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Services PMI: what the economists say

Guardian Economics 4th August 2010

News of government's cuts already knocking private sector activity, even though the bulk are yet to come, sent the pound lower and UK government bond prices higher. Here is a round-up of economists' reactions

Cancelled public sector contracts and a slowdown in demand for new work saw services sector growth slow to its lowest in more than a year in July, according to the Markit/CIPS UK services PMI survey.

Vicky Redwood, senior UK economist at Capital Economics

The headline business activity posted its fourth fall in five months ... The detail wasn't encouraging either. The business expectations balance failed to recover much of June's sharp fall – suggesting that the drop was more than just a kneejerk reaction to the budget and announced VAT rise. And the new business balance reversed June's rise, falling to its lowest level since May 2009. With the construction and manufacturing surveys also slipping in July, a weighted average of the surveys is now consistent with GDP growth of just under 0.5%. Overall, then, it continues to look like the recovery is rapidly losing momentum.

Alan Clarke, UK economist at BNP Paribas

Although business expectations rose slightly on the month, it was a small move in comparision with the prior month's collapse. The point is that this component is pointing to yet further downside for the headline index in the months ahead. On the basis of the CIPS surveys the strong GDP print during Q2 was a blip. The surveys suggest that when it comes to Q3 GDP, the economy is likely to struggle to expand by even half the 1.1% q/q pace that was recorded during Q2.

The key reasons being cited for the BoE to not loosen monetary policy further and even to consider tightening are elevated GDP growth in Q2 and high inflation. Both are backward looking. The CIPS surveys are rather more forward looking and show that at the very least the economy is heading for a soft patch. Hardly the environment that warrants a couple of hundred basis points of rate hikes over the coming year.

Howard Archer, economist at IHS Global Insight

Particularly disappointingly and worryingly, employment in the sector contracted anew in July, albeit marginally. This heightens concern over employment prospects going forward, given that jobs in the public sector are to be pared.

The weaker services purchasing managers' survey for July reinforces concern that the recovery is likely to remain gradual and bumpy despite the second-quarter spike up in growth, and supports an already very strong case for the Bank of England to keep interest rates down at 0.5% at the conclusion of the August monetary policy committee meeting on Thursday. Indeed, we believe interest rates are likely to stay down at 0.5% through 2010 and well into 2011 given the serious risks to recovery coming from the fiscal squeeze that will increasingly kick in, problems in the eurozone and signs that global growth is slowing.

Paul Smith, senior economist at survey compiler Markit

The service sector provided a major boost to GDP in the second quarter, but the rate of expansion has slowed sharply in recent months, suggesting a far weaker contribution to economic growth in the second half of the year. Inflows of new business have exhibited a considerable loss of momentum, showing the weakest rise since the sector emerged from recession a year ago.

Disappointingly, the survey also shows that service providers are cutting payroll numbers, suggesting that private sector employers are unlikely to compensate for public sector staffing cut backs and therefore implying that unemployment may begin to rise again.

Behind the weaker growth profile for the service sector is a failure of confidence to rebound from the record fall seen in the aftermath of the emergency budget. Expectations about prospects for the coming year appear to have downshifted in response to the austerity measures announced in June, with reports of cancelled contracts and reduced enquiries adding to the sense that tough times lie ahead.

David Noble, chief executive of CIPS

This month's services PMI will undoubtedly raise questions about whether the economic recovery is running out of steam. To see government spending cuts impact the sector so quickly is concerning given the bulk of cuts are still yet to come. The big question is whether the private sector can plug the big gaps left by the public purse.

The fall in employment is particularly disappointing and shows how quickly businesses will respond to worsening economic conditions – let's hope this isn't a trend we'll see continue.

It's clear the economy is in for a bumpy ride over the next few months but we still remain optimistic that we will see a period of low growth rather than a double-dip recession. Looking forward, the focus will be on what further impact the impending spending review and VAT rises will have. As the service sector (covered by this survey) accounts for approximately 40% of the UK economy, it will play a pivotal role in helping bolster the UK's wider health.

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