Sunday, August 12, 2012
Five-year credit drought crunches the recovery
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.

Let me start today with a simple statistical point. When the Bank of England came out with its new “zero” growth forecast for 2012 last Wednesday it was widely reported, particularly by broadcasters, that we can say goodbye to growth for the rest of this year.

But zero growth for 2012 in fact implies quite a lot of growth in the coming months. How so? The Office for National Statistics’ index of gross domestic product for 2011 was 102.6.

In the first half of this year it averaged 101.9, and in the Jubilee-affected second quarter only 101.5, pending revisions. We need an average of 103.3 in the second half just to achieve 2011’s average. By my calculations that requires 1% or so growth in both the third and fourth quarters.

It is, as they say, a tough ask and may not be achieved. But it is not a forecast of flatlining until 2013.

What does zero growth in 2012 mean in a wider sense? It means, however you slice it, and whatever data revisions come along, this is a disappointing recovery. Five years on from the “official” August 9 2007 start of the global financial crisis and credit crunch, the economy remains crunched.

Things have changed enormously in those five years, and it would be wrong to compare what people in authority were saying pre-crisis and now. But it is reasonable to look at how things have evolved since we knew the extent of the damage, at the economy’s low point in 2009.

Back then, in its August 2009 inflation report, the Bank predicted 3% growth for 2012. Its famous fan charts, which now tell us that in three years the economy could be growing by nearly 6% or shrinking by 1%, had a similar range back in 2009. As an aside, that range makes them next to useless for businesses and other users as a guide to what might happen.

To be fair to the Bank, when introducing that report, Sir Mervyn King warned that “recovery could be slow and protracted”.

The Treasury was even more upbeat with its numbers, predicting growth of between 3.25% and 3.75% for 2012 in the autumn of 2009, even as the economy appeared to be struggling to escape recession, and even when Alistair Darling, the then chancellor, was warning of the huge uncertainties that lay ahead.

When the coalition took over in May 2010, David Cameron and George Osborne lost no time talking of the huge challenges. But they also had a reassuring official forecast to draw on, the Office for Budget Responsibility predicting 2.8% growth for 2012. This was a forecast made after Osborne’s June 2010 budget, which announced the 2011 hike in Vat.

This is not to heap all the blame on the official forecasters, most non-official forecasts falling into the same trap. Maybe politicians, and the Bank, had to offer hope, for fear of making a bad situation worse.

Undoubtedly, however, the management of expectations could have been better. If people had been warned that things were so difficult we would be lucky to get any growth at all, the outturn would have been less disappointing.

By the same token, if back then the Treasury and Bank had believed the economy would be struggling to grow in 2012, maybe they would have put in a greater effort to prevent such an outcome.

By that I do not mean the necessary reduction of the deficit. We should not believe party propaganda on fiscal policy. Darling recognised Britain’s record budget deficit was unsustainable and began the task of cutting it. In 2010 he reversed the temporary Vat cut, increased the top rate of income tax and started drastically cutting public sector capital spending.

Osborne stuck with the capital spending cuts, raised Vat again but softened one planned Labour rise - employers’ National Insurance - and raised the personal income tax allowance. Growth may have been a touch stronger under Labour’s slower deficit reduction but not so you would notice.

Part of the reason for the growth disappointment has been that it has been one damned thing after another. Just as the uintended squeeze on households from high inflation begins to ease, so the impact of the eurozone crisis intensifies.

The latest trade figures show second-quarter exports to the rest of the EU were down 9.9% on a year earlier, even as non-EU exports showed an impressive 9.7% rise.

A credit crunch is, however, a credit crunch. Perhaps Osborne is too deferential towards King. Maybe the Treasury and Bank believed in a “creditless” recovery. Maybe they believed the forecasts.

The fact is, however, the response to the continued lack of credit in the economy, for small and medium-sized firms and households, has been piecemeal and mostly ineffective. We have had Project Merlin, credit easing, the NewBuy and other mortgage schemes, all attempting to get around the basic problem.

At no stage during this period have I had the impression that Osborne and King, sleeves rolled up, have been working together in a determined way to get credit flowing. The governor’s lack of enthusiasm has at times been palpable.

One thing the Bank has ploughed on with enthusiasm is quantitative easing (QE), launching a second round last autumn. I think we are entitled to more than a little scepticism about it.

Apart from the economic weakness that followed the latest round, QE is supposed to boost the money supply. Yet the Bank is honest enough to admit that in the nine months to June, £125 billion of QE only led to a £30 billion money supply boost.

Now all hopes lie with “funding for lending”, the £80 billion scheme launched last month to provide cheap funding for the banks as long as they maintain or increase lending.

Funding for lending is late, roughly by four years, and while I agree with it principle, the risk is of another damp squib. The Bank says its success will be hard to assess, and that it may only prevent lending from falling further over the next 12-18 months.

That would be yet another huge disappointment. Five years on, the economy is still in the grip of the credit crunch. We may be in its deadly embrace some time.