The UK’s Real Economic Problems – Beyond Growth vs the Deficit
The economy is growing again. What’s more, after 3 years of disappointments, the OBR seem to have finally become too pessimistic and we can expect upgrades to their forecasts at the Autumn Statement. Their current estimate for 2013 growth is just 0.6% and has already been beaten just six months into the year.
There are many reasons to be cautious – the economy is still over 3% smaller than in 2008, the recovery is horribly slow whether compared to our major peers or our historical experience and what little growth we have had has been underpinned by a falling household savings ratio. The long hoped for rebalancing of the economy does not seem to be happening and indeed the Government, in the short term at least, seems to have given up on achieving this. Living standards remain squeezed.
This debate is welcome (and I have certainly contributed to it) but even it somewhat misses the real issues.
In reality the deficit is symptom of our problems rather than cause and the prioritising ‘growth’ risks being too blasé about the sources of that growth, its sustainability and how it actually impacts upon people.
In reality the UK faces three interlocking economic problems – a crisis of jobs, a crisis of wages and a crisis of investment.
At least two of these problems pre-date the recession of 2008 but all have been severely worsened by financial crash.
All three require action on the demand side of the economy but all three also require the right kind of supply side reform.
It is from these three problems that the other economic issues flow – primarily the deficit and the collapse in productivity growth.
The real worry now is that if the Government continues down its current course without a change in policy then these problems will become embedded. The UK will become a lower wage, lower productivity economy. If these happen then trend growth will fall with serious implications for both living standards and the public finances.
To briefly summarise the triple crisis:
Jobs: Unemployment remains at high – maybe not as high as many feared it would be but high nonetheless. The bigger picture of the labour market has been the rise in under-employment, the grey areas between being in work and being out of it where people are in employment but want to work longer hours.
Wages: Real wages have been falling for over 40 months, the longest squeeze since the 1870s. This is leading to a squeeze in incomes (especially when combined with changes to the social security system) that is unprecedented in modern economic history. This wage squeeze predates 2008 with median real wage stagnation beginning around 2003.
Investment: Private business investment was weak before the crisis and has been even weaker since. The Government has slashed its own capital spending further exacerbating the problem.
If we had more (and better) jobs, higher wages and more investment then many of our current economics problems would disappear – the deficit would be lower, productivity growth higher, growth would not only be faster but better balanced and more sustainable and the squeeze on living standards would come to an end.
The current Government came to office without a real plan for growth. The priority was deficit reduction and policy makers and their supporters even assumed (in extreme cases) that deficit reduction would be expansionary leading to faster growth or that deficit reduction would slow growth but it had to be done and the economy was likely capable of absorbing austerity whilst continuing to move ahead.
Both assumptions have been proved wrong. The first always had very little basis in fact, whilst the second was dealt a huge blow by the IMF’s decision last year to revise upwards it estimate of the size of the fiscal multipliers.
In as much as there was a growth plan in mid 2010 it simply consisted of letting the Bank of England get on with the job of supporting the economy.
Over the past three years as the economy stubbornly refused to grow – held back by fiscal tightening, the Eurozone crisis, a squeeze in living standards and tight bank credit, the Government turbocharged its preferred policy mix of tight fiscal policy and easy money. Funding for Lending and now Help to Buy seem to have helped revive bank lending to households but not firms.
A serious of wheezes and schemes to boost business investment (pension fund investment platforms, the guarantee scheme, etc) have been attempted and met with little success.
The BIS department is doing some good work on industrial strategy but much of it feels less joined up with the rest of government, too modest and not well funded enough.
By focussing on the deficit and failing to address the real problems the Government has managed to miss its own targets. Triple A gone, deficit targets missed, rebalancing postponed.
But rather than changing course they are choosing to plough on ahead with not just the wrong policies but the wrong targets.
If the real issues are jobs, wages and investment – then what would the correct policy response be?
My own answers will be familiar to readers of the blog – first deal with the demand crisis and then start on the supply side issues. Much of the necessary change goes beyond traditional monetary and fiscal levers but a good start would be a capital spending intense stimulus that both boosts demand in the short run and also increases the capital stock in the long run.
Beyond that we need stronger, better co-ordinated and better resourced industrial policy. Much more wide ranging banking reform – including a well capitalised British Investment Bank. Reforms to corporate governance to bring in more stakeholders and encourage long-termism.
Perhaps most importantly we need action on the wages crisis. A recent Touchstone pamphlet published by the TUC is the best place to start – it advocates policies on the minimum wage, the living wage and collective bargaining (through new sector based institutions) as ways to give some immediate respite but also acknowledges that the long term route to higher wages is through a rebalanced economy that creates more well paid jobs.
In many ways we now face a choice – continue to focus on the wrong measures and accept that this ‘recovery’ is as good as it gets or shift to focus on the real problems.