(Bloomberg) -- The UK economy cooled by more than expected in the third quarter after a surprise contraction in September as anxiety built over the new Labour government’s fiscal plans.
Gross domestic product rose 0.1% from the previous quarter, below the 0.2% gain forecast by economists, data from the Office for National Statistics showed on Friday. The economy shrank 0.1% in September alone, much worse than the 0.2% growth expected.
The figures marked a disappointing start to Prime Minister Keir Starmer’s promise to turbocharge UK growth to an annual rate of 2.5% and the fastest in the Group of Seven.
The UK economy had seen the quickest growth in the G-7 during the first half of the year, bouncing back rapidly from last year’s mild recession. However, growth slowed sharply from 0.5% in the second quarter.
It appears the economy may have been held back by growing concerns over Labour’s first budget with consumer and business confidence diving in September over worries of potential tax rises.
Those fears came to pass as Labour announced £40 billion ($50.7 billion) of tax hikes on Oct. 30, with the bulk being shouldered by businesses. Analysis by Deutsche Bank AG published Friday suggests that the huge increase in employer national insurance contributions, a payroll tax, may trigger over 100,000 job losses, far more than predicted by the Office for Budget Responsibility.
“The jobs market is already showing tentative signs of cracking. Higher employer NICs could further strain the labor market by around the turn of the year,” said Sanjay Raja, chief UK economist at Deutsche Bank.
Services flatlined in September and manufacturing shrank 1%, the ONS said. Only the construction sector grew, expanding an anemic 0.1%.
“These figures suggest that the economy went off the boil even before the budget, as weaker business and consumer confidence helped weaken output across the third quarter, particularly in September,” said Suren Thiru, economics director at the Institute of Chartered Accountants in England and Wales. “Following a ‘gangbusters’ first half of the year, the third quarter outturn paints a more realistic picture of the UK’s underlying growth trajectory.”
Hailey Low, associate economist at the National Institute of Economic and Social Research, said the weak quarterly figures “reflect the impact of pre-budget uncertainty.”
While the domestic picture has weakened, the global economic backdrop has also darkened in recent weeks. Hanging over Britain’s economic prospects is the threat of a new wave of protectionism triggered by Donald Trump’s election as US president. On Thursday, Bank of England Governor Andrew Bailey urged Chancellor Rachel Reeves not to retaliate if Trump raises tariffs, as threatened.
Responding to the latest GDP figures, Reeves said: “Improving economic growth is at the heart of everything I am seeking to achieve, which is why I am not satisfied with these numbers.”
The figures come a day after Reeves delivered her inaugural Mansion House speech to City of London financiers, in which she said the crackdown on banks in the wake of the global financial crisis has gone too far and is hindering growth.
However, the challenge the government faces to shift economic gears was underlined by separate figures showing productivity fell in the third quarter with output per hour just 2% above its average level in 2019 before the pandemic struck.
What Bloomberg Economics Says...
“UK’s GDP barely expanded in the third quarter, though we would caution that the data likely downplays the strength of underlying demand in the economy. Growth will probably pick up a little in the final quarter this year – supported by consumer spending – but it will remain far from spectacular further ahead. As we’ve explained before, changing that might be a challenge for the government.”
—Ana Andrade and Dan Hanson. Click to read the REACT on the Terminal
Friday’s growth figures are the first to cover the period since Labour won power at the July election and introduced swathes of policies to boost the economy. The Office for Budget Responsibility has so far resisted handing it growth upgrades that could transform the outlook for the public finances.
ONS director of economic statistics Liz McKeown said the slowdown was widespread with “subdued growth across most industries” in the third quarter. Retail and new construction work were up but telecommunications and wholesale declined. On a per person basis, the economy shrank 0.1% in the quarter, reflecting a growing population.
Economists expect the economy to accelerate next year as the cost-of-living crisis fades and interest rate cuts by the BOE start to feed through. Private sector forecasts suggest growth will pick up from 1% this year to 1.3% in 2025, remaining well below the ambitious levels Starmer has pledged.
The BOE will also be watching the GDP figures closely, as it slowly unwinds the 14 back-to-back interest rate rises it made to tackle inflation. It has signaled a gradual pace of rate cuts, partly due to expectations of the budget lifting inflation again.
--With assistance from Aline Oyamada.
(Adds analysis of impact of national insurance increase)
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