Sterling tumbles as UK economy grinds to a halt

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Sterling tumbled on Friday as official figures showed UK economic growth ground to a halt in the second quarter of this year, strengthening fears the economy is already contracting.

The Office for National Statistics revised its first estimate of second quarter growth by more than expected as it said output had been flat quarter on quarter, the lowest figure since the second quarter of 1992.

Gross domestic product was 1.4 per cent higher than in the second quarter of 2007, the lowest year-on-year growth rate since the end of 1992.

Economists had anticipated a smaller downwards revision to the ONS’ initial estimate of 0.2 per cent quarter on quarter growth, and its scale and broad-based nature may raise hopes of an eventual cut in interest rates.

However, the Bank of England had already forecast output would stagnate for the next year, and minutes of the monetary policy committee’s last meeting suggested fears of persistently high inflation could keep rates on hold for some time.

“Even in our gloomy scenario for growth, we would have not expected such an abrupt loss of momentum – and we think the Bank of England would be also surprised,” said Chiara Corsa at Unicredit.

“We have so far bet for a Bank of England on hold until the end of the year, however, following today’s weak growth number, we think that the UK economy will hardly escape the technical recession, “ said Ms Corsa.

Sterling dropped 0.9 per cent to $1.8600 against the dollar and lost 0.5 per cent to £0.7974 against the euro. The pound also fell 0.3 per cent to Y203.02 against the yen. On a trade-weighted basis sterling fell to its lowest level in 11½ years. Against a basket of currencies the pound fell to 90.60, the lowest level since late 1996.

Gilts remained steady in spite of the revised estimates. Prices of the benchmark two-year and 10-year gilts both rose marginally while yields fell a fraction. The yield on the two-year fell 1 basis point, while the yield on the 10-year fell 1.25bps.

The ONS said household expenditure fell by 0.1 per cent quarter on quarter - a surprising contraction given the relative strength of official data on retail sales - which the Bank thinks may be overstating the strength of consumer spending.

Business investment also fell abruptly by 5.3 per cent quarter on quarter, partly reflecting the sharp drop in housebuilding activity.

“Both of these components are likely to weaken much further,” said Jonathan Loynes at Capital Economics, adding, “growth would have been even weaker were it not for a big jump in stockbuilding.”

The ONS revised its estimate of quarter-on-quarter growth in service sector output down from 0.4 per cent to 0.2 per cent, the weakest reading since the end of 1995.

Net trade made a positive contribution to growth, but this was due as much to a drop in imports as to the boost manufacturers received from the weaker pound.

The normal quarterly rate of growth for the UK has averaged a little under 0.7 per cent in the past 15 years. But many economists now expect the UK to follow the eurozone economy into contraction in the second half of the year.

Geoffrey Dicks, economist at the Royal Bank of Scotland, said there would be a “mountain to climb” for output growth to reach positive territory in the third quarter

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