Trade deficit explodes as economy heads for slowdown

The British economy will slow sharply this autumn, though escaping an outright contraction and a formal "double dip" recession, the Organisation for Economic Co-operation and Development has predicted.

Ominously, the OECD's caution about the prospects was confirmed by the release of the worst ever set of UK trade figures by the Office for National Statistics yesterday. The welter of gloomy economic news left the Bank of England's Monetary Policy Committee unmoved, however: as was widely expected, it decided to keep interest rates at 0.5 per cent while the quantitative easing programme, which injected money directly into the economy, stays on hold.

In its latest assessment, the OECD echoes upbeat official figures for the second quarter of this year, putting growth at about 1.2 per cent (4.9 per cent annualised) between April and June. But the international body sees growth slowing to approaching half that level in this quarter – just 0.7 per cent or so (2.7 per cent annualised), a downgrade. In the last three months of this year it predicts growth of 0.4 per cent (1.5 per cent annualised). After that it sees the recovery accelerating again.

The fiscal squeeze, which will be outlined in more detail in the spending statement due on 20 October, an erosion in confidence and a disappointing trade performance all seem set to slow growth as 2011 approaches.

Of more immediate concern is the exploding trade deficit. Ministers of both parties and the Bank of England have placed great store by the 25 per cent depreciation in sterling since 2007, and its ability to "rebalance" the economy away from domestic consumption and towards exports. Instead, and despite some hopeful signs to the contrary earlier this year, the trade deficit seems to have taken a decisive turn for the worse.

The estimated £13.2bn deficit in the three months to July is the largest on record, while July's deficit in goods trade alone, at £8.7bn, was the largest single month's deficit on official record.

Analysts said that there was some evidence that British exporters had taken the benefit of the lower pound to rebuild profit margins, maintaining the foreign price of their goods to boost their sterling returns.

Malcolm Barr, an economist at JP Morgan, said: "The size of the trade deficit in nominal terms does not reflect sudden swings in oil or erratic items, nor does it appear to owe much to the rise in global food prices.

"It is true that levels of both imports and exports are showing a decent bounce as one would expect given the sharp falls seen during the recession. Gains in the performance on exports relative to imports thanks to sterling's decline will be a long time coming, and will probably be difficult to identify amongst other influences."

But the Engineering Employers' Federation, representing many of the nation's leading exporters, suggested that sluggish growth in key markets is a more potent factor. "Outside the EU the largest fall in exports went to the US, where exports fell by 6.4 per cent over the month. It is likely that the still shaky economic outlook is dampening US consumers' and businesses' demands for UK goods. Conversely, UK exports to high-growth China and South Korea have risen notably," it said.

"A similar picture is notable in Europe, where the largest falls in exports were to Spain and Italy, in both cases falling by over 10 per cent. This suggests, then, that weaknesses in the economies of export partners might be behind this month's disappointing trade statistics."