Sunday, May 15, 2022
The drivers of growth risk going into reverse
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. Not to be reproduced without permission.

The mood has darkened, even as the days are getting longer. The economy is not so much falling off a cliff as entering a kind of deep freeze, which unintentionally rhymes with one of the main causes, the cost-of-living squeeze. Recent surveys showing sharp falls in business and consumer confidence show that the wisdom of crowds works. People and businesses knew instinctively that something was up, and they were right. The pound’s weakness is becoming quite a thing too, so the foreign exchange markets are also on to the story.

At times like this, it is useful to go back to first principles, and what I describe in my book Free Lunch as “the most useful equation in economics”. This tells us that the economy, gross domestic product (GDP), consists of consumer spending, plus investment, plus government spending, and plus exports, though minus imports.

On the face of it, the figures we had a few days ago, for the first quarter of the year, were not that bad. GDP rose by 0.8 per cent on the quarter, which is better than it does in normal times. Over 12 months the economy grew by a hefty 8.7 per cent, reflecting the comparison with a very weak first quarter of last year, when the country was in lockdown. That 8.7 per cent figure means that, while we have undoubtedly seen the best of the year already, it would be statistically very difficult, if not impossible, for the economy to show an annual fall this year, in the sense of 2022’s GDP being lower than in 2021.

I hate using the expression “the devil is in the detail” but on this occasion it really is. One bit of detail which was widely reported is the slowdown in GDP during the quarter, from a rise of 0.7 per cent in January, to no growth at all in February and a fall of 0.1 per cent in March.

When the February figures were published, I was able to offer the reassurance that, without a sharp fall in NHS test and trace activity, there would have been decent growth on the month. No such reassurance is available for March, sad to say. The weakness was genuine and bodes badly for the second quarter, which we are now in the middle of, and which will suffer from the twin effects of the intensification of the cost-of-living squeeze and the extra bank holiday for the Queen’s Platinum jubilee. To remind you, the economy shrank slightly in the second quarter of 2012, when there was an extra bank holiday to mark the diamond jubilee.

Going back to my equation, the March GDP data, in combination with the first quarter figures, tell us something useful about consumer spending, the biggest component of GDP, accounting for just over 60 per cent of it in normal times.

Consumer spending rose by 0.6 per cent in the first quarter, which again was not bad, but even before the intense phase of the cost-of-living crisis was 0.5 per cent lower than in the pre-pandemic period in the final quarter of 2019. There was also, as the monthly figures show, a lot of the weakness as the quarter went on, particularly affecting spending on cars. So-called consumer-facing services are 6.8 per cent down on where they were in February 2020 before the pandemic struck.

Sunday, May 01, 2022
£450bn and counting - the cost in debt of the pandemic
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. Not to be reproduced without permission.

There was a time, not so long ago, when it was impossible to get away from Covid-19, which dominated the news agenda for nearly two years. One day we will be able to tell our grandchildren that we were there when Professor Chris Whitty said: “Next slide please”. The pandemic, of course, had a huge human cost, which continues.

Latest estimates from the Office for National Statistics are that there have been 174,413 deaths involving Covid since March 2020 in England and Wales, and 126,619 “excess” deaths. For the latest reporting week, to April 15, there were 1,003 deaths involving Covid, in 644 of which it was the underlying cause. Other figures, from the government’s coronavirus dashboard – now of less interest because mass testing has ended – suggest 2,297 UK deaths within 28 days of a positive test in the latest seven days.

As well as the human cost, there has been a significant economic cost. You might think that is all behind us. Now that the unemployment rate is slightly below pre-pandemic levels, at just 3.8 per cent, and gross domestic product has recovered to where it was on the eve of the pandemic, it would be easy to conclude that we have quickly returned to normal. But there are still nearly 600,000 fewer people in work than there were, and some of the other economic effects are enduring.

That includes the impact on the public finances, and this is a good time to be looking at that. A few days ago, official figures covering the 2021-22 fiscal year were published. They showed that, while the budget deficit came down sharply compared with 2020-21, when most of the damage to the public finances was done, it was both above official forecasts and historically high.

