Return to UK growth proves a damp squib

Chris Scicluna
Emily Nicol

Following yesterday evening’s pull-back on Wall Street, Asian stocks largely followed suit today, with Japan’s Topix down 0.5%, and steeper declines in China and Hong Kong. European equities have opened roughly 1-2% lower, allowing government bonds in the region to reverse some of yesterday’s marked losses (with Gilts strongest following some very soft UK GDP data) while USTs are stable having made gains later on yesterday. Earlier in the day, JGBs made modest gains ahead of tomorrow’s BoJ announcements as Economy Minister Nishimura acknowledged the possibility that Japan could yet declare another state of emergency if cases of Covid-19 continued to rise.

A busy day for economic news so far has brought better-than-expected Chinese trade data, reporting positive year-on-year growth in exports and imports in June, but a deeper contraction than anticipated in Singapore’s GDP in Q2 (-12.6%Y/Y). And this morning’s UK GDP data for May were certainly weaker than expected, with the return to growth very much a damp squib. While other figures out today suggest that spending last month was firmer, UK GDP likely dropped by one fifth or more in Q2. The remainder of the day will bring several releases of note, including the OBR’s latest assessment of the UK public finances, and new data for euro area IP and investor sentiment, and US inflation.

Having been slower to get to grips with the pandemic, the UK was thus unable to relax its lockdown restrictions as quickly as other European countries. As a result, the rebound in UK economic activity lagged that of its peers. This morning’s ONS data showed that GDP growth in May was even weaker than expected, at just 1.8%M/M following a drop of more than 20%M/M in April to be down some 24.5% from the level before the pandemic hit in February.

Among the various sectors, manufacturing production rose 8.5%M/M with most sub-sectors recording positive growth. But that left it down 22.3% from February. Construction output rose a similar 8.2%M/M but that still left it down a whopping 38.8% from February. Most strikingly, growth in services was minimal at just 0.9%M/M to be 24.4% lower than the pre-pandemic level.

Most of the growth in services in May came from retail and supporting industries (e.g. freight transport and warehousing), as sales rebounded 12.0%M/M, albeit leaving them still some 13.1% below the February level. But constraints on other forms of activity meant that growth in many other services was still minimal or even negative again. For example, with negligible growth, the level of output in hospitality was still down some 91.7% from February. And value added of arts and entertainments dropped a further 11.3% to be down more than 54% from February.

Less constrained by lockdown restrictions, early indications for June point to a stronger rebound last month. For example, today’s BRC retail survey suggested that its measure of total sales rose 3.4%Y/Y in June, the first year-on-year increase since February. And data from Barclaycard reported a stronger increase in spending on essentials (+6.6%Y/Y) and a smaller drop in spending on non-essentials (-22.3%Y/Y) than in May, to leave the measure of overall spending down 14.5%Y/Y. Among other things, however, expenditure last month on hospitality and leisure remained exceptionally weak (down 71.4%Y/Y) as did spending in department stores (-32.1%Y/Y) and spending on fuel (-33.8%Y/Y). Indeed, the Barclaycard survey suggested that more than half of consumers continue deliberately to avoid the shops, with roughly a third doing so for fear of catching Covid-19. And looked at in the round, today’s figures suggest that we should brace ourselves for a drop in overall GDP of 20%Q/Q or more in Q2.

Later today will see the OBR publish its latest Fiscal Sustainability Report and a broad assessment of last week’s fiscal package.

Revised Japanese industrial production figures for May, published overnight, unsurprisingly confirmed a further marked contraction that month. Indeed, the drop in output was larger than previously estimated at 8.9%M/M, the third-steepest since the series began in the early 1970s. This left output down a whopping 26.3% compared with a year earlier at its lowest level for more than eleven years. Among the steepest declines, production of autos was down a further 22.7%M/M, to leave it down around 60% compared with pre-pandemic level. Meanwhile, output of general machinery fell by 10%M/M and electronic parts and devices by more than 9%M/M.

