- GDP bounced back by a stronger than previously reported 16.0% quarter-on-quarter in Q3 after record contraction of 18.8% quarter-on-quarter in Q2 and a drop of 3.0% quarter-on-quarter in Q1. Even so, GDP in Q3 was still down 8.6% year-on-year and it was also 8.6% below its Q4 2019 level
- The economy has benefited from the summer’s progressive easing of restrictions, as well as additional government stimulus measures
- All output sectors saw robust q/q growth over Q3: services (14.7%), industrial production (14.7%), manufacturing (19.5%), and construction (41.2%)
- Consumer spending – up 18.3% q/q – led the bounce back and was buoyed by the release of pent-up demand following eased restrictions, the furlough scheme, and the rise in the savings ratio to a record high in Q2
- Business investment rose 8.8% q/q – a modest rebound after a record decline of 26.5% in Q2 and a 0.5% decline in Q1. Q3 business investment was 20.5% below its level in Q4 2019
- The EY ITEM Club now forecasts Q4 GDP contraction to be around 2% q/q, following increased restrictions announced on 20 December, up from the previously forecasted 1%. This would result in overall GDP contraction of 10.6% in 2020 given the overall upward revisions to the back data for the first three quarters
- The EY ITEM Club still expects the economy to benefit from the roll-out of the COVID-19 vaccine, but the current forecast of 6.2% GDP growth in 2021 may be too optimistic – 5.5% growth may be the limit depending on what is expected to be a challenging start to 2021. The forecast assumes there will be a UK-EU trade deal agreed.
Howard Archer, chief economic advisor to the EY ITEM Club, comments:
“The economy saw a bigger bounce back in Q3 than previously reported as it benefitted from reduced lockdown restrictions releasing pent-up demand. It also gained some help from stimulus measures, including the temporary raising of the stamp duty threshold for house purchases, the VAT cut for the hospitality sector from mid-July, and the ‘Eat Out to Help Out’ scheme in August.
“There was also a boost to growth from the education sector. In Q2, the sector’s output contracted 24.9% q/q as schools were closed. However, with schools reopening in September, there was a substantial rebound in Q3 as education output rose 25.1% q/q.
“Not only was GDP growth in Q3 revised up to 16.0% quarter-on-quarter from the previously reported gain of 15.5% quarter-on-quarter but the Q2 contraction was cut to a still record-breaking 18.8% quarter-on-quarter from 19.8% quarter-on-quarter. However, the Q1 GDP contraction was revised up to 3.0% quarter-on-quarter from 2.5%.
“Despite the overall upward revisions for Q1-Q3, GDP in Q3 was still down 8.6% year-on-year and it was also 8.6% below its Q4 2019 level.
“The economy grew through Q3 with GDP expansion of 1.1% month-on-month in September following growth of 2.1% in August and 6.5% in July. September was a fifth successive month of expansion, although it was the slowest.”
All output sectors saw a rebound in Q3
Howard Archer continues: “There was a substantial rebound across all output sectors in Q3. Output in the dominant services sector rose 14.7% q/q, following declines of 18.2% in Q2 and 2.9% in Q1. The fastest rebounds occurred in education and in wholesale and retail. Accommodation and food services also made a significant contribution once the sector opened-up from July.
“Industrial production also grew 14.7% q/q, with manufacturing output expanding 19.5% q/q. This followed respective declines of 16.4% q/q and 20.8% q/q in Q2 and 2.2% and 2.2% in Q1. Manufacturing output was lifted by factories being largely fully open through Q3 after widespread shutdowns during Q2. There were increases in 12 out of the 13 manufacturing sub-sectors, most notably the manufacture of transport equipment.
“Construction output grew 41.2% q/q in Q3 after a decline of 32.7% q/q in Q2 which followed a fall of 2.1% in Q1. Private new house work rebounded particularly strongly.
“November’s lockdown measures were less restrictive than those introduced on 23 March, and experience has been gained in keeping activity going. People and companies have adapted to home working, while some workplaces and offices have been adjusted to meet COVID-19 health and safety requirements. This includes construction sites and manufacturing plants, which the Government stressed it wanted to keep operating through the renewed lockdown.”
Consumers play leading role in bounce back but business investment remains weak link
Howard Archer continues: “On the expenditure side, robust consumer spending led the way, while there were also positive contributions from government spending, investment in dwellings, and stocks. Business investment expanded but was soft, while net trade was negative as imports of goods and services rose far more than exports.
