Sunday, August 12, 2018
A no-deal Brexit - the silliest of silly season ideas
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

This is a time of year when it is customary to talk about the silly season for news, and one prominent example of it has been running for the past few days, Boris Johnson. When it comes to Brexit, meanwhile, it has not so much been the silly season this summer as the stupid one.

I refer, of course, to the idea that a no-deal, cliff-edge Brexit next March is something we should not fear. Indeed, you sense that some are slavering at the prospect.

With one bound we would apparently be free of the European Union; free of those sneery continentals Michel Barnier and Jean-Claude Juncker; free of the requirement to pay the so-called divorce bill of about £39bn, and ready to negotiate buccaneering trade deals with the rest of the world.

And, just in case anybody is worried about the disruption, the shortages of foods and medicines, the massive queues at Dover and other ports that would follow a disorderly Brexit, apparently the rules of the World Trade Organisation would prevent anything like that happening.

Liam Fox, the international trade secretary, told this newspaper in an interview last week that the chances of no deal were 60-40 and, in a separate interview, that no deal would be preferable to the prime minister seeking an extension of the Article 50 negotiating timetable. That suggests to me that the trade secretary needs to do some work on the effects on trade of a no-deal Brexit.

Sir Bernard Jenkin, the Brexit-supporting Tory MP, said fears that no-deal being hugely disruptive were like those of the millennium bug panic almost two decades ago. The analogy is a poor one. An enormous amount of time, money and effort went into testing and adapting systems, to deal with a technical change. A no-deal Brexit is no mere technical change, and few would say that a huge amount of time, money and effort has been expended on it.

The truth is, as business is rightly starting to warn, a no-deal Brexit would be dangerous, disruptive and expensive, with much of the cost being incurred by consumers. It is surprising to me that so many Brexiteers either enthusiastic or blasé about the prospect.

If anything were calculated to give Brexit a bad name it would be a chaotic Brexit hitting people’s day-to-day lives. Nor is the no-deal talk doing anything to strengthen the prime minister’s negotiating position. The EU recognises bluster when it sees it, and that no sane government would risk crashing out of the EU and subjecting its economy and its citizens to an unnecessary shock.

Let us take the different aspects of no-deal in turn. Could Britain escape the £39bn divorce bill or, as the new Brexit secretary Dominic Raab has suggested, make it conditional on the EU negotiating a trade deal? The answer to that, apart from the fact that the EU is willing to negotiate a trade deal, though not necessarily the one the government wants, is no.

The divorce bill represents Britain’s liabilities to the EU, incurred in the expectation of continued membership, less assets such as Britain’s share of the capital in the European Investment Bank. It has to be paid, unless this country wants to embark on its new era by defaulting on international obligations.

Sunday, August 05, 2018
A curiously downbeat rate rise. Is it going to hurt?
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

Lord Keynes once memorably hoped that economists should be thought of as “humble and competent” people like dentists, a statement that students of the great man have been debating the meaning of ever since.

But if, as is likely, he meant that economists should be thought of as technocrats, quietly going about their business, Thursday’s interest rate rise was very much like a visit to the dentist. I don’t mean that it was particularly painful but there was no fanfare to mark the moment when Bank rate moved above the emergency 0.5% level it has occupied for almost the past 10 years.

There were no dancing girls, or boys. No banners outside the Bank. Mark Carney, the Bank governor, is not given to rhetorical flourishes, or the carefully-honed sporting analogies favoured by his predecessor, but his determinedly technocratic explanation of why the official interest rate had been raised to 0.75% ensured that nobody got too excited. Given that the markets had fully priced-in the announcement by the time it occurred, perhaps excitement was too tall an order.

It was, nonetheless, an important moment, and it was important – and perhaps the only surprise – that the decision was unanimous. A split vote on the nine-member monetary policy committee (MPC) had been expected. I have argued before that when the Bank broke out of the long period of ultra-low rates it was important that every member of the MPC was signed up to it.

That was not so in November, when the Bank reversed the emergency Brexit rate cut, and hiked from 0.25% to 0.5%. It was this time, and that is a good thing.

Was this unanimity reflected in the strength of the case the Bank made for raising rates? In my time following these things, I have witnessed approaching 70 increases in UK interest rates. The past 10 years have thus been unusually fallow.

