All of a sudden Britain has become the slowest growing of the major western economies, and there are increasing concerns about its medium-term outlook. Iain Begg writes that with both government and opposition fixated on what kind of Brexit to favour, there is a growing risk that fundamental and necessary measures to underpin the economy will be neglected.
Until well after the turn of the year, the UK economy seemed to have shrugged off any immediate economic effects of the EU referendum. GDP growth had remained steady at an annual rate of around 2%, enabling ministers to claim the UK was the fastest growing of the major western economies; the total number of people in employment continued to rise; significant foreign investors (such as Nissan) had announced plans for new projects.
More recently, however, sentiment has turned, and there are increasing concerns about the medium-term outlook for the economy. Political uncertainty is, unsurprisingly, one reason and was central to the downbeat assessment from Mark Carney, Governor of the Bank of England, in his press conference after the August 2017 meeting of the Monetary Policy Committee. Although the economy had already decelerated in the first quarter of 2017, Theresa May’s failed gamble on a snap general election manifestly has had a disruptive and damaging effect. The lacklustre growth figures released at the end of July 2017 confirmed the relative slowdown of the economy in the first half of 2017: all of a sudden Britain has become the slowest growing of the major western economies.
What had appeared – irrespective of whether it is considered the right approach to Brexit – to be a clear negotiating position has given way to ambiguity about what the UK wants. Both main political parties have confused positions, with leading figures issuing contradictory messages about whether they want the UK to stay inside the single market or the customs union, or what will be done to restrict EU migrants.
Headlines about looming shortages of NHS staff vie with good news stories about BMW committing to Britain for the production of its new electric Mini. Speculation abounds about whether the Prime Minister can struggle on in office, perhaps until the Article 50 process ends in spring 2019, or will be defenestrated as soon as the Tory party settles on a viable successor, possibly within weeks.
The short-term economic prospects are mixed. On the one hand, job creation remains robust, notwithstanding some worries about the quality of jobs and stagnating wages, and employment is at an all-time record level, inflation is low, and the economy is still attractive to foreign investors. The gradual improvement in the fortunes of the Eurozone, the UK’s most important external market, should help to sustain external demand.
On the other, the squeeze on real incomes from higher inflation must be expected to rein in consumers’ expenditure, and some of the imbalances in the economy still weigh on the economy. These include the high level of consumer debt, a historically low savings rate, the precarious public finances and the deficit on the current account of the balance of payments. Thus:
- Data from the ONS for the first quarter of 2017 show the external position, which had been improving in the course of 2016 is again deteriorating, with the current account deficit rising to 3.4 % of GDP. The main explanation is the poor record of exports of goods. Moreover, the UK has been in persistent external deficit over several years, averaging more than 4% of GDP over the last five years.
- Continuing expansion of consumer borrowing, up 10% in the last year at a time when incomes have grown by only 1.5%, prompted a warning on credit on July 24th from Alex Brazier, the Bank of England’s Executive Director for financial stability: it is a growing source of vulnerability.
- At the end of July 2017, the Chancellor of the Exchequer, Philip Hammond, announced a further postponement (until 2027 – the span of two full parliaments) of the target date for eliminating the deficit in the public finances
- Only Greece and Cyprus within the EU save less at present than the UK. The overall savings rate in the economy is low, at just 13.7% of GDP, compared with an average in the decade prior to the financial crisis some three percentage points higher). Moreover, there is hoarding of cash by a corporate sector seemingly reluctant to invest.
But it is also important, not least in the context of Brexit, to take a step back to re-examine some of the medium and longer term trends in the British economy and their likely influence on future prosperity. Whatever view is taken of the merits of leaving the EU, it is self-evident that the UK will face a challenging period of adjustment to a post-EU trade, investment and regulatory regime and will need to be more than usually competitive. However, three warning lights are flashing:
First, the lack of productivity growth has now become a serious concern, even compared with the far from stellar performance of other EU countries. UK productivity in the first quarter of 2017 slipped by 0.5%, taking it below the peak achieved before the start of the financial crisis, in the fourth quarter of 2007. This means one of the key sources of growth has not improved in the last decade, an almost unprecedented record.
A second, related worry is the low rate of investment by businesses and in infrastructure. At 16.7% of GDP in 2016 (the highest rate since 2008), the rate of investment in the economy is some 1.5 percentage points below its average of the 20 years up to the eruption of the financial crisis in 2008 and 3.5 percentage points below the EU average. Public investment is around 2.5% of GDP, marginally below the EU average (though higher, perhaps surprisingly, than Germany).
Then there is the persistent gap in skills, also bearing on productivity. The results of an Open University survey published in July 2017 reveal how Brexit-related uncertainty is making it harder for employers to fill vacancies requiring specialist skills. But the longer term picture was already troubling ministers who, while they have started to take remedial steps, know that there is a long way to go.
With both government and opposition fixated on what kind of Brexit to favour, there is a growing risk that fundamental and necessary measures to underpin the economy will be neglected. Factor in pressures for increases in public sector pay, more housing and improved public services and it becomes clear that the economic policy agenda will be uncomfortable for some time. The mistake though would be to think it is only about Brexit and to assess economic prospects only in terms of the jaded debates about whether leaving the EU will be good or bad for Britain.
A few of the storm-clouds gathering over the economy could burst, and the continuing uncertainty is, as Mark Carney said, detracting from consumer and business confidence. The EU’s negotiators are perplexed; businesses are hesitant about investing and over whether to make strategic moves; the general public is unsure what to believe about how Brexit will unfold.
All this is neither a recipe for economic stability nor auspicious for an economy that will need to boost its performance if it is to prosper in a post-Brexit world.
This post was originally published on the Brexit blog.
Iain Begg is a Professorial Research Fellow at the European Institute of the London School of Economics and Political Science and a senior fellow of the UK in a Changing Europe initiative.