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UK economy shrinks 0.2% as recession looms

UK economy Commuters with umbrellas on a rainy morning in Westminster, London. Picture date: Thursday November 3, 2022. (Photo by Aaron Chown/PA Images via Getty Images)
The UK economy shrank between July and September thanks to the sharp cost of living crisis, soaring inflation, and rising interest rates. Photo: Aaron Chown/PA via Getty

The UK economy contracted by 0.2% in the latest quarter, as soaring prices hit businesses and consumers, putting the country on the brink of recession.

The Office for National Statistics (ONS) revealed that gross domestic product (GDP) shrank between July and September thanks to the sharp cost of living crisis, soaring inflation, and rising interest rates.

This was down from 0.2% growth in the previous three months, with the economy still 0.4% smaller than it was before the COVID-19 pandemic began.

Britain is so far the only G7 nation to report a contraction in the third quarter, with Japan still to reveal its data.

However, the contraction was better than economists predicted, as they had previously forecast a fall of around 0.5% over the period.

In September alone, the British economy shrank by 0.6% as growth was affected by the bank holiday for Queen Elizabeth’s state funeral. Some businesses closed or operated differently on this day, the ONS said.

GDP fell 0.6% in September. Chart: ONS
GDP fell 0.6% in September. Chart: ONS

The overall quarterly fall was driven by manufacturing, which saw widespread declines across most industries.

Services were flat overall, but consumer-facing industries fared badly, with a notable fall in retail. Services output fell 0.6% in September, following growth of 0.1% in August and 0.5% in July.

Production output fell by 1.5% between July to September — the fifth consecutive quarter of contraction, while construction output rose by 0.6%, a slowdown from the previous quarter, driven by a rise in new orders in the quarter.

“I am under no illusion that there is a tough road ahead — one which will require extremely difficult decisions to restore confidence and economic stability. But to achieve long-term, sustainable growth, we need to grip inflation, balance the books and get debt falling. There is no other way,” chancellor Jeremy Hunt said.

“While the world economy faces extreme turbulence, the fundamental resilience of the British economy is cause for optimism in the long run.”

Watch: How does inflation affect interest rates?

A surge in UK energy bills this year has hit disposable incomes, which in turn has left households with less to spend on goods and services. The rise in energy bills has also put pressure on businesses across the country.

The crisis is expected to deepen over the winter months amid double-digit inflation, rising interest rates and household energy bills climbing higher again in October.

The Bank of England (BoE) has already warned that the looming recession will be the longest on record. A technical recession is when a country’s economy shrinks for two quarters in a row.

Nicholas Hyett, equity analyst at Wealth Club, said: "Were it not for the disruption caused by the Queen's funeral — during which many businesses shut — it's just possible the UK economy could have scraped a positive performance in Q3.

"But despite that perhaps surprisingly strong result, the Q3 GDP announcement is full of warning signs. Inflation is squeezing consumer spending, inward investment has fallen and supply constraints are restricting activity in the manufacturing and construction sectors.

"The mini-budget turmoil only kicked in right at the end of the period — and that is likely to have left Q4 off to a poor start.

Read more: UK house prices to fall in 2023 amid rising mortgage rates – RICS

He added: "With consumers battening down the hatches for a tough winter and the government proposing substantial tax rises and spending cuts, we think the economy will shrink again in Q4 — officially pushing the UK into recession."

The weak economic outlook will now make for some difficult decisions in next week's budget.

Alpesh Paleja, CBI lead economist, said: "A weaker growth outlook and persistently high inflation will make for some difficult decisions on economic policy. The Autumn Statement must learn the lessons of the 2010s: fiscal sustainability and lifting trend growth are both immediate priorities.

"Alongside reassuring markets and protecting the most vulnerable, the government should safeguard capital spending and investment allowances to drive private sector growth."

Watch: What is a recession and how do we spot one?