Sunday, December 09, 2018
Be braced for more chaos, but give thanks to 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.

How do you like your uncertainty? Like bad luck, it comes in threes. There is the uncertainty of whether the prime minister can survive this week’s House of Commons vote on her EU withdrawal agreement, assuming it takes place, and what happens to the Brexit process if, as overwhelmingly expected, she loses.

There is the uncertainty of the prospect, which is greater than it was, of a Labour government under Jeremy Corbyn. Most people in business I speak to think Brexit will be a big enough disaster. Combine it with a Corbyn government, the only virtue of which might be that it would not be for ever, and you crank up the disaster dial to Titanic levels.

And then there is the risk of crashing out of the EU without a deal next March, the madness of which I discussed last week. In this you combine uncertainty effects with the real impact on supply chains for the most dangerous of cocktails.

There is, I should say, a glimmer of light on this. The advocate general’s recommendation to the European Court of Justice on Britain’s unilateral revoke article 50 unilaterally, together with one of Theresa May’s parliamentary defeats last week, on the Dominic Grieve amendment, has reduced the chances of a no-deal Brexit.

Malcom Barr of J P Morgan, who has been following the twists of turns of Brexit very closely, had put the probabilities as 20% for no-deal, 60% on an orderly exit along the lines proposed by the prime minister or something similar, and 20% for no Brexit. Now he puts the probabilities as just 10% for no deal, 50% orderly Brexit and 40% no Brexit. A no-deal Brexit could still happen, but the chances have fallen, which is good news, and it was this which helped sterling recover from its lows for the year against the dollar a few days ago.

How is the uncertainty playing out? The latest purchasing managers’ surveys, which are closely watched, suggested that the construction industry had a good November and manufacturing held up better than feared. But the alarm bells are ringing for the service sector, with its index dropping to its lowest level since July 2016, the immediate aftermath of the referendum, with Brexit mainly to blame.

As Chris Williamson, chief economist at IHS Markit, which produces the surveys, put it: “The surveys are so far consistent with 0.1% GDP [gross domestic product] growth in the fourth quarter, thanks to the expansion seen back in October, but growth momentum has since been lost and risks are clearly tilted to the downside.” Instead of striding confidently into departure from the EU, Britain will be getting there on hands and knees.

It is in this context that the Bank of England has been coming in for some undeserved flak, including from the previous governor Lord (Mervyn) King. While the reputations of many institutions have deteriorated in recent years, including parliament, the Bank’s I would say has been enhanced. Mark Carney, now more than five years into the role as governor, made it his job to reorganise and professionalise the Bank.

And, while some of us have had run-ins with him, few can doubt his attention to detail. The Bank did not want to publish its internal work on Brexit scenarios but did so in response to a request from the Commons Treasury committee. Not to have published the scariest stress-test scenarios in response to that request would have been dishonest.

Nor was this, as the American economist and New York Times columnist Paul Krugman has argued, a product of “black box” modelling. The Bank has done the work, involving 20 senior economists and the expertise of 150 other professionals over two years.

And, as Krugman also pointed out: “It’s truly amazing that Britain finds itself in this position. If the downsides are anywhere close to what the BoE asserts, given the risk — which we’ve known for a long time was substantial — of a hard Brexit, it was an act of utter folly not to have put in backup capacity at the borders.”

Saturday, December 01, 2018
In or out, we really need to shake things about
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.

When does a flurry turn into an avalanche? We have certainly had a flurry of economic assessments of the consequences of leaving the European Union in recent days. Any more and I will have to conclude that it is something more powerful.

Let me start today by offering a little guidance on the assessments we have had from the government, the National Institute of Economic and Social Research, the UK in a Changing Europe (UKandEU) and the Bank of England.

The first three look at the long-term consequences of Brexit under different scenarios; where the economy will be in 2030 compared with where it would have been in the absence of Brexit, looking purely at the impact of leaving the EU. The Bank’s assessment, which was drawn up to inform its banking stress tests, is different in that a short-term exercise, looking at only the next few years.

Two of the assessments, from the government and the Bank, would have been kept private if not for the insistence of parliament, and in particular the Commons Treasury committee. All show the economy faring worse than had Britain voted to stay in the EU, though by differing degrees.

