Opinion: A tale of two recoveries

September is said to be the month of new beginnings. Will this be the month that we finally get some certainty about where the UK economy is headed, or will uncertainty continue to reign supreme? Richard Dawson explores

Predicting what’s going to happen to the UK economy has been a fool’s errand in 2020, with analysts from the Bank of England to the Office for Budget Responsibility (OBR) qualifying their forecasts with disclaimers about the potential for inaccuracy.

That uncertainty continues and will likely hang over business sentiment until coronavirus is firmly in the rear-view mirror.

However, recent indicators are beginning to show a degree of uniformity from which we can draw certain insights about the economic outlook in a way we haven’t been able to so far this year.

As September gets underway, we are starting to see concrete evidence of both the depth of the pandemic recession and the shape of the UK’s recovery from it.

GDP figures released by the Office for National Statistics (ONS) on August 12 showed that the UK economy shrank by a record 20.4 per cent in the second quarter of this year.

Barring a second lockdown, this will likely be the low point of the crisis and that is a key piece of information.

Though the magnitude of the Q2 GDP contraction was unlike anything seen before in modern history, it is now three months old and recent data suggests that the economy is bouncing back.

If you look at IHS Markit surveys of purchasing managers (PMIs) across the manufacturing, services and construction sectors, you find that, since June, business activity has been recovering.

The UK manufacturing PMI is a case in point.

In June, the PMI made it over the 50.0 mark that separates growth from contraction with a reading of 50.1, following survey-record lows of 32.6 in April and 40.7 in May.

In July, the figure was 53.3 and in August it rose to 55.2. Similar recoveries were recorded in other sectors.

What this tells us is that, overall, private sector output has recovered as lockdown restrictions have eased, which again is a key piece of information as well as just being good news.

However, the more worrying trend in the PMI data and what could ultimately drag down future demand is that employment has not recovered in line with output.

In fact, labour market conditions have actually worsened month-on-month as output has recovered, presumably because the end of the Coronavirus Job Retention Scheme (CJRS) is in sight.

In the latest manufacturing PMI for August, employment declined at one of the steepest rates for 11 years, with reductions seen across the consumer, intermediate and investment goods industries.

The August PMI also marked the seventh consecutive month job losses have been recorded in manufacturing, with small, medium and large firms all implementing cuts to staff headcounts.

This is probably the most important takeaway – that output is recovering much faster than employment.

If this trend persists, then a steep rise in joblessness is all but guaranteed by the end of the year.

The Bank of England’s most recent estimate was for unemployment to double to 7.5 per cent by December.

That’s could be optimistic and indeed other forecasters have predicted something closer to 10 per cent – levels not seen since the 1980s.

If unemployment does increase to this degree, then it will undoubtedly weigh on demand and stifle the recovery over the long-term.

So, while we should be encouraged by indications that output has bounced back strongly following the lockdown, we should also understand that this is contingent on there not being 2.5 or possibly 3 million people out of work by the end of 2020.

All eyes now turn to the end of the CJRS on October 31.

PMIs in the lead up to this date will have to improve on the employment front to avoid the UK recovery being thwarted just when it is showing signs of gathering pace.

Rob Dobson, director at IHS Markit, which compiled the August manufacturing PMI, said: “The recovery of the UK manufacturing sector gathered pace in August. Output expanded at the fastest rate in over six years as new work intakes rose to the greatest extent since November 2017, led by an upturn in domestic demand and signs of recovering exports.

“However, companies report that the current bounce is mainly driven by the restarting of manufacturers’ operations and reopening of clients as COVID-19 restrictions continue to be relaxed.

“Backlogs of work fell at an increased rate, hinting at spare capacity, and the labour market remains worryingly weak, with job losses registered for the seventh straight month.

“The downturn in employment may have further to run as the government’s furlough scheme is phased out unless demand rises sharply.

“Given the fragility of demand and uncertain outlook, policymakers may struggle to prevent a ‘surge-then-slump’ scenario from developing.”