Arguing that Britain’s decision to leave the European Union will not have a substantial negative impact on the British economy is “baloney” according to economists from Pantheon Macroeconomics.
Since Britain voted to leave the EU in June, economic data has been mixed. In the immediate aftermath, the well-respected PMI surveys compiled by Markit showed that services, manufacturing, and construction all witnessed big drops in activity and sentiment thanks to the vote.
However, since those initial surveys, several data points have suggested that the country is actually managing pretty well in the wake of the historic vote. In the last month UK GDP for the second quarter of 2016 beat expectations, retail sales grew unexpectedly, and unemployment remained at record lows.
All of this has led many of those who backed Brexit to argue that the economic doom and gloom predicted by the likes of Bank of England governor Mark Carney and the International Monetary Fund, is not actually going to materialise.
That is a view Pantheon’s Chief UK Economist Samuel Tombs profoundly disagrees with. In a note titled “Reports of the Economy’s Resilience are Greatly Exaggerated” circulated to clients on Tuesday, Tombs argues that this suggestion is essentially a fantasy. Here’s an extract from his analysis (emphasis his):
“Over the sleepy August holidays, a view has gained traction in the media that the U.K. economy is showing little damage from the Brexit vote. Optimists argue that the size and composition of the 0.6% quarter-on-quarter rise in Q2 GDP, the 1.4% month to-month jump in retail sales volumes in July, and the slight dip in the unemployment claimant count demonstrate that the recovery is in good shape.
“Regular readers will not be surprised to hear we think this reasoning is baloney. For a start, the overwhelming majority of firms and households expected the U.K. to vote to remain in the E.U., so Q2 GDP tells us little about the economy’s ability to withstand the consequences of the vote.”
Tombs goes on to argue that the key economic indicators which have suggested economic resilience since the referendum. Firstly, there are serious problems with arguing that a strong GDP reading in Q2 means the economy will remain strong. Here is Tombs once again (emphasis ours):
“The expenditure breakdown of Q2 GDP superficially looked healthier than the previous quarter’s, with total investment rising by 1.4%, contributing 0.3 percentage points to overall growth. But this mainly reflected a 10.4% jump in government investment, which is erratic and therefore likely will drag on GDP growth in Q3. Business investment rose by 0.5%, reversing only a small fraction of its 2.8% decline over the previous two quarters.”
Here is the chart illustrating that argument:
Retail sales — which grew 1.4% in the month of July, compared to a 0.9% fall in June — also cannot be used as a solid indicator of continued prosperity given their volatility, and their poor correlation to services spending, which is a far better indicator of consumer spending. Here is Pantheon once more (emphasis ours):
“Meanwhile, retail sales are very volatile — July’s surge followed a 1% month-to-month decline in June — and they correlate poorly with quarter-on-quarter changes in GDP. Most retail goods are manufactured overseas, so imports rise when retail sales grow strongly, offsetting most of the boost to growth.
“Retail sales also are a poor bellwether for consumer spending on other items. They exclude car sales, which are falling. Private new car registrations fell 6.1% year-over-year in July. The relationship between retail sales and consumer spending on services — which is approximately 50% larger than retail sales — also is weak, as our next chart shows, on page two. Surges in retail sales often come at the expense of spending on services.”
And here’s Pantheon’s chart:
Pantheon does note that it cannot say with any certainty whether or not the economy has taken a substantial hit in the two months since the Brexit vote, but argues that we will get a clearer picture once official ONS data on industrial, construction and services output for July is released.
The research house does conclude that: “From the indicators released so far, however, there is little to support the complacent but popular narrative that the economy has brushed off the referendum result.”
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