Doubts Aplenty After UK January GDP Flatlined

Recession forecasts have returned to the UK after monthly gross domestic product (GDP) stalled in January.^[i] We read market commentary arguing economic conditions will only worsen from here—especially on the inflation front—because of the Middle East conflict’s effect on oil prices. But equating today’s environment to the recent past misses some key nuances, in our view, suggesting false fears still have power—which we think is reason to remain bullish.

First, the numbers: UK monthly GDP didn’t grow in January, ending a two-month expansionary streak.^[ii] Though construction rose 0.2% m/m, production slipped (-0.1%) and services—the UK’s largest economic sector by far—flatlined.^[iii] Within services, retail trade (1.8% m/m) and wholesale trade (1.1%) contributed to output, but administrative and support service activities (-2.3%) weighed on output, as employment activities (-5.7%) detracted -0.06 percentage point from headline growth.^[iv]

Based on our observations, the reactions to the data were pessimistic on both sides of the political divide and blame for Chancellor Rachel Reeves’s policies was nearly universal. Unsurprisingly, in our view, a publication whose editorial board leans Tory said the Labour chancellor “killed growth.”^[v] But even commentators from a publication with a more Labour-aligned editorial bent are sceptical Reeves’s policies “… put the economy in a stronger position to withstand whatever is headed the UK’s way.”^[vi] We have found some experts project hot inflation and potentially even recession is looming because of the recent oil price shock.

But before presuming the worst, we think investors benefit from keeping a little perspective. Monthly data can be volatile based on our studies. For instance, last year, UK GDP fell on a monthly basis in 6 of 12 months, and those dips didn’t translate into recession.^[vii] To account for short-term bounciness, the ONS also provides the three-month trend, and on this basis, UK inflation-adjusted GDP grew 0.2% in the three months to January following growth of 0.1% in the three months to December.^[viii] Also, to further hammer the point home: Monthly GDP didn’t contract in January. Based on headline coverage, we understand how readers could get the impression UK GDP contracted. But it was just flat, as pockets of strength and weakness cancelled each other out.

Besides possible revisions to GDP—which is standard practice based on our research—more recent evidence point to ongoing UK business activity. Data and analytics firm S&P Global’s UK composite purchasing managers’ index (PMI)—which aggregates both services and manufacturing activity—registered a 53.7 in February, unchanged from January’s 53.7.^[ix] The UK’s services PMI did slightly better than the headline, delivering a 53.9 after January’s 54.0.^[x] (Readings above 50 indicate expansion.) PMIs are monthly surveys that capture the breadth of growth rather than magnitude, so whilst they don’t reveal the degree of expansion, they provide a timely snapshot of economic activity—and we think the findings indicate private businesses in the UK’s largest economic sector are growing overall.^[xi] Based on the available data, it seems to us a stretch to argue the UK economy is in dire straits to start the year.

Looking ahead, the primary concern we now observe in coverage is that higher energy prices will spark hot inflation to come. But hold your horses. Yes, the conflict in the Middle East has caused crude oil prices to climb short term, leading to higher petrol prices worldwide—which might affect discretionary purchases to a degree.^[xii] However, paying more at the pump isn’t a macroeconomic negative for broader consumer spending based on our research.

Gas prices do affect UK household electricity costs since gas plants are responsible for a third of the UK’s total electricity, more than any single source.^[xiii] It is possible rising gas prices lead to higher energy bills for UK households, a potentially discouraging setback since the UK’s energy price cap is set to fall next month. We have read some experts predict a 10% increase in a typical British household’s energy bill starting in July.^[xiv] However, energy regulator Ofgem’s price cap is based on the average wholesale prices over a three-month period—meaning the final price will depend on how long gas prices stay elevated.^[xv] That is impossible to predict right now, in our view, and our historical analysis suggests oil prices could fall fast if markets see conflict concluding quickly.

As for broader inflation fears, we think a 2022 redux is unlikely to be coming down the pike. UK consumers may see higher prices at the petrol station or energy bills, but we think the broad, economywide price increases from earlier in the decade are unlikely to return. According to our research, the hot inflation from the early 2020s was due to the spike in money supply globally alongside a locked-down economy—a lot of money chasing very limited goods and services, which is a textbook monetarist recipe for inflation.^[xvi] That isn’t the case today, in our view.

The return of hot UK inflation chatter reminds us of the ghosts of the eurozone debt crisis that haunted investors and weighed on moods in Europe for years after the crisis ended. Similarly, the war on inflation has been over. This is a bullish false fear to us. The broadly negative reaction to a flat (not negative!) UK GDP reading is additional evidence fear and scepticism have returned to markets—adding more bricks in the proverbial wall of worry bull markets climb.