A surprise contraction in the UK economy sparked a sell-off on the FTSE this morning and raised questions on the health of the economic recovery.
UK GDP contracts
The UK economy unexpectedly contracted in the fourth quarter, sending equities and sterling sharply lower this morning. According to preliminary estimates, UK GDP shrank by 0.5% in the last three months of 2010, with bad weather becoming the perennial excuse for the lack of growth. Compared to a year earlier GDP has increased 1.7%.
Poor weather conditions dented construction activity, which slumped 3.3%, and was one of the main drags on economic growth. However, business services and finance, transport and storage, and hotels and restaurants all declined. Manufacturing was one of the few bright spots, after rising 1.4%.
The report from the Office for National Statistics said that ‘The disruption caused by the bad weather in December is likely to have contributed to most of the 0.5 per cent decline.’ Had there not been the weather disruptions GDP growth may have been flat for the quarter. This suggests that GDP could continue to rise this year if the economic recovery continues.
The disappointing GDP result does no favours for the government, which is trying to convince Britons that their tough austerity plans won’t hamper growth in the economy. It is also less likely now that the Bank of England will consider lifting interest rates earlier than anticipated in order to combat inflation. Sterling suffered as a result, plunging 1.3% against the US dollar this morning.
Deficit widens
A further worry for the government is that the public finances deficit widened in December. The public sector net cash requirement increased from £17.4 billion in November to £25.5 billion in December. Economists were expecting the deficit to narrow to £ 16.3 billion. The increase in the deficit indicates that the government is still spending to support the economy. However, public sector net borrowing contracted from £19.7 billion to £15.3 billion, which suggests the spending was not funded through borrowing.
UK equities
By 10.45am (London time) the FTSE 100 was 34.20 points lower (-0.58%) at 5909.65 and the FTSE 250 sank 94.28 points (-0.82%) to 11479.16.
The disappointing GDP result weighed on the banking sector this morning. Lloyds fell 2.84%, RBS lost 1.91% and Standard Chartered was down 1.6%. HSBC bucked the trend and rose 0.2% after the company said it would keep its offices in London.
Retailers were also among the worst performing sectors on the FTSE 100 after NEXT, Home Retail Group and Marks and Spencer retreated 2.61%, 2.3% and 2.03% respectively.
US pre-market
At 2pm (London time) this afternoon, the S&P/Case-Shiller home price index will be released, followed by US consumer confidence and the Richmond Fed manufacturing index at 3pm (London time).
On the earnings front, 3M, AK Steel, Johnson & Johnson and Du Pont will be reporting before the opening bell.
March Dow and S&P futures were down 0.19% and 0.41% respectively, suggesting US markets may open lower this afternoon.
