Worrying signs for UK as services output and consumer savings ratio fall

Further cracks appeared in the UK economy on Friday as data showed the key services sector declined and the savings ratio fell to the lowest on record, which coming amid a squeeze on real wages from rising inflation and stagnating earnings is likely to hit national growth and keep a lid on interest rates for a while yet.

The index of services, a key measure of the sector that accounts for around 79% of UK gross domestic product, fell by 0.1% month-to-month in January, the Office for National Statistics revealed, the first contraction since March 2016.

Following December's 0.2% rise, markets had been expecting a similar increase.

For the three months to January, growth in the index of services slowed to 0.6% from the previous 0.8%, which again was short of the 0.7% consensus forecasts.

January also saw industrial production drop 0.5% and construction output 0.2%, while business investment fell by 0.9%, indicating that Brexit risk has subdued corporate risk appetite.

ONS also confirmed GDP growth from the fourth quarter of 2016 was unrevised at 0.7%.

The GDP news was slightly disappointing given the prior upgrades to the production and manufacturing data, said Martin Beck, senior economic advisor to the EY ITEM Club, but he though the services index decline was of greater importance as it showed a noticeable loss of momentum through the fourth quarter.

"Therefore, though we look likely to see strong growth from production and construction in Q1, this will be more than offset by weakness in services and we are set to see GDP growth cool," Beck said.

Indeed, looking at the overall performance of the UK economy in the opening quarter of 2017 revealed several signs of a slight slowdown in the components GDP growth, with purchasing managers' data from IHS Markit signalling the weakest rise in economic activity for five months, alongside retail sales declining at the strongest rate in around seven years and low readings for consumer confidence surveys.

After the fall in the services index, Pantheon Macroeconomics said its monthly GDP index model showed a decline of 0.2% for January.

With the purchasing managers' surveys showing further falls in February and the latest data on wages, households’ money holdings and retail sales all weak, Pantheon economist Sam Tombs agreed that UK GDP growth was likely to slow. He put Q1 growth at 0.4% quarter-on-quarter, stumbling to just 0.2% in Q2.

"Sluggish growth will ensure that the MPC maintains interest rates at their record low level, despite high inflation."

The Centre for Economics and Business Research said the Bank of England now found itself in a bit of a dilemma, with one member of its monetary policy committee already having voted for a rise in the interest rate.

"On the one hand, rising inflation, low unemployment and signs of continuous economic growth add to speculation that some policymakers will turn more hawkish in coming months," said senior Cebr economist Oliver Kolodseike.

"However, Cebr believes that the BoE will keep its monetary policy stance until at least the end of the year. Not only is wage growth worryingly weak given that the unemployment rate reached its lowest point in over four decades, but rising inflation is likely to put pressure on household finances and uncertainty stemming from Brexit negotiations will curb business investment."

Over 2017 as a whole, Cebr projects UK economic growth to slow slightly as consumer spending weakens and falling business investment exerts major downward pressure on growth, but the falling pound aids a manufacturing revival.