To fill in a little detail. The National Institute, attempting to model the government’s proposed deal, finds that the economy will be 4% smaller under it than by remaining in the EU, with gross domestic product per capita down 3%. The UKandEU assessment is that GDP per capita will be between 1.9% and 5.5% lower than otherwise

The government’s assessment is that by 2030 GDP will be between 0.6% (the government’s proposed deal) and 9.3% (no-deal) lower compared with staying in. Its numbers are close to those of others for no-deal but flatter the government’s proposals by assuming that it will be possible to negotiate trade deals with many other countries as well as frictionless trade with the EU by 2030.

As for the Bank, it is not all doom and gloom. If parliament agreed on the government’s proposals, growth could be slightly better in coming years than it projected last month, though still weaker than it thought in May 2016, before the referendum.

The headlines it has generated relate to its “disruptive” no-deal (“tariffs introduced suddenly, no new trade deals, disruption in financial markets) and “disorderly” scenarios (border infrastructure cannot cope, EU trade agreements with third countries are not carried over and UK assets are sold off heavily). Under these, GDP falls by between 7.75% and 10.5% relative to the May 2016 growth path, and by 4.75% to 7.75% relative to the Bank’s latest forecast. This implies, as well as a deep recession and a big rise in unemployment, higher inflation, a sharp sterling sell-off and a 30% fall in house prices.

Sunday, November 25, 2018
We need to talk about Britain's growing north-south divide
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.

One of the most enduring characteristics of the UK economy is its regional imbalances. I should know. I wrote a book about North-South divisions as long ago as the 1980s, which I will not be as vulgar as to plug here, to be told by some at the time that any such imbalances were fast disappearing, and that it was all old hat.

Well, that hat may be old, but it is still being worn. Regional imbalances can be seen at the heart of the discontent many feel with the country’s economic performance, even with near full employment and nine years into the recovery. It was a factor, possibly quite a significant one, in both the Brexit vote and last year’s inconclusive general election. It is why the most commonly used economic slogan for politicians, including Theresa May, is to create “an economy that works for everyone”

So I noted with interest some new figures from the Economic Statistics Centre of Excellence (ESCOE), which has begun to produce up to date or “nowcast” estimates of regional economic growth, on a quarterly basis. Such estimates have until now only been available on an annual basis and after a time lag. ESCOE is a consortium made up of the National Institute of Economic and Social Research, King’s College London, Nesta, the innovation foundation, Cambridge University and, Warwick and Strathclyde business schools.

The research has a purpose. As the researchers remind us, Harold Macmillan, when chancellor, once complained of statistics being too late to be useful, saying: “We are always, as it were, looking up a train in last year’s Bradshaw.” For those of you who have not succumbed to the delights of Michael Portillo’s colourfully-jacketed railway journeys, a Bradshaw was a hardback railway timetable

ESCOE’s estimates tell us that over the past year – running to this year’s third quarter – there are significant regional differences in economic growth. London tops the UK league, with growth of 1.8%, followed by the south west 1.51%, the south east 1.49%. Northern Ireland 1.41%, east midlands 1.32%, Scotland 1.29%, east of England 1.24%, Wales 1.17%, north west 1.07%, Yorkshire & the Humber 1.06% and the poor old north east, just 0.83%.

Northern Ireland is a bit of an outlier, and Scotland has always done better than the regions of northern England, but otherwise the picture is reasonable clear. London and the southern regions of England have been blessed with stronger growth than the rest, and certainly than the regions of northern England. London has grown at more than twice the rate of the north east.

The figures set me digging into ESCOE’s database, which goes back to 1970. Bear with me while I give you a few more numbers. Since annual growth turned positive in 2010, after the financial crisis, the average growth figures are London 2.99%, west midlands 2.21%, south east 1.96%, east of England 1.86%, east midlands 1.81%, Wales 1.73%, south west 1.69%, Scotland 1.67%, the north west 1.35%, notwithstanding the Northern Powerhouse, Northern Ireland 1.27%, Yorkshire & the Humber 0.95% and the north east 0.76%. London was at the heart of the crisis, indeed what happened in London helped cause it, but it has prospered since.

These small differences in growth rates may not sound like very much but compounded, they add up to a lot. The London economy, for example, is over 26% bigger in real terms than at the start of the recovery, compared with 6% for the north east, just under 8% for Yorkshire & the Humber and 11% for the north west.

Sunday, November 18, 2018
Britain does not need this new wave of Brexit uncertainty
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.

It is easy these days to think that you have wandered into a strange nightmare from which there is no waking up. For many of our business leaders, Wednesday evening brought a call from Philip Hammond and Greg Clark, the business secretary, outlining the proposed withdrawal agreement from the EU and encouraging them to support it.