The steep drop in output was inevitable given reduced operations at factories in light of the government’s containment measures. Indeed, despite the lifting of the state of emergency around the middle of the month, today’s release also indicated that production capacity fell sharply again, down more than 11½%M/M to its lowest since the series began in the late-1970s, with the decline most striking in the autos sector, down a further 22%M/M. Surveys including the manufacturing PMI suggest an even steeper contraction in output in June. And other detail in today’s release suggests ongoing significant weakness in the manufacturing sector over coming months too. For example, the inventory-shipment ratio jumped a further 7%M/M in May to a record high.

China’s trade report for June came in slightly ahead of expectations as lockdown measures in its key export partners eased and there were signs of improvement in domestic demand too. Indeed, contrasting with an anticipated decline, exports in USD terms rose compared with a year earlier – albeit by just 0.5%Y/Y – with shipments to the US up 1½%Y/Y, Germany up 13%Y/Y and the UK up 30%Y/Y. But shipments to other key countries in the region remained very weak – i.e. exports to Japan were down 10½%Y/Y, Hong Kong down 11%Y/y, EU down 5%Y/Y and India down 28%Y/Y. And overall, exports in Q2 were up just 0.1%Y/Y. Meanwhile, imports rose for the first time this year, by 2.7%Y/Y in USD terms in June. But this followed marked declines in the previous two months, to leave imports in Q2 down almost 10%Y/Y, suggesting that Thursday’s release of Q2 GDP data will reflect a positive contribution from net trade last quarter.

Euro area:
Today will bring a number of economic releases from the euro area, including aggregate industrial production numbers for May. Given the large but partial gains recorded in output across all of the larger member states, the aggregate measure is expected to rebound about 15%M/M. However, this would still leave euro area industrial production down more than 20% below February’s pre-pandemic level. Meanwhile, Germany’s ZEW investment sentiment survey for July will bring some insight into confidence at the start of Q3. Also of interest will be the release of the ECB’s latest quarterly bank lending survey for Q2, which is expected to report that banks expect demand for loans from NFCs to remain strong over the near term, while funding conditions have remained broadly favourable against the backdrop of the ECB’s TLTRO-iii operations.

Meanwhile, ahead of Friday’s final euro area inflation release, this morning’s equivalent figures from Germany and Spain – confirmed at 0.8%Y/Y and -0.3%Y/Y, up 0.3ppt and 0.6ppt respectively – suggested that the aggregate euro area figures will likely align with the flash estimates showing that headline inflation rose 0.2ppt to 0.3%Y/Y due to a slower pace of decline in energy inflation, while the core rate was down 0.1ppt to 0.8%Y/Y.

In Australia, today’s NAB sentiment survey for June was consistent with ongoing recovery in activity last month. In particular, the headline business confidence index jumped 21.8pts to 1.5, the first positive outturn since January. The indicator of conditions also increased sharply with a broad-based recovery across industries. But overall, all indices remained at relatively weak levels and well below the long-run average. And with the exception of retail, capacity utilisation remained firmly below average in all industries. Of course, today’s survey was conducted just before lockdown restrictions were reintroduced in Victoria and so we might well see renewed caution at the start of Q3.

Indeed, ahead of Thursday’s official labour market report, today’s weekly jobs figures published by the ABS suggested that the recovery slowed in the final week of June, with payrolls down 1% to leave them up just ½% over the previous four weeks. Overall, today’s release suggests that a little more than one third of jobs lost since mid-March have been regained. But the slowing in the weekly figures and six-week lockdown imposed in Melbourne raises concerns about the near-term outlook.

In the US, today will bring June consumer price inflation data. Driven by higher gasoline prices, CPI is expected to rise by 0.5%M/M or more, which would be the strongest monthly increase for several years. But the core CPI rate is expected to remain subdued at 0.1-0.2%M/M, although that would nevertheless mark the first positive reading since February.

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