UK edges towards recession as growth forecasts fall andjob losses increase

Fears grew yesterday that Britain is fast edging into recession with statistics showing unemployment rising for a fourth month in a row, and a warning from one of the nation's most respected think-tanks that the economy is "scarcely growing".

The Government's woes were compounded by confirmation from Brussels that the UK will be censured for exceeding the European Union's public sector deficit ceiling of 3 per cent of gross domestic product during this year and next.

The stock market was also hit by a sell-off of banks and housebuilders closing 104 points, or 1.79 per cent, lower.

The National Institute for Economic and Social Research's latest estimate for economic growth – usually extremely accurate – suggests that the growth rate for the quarter to May was a mere 0.2 per cent, an annualised rate of 0.8 per cent. The Treasury has forecast growth of at least 1.75 per cent in 2008. The NIESR estimate is down from 0.4 per cent for the three months to April, and the lowest for some years.

The official figure for growth in the first quarter of this year was 0.4 per cent, but the NIESR research indicates that the economy is rapidly cooling under the twin strains of the credit crunch and the commodities crunch.

Martin Weale, the NIESR director, said he "would not be surprised" if the UK endured one quarter of negative growth this year. However, for the year as a whole, NIESR believes that the economy will still grow, if sluggishly.

If activity does slow down that rapidly, it will accelerate the trend of rising unemployment. Jobless claims rose a further 9,000 in May to 1.64 million, higher than expected, and the fourth monthly rise in a row. The 24,000 increase in claims over the past three months has not yet pushed up the claimant count unemployment rate, which remained unchanged at 2.5 per cent – a 35-year low. On the broader international, ILO, measure of unemployment, the rate nudged up to 5.3 per cent, from 5.2 per cent in March.

However the leading indicators of unemployment – principally surveys by the Chartered Institute of Purchasing and Supply, the CBI and the Bank of England's Agents' Report – indicate a much more depressed outlook for jobs in the medium term.

Anecdotal and statistical evidence of a threat to jobs usually has a dramatic impact on confidence in the housing market, already beleaguered with transactions down to a 30-year low.

Karen Ward, UK economist at HSBC, said: "Movements over the past couple of weeks in bond yields show the market is concerned about inflation – unsurprising given such rapid gains in commodity prices. But ultimately, the impact of higher oil prices on inflation and growth in the medium term hinges on the labour market."

Analysts generally took the poor news on employment as better news for inflation. The danger has been that "second- round" effects transmitted through pay negotiations and the price-setting behaviour of firms would tend to institutionalise higher levels of inflation, especially with "high-visibility" items such as food and fuel looming large in people's consciousness.

The Office for National Statistics also revealed yesterday that slowing demand for labour is keeping pay settlements fairly muted. The Average Earnings Index (including bonuses) – was 3.8 per cent, down 0.2 percentage points from the previous month. Meanwhile, March's trade in goods deficit was revised down from £7.4bn to £7.1bn – but April's widening to £7.6bn means that there is little sign yet that the weak pound is boosting exports, probably because world growth and trade are slowing markedly.

Melanie Bower, an economist at Moody's, said: "Despite mounting evidence that the UK economy is slowing, it's looking increasingly unlikely the Bank will lower interest rates any time soon."

In a further blow to ministers, Richard Lambert the director-general of the CBI, said yesterday that the Government's problems have been worsened because "a lot of people in the Treasury have never had an economic slowdown before ... it all contributes to the uncertainty in the air."