“Consumer spending increased 19.5% q/q in Q3 after contracting 22.2% in Q2 and 3.0% in Q1. The full reopening of the retail sector released pent-up demand while the later reopening of the hospitality sector and other consumer services helped too. Consumers’ ability to spend was supported by the furlough scheme, as well as the increase in the household savings ratio in Q2 to a record 27.4% from 9.6% in Q1.
“The household savings ratio remained historically high in Q3, although it fell back to 16.9%.
“Overall investment rose 17.9% q/q in Q3 after declines of 22.8% q/q in Q2 and 0.9% in Q1. This was primarily due to a 74.4% increase in private dwellings investment. Business investment remained a weak link in the economy. While it rose 9.4% q/q, this was a modest rebound after a record decline of 25.4% in Q2 and a decline of 0.7% in Q1. This meant that business investment in Q3 was 19.0% below its level in Q4 2019. Many companies were experiencing reduced activity and had cash flow challenges, as well uncertainty over future prospects. Government investment rose 2.4% q/q in Q3 after increasing 2.1% in Q2.
“Government spending rebounded 10.4% q/q in Q3 after declining 14.5% q/q in Q2 and 3.4% q/q in Q1. This largely reflected spending on education and health.
“There was a positive impact from the inventories component. The ONS reported that “the underlying data show an increase of £3.3 billion in stocks held by UK companies in Quarter 3 2020 (Table 2). This may be linked to businesses “using forward buying strategies to build stocks for Christmas and Brexit”, as mentioned in the September.”
“Net trade made a significant negative contribution to Q3 GDP, which largely reversed the substantial positive contribution that had occurred in Q2. Exports of goods and services edged down 0.4% q/q in Q3 after declines of 8.8% in Q2 and 13.1% in Q1, despite most countries experiencing recoveries and global trade improving. Meanwhile, imports rose 11.7% q/q in Q3 following a substantial fall of 20.8% q/q in Q2 and a decline of 7.0% in Q1 as UK domestic demand recovered substantially.”
Economy now looks likely to contract around 2% in Q4
Howard Archer observes: “Prior to the latest restrictions being introduced, the EY ITEM Club had forecast that the economy’s contraction could be limited to little more than 1% q/q in Q4 given the considerable resilience displayed during November’s lockdown. However, the new restrictions mean that the Q4 GDP contraction now looks more likely to be around 2% q/q. This would result in record GDP contraction of 10.6% over 2020, allowing for the overall upward revisions to the back data for the first three quarters.
“The economy grew by just 0.4% month-on-month in October – the weakest performance since the return to growth in May – and it was evident that increasing restrictions and rising COVID-19 cases were affecting activity.
“However, it clear that November did not see the same sort of economic contraction that was experienced in April – when GDP fell 19.5% month-on-month as a result of the 23 March lockdown – and it also increasingly looks like the decline in GDP in November was much less than originally expected.
“There also is evidence of an appreciable lift to manufacturing activity coming from stockbuilding ahead of the end of the UK-EU transition arrangement on 31 December while the extension of the furlough scheme to the end of April should help limit the near-term rise in unemployment and sustain activity.
Outlook for UK economy in 2021
Howard Archer adds: “The EY ITEM Club’s current forecast sees GDP growing 6.2% in 2021, but Q1 is now expected to be more challenging as a result of the new, tighter restrictions on activity. At best, very modest growth now looks on the cards for Q1 2021, and it looks increasingly likely the economy may not grow more than 5.5% in 2021.
“While retail sales are expected to be affected by the closure of non-essential retailers in Tier 4 areas, November’s small month-on-month decline showed the impact of restrictions can be relatively limited compared to what happened earlier in 2020. Hospitality and leisure sectors are likely to be significantly affected.
“The EY ITEM still expects the economy to improve as 2021 progresses thanks to the roll- out of the COVID-19 vaccines. The forecast assumes the extension of the furlough scheme until the end of April 2021 will have some limiting impact on the rise in unemployment, which will be supportive to economic activity. After an extended period of weakness, business investment is expected to gain momentum over the course of the year as companies grow more confident in the economy.
“The forecast assumes the UK and EU will avoid a ‘no deal’ outcome over the coming days. Even so, there is expected to be some limiting impact on trade and growth in 2021 from the changed relationship with the EU, as the UK will lose access to the Single Market and Customs Union.”
Outlook for UK economy if no UK - EU trade deal
Howard Archer adds: “Should the UK and the EU not reach a free trade agreement over the coming days, and trade between the UK and the EU takes place under World Trade Organization rules from 1 January 2021, the EY ITEM Club believes that growth will be around one percentage point lower in 2021 and 0.5 percentage points lower in 2022.”