Weak GDP figures won’t mean the economy is about to fall off a cliff
A BIG health warning should be attached to the second quarter gross domestic product (GDP) figures, when they are released on Wednesday. GDP figures – the official estimates of UK growth – can be very misleading. They can be distorted by temporary one-off effects (including the weather). They are frequently revised, so the initial estimates are not necessarily very accurate. And the headline measure can sometimes conceal a very different underlying picture.
First, there was an extra Bank Holiday in the second quarter due to the Jubilee. There is a widespread belief that this effect will have a negative impact on GDP growth – or at least the initial estimate produced by the Office of National Statistics (ONS). According to the National Institute of Economic and Social Research, the extra day of holiday could convert underlying positive growth of 0.2 per cent into a GDP decline of 0.2 per cent.
Second, there are frequent and significant revisions to the early estimates of GDP. The information used to compile an accurate measure of economic growth comes in over a number of years. In the short term, the ONS relies heavily on its surveys of the activity of existing firms. But if new businesses are becoming established and self-employment is growing, this will only be reflected in the GDP estimates after a while.
For this reason, there seems to have been a tendency to underestimate GDP growth when the economy is coming out of recession, and this takes a number of years to correct. This was certainly true in the early 1990s, when the GDP figures for the 1992 to 1994 period are now very different and much stronger than the initial estimates.
We have already seen this effect in the measurement of the current recovery. The ONS now believes the UK economy rebounded more strongly in the second half of 2009 than they thought at the time, when the UK recovery appeared to be lagging behind other major economies. Further major revisions are very likely to the UK growth path over the recession and recovery. So Wednesday’s figures are likely to change significantly before we get the true picture of the economy in several years’ time.
The third key point is that the underlying GDP picture may be different to the headline figures, because some parts of the economy are more erratic than others, or are less well-measured in the short term. North Sea Oil has an important influence on UK GDP, but it affects the livelihood of a very small number of people in our economy. In the past two years, falling oil output has depressed annual UK growth by around 0.5 percentage points on average. Recently, the ONS measures of construction activity have become more erratic due to changes in methodology.
Manufacturing and services account for over 90 per cent of employment in the UK. In the short term, the combined performance of these two sectors probably captures the underlying economic growth trend better than the headline GDP figures. And this suggests a more stable and resilient pattern of growth recently than the headline GDP measure (see chart). In the year to the first quarter, combined manufacturing and services growth was 0.8 per cent, a full one per cent stronger than the 0.2 per cent recorded decline in GDP.
We have to recognise there is significant uncertainty around the measurement of GDP and be very careful in our interpretation of early estimates. Data sources other than GDP can also help interpret the short-term course of the economy. The two key sources that I follow are business surveys and labour market data. Both have been providing a more positive picture of the UK economy in the last six months than the GDP figures, and over the recovery as a whole. Indeed, according to the labour market figures released last week, around 235,000 jobs have been created in the UK last six months – not a picture you would associate with a double-dip recession.
Look at the detail. Avoid drawing conclusions not supported by other economic data. And, most importantly, recognise these are the first estimates which will be revised in the future – probably quite significantly.
Andrew Sentance is senior economic adviser for PwC and a former member of the Monetary Policy Committee.