Most rate rises have fallen into two categories. Traditionally, the reason for raising rates was to stem a slide in the pound. Either the markets transmitted to the authorities that policy was too loose by selling the pound, or action simply had to be taken to stop a sterling rout and its subsequent inflationary effects.

That was the traditional reason. Since Bank independence in 1997, however, it is hard to recall a single example of a sterling-driven rate hike. The other reason for raising rates, which at times has been screamingly obvious, is to slow an over-exuberant and thus inflationary economy. At the end of the 1990s, when the Bank took charge and the economy grew by more than 3% a year for four years in a row, it was not hard to argue for rate rises.

Times have changed. Though sterling has been soggy, and remained so after the rate rise, it was not the culprit. Similarly, nobody would say that, other than the passage of a very long time with interest rates at emergency low levels, it was screamingly obvious that they had to go up now.

One of the other traditions about rate rises is that they are not generally welcomed by business organisations. Sure enough, the British Chambers of Commerce described Thursday’s hike as “ill-judged” while the Institute of Directors accused the MPC of having “jumped the gun”. Did they have a point?

Sunday, July 29, 2018
Will they or won't they? A big moment for the Bank
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

We have arrived at another of those moments for the Bank of England, for two reasons. Markets, not for the first time, expect the Bank to provide a cooling draught in the summer heat by raising interest rates on Thursday. And there is also keen anticipation among Bank-watchers about a new form of guidance on interest rates it will release at the same time.

Let me take the two things in turn. Market expectations of a rise in interest rates this week from 0.5% to 0.75% are, as I say, high, roughly 90%. I do not need to tell you that we should treat these expectations with caution. They have been wrong before on rate rises and were spectacularly wrong in both Britain’s EU referendum and Donald Trump’s presidential election victory.

Markets do not, however, operate in a vacuum. Expectations of a rate rise this week were boosted by a narrowing of the monetary policy committee (MPC) vote to leave them on hold to just 6-3 last month, with one of the three including the Bank’s chief economist.

Unlike in May, there has been no real attempt to pour cold water on the prospect of an August rise. Then, anticipating a weak first quarter, Mark Carney nudged the markets away from a rise. This time the Bank has been mainly happy to go with the flow. The closest to a dampener was a speech by deputy governor Sir Jon Cunliffe, who argued in favour of “stodginess” in raising rates.
If markets are disappointed on Thursday by the absence of a hike they will have some justification.

For me, it comes down to a battle between two arguments; those based on the data and those arising from the strategic. As I wrote here a couple of weeks ago, the argument for a rate hike based on the data is rather a weak one, an argument that has been reinforced by subsequent news.

Thus, inflation stayed at 2.4% last month rather than picking up, earnings growth decelerated, retail sales fell, though not by enough to derail a strong second quarter and the overall growth bounce in April-June, to an expected 0.4%, is modest by past standards.

The debate does not, however, end there. The Bank does not just rely on back data, the rear view mirror, in making its decisions, but what it anticipates about the future. In this, two things are important: the economy is close to full capacity, as evidenced by, among other things, the lowest unemployment rate for more than four decades. At the same time, its speed limit – its ability to grow – has come down in the Bank’s estimation to about 1.5% a year, not much better than half what it was in the 2000s.

It does not, in other words, take much growth to put upward pressure on an economy already close to capacity. The fact that recent data do not suggest it is yet happening, far from excludes it happening in the future. On a forward-looking view, notwithstanding the potential for further Brexit-related economic damage, the case for a rate rise is stronger.

It is also stronger if you believe, as many central bankers do, that it is healthy to “normalise” interest rates, in other words take them away from the emergency settings established during the financial crisis. That is part of the strategy of the Federal Reserve in America, which already has several rate rises under its belt, and will sensibly ignore Donald Trump’s expressed displeasure at rate hikes.

Sunday, July 22, 2018
Why Britain's debt is on a dangerous trajectory
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

The most important, and very worrying, economic report in recent weeks came a few days ago from the Office for Budget Responsibility. For what it said about the outlook for the public finances and in particular the explosion of government debt in coming decades it did not get the attention it deserved.

The OBR’s fiscal sustainability report does what it says on the tin, it looks at the sustainability of the public finances over the long-term. They are not, judging by its latest report, remotely sustainable. Let me provide a little context.
Before the global financial crisis, one of Gordon Brown’s two fiscal rules as chancellor was the sustainable investment rule. This held that public sector debt should be limited to no more than 40% of gross domestic product over the economic cycle.