The deficit fell from £317.6 billion in 2020-21 to £151.8 billion in 2021-22, thus dropping from the highest to the third highest on record (the second highest was during the financial crisis). For once the official forecaster, the Officed for Budget Responsibility (OBR) was too optimistic, the deficit coming in a hefty £24 billion above the forecast it made only last month, though the gap should narrow as later data comes in.

The latest figures also provide a running score for the effect of the pandemic, and the economic measures brought in to counter it, on government debt. At the end of March, roughly the wend of the 2021-22 fiscal year, public sector net debt was £2,343.8 billion, more than £2.3 trillion, and equivalent to 96.2 per cent of gross domestic product.

Two years earlier, at the end of March 2020, the debt was £1,793.1 billion, nearly £1.8 trillion, or 82.8 per cent of GDP. I could have started the comparison earlier, given that the first lockdown started in March 2020, as did the furlough scheme, but there was only a small increase in government debt between the end of February and the end of March then.

Both sets of numbers are large and the later ones are considerably larger than those earlier. Government debt at the end of March this year was £551 billion bigger than two years earlier. Relative to GDP it went up from just over 80 per cent to knocking on the door of 100 per cent.

Most of this increase in debt was due to the pandemic, both the effects of a profound economic shock on public expenditure and tax revenues, and the cost of the measures introduced by the chancellor in response to that shock. There was also, embarrassingly for the Treasury, as the guardian of the public purse, widespread waste and fraud. Purchases of unusable personal protective equipment and tales of suitcases of money at airports containing Bounce Back loans do not suggest a tightly run ship.

Sunday, April 24, 2022
A groggy global economy has lost its mojo
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. Not to be reproduced without permission.

It is a while since I have done it but there was a time when no year was complete without two pilgrimages to Washington for the annual meetings of the International Monetary Fund and World Bank, the “twins” which owe their existence to the Bretton Woods conference of 1944, the 80th anniversary of which we will soon be marking.

The spring and autumn IMF/World Bank meetings were where the world’s financial movers and shakers gathered, and mainly still do, not just finance ministers and central bankers but also a huge private sector contingent.

These gatherings used to move markets, particularly the smaller G7 meetings of finance ministers and central bankers, but it is a while since they have done so. It means that a lot of the interest is generated by the IMF’s new view of the world economy, published a few days ago.

IMF forecasts are often mocked for their accuracy, as are most economic forecasts. But there is no document as comprehensive in its analysis of the global economy as its World Economic Outlook, published twice a year, in April and October, with updates in January and July.

The big stories of the IMF’s new forecast are well known. Had the UK government not made such a thing of its “fastest growth in the G7” boast, I do not suppose this aspect of the new forecast would have got as much attention as it did.

But the new forecast shows that the UK’s growth of 3.7 per cent this year is pipped by Canada and equal to America. I pointed out last week that, thanks to lockdown quirks, the UK can get 3.7 per cent growth in 2022 even if the economy flatlines for the rest of the year. Next year, with predicted growth of 1.2 per cent, the UK is at the bottom of the G7 league. From hero to zero. Those who live by the IMF sword die by it.

That, while embarrassing, was not the big story. It was that, thanks to the Russian invasion of Ukraine, the global growth outlook has deteriorated. In January the IMF expected 4.4 per cent global growth this year. Now it is 3.6 per cent, a big revision in matter of weeks. The growth prediction for advanced economies is revised down from 3.9 to 3.3 per cent, and that for emerging and developing countries from 4.8 to 3.8 per cent.

At the heart of the conflict, Ukraine’s economy is predicted to contract by 35 per cent this year and Russia’s by 8.5 per cent. The impact on the rest of the world is “worldwide spillovers through commodity markets, trade, and financial channels” and “even as the war reduces growth, it will add to inflation”. Governments, having spent heavily fighting the pandemic, have limited room to spend to offset these effects, according to the IMF. Rishi Sunak would concur with that.

Sunday, April 17, 2022
Don't expect a recession, but don't bank on much growth either
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. Not to be reproduced without permission.

We have got used to very odd things happening in recent years and another would be if, so soon after the biggest recession for nearly a century – 2020 was the worst year since 1921 – another was to come hard on its heels. This would be the classic “you wait ages for a bus and two come along at once” situation.

