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U.K. GDP, Disappointing Results But No Recession - Brexit Needs Resolving

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Includes: EWU, FKU, FLGB, HEWU, ZGBR
by: Tim Worstall
Summary

U.K. GDP was disappointing in outcome, but the result indicates no recession this quarter.

The important ongoing point is that Brexit must be resolved, one way or the other.

I expect a bounce back in GDP once Brexit is sorted, either way.

UK GDP numbers

UK GDP fell again in August, but the rolling 3-month number was growth. The numbers for the previous month, July, were revised up meaning that we're almost certain to miss the technical definition of recession, two quarters of falling GDP.

My own reading of this is that it's surprising how well the economy is doing with the uncertainty of Brexit hanging over it. I thus expect a significant boost to the growth rate once the question is actually solved.

Yes, obviously, there's the problem of the potential dislocation of the terms upon which Brexit happens. But there comes a point when uncertainty is worse than any actual action.

I'm thus reading the UK economy as being fundamentally strong even, given this lackluster report.

Uncertainty

As Keynes and others have pointed out, uncertainty can be a real killer to economic growth. A major driver of that future is the level of business investment today. So, uncertainty means no one can work out what that future holds - note that uncertainty is different from probability. We can at least calculate the second. Uncertainty means we really do not know, cannot ascribe likelihood to future events.

Thus, the uncertainty of whether, let alone how, Brexit will take place is proving to be a significant headwind for the British economy.

Yes, of course, crashing out with no deal is going to cause a lot of disruption. But, at some point, the results of that event have to be outweighed by the effects of continued uncertainty. I would argue that we're already at that point, but that's more a political argument than an investment one.

What we can say, though, is that, even in the face of that uncertainty, we are still seeing modest - very modest - growth. I take that to be a sign that free of the uncertainty, either way the decision goes, we'll return to substantial growth in the British economy.

Manufacturing

The numbers for industrial production, which is manufacturing plus energy and mining:

Total production output fell by 0.4% for the three months to August 2019, compared with the three months to May 2019; falls in manufacturing (1.1%) and mining and quarrying (2.3%) were partially offset by rises in electricity and gas (3.2%) and water and waste (1.6%).

And:

UK production (UK index of production from ONS)

Services

Of course, given their vastly greater portion of the economy, the result for services is much more important:

In the three months to August 2019, services output increased by 0.4% compared with the three months ending May 2019.

And:

UK services (UK index of services from ONS)

Construction

To get to GDP itself, we must add construction:

Construction output increased by 0.1% in the three-month on three-month all work series in August 2019; this was driven by a rise in new work of 0.5% but offset by a fall in repair and maintenance of 0.8%.

And:

UK construction (UK construction from ONS)

Trade

To complete GDP, we also need to know the net trade figures:

The total trade deficit (goods and services) narrowed £13.0 billion to £4.6 billion in the three months to August 2019, largely caused by falling trade in goods imports.

Imports of goods fell £9.2 billion to £118.8 billion in the three months to August 2019 following rises in imports in Quarter 1 (Jan to Mar) 2019, impacting the three months to May 2019.

Excluding unspecified goods (which includes non-monetary gold), the trade deficit narrowed £3.8 billion to £7.9 billion in the three months to August 2019, while the goods deficit narrowed £3.3 billion to £31.7 billion.

GDP

Adding the various pieces together with the appropriate weighting gives us GDP:

UK GDP grew by 0.3% in the three months to August 2019

And:

UK GDP (UK GDP from ONS)

The meaning of all this

Of course, all of the above looks a bit weak. Compared to the US, it definitely is a weak performance. Then again, compared to Germany, it's looking pretty good. We must measure, though, compared to an objective idea of how the UK economy ought to be working.

That Brexit uncertainty is considerable. It was enough that stocking levels before the presumed date of 29 March caused a mini-boom in the first quarter. And the subsequent de-stocking led to a fall in GDP in the second quarter.

But the interesting question is, how is the economy doing underneath that one influence? For that is what will give us a guide to what happens when the uncertainty is gone.

My view

Of course, given my political views, I would say this, that once Brexit happens, Britain will thrive. But here I'm saying something less subjective. The uncertainty levels are high at present. We have been seeing substantial falls in business investment. We would, in fact, under those twin pressures, rather expect to be in recession already. That we're not tells us something about the strength of the underlying and ongoing economy.

Yes, obviously, whatever form Brexit takes - if it happens at all - will mean some dislocation in the economy. The less of a deal and the closer to standard WTO terms, we end up at the more said dislocation. But my contention is that the uncertainty is rapidly approaching, if it's not already passed, in effect, whatever will happen at that point.

That is, the continued uncertainty is now of greater negative effect on GDP than any actual form of Brexit. Thus, the event actually happening I expect to be met with a substantial boost to GDP growth. Similarly, much as I hope it doesn't happen, any form of non-Brexit that really resolves the issue will also be met with a rise in GDP.

The investor view

The one great near-time event in the British economy is Brexit. Everyone's entirely entitled to their own views on the political or even economic sense of it. But my contention is that the resolving of the uncertainty either way is going to produce significant boosts to growth. On the grounds, that the economy is still growing, even if only just, under the weight of that uncertainty.

Probably best to wait and see what does actually happen on Oct 31. But after any transient shocks, I'd take it as a buying opportunity into UK-related stocks.

Disclosure: I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.