UK GDP shrinks unexpectedly for first time since 2012

London

BRITAIN succumbed to its first economic contraction since the aftermath of the financial crisis, raising the stakes for Boris Johnson's government as it seeks an imminent exit from the European Union.

The unexpected 0.2 per cent decline in gross domestic product during the second quarter - the worst performance since 2012 - provides a foretaste of the potential damage to growth that most economists are warning of if Brexit happens without any transition. The pound fell after the report, sliding to US$1.2117 as at 10:17 am in London.

The drop in output means the UK is in danger of falling into a technical recession with one more quarterly decline. It also highlights the predicament of the Bank of England, whose central forecasts see the need for gradual interest rate increases. Governor Mark Carney says the reaction to a no-deal Brexit, which would push down the pound and drive up inflation while further denting growth, could go in either direction.

"Underlying momentum remains lukewarm, choked by a combination of slower global growth and Brexit uncertainty," said Alpesh Paleja, lead economist at the Confederation of British Industry. "As a result, business sentiment is dire."

The abrupt drop came as many firms ran down inventories built up ahead of the original March 29 deadline to leave the European Union. Stock levels fell by £4.4 billion (S$7.3 billion), knocking 2.15 percentage points off GDP.

The economy was also hit by auto factories bringing forward summer maintenance shutdowns to April to avoid the threat of supply disruptions around the original Brexit deadline.

Manufacturing, which enjoyed a bumper first quarter, shrank 2.3 per cent in the following three months, the most since 2009.

The GDP figures are the first since Mr Johnson became premier last month, vowing to take Britain out of the EU by Oct 31, with or without a deal to cushion the blow.

In a series of television interview after the release, new Chancellor of the Exchequer Sajid Javid sought to play down the numbers, saying they "were not a surprise in any way", and that he doesn't expect a recession "at all".

"What we saw in the first quarter was perhaps sort of higher results than otherwise because businesses were stockpiling for the Brexit that was to be, and now they're using those stockpiles, so we're seeing volatility in the figures," he said.

Mr Johnson is pledging a fiscal boost to help the economy cope with Brexit. Investors are currently pricing in a 25-basis-point reduction in BOE interest rates for January 2020. The US Federal Reserve has starting cutting rates and the European Central Bank has pledged more stimulus as soon as September.

"The global backdrop is certainly the big drag in terms of growth at the moment, and Brexit uncertainty weighing on business investment," said George Brown, an economist at Investec Bank Plc. "'There's certainly an element of inventory overhang," but surveys suggest "underlying growth is a lot weaker." BLOOMBERG