It would also be highly unusual, certainly in recent times. You may recall that, after the global financial crisis of 2008-9, official figures suggested that the UK was experiencing a “double-dip” recession and was on the verge of a triple-dip. But the figures implying that were revised, so the economy grew from 2009 to 2020. Before that the economy recorded an unprecedented 63 consecutive quarters of growth, from the spring of 1992 to early 2008.

The worry now arises from a combination of two things. The first is that the economy slowed to a crawl in February according to monthly GDP (gross domestic product) figures, growing by just 0.1 per cent. This was before the full impact of the second factor, the cost-of-living crisis which will result in one of the biggest squeezes on real incomes on record.

This combination of factors had some economists, if not predicting outright recession, at least flirting with the R-word. Ruth Gregory of Capital Economics said the weak figure “increases the risk of a contraction in GDP in the coming months as the squeeze on household real incomes intensifies”.

Samuel Tombs of Pantheon Macroeconomics predicts a 0.4 per cent fall in GDP in the second quarter which, on the now traditional “two successive quarterly declines” definition, would take us halfway to a recession. Thomas Pugh of RSM UK, a tax, audit and consulting firm, said that it would not take much more of a rise in oil prices or disruption to supply chains to push the economy into recession.

Today then, I have good and bad news for you. Let me start with the good news. That disappointing 0.1 per cent rise in GDP in February, which apparently showed the economy teetering on the brink, was not quite what it seemed.

Not for the first time over the past two years the figures were distorted, in this case by NHS Test and Trace and the vaccination programme. There was a 47 per cent fall in NHS Test and Trace activity between January and February and a 65 per cent drop in vaccinations as the booster programme wound down.

Having been boosted by these activities in December and January, their unwind subtracted 1.1 percentage points from the economy’s monthly growth rate in February. Yes, without that factor, GDP would have risen by a robust 1.2% on the month.

Sunday, April 10, 2022
A very unhappy anniversary for the Bank of England
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. Not to be reproduced without permission.

Timing can be very cruel. In just over three weeks the Bank of England will be celebrating the silver anniversary of independence; 25 years in which it has been responsible for the setting of interest rates and other aspects of monetary policy. I can remember as if it were yesterday, within days of his becoming chancellor, the press conference at which Gordon Brown made his bombshell announcement.

Had this anniversary happened a year ago, it would indeed have been a cause for celebration. Inflation this time last year was a touch below the official 2 per cent target and, in May 2021, was almost exactly on it, at 2.1 per cert. The Bank’s actions during the pandemic had helped steer the economy through a period of disruption and uncertainty and, in the spring of last year, the economy was growing robustly, without a care in the world.

Things look rather different now. The country is gripped by a cost-of-living crisis and businesses are reeling under the impact of sharply rising costs. The Bank itself expects inflation to hit 8 per cent very soon and warned last month that it could be even higher by the end of the years. It may nudge 10 per cent.

This makes it the worst kind of anniversary, one of badly missed targets and an inflation cat that is not only out of the bag but is cocking a snook at the Old Lady of Threadneedle Street. This, though uncomfortable for everybody, may be no bad thing. It means that questions can be asked, rather nodding through the current monetary policy framework as an unalloyed success.

One thing should be said at the outset. There should be no return to the days when chancellors set interest rates, often for political reasons. While the Bank’s mandate was clumsily drafted – no central bank could be expected to exactly hit its target “at all times” – the 25-year inflation record has been a good one. Even including the current surge, inflation has averaged exactly 2 per cent over the past 25 years.

Independence also broke the British pattern of panicky interest rate hikes, usually in response to a falling pound. Official interest rates have been low, perhaps too low for some, averaging just 2.6 per cent over the past 25 years, compared with 10.4 per cent over the previous quarter-century. That was not all as a result of independence, but it was a big factor.

Independence was not all about monetary policy. The Bank lost its role in supervising the banking and financial system in 1997, and almost lost its governor, the late Sir Eddie George, in protest over the manner in which it was done. It got it back after the financial crisis and the system has been robust, through Brexit and the pandemic, since.

