Chief Economist’s Weekly Brief – Rebound means rebound?

A decent month which saw a rebound in trade and a decent year for industry still leave gaps in both. The trade deficit remains at near-record levels while industrial output is 7% lower than it was a decade ago. The first gap is the more significant.

Flat. UK industrial production in July grew by just 0.1% compared with June. Manufacturing was the laggard, falling by 0.9% on the month, whilst oil and gas put in a strong spurt of 4.7%. Over the year the figures are more flattering, with production up 2.1%. Not bad at all. But it will take quite a few years to recover at that rate. Manufacturing is still operating at 5.2% below its pre-crisis peak, with the broader production measure even worse at 7.6% below. That’s a big gap to make up.

Mind the gap. Even trade joins the post-Brexit vote bounce. UK exports rose by £0.8bn between June and July, while imports fell by £0.3bn, meaning the gap between our imports and exports, or trade deficit, narrowed by £1.1bn. Still, a bit of perspective is required. The gap is £4.5bn and it narrowed from a near record £5.6bn in June. Signs of inflation are growing too as import prices rose by 3.2% in a month.

Performance enhancing drugs.  According to HMRC, Northern Ireland was the only one of the UK countries to record an increase (9.5%) in the value of exports during the year to June. Sales to the US rocketed by 74% y/y. Our performance was enhanced by significant growth in the pharmaceutical sector. During the 12 months to June 2016, exports of chemicals and related products soared from £961m to £1.5bn. This rise relegated food exports (£991m) to 3rd with the machinery and transport equipment sector (£2.3bn) ranked first.

Giving ground. A decent second quarter for UK construction masks underlying weakness. Total output is down by 1.2% on a rolling quarter basis and there was no growth at all in July. New housing building, which had been strong, fell by 0.8% in July. Not great. Britain desperately needs better infrastructure and the case for more homes needs no repetition.

Rebound means rebound? The UK Services PMI returned to growth after a decline in July. Output, orders and employment all increased last month. So are things back to normal after the post-Brexit blip? Not quite. Perspective is important. Output, orders and employment in August were all increasing at a rate well below their respective long-term averages. And firms’ input costs are rising at a faster rate than their long-term averages – in turn, so are the prices they are charging their customers. We’re now well used to the phrase ‘Brexit means Brexit’. Likewise, you could say that recovery means recovery. But the detail of what that actually means is key.

Go West! 11 of the 12 UK regions reported a bounce back in business activity last month.  According to the IHS Markit PMIs, London (52.5) and the South East (54.3) recorded notable rebounds in their economic fortunes. But the fastest rates were posted in the West – North West (55.7) and South West (55.5). Scotland (49.1) was the one region stuck in contraction territory (sub-50) although it did manage to see a return to employment growth. Eight other regions also increased their staffing levels but three (North East, North West, Yorks & Humber) posted declines.  Of these the North East saw the steepest rate of job losses (46.9).

Heading North. The UK PMIs have signalled a rebound following a downturn in the immediate aftermath of the Brexit vote, and the Ulster Bank Northern Ireland PMI has followed a similar trend, except the recovery here has been weaker. The main thrust of the latest survey is indicators heading north, with business activity, employment, and inflation all up. And with retail activity also rising, it seems that the exchange rate has promoted shoppers from the south to move in the same direction.

Swingers. Sentiment in the UK housing market nose-dived post-referendum but optimism has quickly returned. August’s RICS survey showed a small net balance of surveyors (10%) expecting UK house prices to rise over the next 3 months, a huge turnaround from June. The swing is greater in London, now at +3% from -45% and the first positive score since January. Northern Ireland saw a post-referendum fall and rebound too, and surveyors here also expect prices to edge upwards in the short-term. Despite a softer demand backdrop, the lack of new sales instructions is a key factor driving continued growth in NI house prices.

Plodding. Eurozone GDP grew at an annual rate of 1.1% in Q2, its average since the recession ended in mid-2009. It’s been a dismal performance. The region managed 2.6%y/y growth in the pre-crisis decade and compares unfavourably with 2.0%y/y in the UK. Unemployment remains above 10% and such paltry growth will leave it high for some time.

Something must be done! The August Purchasing Managers’ Index suggests that it will be more of the same for the Euro Area in the immediate future. The main index slipped a little by 0.3 to 52.9, close to its average in the last few months. The ECB has taken a range of substantial actions in recent years, with varied results. It’s time for the euro area nations with strong balance sheets to use fiscal policy to boost growth today and supply potential for tomorrow. Don’t hold your breath.

Soon. Despite downgrades to growth and inflation forecasts, European Central Bank President Mario Draghi announced no new monetary easing measures. It seems December may be the month for more action. An extension of its QE programme beyond March 2017 is widely expected. A significant share of sovereign bonds now have a yield less than the ECB’s -0.4% deposit rate and have thus become ineligible for purchase. Oh the tribulations of monetary policy in this new era.

Corridor of uncertainty. Survey data show the US non-manufacturing sectors grew for the 79th consecutive month in August. Yet a reading of 51.4 suggests the pace of growth is weak and, along with employment, slowing sharply. The index dropped 4.1 points from July. Like a supremely bowled ball or a deftly positioned pass, this survey poses hard questions for US rate-setters. On balance, it looks best to defend, meaning there’s more to discourage talk of imminent rate hikes.

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