permission. Information contained in this report or relied upon in its construction may previously have been disclosed under a consulting agreement with one or more clients. The prices of securities referred to in the report may rise or fall and past performance and forecasts should not be treated as a reliable indicator of future performance or results. This report is not directed to you if Continuum Economics is barred from doing so in your jurisdiction. Nor is it an offer or solicitation to buy or sell securities or to enter into any investment transaction or use any investment service.
Analyst Certification
I, Andrew Wroblewski, the lead analyst certify that the views expressed herein are mine and are clear, fair and not misleading at the time of publication. They have not been influenced by any relationship, either a personal relationship of mine or a relationship of the firm, to any entity described or referred to herein nor to any client of Continuum Economics nor has any inducement been received in relation to those views. I further certify that in the preparation and publication of this report I have at all times followed all relevant Continuum Economics compliance protocols including those reasonably seeking to prevent the receipt or misuse of material non-public information.