When the crisis hit, inflicting profound damage on the public finances and exposing Labour’s aggressive increases in spending in the run-up to it, it was a shock to discover that it would take a generation to get over the effects of the crisis. The debt soared, both in absolute terms and as a percentage of GDP. Projections showed that, even on the basis of tight spending controls, it would not be possible to get debt back down to 40% of GDP until the early 2030s. As hangovers go, this was a very long one.

It got worse. The OBR’s June 2015 fiscal sustainability report, published a month after the general election that year, suggested that George Osborne’s policy of achieving a budget surplus by 2020, and maintaining it, would succeed in reducing government debt from more than 80% to 54% of GDP by the early 2030s, but then it would then start to rise again, reaching 87% of GDP by the mid-2060s, largely because of the impact on spending and to a lesser extent tax revenues of the ageing population. That self-imposed limit of 40% of GDP under Brown’s chancellorship, swept away in the crisis, appeared gone for ever.

If that seemed very gloomy, let me tell you that you ain’t seen nothing yet. The OBR’s new projections show that in the short-term, government debt will come down, from 85.6% of GDP in 2017-18 to 80% by 2022-23. Figures on Friday showed that this process has begun. After that, however, the OBR’s baseline projection is for debt to exceed 100% of GDP by the early 1930s and to be a massive 282.8% of GDP by 2067-68. Ignore the decimal point and the precision of the numbers and this is still very scary. It would imply, in today’s prices, public sector debt of nearly £6 trillion, or more than £90,000 for every member of the population.

To put it in context, the all-time high for government debt to GDP was reached in the immediate aftermath of the Second World War, 252% of GDP in 1946-47. Then, there was a clear route to running down the debt by reducint the huge proportion of the economy claimed by the public sector in wartime. This time, the debt would still be on a rising trend half a century hence, although as the OBR puts it pithily: “Needless to say, in practice policy would need to change long before this date to prevent this outcome.”

How have things got so much worse so quickly? Three years is not, after all, a very long time but, it seems, has resulted in additional net debt of nearly 200% of GDP in 50 years’ time.

Sunday, July 15, 2018
Give young people the skills - or they won't do the job
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

For British business, the question of skill shortages, never very far away, is now a pressing one. Though the government’s EU white paper failed to spell it out – detailed proposals on immigration are expected later in the year – Britain’s labour market after Brexit is likely to be less open to EU migrants than in the past.

That has yet to be negotiated, and it may be that the government will have to offer concessions. But the situation is already changing. The ready supply of EU workers, needed to fill key gaps, including gaps in skills, is already tailing off. Over the latest 12 months there has been a 28,000 drop to 2.29m in the number of EU workers in Britain.

Such workers account for 6% of employment across all sectors and regions, and are particularly important in some. Official estimates show that 13% of workers in London are EU nationals, a proportion rising to 28% in the construction industry.

Many people say to me that, if indeed we are heading for a future in which the supply of skilled EU migrants will be restricted, as well as those who perform less skilled tasks such as fruit picking, the solution is to better train and equip our own people, particularly young people.

While the unemployment rate is at its lowest since the mid-1970s, it still equates to a jobless level of 1.42m. There are 808,000 young people (16-24) who are Neets – not in education, employment or training – and that number has started rising again.

On the face of it, however, at a time when we should be boosting the skills of young people – and the rest of the workforce – we appear to be heading in the opposite direction. The introduction of the apprenticeship levy in April last year, a measure heavily criticised by business, has been associated with a sharp drop in new apprenticeships, not an increase.

Data for the first three-quarters of the 2017-18 academic year show 290,500 apprenticeship starts, a drop of 34% compared with the figures reported at this stage for 2016-17. The Institute of Directors says that without reform it will be impossible to meet the government’s target of 3m apprenticeship starts by 2020. Apprenticeships suffered with the sharp decline in manufacturing in the 1980s and it is not clear whether the current model is the answer.

When it comes to technical education, and equipping young people with the skills they need in a modern economy. Britain has arguably had a problem for even longer. As early as the time of the Great Exhibition of 1851, shortcomings in Britain’s technical education in comparison with Germany were being noted. A century later, the 1944 Education Act, brought in by R.A. Butler, envisaged a tripartite system of secondary education, with grammar schools, secondary moderns and technical schools. But technical schools were always the poor relation, and many local authorities chose not to open any.

