Are we heading for a 3rd recession?

Things are not looking good for the UK economy.

The latest Markit/CIPS UK Services PMI® says the UK service sector activity fell in the final month of 2012.

The key points are:

• First reduction in service sector output since December 2010 
• New business volumes post second successive monthly reduction 
• Confidence unmoved on November’s 11-month low

Chris Williamson, Chief Economist at survey compilers Markit said: “The first fall in service sector activity for two years raises the likelihood that the UK economy is sliding back into recession. The services PMI follows an equally disappointing construction survey for December, leaving manufacturing – which accounts for just 10% of the economy – as the only bright spot. Taken together, composite data from the three surveys posted its worst quarterly performance for three-and-a-half years, and are consistent with the economy contracting by approximately 0.2% in Q4.

“Bad weather is likely to have played a role in dampening service sector activity in December, but the fact that incoming new business dropped for a second successive month suggests that underlying demand remains very weak and that activity may continue to fall in the New Year.

“The service sector is also cutting employment in the face of weak demand and an uncertain outlook suggesting unemployment may soon start to rise again as private sector lay-offs add to public sector job cuts.”

See also:  Reuters -Surprise fall in UK services activity raises recession risk

Are we heading for a long recession?

For the last two quarters the UK has seen negative growth which means 'technically' we are in recession. We know there is a broad agreement that the UK's economy has in the past been over reliant on the service sector, and that re-balancing was required, with greater emphasis being placed on manufacturing.

I have argued before that with consumer debt still high, and consumer confidence low, it was unlikely that we would see consumer driven growth for the foreseeable future. And with the announcement that most banks are likely to increase interest rates on mortgages, disposable incomes are likely to fall further. (see Sky News.)

Therefore, a sustained growth in exports was seen as important if the UK's economy was to improve. However the Markit/CIPS UK Manufacturing PMI® published Tuesday says that whilst in April there was a slight growth in the manufacturing sector for the 5th consecutive month, the rate of increase has slowed, one factor being:

"Total new order books fell slightly for the first time in five months in April. This mainly reflected a sharp drop in new export business – the steepest since May 2009 – resulting from weaker demand from mainland Europe, the US and East Asia. There were also reports of tough market conditions and strong competition."

What is of concern is that whilst we know that growth in the Eurozone was likely to contract; with Spain the latest of the Southern EU countries facing a economic crisis, is the fact that growth in the USA and East Asia is also weaker than hoped.

Rob Dobson, Senior Economist at Markit and author of the Markit/CIPS Manufacturing PMI® said:

“The UK recovery was always likely to be bumpy and subdued. This is still very much the case at manufacturers, with the April PMI indicating that growth of the sector eased to its weakest in the year-to-date. Although the expansion in output is a positive in itself, as is a modest increase in employment, manufacturers are still sustaining growth through past demand, a circumstance that can not continue indefinitely.

“What manufacturers really need to see is a marked improvement in new order inflows, so April’s sudden sharp drop in new export orders was a real disappointment. It seems that weaknesses in our major trading partner, the Eurozone, are starting to hit home, especially for consumer goods producers. This further highlights the impact of ongoing weakness in the European household sector already signalled by Markit’s UK Household Finance Index and the Eurozone Retail PMIs.”

See also: Reuters - UK at risk of longer slump as euro crisis hits factories.