That was not too nightmarish but next morning ministers were falling like ninepins, letters were going into the Tory 1922 committee and Theresa May was being reassured by everybody that her agreement had a snowball’s chance in hell of getting through parliament. Even by the rollercoaster standards of Britain’s progress toward Brexit, this was an extraordinary lurch, though things have calmed down a little now.

Is it all just a bad dream? How comforting it would be to turn the clock back to February 2016, and the fork in the road then. By the time of the EU summit in Brussels that month, it was already clear that David Cameron’s negotiation over the terms of Britain’s membership had fallen short. Newspapers had already run “is that it, prime minister?” front pages.

Cameron could and should have said that the deal he was offered was not good enough, that he would tell the rest of the EU so, and that it was back to the negotiating table. His deadline for holding a referendum by the end of 2017 might have slipped, or even fallen by the wayside when the government woke up to the reality of dealing with a Trump presidency. But it did not, and like the American president recently, Brexit supporters were able to take advantage of a caravan on asylum-seekers fleeing wars and poverty and making its way across Europe, though not to Britain.

The clock cannot, however, be turned back. We voted, as I said here on June 26 2016, for a poorer and more uncertain future. That there would be so much political chaos at this stage, cementing Britain’s position as, to put it politely, very eccentric, is a surprise even to me. We are where we are. So where are we heading?

I still think there will be a deal on withdrawal, rather than no deal, and that it will be quite close to the lengthy document (586 pages) agreed by the cabinet – before the resignations – and discussed with business leaders,

There will thus be a transition period in which very little changes, lasting an initial 21 months after March next year, but extendable by mutual agreement. Britain will pay up roughly £39bn as the divorce settlement, more if the transition period is extended. If that does not happen, and there has not been enough time to negotiate a trade deal, the customs union backstop, the “single customs secretary” would kick in to prevent a hard border between Ireland and Northern Ireland. A deeper customs union, together with following the single market rulebook, would be the additional, “belt and braces” backstop in Northern Ireland.

Why do I think that, in the end, there will be a parliamentary deal on withdrawal, rather than the descent into chaos of a no-deal Brexit? Though this may be a heroic assumption, I think in the end common sense will prevail, though perhaps not first time and maybe only after parliament has stared into the abyss, but there is much less support for a no-deal Brexit than for something similar to the prime minister’s draft treaty.

The markets are with me on this. Sterling slumped by two cents to a little below $1.28 on Dominic Raab’s resignation as Brexit secretary. It would have fallen a lot more, to below $1.20, probably well below it, if the markets began to price in no deal.

The risk for the next few weeks is that the economy starts to react as if Britain is heading for a no-deal Brexit. Prospects for the current quarter were already looking downbeat, and surveys and hard data suggest that it has got off to a subdued start. The danger is that adding a new layer of uncertainty at this stage, if only temporarily, will compound that weakness. The economy may find itself limping, at best, towards the March 29, 2019 finishing line.

Sunday, November 11, 2018
How we won the Great War but lost the economy
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 moment of history. The Great War itself went slowly, painfully so, but the period since we were marking 100 years from its start, four years ago, to today’s centenary of the Armistice seems to have flashed by. Those four years, of course, have included events that will also change the course of history.

You might think there is not much new left to say about the 1914-18 war. We rightly commemorate the sacrifices made in the world’s first industrial war, as we have done for many years. That is what todays’s 100th anniversary is all about.

But historians, including economic historians, are always delving, and discovering. A new Centre for Economic Policy Research (CEPR) collection, The Great War: A Centennial Perspective, edited by Stephen Broadberry and Mark Harrison, available as a free eBook on the website, taught me things I did not know.

Calling it the Great War, for example, was commonplace until the 1940s, until the bigger 1939-45 saw it downgraded to merely the first of two 20th century world wars. By the 1960s the Great War description was much more rarely used but I will stick with it today.

Harrison, professor of economics at Warwick University, points out that the war was no accidental conflict brought on by a chance assassination in Sarajevo; it was fully intended. It was not undertaken for commercial advantage, being opposed by business interests in all countries. It was less “needless slaughter”, though French and British losses occurred at a faster rate than those for German troops and there was a terrible waste of life, than a calculated war of attrition.

He also challenges the view that Germany was starved into submission by the cutting off of food imports, a myth later fostered by Hitler. German war mobilisation did more to damage food production and create hunger on the home front, which in the end undermined its war effort.

