The government and the Bank of England have few options left in terms of policy responses to combat the second recession to hit the UK in four years, analysts have told CNBC.com.
TheOffice of National Statistics (ONS) announced on Wednesday that the British economy contracted by 0.2 percent in the first quarter of this year. The figure came as a surprise to many who had expected a positive number, albeit a relatively modest one.
It is the second quarter in which the UK has suffered from a contraction in economic growth, putting the country into a technical recession for the first time since the financial crisis that started in 2008 and the first time that the UK has suffered a double- dip recession since the 1970s.
The last recession saw Britain's economy contract by 7.1 percent and was a major contributing factor to Gordon Brown’s defeat in the subsequent election in 2010.
However, recovery under the Conservative Liberal Democrat coalition government which came in following that election has been slow, with headwinds from the euro zone debt crisis, government spending cuts, high inflation and a damaged banking sector.
Several economists expressed surprise and disappointment at the figures and all agreed that the Bank of England and government faced very difficult questions.
Graeme Leach, chief economist at the Institute of Directors, said although the fall in UK economic output in the first quarter was relatively small, the impact on the economy would be much greater because of the knock to consumer and business confidence.
“Confidence has already taken a battering from the euro crisis and today’s news means companies are less likely to boost investment and recruitment this year,” he added.
“I think the figures are really disappointing and not just because of the construction data but the fact that the service sector data was so weak as well. That’s quite worrying,” David Tinsley, UK economist at BNP Paribas told CNBC.com
Others were less surprised by the data.
“There was a huge range within which the numbers could have come in. So it was just as likely that we were going to get a small positive figure as we were a small negative figure. Am I surprised? Probably not, I think there was always a chance we would get a negative figure but it mow makes life very hard for policymakers,” Peter Dixon, economist at Commerzbank told CNBC.com.
Analysts seemed at odds over whether the Bank of England would inject more capital into the British economy. Tinsley and Dixon appeared to believe it was unlikely, given the lack of impact the policy had appeared to have had thus far.
“Will they go for more quantitative easing or will they hold off and hope what they have done will be enough and will flow through eventually?” Dixon wondered.
“I think even if the Bank did bring in more QE it could only do so to the tune of around 50 billion ($80 billion), which I doubt will have that much impact,” Tinsley added.
The Bank of England will publish its quarterly Inflation Report and its latest UK economic forecast in May, with economists suggesting that even though the GDP figure today showed Britain back in recession it was unlikely the Bank would opt for more quantitative easing (QE).
The Bank has already pumped in 325 billion pounds into the British economy to little effect while the Monetary Policy Committee (MPC) appeared unwilling to ease monetary policy further in recent meetings.
“If you read anything into these figures then in terms of economic growth it doesn’t look good. It’s looking like a very weak, a choppy growth profile. As far as policymakers at the Bank of England or in the government are concerned, they don’t have much left in the locker,” Tinsley said.
Dixon added that it was self-evident that the slowdown the UK had entered was not really of the UK’s making.
“It has largely been the victim of external factors. But equally we are going through a balance sheet recession and everyone from banks to households to the government is deleveraging. And when you are in these kinds of circumstances you cannot expect growth,” he added.
Don't Read Too Much Into Data?
However, Alan Clarke, UK and euro zone economist at Scotiabank told CNBC.com it was hazardous to read too much into the first estimates of the UK GDP figures.
“The Bank has already revealed its discomfort with the reliability of recent ONS data, so is not likely to take this figure as gospel. The two-year Bank of England forecast is key,” he said.
Clarke also suggested that the economic squeeze on British households from higher energy bills and the like was at its most intense during the first quarter.
“Last but not least, the pace of fiscal tightening eases a little this year,” he added. “The combination of these makes it likely that the trajectory for GDP growth is steadily upwards from here."
Tinsley was more downbeat, suggesting the Bank’s concerns had shifted in recent weeks away from growth and back to inflation. “It is difficult to predict what they are going to do now short of some fiscal boost from the government which might have an impact on how we are perceived in the financial markets. There really are very few options left,” he added.
Moreover, Tinsley was negative about the UK’s economic prospects for the remainder of the year, suggesting the economy would fare no better in the second quarter due to the double bank holiday in May. He added that while the Olympics may have a positive effect on economic growth in the third quarter of the year, what would happen in the final quarter of the year was effectively anyone’s guess.
All agreed that any recovery would be far from smooth. Dixon said anyone that expected a “V-shaped recovery” was deluded.
“The example of Japan shows us it takes many years to recover from this type of recession and while I don’t want to say that it will take as long here as it did in Japan in the 1990s, the bigger issue is more about what people notice," Dixon said.
"Will they notice a slowdown in growth in the construction industry for example? Well if they don’t work in that industry then probably not. Right now we have unemployment running at around 8.3 percent which is high but that means that 90 percent of people are in work. People have become conditioned to expect positive growth, the fact is they may have to become conditioned to expect negative growth a little more often,” he added.
Wednesday's data from the ONS showed that output was still 4.3 percent below its peak in the first quarter of 2008, and the economy has only grown by 0.4 percent since the government came to power in 2010. That prompted George Osborne, the Chancellor of the Exchequer, to admit Britain faced “a very tough economic situation."
"It's taking longer than anyone hoped to recover from the biggest debt crisis of our lifetime. The one thing that would make the situation even worse would be to abandon our credible plan and deliberately add more borrowing and even more debt," the Chancellor added.
The opposition Labour leader Ed Miliband said it was typical of the British Prime Minister David Cameron to “try to blame everybody else” for the governments “catastrophic economic policy," during angry exchanges in the weekly round of Prime Minister’s Question in Parliament.
The GDP figures cap an difficult month for the coalition government which has seen Labour take a double digit lead in opinion polls, dissension in its own ranks over policy direction and a perception that the Prime Minister and other members of his Cabinet are out of touch with ordinary British voters. Political rows have erupted over caps on donations to charities, among a number of other proposals in last month's Budget, which have been heavily criticized by members of all political parties.
And earlier this week one of the Prime Minister’s own MPs said both he and the Chancellor suffered from the perception that they were a couple of “posh boys” who didn’t understand the difficulties ordinary people faced.
Adding to the sense of crisis was the revelation on Tuesday to theLeveson Inquiry into UK press standardsthat James Murdoch had been in communication with Jeremy Hunt, the Cabinet minister charged with deciding whether News Corp could buy the remainder of BSkyB last year. It also emerged Hunt had been told by government advisers he was to have no contact with Murdoch during the process because he was acting in a quasi-judicial matter. Labour called for Hunt to resign.