Double blow to hopes of growth in UK's economy

A DOUBLE whammy of bad news hit the UK economy yesterday, stoking fears that the sluggish start to the year has continued and making it almost certain that interest rates will remain on hold next week.

Britain's key services sector, which accounts for more than two-thirds of output, grew at its slowest pace for three months during May, a key survey revealed.

The purchasing managers' index (PMI) compiled by the Chartered Institute of Purchasing & Supply (Cips) fell from 54.3 in April to 53.8 last month, missing City forecasts of 54.1. Any reading above 50 indicates growth.

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Analysts blamed the slowdown on the plethora of bank holidays, with some businesses shutting their doors and thus reducing their output.

Meanwhile, official figures showed new construction orders plummeted by 23 per cent during the first three months of the year, the biggest drop since 1987.

Howard Archer, chief UK economist at IHS Global Insight, warned: "Given the dominant role of the services sector, the (PMI] survey fuels concerns over the fragility of the economy and its ability to withstand the fiscal tightening.

"The survey reinforces the case for the Bank of England to keep interest rates down at 0.5 per cent, not only at the end of its meeting on Thursday but also for several months to come."

Archer said that UK government cutbacks had begun to bite deeper during April with the start of the new fiscal year. The UK economy grew by a lethargic 0.5 per cent in the first quarter, cancelling out a fall of the same size in the final months of 2010 and leaving output stagnant over the two quarters.

Worries over economic growth have prompted markets to push back their bets on the timing of the first UK interest rate rise to early next year. Despite rates at a record low of 0.5 per cent since March 2009, UK households are still feeling the pinch.

Low wage growth, higher prices and tax rises have eroded real incomes, while public cuts and expectations house prices will drift lower this year have added to the gloomy outlook.

Hetal Mehta, economist at Daiwa Capital Markets Europe, said: "We know the Bank of England is becoming increasingly concerned about the weakness of the consumer sector and the doves seem to be in the ascendancy.The services PMI will only serve to embolden the doves."

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Paul Smith, senior economist at Markit, which compiled the data with Cips, said the services PMI and a surprisingly weak manufacturing survey this week pointed to a soft second-quarter GDP reading.

"Although in part attributable to the extra bank holidays in late April, the sector has lost some underlying momentum," he said.

Wednesday's PMI manufacturing survey showed activity grew at its slowest pace in 20 months in May, while a poll on Thursday suggested the construction sector grew slightly faster than expected.

Growth in the eurozone's services economy also slowed a little in May as business confidence dipped, though by less than first thought.

Across the Atlantic, signs of a slowdown in the American economy grew yesterday as employment rose far less than expected.

The US jobless rate rose to 9.1 per cent last month as high energy prices and the effects of Japan's earthquake hampered the economy. So-called "non-farm payrolls" increased 54,000 last month, the US labour department said, with private employment rising 83,000, the weakest amount since June.

Economists had expected payrolls to rise 150,000 and private hiring to increase 175,000.

Mohamed El-Erian, co-chief investment officer of Pimco, said: "This highly disappointing report is a real shocker. It is hard to find any silver lining in today's worrisome report. It speaks to a large unemployment problem that is becoming increasingly structural, and therefore protracted, in nature."

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