Economic firepower was key to the victory of the allies. They began the war with bigger economies, measured by real gross domestic product, than Germany and the other central powers, and used it to their advantage. During the Great War the allies produced four times as many tanks, three times as many aircraft and twice the number of machine guns as the German side. As Harrison notes: “The Allies produced far more munitions, including the offensive weaponry that finally broke the stalemate on the Western front.”

There was another paper in the collection that also sparked my interest, from Nick Crafts, also of Warwick University, where he is professor of economic and economic history. That Britain lost her position as the world’s leading economy in the first half of the 20th century is well known. Fighting two world wars was central to that. In the aftermath of the Great War, and for years afterwards, the British economy could be described as “walking wounded”, he writes.

Crafts sets out clearly the extent of the loss of economic advantage incurred by Britain as a result of the Great War. It is customary to focus on the costs of the war itself, which as he notes, were considerable: “Britain incurred 715,000 military deaths (with more than twice that number wounded) and the destruction of 3.6% of its human capital, 10% of its domestic and 24% of its overseas assets, and spent well over 25% of its GDP on the war effort between 1915 and 1918.”

But, as he points out, this was only part of the effect, as “economic damage continued to accrue throughout the 1920s and beyond”. The Great War ushered in a period of high unemployment and high government debt, with the last of the latter not paid off until three years ago under George Osborne’s chancellorship. Government debt rose above 100% of GDP in 1916 and did not come back down below that level (having hit 259% of GDP in the immediate aftermath of WW2) until 1963.

Sunday, November 04, 2018
Recession is a risk to these best-laid plans
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.

You might think after the week we have just had that my cup runneth over. You wait a long time for a budget, and then we have one that was bolder and more interesting than expected. Then, a few days later there is another big event for economy-watchers – we lead quite sheltered lives – the Bank of England’s quarterly inflation report.

Actually, without sounding too curmudgeonly, this has not been the finest hour for economic policymaking. Some of the budget measures came too late for the Office for Budget Responsibility (OBR) to fully assess and properly incorporate in its economic forecasts.

And all of the budget came too late for the Bank to include in its assessment. The forecasting exercise that forms the backdrop to its inflation report is not just a back of the envelope calculation. A couple of days was too short a time to do it. In that respect, the inflation report was unfinished business.

It was not, however, message-free. The big picture of the budget was that Philip Hammond was presented with a windfall for the public finances and spent it, or rather used it to pay for Theresa May’s 70th generous birthday present for the NHS and a tax cut next year in the form of more generous income tax allowances.

That should not have been too much of a surprise, despite the chancellor’s reputation as the most conservative fiscal conservative you will come across. The OBR had signalled on October 19, 10 days before the budget, that stronger tax receipts would mean borrowing at least £11bn lower this year than it had expected. These things have a habit of carrying over to future years.

The big picture from the Bank was that it would like to get on with the job of raising interest rates, but Brexit uncertainty is holding it back for the moment. Had it had a chance to incorporate Hammond’s fiscal expansionism, which will boost the economy by 0.3% next year according to the OBR, that hawkish message would have been reinforced even more in its numbers.

On this view, and assuming a smooth Brexit, the Bank remains unlikely to raise rates until after Britain leaves the EU at the end of March next year but could do so two or three times before Mark Carney quits as governor in January 2020. That would take interest rates close to the 1.5% level at which the Bank would start unwinding its quantitative easing.

Will things turn out this way, or could a growth stumble upset the best-laid plans of both Hammond on the public finances and the Bank on interest rates?

You can put a cigarette paper between the Bank and the OBR’s growth forecasts, but not much of one. Both agree that the economy will grow by just 1.3% this year, its weakest since the crisis, despite a good third quarter. The OBR then thinks growth will average 1.5% a year, the Bank 1.7%, even without including the fiscal boost. Its optimism may surprise people but Professor Costas Milas of Liverpool University points out that there has been an optimistic bias to the Bank’s recent growth forecasts, even since the referendum.

Sunday, October 14, 2018
A new dawn for pay - or another false one?
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.

It has been a very long time in coming. So long indeed, that looking forward to a meaningful revival in pay and productivity has become the economic equivalent of Waiting for Godot. I won’t spoil the plot of the play but when I saw it, it went on a bit.

But has the moment finally arrived? The latest figures on productivity – the amount we produce for every hour we work – showed an uptick. As the Office for National Statistics reported, there was a 1.4% rise in the year to the second quarter, and this was the seventh successive quarter in which productivity had grown on this basis.

