CITY FOCUS: Why Britain is still in recession

By SAM FLEMING FOR MAILONLINE
Updated:

What ails Britain? Yesterday Denmark became the latest economy to leave us trailing in its wake, as the Nordic minnow propelled itself out of recession in the third quarter.

Separate figures showed the US expanded 0.6 per cent in the same period, a weaker performance than previously estimated but still creditable growth compared with earlier this year.

By contrast, revised Office for National Statistics figures showed Britain remains the only G20 economy to fail to expand between July and September, recording a 0.2 per cent fall in gross domestic product.

Union Jack flag

Laggard: The UK remains the only G20 economy that failed to expand in the third quarter of 2009

The UK has been contracting since the April-to-June quarter of 2008, reducing the size of the economy by 6 per cent - the biggest slump in modern times.

For an economy that Gordon Brown and Alistair Darling believed would be 'well placed' to ride out the recession, this is pretty humiliating.

Yet it ought to come as no surprise. Over the past decade and a half Britain became unusually reliant on financial services activity, property speculation and consumer spending to fuel its £1.3trillion economy.

These factors turned from trump card to Achilles heel in the credit crunch.

While export-dependent countries like Denmark are being buoyed up by a growth rebound around the world, Britain is being held back by what ING economist James Knightley calls 'the big hangover from the credit boom'.

Yesterday's ONS figures provided a detailed and worrying snapshot of the fractures that run through Britain's finances.

Households' disposable incomes grew by an annual 6.5 per cent in the third quarter, providing what ought to be a strong foundation for gains in consumer spending.

However a look at the detail showed that this improvement was propelled by government-driven factors such as cuts in interest rates and a surge in benefit payments to unemployed workers, along with stronger dividend payments.

The cut in the Bank of England base rate to 0.5 per cent, for example, helped slash households' quarterly interest bill by almost a third to £16.8bn, the ONS reported.

Meanwhile social benefit receipts leaped 8.5 per cent while tax payments tumbled by an annual 8.4 per cent. As a result, families were able to withstand the cuts in wages and salaries of 1.3 per cent - the largest in modern times.

Revealingly, instead of putting this money to work on the High Street, Britons are banking much of their spare cash.

The total amount saved in the quarter leaped almost tenfold to £21.4bn compared with the same period in 2008.

That drove the saving ratio to 8.6 per cent, the strongest outcome in a decade and a major shift from a ratio that fell into negative territory at the start of last year.

Some economists take comfort from these figures. Britain's GDP growth will be held back during a period of heavy saving, but this ought to put us on a stronger financial footing in the future.

Neville Hill of Credit Suisse says: 'There are grounds for optimism in these numbers. We are not talking about the economy or consumer spending going gangbusters.

'It's about getting out of recession and seeing some decent growth and the ingredients are there. The adjustment is being done on the consumer side.'

Hill also pointed to figures released yesterday showing Britain's current account deficit, a measure of how much we owe the rest of the world, stands at 1.3 per cent of GDP, a figure that is 'perfectly sustainable and a lot narrower than in 2007'.

What's more, if it hadn't been for declines in the North Sea oil sector, Britain's GDP would have been flat - hardly a stellar performance but better than another quarter of contraction. But the huge role of UK fiscal and monetary policy in propping up the economy must be cause for concern.

The Bank of England can't keep rates at 0.5 per cent forever, and the Treasury will have to start hiking taxes and slashing public spending to tackle its £178bn deficit.

For households, the process of rebuilding savings and paying off debt will take longer than just one quarter. It seems hard to imagine we will see a consumer rebound any time soon.

While the manufacturing sector is benefiting from sterling's devaluation, it comprises too small a share of the economy to single-handedly pull the UK's economy out of its funk.

'You still have to think that the outlook is pretty grim,' said Knightley. 'I think its going to be a very slow, drawn-out recovery.'

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