WHO should we believe on the economy: the CBI – which released a relatively positive survey of industrial trends yesterday; or the Office for National Statistics which told us that the economy was back in recession?
It is not just the CBI which is showing a more positive picture of economic growth than the official numbers. Surveys of purchasing managers have been pointing to growth in both manufacturing and services for a few months now. Unemployment has started to fall again. And March retail sales suggest relatively resilient consumer spending.
We can arrive at a more consistent picture of the economy if we recognise three important limitations of yesterday’s first estimate of GDP.
First, the GDP figures are distorted to some extent by erratic movements in a small number of sectors. Falling North Sea oil output has been depressing UK GDP for some time and made a negative contribution again in the first quarter. There was also a big drop in construction output, which knocked about 0.2 per cent off the GDP total. There is uncertainty about trends in construction at the moment, and the latest MPC minutes show scepticism at the Bank of England about official growth estimates for this sector.
A second consideration is that this is the very first stab that the ONS has had at estimating GDP for the first quarter of 2012. At this stage, the ONS openly admits that it has only 40 per cent or so of the data normally used to compile its measure of GDP. And we have seen some quite significant revisions to GDP data recently as new information has come in.
We faced a not dissimilar situation to today in late 2009. Data from business surveys, the labour market and retail sales suggested that the economy was returning to growth, but the GDP figures suggested continuing recession. Since then, data revisions have brought the official growth estimates into line with the other data – with GDP now showing a rise of 1 per cent in the second half of 2009.
The third point is that we should expect business surveys to pick up changes in economic trends more quickly than official data. The official estimate of GDP contains very little data for March, let alone April when the CBI’s latest survey was conducted. And the most positive aspects of the CBI survey are the forward-looking indicators for orders, output and investment in the months ahead. So if the economy is beginning to pick up after a patch of weak growth in the second half of last year, we should expect business surveys to show this ahead of official estimates of GDP.
For all these reasons, it is misleading to talk about the economy going back into recession on the basis of two small falls in the provisional estimates of GDP growth. In trying to gauge the path of the economy in real time, it makes sense to look at all the available data – not just the early estimates of GDP. None of this data points to particularly strong growth – which is not surprising given the difficulties in the euro area and the squeeze on spending power from high inflation. But the broad picture seems more consistent with economic growth than recession.
What does all this mean for the decisions which the Monetary Policy Committee will make when it meets next month? Before the latest GDP figures, it seemed very likely that the MPC would bring its latest round of Quantitative Easing to an end. In addition to the more positive signs from business surveys and the labour market, inflation appears stuck around 3.5 per cent and is not falling as sharply as the committee had expected.
Adam Posen dropped his call for additional QE at the April MPC meeting. And last week, deputy governor Paul Tucker voiced his concern that inflation could stay above 3 per cent throughout this year, instead of falling back to 2 per cent or below. I am not surprised that inflation remains stubbornly high – I warned about this a year ago in my final speeches as a member of the MPC.
The MPC should not be swayed by the latest very provisional figures for GDP, when business surveys and other data are much more supportive of a resumption of growth. And if inflation remains significantly above the 2 per cent target, the case for higher interest rates could be back on the Committee’s agenda later this year.
Andrew Sentance is senior economic adviser for PwC and a former member of the Monetary Policy Committee.