A sustained revival in productivity, as noted here, is the perhaps the most important positive development that could happen to the economy. I don’t have to quote Paul Krugman’s deadpan observation that “productivity isn’t everything but in the long run it is nearly everything”, but I will.

Productivity is the ultimate driver of economic growth and any improvement helps competitiveness, the public finances and is intimately connected to pay. And on this, it was a neat coincidence that Andy Haldane, the Bank of England’s chief economist, appointed a few days ago to also chair the government’s new industrial strategy council – with part of its aim to raise productivity – is also more upbeat on pay.

In a speech to the Acas Future of Work conference, he discussed the “puzzling pattern of rich jobs but poor pay growth”, the biggest reason for which has been weak productivity. As he put it: “Productivity growth pays for pay rises, at individual firms and for the economy as a whole. Over the past ten years, productivity has barely grown in the UK.” A lost decade for productivity largely (but not entirely) explains the lost decade for real wages.

But now, he suggested, a new dawn is breaking for pay. Average earnings growth has picked up to 2.9% and the Bank’s own evidence on private sector wage settlements suggest they are running at 2.8% so far this year, and above 3% in IT and construction. The 1% public sector pay cap, he noted, “has now been lifted and decisively so.” And, perhaps most tellingly: “Measures of labour market tightness have increased to their highest levels since before the crisis and, in some cases, ever.”

When a member of the Bank’s monetary policy committee speaks of stronger pay growth, there is always a swings and roundabouts aspect of it for households, certainly those with mortgages. The stronger that pay is, the more emboldened the Bank will feel in raising interest rates.

But the central question is a different one. Is this really a new dawn for productivity and pay? Just when we were ready to go home, has Godot lumbered into view?

Let me take productivity first. The ONS, when reporting the upturn, also noted that at 1.4%,”this remains noticeably below the long-term trend observed before 2008 when productivity growth averaged nearly 2% per year”. There are also a couple of clear caveats about the figures.

Sunday, October 07, 2018
A Brexit deal by Christmas? Even that's too late as uncertainty bites
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.

And so it goes on. Businesses hoping for clarity on Brexit from the party conference season were hoping in vain. With less than six months to go, there are at least six different possibilities.

They include a failure to negotiate a withdrawal agreement with the European Union; a failure to get a deal through parliament; a second referendum – now more or less backed by Labour; a general election; and an extension of the Article 50 Brexit process. Labour has helpfully said it will oppose any deal negotiated by Theresa May, while the Tory “chuck Chequers” crew seems happy to join Jeremy Corbyn in the division lobby when the time comes.

The possibilities also include, of course, an outbreak of sweetness, light and common sense on both sides and an agreement to leave the status quo in place during what is likely to be a long transition during which Theresa May’s “deep and special partnership” with the EU is negotiated.

There are signs of optimism this weekend from EU officials, including the Commission president Jean-Claude Juncker, that an agreement on withdrawal is close, and this has boosted the pound. However, it is not yet clear what the solution will be to the Irish border issue, though it could involve Britain effectively staying in the customs union for a very long time, and Brussels is a very long way from accepting Mrs May's Chequers' proposals as the basis for future negotiations.

Were there to be an agreement in the next few weeks there would be a huge sigh of relief from business. I am sceptical of whether it will bring a significant “deal dividend” for the economy, as promised by Philip Hammond at the Tory conference, but it has to be infinitely better than a disruptive and highly damaging no-deal Brexit. As a way of killing of Britain’s car industry, and others, no-deal would be hard to beat.

The chancellor, who was deprived by the prime minister of the chance to announce the ninth successive fuel duty freeze in his speech – a tax that is withering on the vine so badly that it cannot be too long for this world – has to manage the “sunlit uplands” that will follow a deal; the promised end of austerity next year. This for a chancellor who reportedly told cabinet colleagues that there was no money left after the National Health Service’s 70th birthday settlement.

All that will come later. For now, the uncertainty persists. What impact is it having? That the economy has slowed is not in doubt. Latest official figures show that gross domestic product (GDP) growth has slowed to 1.2%, just over a third of its rate in late 2014 and early 2015, when the economy was getting into its post-crisis stride. Growth in the first half of the year was its slowest for six years, when the eurozone crisis was bearing down on Britain’s economy.

The interesting thing about the growth slowdown is that it is more or less in line with the view of the majority of economists, and me, about the likely short-term consequences of Brexit, which is that Britain’s GDP would be around 3%, or roughly £60bn, lower by 2020 as a result.