Doubts Aplenty After UK January GDP Flatlined

Recession fears have returned to the UK after GDP stalled in January. Many think 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, suggesting false fears still have power—a reason to remain bullish, in our view.

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

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, a publication whose editorial board leans Tory said the Labour chancellor “killed growth.”^[iv] But even commentators from a publication with a more Labour-aligned editorial bent are skeptical Reeves’s policies “… put the economy in a stronger position to withstand whatever is headed the UK’s way.”^[v] Some experts now think hot inflation and potentially even recession is looming because of the recent oil price shock.

But before running for the hills, keep a little perspective. Monthly data can be volatile. For instance, last year, UK GDP fell on a monthly basis in 6 of 12 months, and those dips didn’t translate into recession.^[vi] To account for short-term bounciness, the Office for National Statistics also provides the three-month trend, and on this basis, UK real GDP grew 0.2% in the three months to January following growth of 0.1% in the three months to December.^[vii] Also, to further hammer the point home: Monthly GDP didn’t contract in January. Based on headline coverage, readers could have the impression UK GDP contracted. But it was just flat, as pockets of strength and weakness canceled each other out.

Besides possible revisions to GDP, more recent evidence point to ongoing UK business activity. 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.^[viii] The UK’s services PMI did slightly better than the headline, delivering a 53.9 after January’s 54.0.^[ix] (Readings above 50 indicate expansion.) PMIs are monthly surveys that capture the breadth of growth rather than magnitude, so while they don’t reveal the degree of expansion, they provide a timely snapshot of economic activity—and private businesses in the UK’s largest economic sector are growing overall. Based on the available data, it seems a stretch to argue the UK economy is in dire straits to start the year.

Looking ahead, the primary concern now is higher energy prices sparking 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 gasoline prices worldwide—which might affect discretionary purchases to a degree. However, paying more at the pump isn’t a macroeconomic negative for broader consumer spending.

Natural 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.^[x] 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. Some experts predict a 10% increase in a typical British household’s energy bill starting in July.^[xi] 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. That is impossible to predict right now. History suggests oil prices could fall fast if markets see conflict concluding quickly.

As for broader inflation fears, 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 the broad, economywide price increases from earlier in the decade are unlikely to return. As we explained last month, 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. That isn’t the case today

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. The broadly negative reaction to a flat (not negative!) UK GDP reading is additional evidence fear and skepticism have returned to markets—adding more bricks in the proverbial wall of worry bull markets climb.