David Blanchflower: Let's call up Vince to get us out of this mess

Economic Outlook: The sack is a powerful weapon our dithering prime minister seems unable to wield

The disastrous second-quarter 2012 GDP numbers even surprised me. I predicted in my column last week -0.5 per cent, which was considerably more bearish than the consensus estimates of -0.2 per cent; instead we got -0.7 per cent. So now we have had three successive negative quarters, indeed four of the last five and five of the last seven have been negative.

The UK economy is smaller today than it was when the coalition took office, and has declined 0.8 per cent over the last year. The fall was broad-based with declines in all three sectors. The biggest drop was in construction, which has fallen 10 per cent over the last two quarters.

Production was down by 1.3 per cent, making it the third negative quarter in a row for the sector. The decline in output this year is broadly consistent with the weakening picture from business surveys, which show no sign of rushing out to invest as Chancellor George "Slasher" Osborne had hoped.

For example, the latest ICAEW/Grant Thornton UK Business Confidence Monitor, out on Friday, fell to +1.1 from +12.0, confirming the fragility of the UK economy. Businesses in the survey revised down their expectations of future turnover and profit growth as domestic demand remains weak. We are still waiting for the march of the makers.

Consumer confidence is flat at very low levels and shows no sign of recovering, and workers remain fearful of losing their jobs while real earnings continue to fall. The UK grew less than Spain over the last year and joins Italy as the only other major country currently in recession. I do recall that it was Sir Mervyn King who told everyone before the last election that slashing and burning was the right way to go; I wonder what his excuse is this time for getting it wrong? I suspect history will not be kind to him.

If UK Plc was a Premier league soccer team, arguing that it was fine to carry on with the same tactics would not have gone down well with the fans, and the manager would have been pursuing other hobbies very soon. The sack is a powerful weapon that our dithering prime minister seems unable to wield, so we are stuck with the same old, same old as the economy heads into the death spiral of decline.

I question whether we are actually going to observe a boost of 0.2 per cent from the Olympics as the Monetary Policy Committee has claimed – given that many people, especially in London, appear to have reduced the amount of work they do – so at best I am expecting the third quarter to be zero.

Once the temporary jobs cease, output will fall again, suggesting that the fourth quarter may well be negative also. I have now downgraded my forecast for 2012 from -0.5 per cent to -1.5 per cent. This contrasts with the International Monetary Fund's latest forecast of 0.2 per cent and the Office for Budgetary Responsibility's 0.8 per cent.

Interestingly, neither the IMF nor the Chancellor questioned the validity of the data. My suspicion is that the Treasury has seen some pretty bad pre-publication tax revenue data and perhaps a spike upwards in the number of jobless claims. This was something the Treasury representative at the MPC would regularly tell us in 2008; things were much worse than they seemed. This didn't stop another round of the recession deniers saying this couldn't be true; their claims, of course, were entirely wishful thinking and based primarily on guessing.

To repeat, the chances of the estimates being revised down are equivalent to them being revised up. Over the last 20 years, average revisions have been small at 0.1 per cent. Over the last five years, they have been -0.1 per cent. There are reasons to believe that revisions are more likely to be down in slumps and up in booms so, if anything, I expect the latest data to be revised down further, as occurred most recently in the historic slump of 2008.

Data revisions released on US growth since 2009 released last week are also instructive; upward revisions balanced downward revisions. The recession turned out to be slightly shallower than previously thought, with growth in 2009 revised upwards from a 3.5 per cent decline to a 3.1 per cent decline, while the recovery was slower, with 2010 growth revised down, from 3 per cent to 2.4 per cent. Growth in 2011 was little changed, with an upward revision from 1.7 per cent to 1.8 per cent. This is the broad pattern of small revisions we should expect in the UK.

Some commentators pointed to the latest job market data as being inconsistent with declining GDP. On the quarter, unemployment fell by 65,000 – 50,000 of which were in London, which is presumably a blip driven by temporary recruiting to cover the Olympics. Of interest also is the fact that the change in the number of unemployed is not statistically different from zero being within the sampling error of ±88,000.

Similarly, average weekly hours increased by 0.1 but with a sampling error of ±0.2 that is not statistically different from zero either. In any case, these data don't even include an estimate for June, which the Office for National Statistics calculates was particularly bad. In comparison with May, growth in June was -3.5 per cent in production; -7% in construction and -2.2 per cent in services.

Part of the explanation for the apparent rise in employment and fall in output is that, according to the ONS, there was a fall in labour productivity in the first quarter of 2012 – by 1.3 per cent on an output hours basis. Market sector productivity actually fell by 1.6 per cent while services productivity dropped 0.4 per cent. Manufacturing productivity was down by 2.6 per cent, the steepest fall since 2008 Q4.

Of interest also are the data on the rebalancing that has occurred – primarily by jobs moving from the public to the private sector. Since June 2010, public sector employment has fallen by 5% or 393,000 while that in the private sector has risen by 529,000. In percentage terms, construction employment has shown the biggest fall in employment in the private sector (-2.7 per cent) consistent with its dismal output performance.

Numerically, human health and social work activities had the biggest decline down 104,000. There has been a major occupational downgrading, which may explain the falling productivity. The number of workers in professional occupations has fallen by 221,000 on the year while the number of lower level occupations has risen. No wonder output is falling.

As a start, today is the time to cut VAT by 5 per cent, remove National Insurance on the young and restart all the infrastructure projects that Osborne slashed. It is also time to slash "Slasher. Vince Cable, where are you? The economy is in a big mess.

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