I cannot, however, ignore the elephant in the room, the fact that in this anniversary year inflation will peak at several times the official 2 per cent target. Some think the target to be changed, say to 4 per cent, while others think that there should be a different target, perhaps for the price level rather than the rate of change of prices, or for money GDP (gross domestic product), the combination of growth and inflation.

Sunday, April 03, 2022
UK exporters are struggling - and it isn't hard to see why
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. Not to be reproduced without permission.

Trade is often the poor relation in discussions of the UK economy, though it is one of the most requested topics among readers, some of whom have a memory of the time when the trade figures were the number one economic indicator, often leading the news.

There are a couple of reasons for the Cinderella status of trade statistics. One is that these days they are published on the same day and at the same time as a clutch of other figures, including monthly gross domestic product, a relative newcomer which grabs most of the attention.

A second reason is that, in these days of huge capital flows, trade figures no longer move the markets in the way they used to. The era when a bad set of trade figures could, by putting pressure on the pound, force interest rates up and, in 1970, may have cost Harold Wilson, then then Labour prime minister, the general election, are long gone.

They still tell us something, however, and that something can be quite important. Lost in the statistical flurry last month was the news that the UK’s trade deficit in January was easily the biggest on record, at a huge £26.5 billion for goods, and £16.2 billion for goods and services taken together.

These were not figures for those of nervous disposition. The deficit in goods is usually about £12 billion, while the overall deficit is normally well below £10 billion.

A new method introduced by HM Revenue & Customs at the start of the year for collecting data on imports and exports from the EU may have played a part. HMRC thinks that the figures for imports have not been much affected but that some of the sharp fall in exports to the EU will have been due to the change.

Even so, the figures were a reminder that, when it comes to the balance of payments, the UK is pretty unbalanced. After a temporary break in 2020, when there was a rare surplus in total trade, of £2.9 billion. Normal service was resumed last year, with a deficit of £28.8 billion. Last year’s current account deficit was £60 billion, 2.6 per cent of gross domestic product, and it is officially predicted to widen.

The deficit in trade in goods, £129.4 billion even in 2020, widened to £155.4 billion last year, 10 times what it was a quarter of a century ago. Forty years ago, the UK ran a trade surplus in manufactured goods, and had always done so. The last time the UK had an overall surplus on trade in goods also was in the early 1980s, thanks to North Sea oil.

Which brings me to one of my points today. The UK’s oil surplus lasted until the early 2000s but now that trade too is in deficit, to the tune of £4.4 billion last year and a record £1.6 billion in January. Given the surge in oil prices, and those for imported gas, that deficit is only going to get bigger, probably very significantly so.

The other worry, recently highlighted by the Office for Budget Responsibility (OBR), and mentioned here a couple of weeks ago, is the UK’s disengagement from international trade.

Sunday, March 27, 2022
Our firefighting chancellor tinkers while inflation burns
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. Not to be reproduced without permission.

It is a few days since Rishi Sunak’s Spring Statement and, if it registered, you have probably forgotten most of it by now. That, without being unkind, is probably no bad thing, The crisis chancellor, for that is what he has been since being unexpectedly elevated to the job in February 2020, is still firefighting.

For those of us with long memories, his latest effort was steeped in nostalgia. Alan Greenspan, the former head of America’s Federal Reserve once successfully nominated for an honorary knighthood by Gordon Brown, but whose reputation suffered in the financial crisis, once described low inflation as “that state in which expected changes in the general price level do not effectively alter business and household decisions.”

During a low inflation era, in other words, people and firms do not constantly have one eye on inflation when they are deciding what to do. The same is true of chancellors. It is a very long time since a chancellor has stood up in the House of Commons to confront high inflation and a cost-of-living crisis. It last happened more than 25 years ago, before Bank of England independence.

One of the big reasons for independence, indeed, was because Brown did not want to spend his chancellorship inflation firefighting, freeing himself up make the Treasury an economics ministry, charged with the task of improving the economy’s long-run performance.

Sunak, although his hero as chancellor is Nigel Lawson, has a similar ambition. He genuinely wants to improve the UK economy’s performance. He wants to get British businesses to invest more and spend more on research and development (R & D).

