British economy officially on brink of recession

Britain's economy shrank in the third quarter as the global credit squeeze took its toll, according to figures out Friday, confirming that the country is on the brink of its first recession since 1991. The pound plunged.

The contraction in growth in the July-to-September quarter had been widely expected, but the 0.5 percent dip was greater than anticipated, sending share prices and the British pound spiraling downward.

“Every business, every individual – we have to live within our means,” warned British Treasury chief Alistair Darling as the statistics showed that businesses from financial services to hotels and catering are in decline.

The growth figures for the third quarter mark the first half of the definition of a technical recession used by government: two or more consecutive quarters of negative economic growth. Economists say that the current quarter, October to December, is certain to continue the trend.

“The economy is already in recession,” said Hetal Metha, a senior economist at the Ernst & Young Item Club. “We'll get confirmation in January when the Q4 numbers are out, but today's figures highlight how serious the situation is.”

Prime Minister Gordon Brown and his central bank chief, Mervyn King, tried to ease the blow earlier this week by breaking ranks with many other world leaders to use the dreaded “r-word,” declaring that a recession was almost certain.

However, the London Stock Exchange and the British pound, which had already fallen after those comments, extended losses as the fall in economic output was larger than the anticipated 0.2 percent.

The pound dropped to a five-year low against the U.S. dollar as investors bracing for interest rate cuts in the wake of the economic data took their money elsewhere in search of higher yields. The currency plunged to $1.5264 before recovering slightly to change hands at $1.5590 at midday, down some 3.6 percent on the day.

The FTSE 100 index of leading British stocks plunged nearly 8 percent to 3,766 as traders bet that the country's economic contraction will make it more difficult for companies to pocket profits.

The contraction in economic output – the first since the second quarter of 1992 – is a blow for Brown's previously unbroken record of growth since the Labour Party came to power in 1997. Brown, first as Treasury chief then as prime minister, has prided himself on providing “stability” to ordinary Britons who have until recently benefited from rising house prices and low unemployment.

“This is the day the recession became real,” said David Cameron, the leader of the main opposition Conservative Party. “We have had 10 years of a government not putting aside money for a rainy day. Well, that rainy day has now come.”

Brendan Barber, the general secretary of the Trades Union Congress, said that the “government must now give the same commitment to fighting recession as they have done to saving the banking system.”

Barber also headed up calls for further cuts in interest rates, which most economists are expecting from the Bank of England as it attempts to make the looming recession as short and shallow as possible.

The central bank earlier this month cut rates by 0.5 percent in a concerted action with six other banks around the world, bringing rates down to 4 percent.

Even with further rate cuts to spur consumer confidence, analysts are forecasting that the coming recession will last some 12 to 18 months.

Accounting firm Ernst & Young published a report this week arguing that Britain has been in a recession since July, and predicted that the country will suffer from economic shrinkage of 1 percent in 2009 before recovering to 1 percent growth in 2010.

Bank of England policymaker Andrew Sentance said that it is still uncertain how the situation will develop.

“We've had some quite deep and severe recessions in the U.K. before, and hopefully we can avoid that sort of situation in the current circumstances, but the risks of that have increased,” Sentance, considered to be one of the most hawkish members of the nine-strong monetary policy committee, told BBC Radio Leeds.

Associated Press writer Emily Flynn-Vencat contributed.