Lord Baker, who as Kenneth Baker was education secretary under Margaret Thatcher in the 1980s – giving his name to the “Baker days” of in-service training for teachers which were not always welcomed by parents – has been a tireless campaigner for technical education in Britain. There have been many times when that campaigning has run up against the preferences of those in power for academic education, including the period when Michael Gove was education secretary in the coalition government.

Sunday, July 08, 2018
Speculation mounts. Yet the case for a rate rise is a weak one
Posted by David Smith at 09:00 AM


My regular column is available to subscribers on This is an excerpt.

We have reached that moment in the quarterly interest-rate cycle when speculation is again mounting about whether the Bank of England will bite the bullet and actually raise interest rates next month.

We have been here before, many times, and we know that it ends in one of two ways. Either the Bank’s monetary policy committee (MPC) raises interest rates, something it has done only once in the past 10 years. Or we face a re-run of a familiar script, with Mark Carney, the governor, accused again of being an “unreliable boyfriend” when it comes to interest rate guidance.

Why is there heightened speculation about an interest rate rise next month? It is mainly because the Bank’s view, that growth in the weak first quarter of the year was affected by severe “beast from the east” weather, and that there would be a bounce in the second quarter, is supported by the surveys and some official data.

The Office for National Statistics, it should be said, had played down these weather effects in reporting that gross domestic product (GDP) rose by just 0.1% in the first three months of the year, an estimate since revised up a little to 0.2%

Purchasing managers’ surveys for last month point to a strong bounce for the service sector, a more iffy picture for manufacturing and construction growing again. Taken together they are consistent with 0.4% GDP growth in the second quarter, which would be enough to lift the 12-month rate of growth from 1.2% to 1.4%.

Carney, in a very good speech in Newcastle warning of the risks posed by Donald Trump’s knuckleheaded protectionism (my words, not his), said “the incoming data have given me greater confidence that the softness of UK activity in the first quarter was largely due to the weather, not the economic climate”. Though he did not specify next month, he said households were right to be prepared for a rate rise in the next year.

The Bank is also concerned about what the governor described as a firming up of pay and domestic cost pressures. The latest report from the Recruitment & Employment Confederation suggests that candidate shortages have pushed pay growth for permanent staff to a three-year high, lending support to such fears.

There is also the weight of numbers on the MPC itself. Three of its nine members voted for a rate hike last month, so only two more need to move over to the hawkish side of the fence to give a majority for hike. Given that one of the three hikers, Ian McCafferty, will have his final vote at the committee’s August 1-2 meeting before leaving the committee, there may be no time like the present.

There may be another reason, even if only subliminally, for raising rates now. The next realistic opportunity after next month will be November, given that decisions to change rates usually coincide with the publication of a new quarterly Bank forecast. By then, Britain could be embroiled in even more Brexit uncertainty than now, and too close to the cliff-edge for comfort. Raising rates under those circumstances would look inappropriate.

Sunday, July 01, 2018
Falling inequality - and other things nobody ever believes
Posted by David Smith at 09:00 AM


My regular column is available to subscribers on This is an excerpt.

Every so often some figures come along which challenge most people’s perceptions of what has been happening to the economy. Those perceptions, indeed firm beliefs, encompass three things: inequality is rising; incomes were growing fine until the bankers wrecked the economy 10 years ago but have struggled since, and cossetted pensioners have benefited by being protected from the worst of the pain.

If I were to tell you that none of these three things were true, you might imagine that I had stumbled across a dodgy dossier from a right-wing think tank. But the findings, hailed by George Osborne, the former chancellor, and his one-time economic adviser Rupert Harrison, were in a report from the Institute for Fiscal Studies and co-funded by the Joseph Rowntree Foundation.

The report, ‘Living standards, poverty and inequality in the UK: 2018’, based on two official UK household surveys, does indeed challenge some strongly-held beliefs.

It shows that, since the post-crisis recovery in incomes began in 2011-12, median household incomes rose by an average of 1.6% a year in real terms until 2016-17. This is lower than the 2% annual average in the four decades leading up to the financial crisis but better than the 1.2% a year from 2002 to 2007, the five years leading up to that crisis.

This, on the face of it, is hard to square with the fact that consumers were spending freely in those years, in an economy driven along by consumer exuberance. But there was also a lot of borrowing; mortgages and consumer credit often growing by 15% a year. With hindsight, the fact that incomes were growing so weakly was a warning signal of the horrors that were to come.

