by Vladimir Harman
WBP Online Correspondent in London

The first GDP estimate for the second quarter shows the British economy contracted more than expected with all sectors falling. General anticipation before the Office for Nationals Statistics (ONS) release on Wednesday has pointed to a 0.2% decline.

The British economy contracted by 0.7% in the second quarter, following a 0.3% decline in the previous quarter. This is a third consecutive fall and the largest quarterly fall since the first quarter of 2009.

Data distortion

But the data used in the preliminary estimate so far gathered by the ONS from the second quarter are not solid enough to paint a truly perfect picture of how the British economy performed in real terms.

As part of the celebrations of the Queen's Diamond Jubilee there were changes to bank holidays in both May and June.

The end-of-May bank holiday moved to June and there was an additional day off in June. Over the quarter, this resulted in minus one working day than would normally be the case. The coolest April and wettest June on record might have dragged down the output as well.

The change to the bank holidays has been classified as a statistically 'special event' by the ONS. This is not a regular event, so no adjustment has been made to account for it as part of the seasonal adjustment process. It is also not possible to numerically quantify the impact of the changes to the bank holidays at this stage.

Therefore, the ONS says the retrospective analysis will be carried out, in line with the ONS special events policy, when data for the later periods are available.

Consequently, the figures released on Wednesday are even more uncertain than any other previously released first estimate on the GDP in Britain.

"The bottom line from all this is that the underlying performance of the economy was probably somewhat better than the headline figure of -0.7% would suggest, having regard to the extra bank holiday and to the poor weather," said Joe Grice from the ONS.

Some economists argue that the distortion effects of one-off events in the second quarter of this year would knock about 0.5 percentage points from the GDP decline of 0.7%.

Also, the fact is that the preliminary data gathered by the ONS do not include enough comprehensive data from June – the last month of the second quarter.

Vicky Redwood, an economist at Capital Economics, argues that "there is a possibility that the GDP figures [from Q2] are underestimating the true strength of the economy. Other economic indicators, such as employment, have recently painted a stronger picture. Nonetheless, it would take pretty hefty revisions to make the economy’s recent performance look even half decent."

How to fix

One of the primary downward drivers to the overall GDP was weak construction output, which contracted in the second quarter by 5.2%.

The representatives of the construction sector urge the government to cut VAT on such projects like home improvements.

If the government listens to calls to reduce VAT to 5% on all home improvement works, it would help boost jobs, not lose jobs, says the National Federation of Builders.

Both the government and the Bank of England (BoE) are therefore expected to go beyond their comfort zones and act more aggressively in order to stimulate the economy.

BoE is also expected to cut the main rate, which currently stands at 0.5%, if the effects of its £375 billion monetary stimulus fail to deliver the desired effects.

GDP might eventually pick up in the months to come when the first effects of the government's multi-billion incentives programs translate into the real economy. Economists anticipate the overall GDP for 2012 to remain flat in annual terms.

BoE may even increase its pressure on Chancellor George Osborne to ease on the harsh austerity measures the government introduced in May 2010.

Increased taxes, low wage growth and elevated inflation have been eating up into the household budgets significantly in recent months.

To contact the author of the story e-mail vladimir.harman@wbponline.com