Britain's economy unexpectedly shrank in September, with growth slowing to a near halt in the third quarter, official data showed on Friday, an early challenge to Treasury chief Rachel Reeves' ambitions to kick-start a sustained recovery.

Gross domestic product (GDP) slipped by 0.1% in monthly terms during September as the services sector flat-lined, while manufacturing and construction dropped, the Office for National Statistics (ONS) said.

That has further fueled accusations from critics of the new Labour government that its pessimism dragged the economy down in its first few weeks in office.

For the third quarter as whole, the economy grew by 0.1%, slowing from 0.5% growth during the second quarter.

Economists polled by Reuters and the Bank of England (BoE) had forecast an expansion of 0.2% in the July-September period, slowing from the rapid growth of the first half of 2024 when the economy was rebounding from last year's shallow recession.

Treasury chief 'not satisfied'

"Improving economic growth is at the heart of everything I am seeking to achieve, which is why I am not satisfied with these numbers," Reeves said.

"Now we are going to deliver growth through investment and reform," she added.

On Thursday, Reeves promised a reboot of regulation governing Britain's "crown jewel" financial industry, which she said had stifled economic growth.

A 1.2% quarterly rise in business investment, which has grown for four quarters, was a bright spot in Friday's data.

On coming to power in July for the first time in 14 years, the government described its economic inheritance from the former Conservative administration as the bleakest in decades, requiring urgent action to fix the public finances.

The Conservatives' Treasury spokesperson, Mel Stride, sought to pin the blame for the slowdown on the new government, saying the deterioration in business and consumer confidence was a direct result of it "talking the economy down."

Last week, the BoE trimmed its annual growth forecast for 2024 to 1% from 1.25% but predicted a stronger 2025, reflecting a short-term boost to the economy from the big-spending budget plans of Reeves.

Britain's economic output has grown slowly since the COVID-19 pandemic and is up 3% since late 2019.

Only Germany – which was also hit hard by surging energy costs after Russia's invasion of Ukraine – has done noticeably worse among the largest advanced economies.

Road ahead 'remains bumpy'

"The road ahead remains bumpy," Sanjay Raja, chief U.K. economist at Deutsche Bank, said, warning that higher taxes on business announced in the budget could hit private sector investment and hiring early next year.

"We still see positive momentum into 2025. But downside risks are brewing. Geopolitical risks are on the rise with the spectre of a trade war looming," Raja said.

Prime Minister Keir Starmer said he wanted the economy to reach annual growth of 2.5% when campaigning for the July 4 election – a rate that Britain has not regularly achieved since before the 2008 financial crisis.

The Resolution Foundation think tank said the British economy has been a "rollercoaster" over the past year and that its medium-term performance has been "staid and stagnant."

As a result of the third-quarter slowdown, the think tank said the U.K. has fallen below the U.S. at the top of the growth leaderboard of the Group of Seven (G-7) leading industrial economies.

"This all serves to highlight that the government's mission to renew strong economic growth is both extremely hard, and absolutely necessary," said Simon Pittaway, the think tank's senior economist.

Reeves wants Britain to have the fastest per capita growth in gross domestic product among the G-7 economies for two consecutive years.

That ambition looks a long way off, based on Friday's data.

GDP per head dropped 0.1% in the third quarter and was flat compared with a year ago, meaning it has not grown in annual terms since 2022.

Brexit weighs

One factor hobbling the economy, many economists say, is Britain's departure from the European Union in 2020, which has made trade more difficult. Though the post-Brexit trade agreement between the two sides ensured there would be no tariffs placed on goods, exporters are finding life tough.

As part of Brexit, the U.K. also left the frictionless single market and the customs union, which means firms have to file forms and customs declarations for the first time in years.

On Thursday evening, BoE Governor Andrew Bailey said the "changing trading relationship" with the EU has weighed on the economy.

"It underlines why we must be alert to and welcome opportunities to rebuild relations while respecting the decision of the British people," he said.

Starmer has said he wants to improve the trading relationship with the EU but has ruled out the possibility of Britain rejoining the single market or the customs union, or of a return of the freedom of movement of people.

For many, that means there can only be limited improvements to the current trading arrangements.