Those horrors, the effects of the crisis and recession, explain why, though income growth in recent years has been better than generally thought, few see much cause for celebration. Mostly in the past there has been a period of catch-up after a recession.

This time, in the several moving parts that make up incomes – strong growth in employment but weak wages and cuts to benefits and tax credits – the sense has been that we have been lucky to see any income growth at all, let alone make up for lost time. After five years of recovery this time, real incomes were about 4% above their pre-recession peak. In the 1980s at the same stage they were 16% higher.

The outlook, meanwhile, is nothing to write home about. The IFS authors suggest that, because of weak earnings growth and a continued squeeze on benefits and tax credit. Living standards will, if anything, growth more slowly from now on that over the five years from 2011-12. Figures released on Friday showed that real household disposable income fell by 0.5% last year, for familiar reasons, while on a per capita basis there was a drop of 1.1%.

The second counterintuitive finding is on pensioners. The perception is that, while workers have endured a squeeze and often falls in real wages, the triple lock and other factors have protected pensioners. It is not true, at least since 2011, since which time real incomes for both pensioners and non-pensioners have risen by around 8%.

What is true, however, is that pensioners fared much better during the worst of the crisis and that advantage has stayed with them. In 2011, pensioner incomes were 5% above pre-recession levels while non-pensioner incomes were 4% down. Again, workers have not made up the lost ground; their incomes are less than 4% above pre-crisis levels while pensioners are up by 13.5%.

Perhaps most striking, however, is the finding on inequality. Rising inequality is so much part of the discourse in this country that I have almost given up trying to correct it. It seems it explains the rise of Jeremy Corbyn and the fact that Labour can happily propose higher taxes on the better-off. Indeed, Philip Hammond has hinted at something similar when he gets round to working out which taxes will have to rise to pay for the £20bn-plus funding boost for the National Health Service.

Sunday, June 24, 2018
We don't need a new Bank target - but we do need to raise our game
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


My regular column is available to subscribers on This is an excerpt.

Just when you think there is nothing new to say about one of the defining problems of our age – stagnant productivity growth – somebody comes up with something new. A report commissioned by John McDonnell, Labour’s shadow chancellor, has called for the Bank of England to be set an additional target, that of achieving productivity growth of 3% a year.

Productivity, output per worker or, as it is more commonly measured, output per hour, has been the missing link in the economy in the period since the financial crisis. Had it made up the ground lost then, something that usually happens after recessions, we could be looking at gross domestic product (GDP) per worker 20% higher than it is. That was where the pre-crisis trend, if maintained, would have left us.

Most of that would have translated into a level of GDP a fifth larger than it is, alongside much better public finances; the budget deficit, 1.9% of GDP in 2017-18, would have long been eliminated and there would be no worries about how to fund the £20bn-plus boost to National Health Service spending.

Sustained growth in productivity of 3% a year would be transformative, converting Britain from the seven-stone weakling of the international productivity comparison tables to a country capable of kicking sand in anybody’s face. We could laugh in the face of Brexit and the uncertainties and prolonged drag on economic growth it brings.

To put it in perspective, the Office for National Statistics has data on GDP per hour worked going back to 1972. In that time, productivity growth has averaged 1.8% a year, so 3% would be an improvement of 1.2 percentage points, or more than 60%, on that long-term average.

By decade, productivity growth averaged 2.2% in the 1970s, 2.4% in the 1980s, 2.3% in the 1990s, 1.4% in the 2000s and just 0.5% since 2010. McDonnell’s Labour is sometimes accused of wanting to go back to the 1970s but in terms of its productivity ambitions it wants to go further.

It is not impossible; there have been 11 years in the past 45 when productivity has grown by 3% or more, years of strong economic growth or falling employment. But it is a long way from where we are now. The last 3%-plus productivity year was in 2000.

Much of the response to the report commissioned by the shadow chancellor, written by the consultancy GFC Economics and Clearpoint Advisors, has been that it reflects muddled thinking. Monetary policy and financial stability, the Bank’s responsibilities, have no direct links to productivity and adding to its targets merely makes it more likely that it will miss its central one, that of controlling inflation.

Where central banks have adopted so-called dual mandates, targeting employment as well as price stability, as in America, Australia and, currently, in New Zealand, there is a logic. Low inflation is a necessary condition of rising employment. But when it comes to productivity, some of the best years for its growth in Britain have been alongside high inflation, including the infamous Barber boom of the early 1970s.