Sunday, November 30, 2003
Waiting for the bounce
Posted by David Smith at 07:03 AM
Category: David Smith's other articles

Consider this. In the third quarter the American economy grew by 8.2% on the back of tax cuts and interest rates of just 1%. There is no sign yet, in spite of that runaway growth — the strongest since 1984 — that interest rates are going to be raised.

Here, however, Britain’s economy managed just a 0.7% growth rate in the third quarter, the Bank of England has raised rates and will do so again soon (but not this week), and taxes are going up. Are we now seeing, after years in which the American and British economies seemed umbilically joined, the first real sign that America is decisively breaking away?

Before more statistically minded readers burst a blood vessel, let me clarify the figures. The US convention is to report quarterly figures on an annualised basis.

Last week’s figures showed an upward revision, anticipated by my colleague Irwin Stelzer, in third-quarter growth from 7.2% to 8.2%. That doesn’t mean the US economy is 8.2% bigger than it was a year ago. It does mean it grew by a shade over 2% in the third quarter which, annualised (multiply by four and you get pretty close), gives that 8.2%.

Britain’s 0.7% growth, on the same basis, is thus an annualised rate of just below 3%. The gap is not as big as first appears but it is still significant. Broadly speaking, America is growing three times as fast as Britain (and we, in turn, are growing more rapidly than the rest of Europe).

Not only that, but the make-up of America’s growth was something finance ministers anywhere would give their eye teeth for. Private-sector investment surged (up 18.2% annualised) as firms regained confidence following a sharp rise in profits, up by no less than 30% on a year earlier. Exports were up strongly, imports by only a little. Consumer spending was robust (6.4% annualised growth) but not excessive. Government spending rose only slightly.

Here, even our more modest growth rate looked to be rather badly unbalanced. It relied on strong rises in household and government spending. Imports easily outstripped exports. Business investment fell sharply (more than 5% at an annualised rate), reversing what appeared to be the start of a revival in the spring. Growth was supported by a rise in inventories, never a good sign.

America is not, of course, going to keep growing at that rate. Wall Street’s response to the figures, and to a clutch of other data pointing to US economic strength, was muted. The economy is expected to slow to a more modest 3%-4% in the final quarter.

There are also justifiable fears about the “scorched-earth” nature of the recovery. Having thrown tax cuts, loose monetary policy and a lower dollar at the economy, growth was bound to happen. The question is whether it can be sustained for the whole of George Bush’s presidential election year, 2004, let alone beyond it.

But let us not be too sniffy. As in the second half of the 1990s, America is enjoying a productivity revival, with output per worker in the business sector rising about 5% annually since the beginning of last year. The latest extraordinary growth figures have to be set against loud warnings, until relatively recently, that the US economy would succumb to a “double-dip” recession.

And if there are questions about the sustainability of America’s recovery, the same is true in Britain. You write off the British consumer at your peril, but consumer confidence has dropped on the back of the Bank of England’s rate rise earlier this month and there is a mood of extreme nervousness among retailers. They suspect Christmas shoppers are just leaving it late, but what keeps them awake at night is the fear that the spending cavalry is not going to arrive at all.

Without the consumer, Britain’s economy is looking a little naked. Government spending continues to rise strongly, although the figures continue to show that most of that is dissipated in higher public-sector inflation. Exports are being held back by the weakness of markets elsewhere in Europe. The good news is that the euroland economies are enjoying a modest revival. The bad news is that this is being driven by their own export performance, not domestic demand.

Investment, meanwhile, is not happening. The EEF, representing Britain’s manufacturers, will report this week that the third-quarter investment slump was no aberration, and that firms expect it to continue. Investment is the key in the end to long-run growth.

Partly because of the weakness of investment, Britain’s productivity performance has not sparkled, particularly under this government. Two official reports just out confirm this. One is from Tony Blair’s strategy unit, the other is the DTI’s latest productivity and competitiveness indicators.

Both show that over the period 1989-2002, UK productivity growth outstripped the rest of the Group of Seven. Towards the end of that period, however, the DTI document notes, there has been “subdued productivity growth and little movement to close the productivity gap with our major competitors”. It adopts a system of green, amber and red lights to determine whether Britain is doing well or badly. Productivity gets a red light. Rising employment, it suggests, has brought less skilled and less productive workers into jobs, holding back overall productivity.

That may change, but there is no sign of it yet, and the weakness of investment is troubling. Growth in Britain in recent years has been good, if not great, in part because of the beneficial impact of a rising workforce. Now stronger productivity growth needs to take up the baton.

Until it does, you have to be more confident about America’s growth prospects. Compared with the rest of Europe, Britain’s economy is no tortoise. Compared with an American economy haring away like a supercharged Bugs Bunny, it is. And likely to remain so.

PS: The Downing Street strategy unit’s grandly named strategic audit, touched on above, is really just a collection of fascinating facts, a sort of Guinness Book of Records for policy wonks. It is available online at and armed with it you need never be short of a conversational gambit.

Did you know, for example, we are the most sociable people in Europe, with nearly 75% of us spending time with friends every week? I must be in the other 25%. This is despite the fact that crime is high in Britain, as it is, for some reason, in other English-speaking countries.

I know what you’re thinking, but you’d be wrong. Australia, not America, leads the way on crime. About a third of the population Down Under is a victim of crime each year, compared with a quarter in England and Wales, slightly less in Scotland, 20% in America and 15% in Northern Ireland.

We’re sociable although, as the unit admits, regional inequalities are wider in Britain than in other EU countries and getting wider, as are income inequalities, despite the government’s redistributive efforts. Amid the debate over whether rugby is a middle-class sport, the audit tells us that people in white-collar professional jobs are three times as likely to play sport regularly as unskilled manual workers.

I mentioned a few weeks back that China and India will soon overtake Britain in terms of gross domestic product. The strategy unit reports that on one measure, purchasing-power parity, which adjusts for relative prices, it happened a long time ago. China’s GDP is more than three times the size of Britain’s. India’s nearly twice the size. Measured like this, Britain is only the seventh-largest economy in the world, behind, in order, America, China, Japan, India, Germany and even France. Don’t tell Gordon Brown.

From The Sunday Times, November 30 2003



The top marginal personal tax rate in the US is now 35%. This also applies to may small busineses that incorporate but are taxed at the shareholders personal rates. Capital gains tax rates and taxes on dividends are both pegged at 15%. I'm fairly certain that much of the EU has higher rates of taxation. Where does England stand?

For me, I'll take the low cost of capital which has only gotten better in the US thanks to President Bush. Higher investment usually does coorelate to better after after tax returns.

Posted by: Gary Bezowsky at December 3, 2003 02:36 AM

The top rate of income tax in the UK is 40%, although it kicks in at a lower income level than in the US. Dividends are taxed as income. Capital gains tax on share disposals is 40%, although there is a tax-free allowance of around $12,000 a year.

Posted by: David Smith at December 3, 2003 09:11 PM

It's probably also worth noting that the headline rates don't tell the whole story. The UK system permits much less in the way of deductions than the US.

Posted by: Guy Herbert at December 7, 2003 06:22 AM