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5 September 2011

Yet another marker that a double-dip looms

Services, the biggest and most important sector, is slowing.

By David Blanchflower

The last of the three CIPS/Markit Purchasing Manager’s Index (PMI) indices that are published every month hit the streets this morning. Each month, we get data for construction, manufacturing and services from these surveys, which are much more timely than the official data — and they have the advantage that they don’t get revised. They also have pretty good predictive power. I have already reported here on the horrid data for construction and manufacturing, so the services sector report was going to be vitally important. Not least because services are the biggest and most important sector. Needless to say, the news was appalling.

The services business activity index fell over 4 points to just above 51; its sharpest fall for a decade and the lowest level since the end of last year. The worry is that it is heading much lower into territory suggesting outright contraction. The decline in the index was greater than those seen in the autumn of 2008 (following the collapse of Lehman Brothers) and was surpassed only by the foot-and-mouth related fall of April 2001. With underlying trends in activity and new business weakening, and confidence regarding the future down, a further drop in service sector employment was recorded in August. Respondents noted the non-replacement of leavers or forced redundancies, as they engaged in restructuring or had insufficient work relative to capacity. Unemployment looks likely to rise further.

The combination of data from the three PMIs plotted in the chart makes the prospect that there will be little or no growth during the rest of the year highly likely. The declines in the three PMIs in 2007 predicted what was to come well before the official data, which didn’t start to show sharp falls until well into 2008, so the concern is that these drops suggest there are bad things to come. Indeed, the prospects of a double-dip are rising fast.

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Chris Williamson, chief economist at Markit, also has concerns that look right.

The PMI surveys collectively pointed to a near-stagnation of economic growth in August, signaling an increased risk that GDP growth in the third quarter could be even weaker than the 0.2 per cent rise seen in the three months to June. Forward-looking indicators also suggest that the economy could weaken further at the end of the quarter, raising the prospect of a slide back into contraction in Q4 — if not in Q3 — and will provide ammunition for those seeking a further injection of stimulus into the economy by the Bank of England. The all-sector PMI is at a level which has always triggered interest rate cuts in the past.

This data makes the MPC decision this week a close call: they will leave interest rates untouched as they have every month since March 2009. As a consequence of the recent round of poor data, though — including stagnation on the jobs front in the United States and an evolving crisis in the eurozone — the chances the MPC will move to doing more asset purchases (ie QE, at their meeting this week) has risen. These are the sort of circumstances under which a central bank pulls a surprise in order to show the markets that, in contrast to the Chancellor, they are up to the task.

If they don’t act at this meeting, it is all but certain they will do so at their October meeting. Adam Posen looks to have been spot on.

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