It offends him that the UK does so much worse than competitor countries on investment and R & D and that the best the Office for Budget Responsibility (OBR) can offer for the medium-term is productivity growth of 1.3 per cent a year, two-thirds of its long run average. The OBR, it should be said, has an optimism bias when it comes to its productivity forecasts.

Our supply-side chancellor, who I think is the only holder of the post to possess an MBA, a Master of Business Administration from America’s Stanford University which he studied for courtesy of a Fulbright scholarship, wants to change this. He would love nothing more than to spend his time absorbing the evidence and research and talking to businesses about what they need from him to improve their investment and R & D game.

There will be some of this over the next few months in the run-up to the autumn budget but, while it would be wrong to pre-judge, it is probably not wise to hold your breath for anything genuinely transformational, particularly with a big increase in corporation tax, from 19 to 25 per cent, due in April next year.

How did the chancellor respond to the cost-of-living crisis? One thing they teach you at business school is the importance of focus. Concentrate hard on the matter in hand and try to resolve it.

Sunday, March 20, 2022
Lessons from the 1970s on when policy goes wrong
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. Not to be reproduced without permission.

It is the chancellor’s spring statement on Wednesday and, according to an authoritative report by my colleague Tim Shipman in this newspaper last week, Rishi Sunak has been preparing for it, in part, by studying the oil shocks of the 1970s, and being briefed by officials on them. That is no bad thing for, while the oil price has come down in recent days – though not much so far at the petrol pumps – it is always good to be prepared.

Neither the chancellor nor I suspect the officials who briefed him had been born at the time of the first oil shock in the 1970s, the decision by member of Opec (the Organisation of Petroleum Exporting Countries) to suspend oil exports to America in October 1973 and the subsequent quadrupling of the oil price.

But, while there are parallels between the threat of an energy supply and price from Russian oil and gas, the differences between the current situation and the 1970s are greater than the similarities. The old cliché about the 1960s was that if you remember them, you weren’t there. That was always a bit of an exaggeration, though that may be because the swinging sixties never made it West Bromwich.

If you lived through the 1970s, which through the prism of history looks like a grim parade of runaway inflation, strikes, the three-day week, IRA bombs and impossibly flared trousers, you will know that it was not as bad as that, and it was a Technicolor time of cultural awakening, particularly for music. There was also, though nobody used such a crass term as levelling up, a bit of unintended regional rebalancing.

London in the 1970s was on the ropes, crime-ridden, polluted and suffering population decline. Its subsequent revival was far from guaranteed.

The important thing about the first Opec oil shock is that inflation was already high when it happened. Retail price inflation, the measure of the time, rose to more than 10 per cent in 1971 and was around 9.5 per cent during 1973, in the months before the oil price shock. That pushed inflation up into the mid and upper teens during 1974. But the full extraordinary inflation peak, 26.9 per cent in August 1975, came well after the surge in oil prices.

That it did so was because the inflation of that period was the result of a cocktail of factors, and not just the oil price. The inflation of the very early 1970s was partly a follow-though from sterling’s November 1967 devaluation. The pre-Opec inflation in 1973 was a consequence of the Barber boom, after the then chancellor Anthony Barber, the economy in that year growing at its fastest rate in the post-war period, at least until last year pipped it. 1973’s growth was not, however, preceded by a pandemic slump in activity and the biggest drop in gross domestic product for a century.

The very high inflation of 1975, after the oil price shock, was due to what economists call second round effects. Wages and salaries grew by 29.4 per cent in 1975, according to a now discontinued official series. The wage-price spiral was alive and well and living in Britain.

In economic terms, perhaps the biggest impact of the inflation of the 1970s was that it brought about a fundamental change of policy. Monetarist economists such as David Laidler and Alan Walters made their names by predicting that the rapid money supply growth of the early 1970s would bring about very high inflation.

Those predictions, together with the Labour chancellor Denis Healey’s failed attempt to expand the economy out of recession caused by the oil shock, led directly to the monetarist revolution. James Callaghan, the Labour prime minister, buried post-war Keynesianism with his famous “you can’t spend you way out of recession” speech in 1976, written by his son-in-law and former Times economics editor Peter Jay.