Sunday, December 01, 2013
Growth's back: now to rebalance it
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.


George Osborne’s autumn statement this Thursday could have been very different. The chancellor might even have been struggling to hang on to his job.

A few months ago the vultures were hovering over Britain’s economy, ready to swoop on the dead body of the recovery.

In what turned out to be one of the most poorly-timed interventions since 364 economists attacked the Thatcher government in 1981, just as recovery was getting going, Olivier Blanchard, the International Monetary Fund’s chief economist, warned Osborne he was “playing with fire”.

A year ago even respected bodies like the Institute for Fiscal Studies warned Osborne’s deficit-reduction strategy risked turning into a deficit-increasing strategy.

Public borrowing for 2012-13 of £135bn, which the IFS feared, would have been a huge setback. Instead it was £115bn. The deficit is falling and the Office for Budget Responsibility (OBR) will say it is falling a little more rapidly than it predicted in March.

I think this year, 2013-14, will see the first deficit in double instead of triple figures since 2008-9 (when it was £99.5bn), though the OBR may not go so far.

Had growth not materialised, Britain would have been the poster boy for the fashionable debate about whether Western economies are suffering “secular stagnation”. This, permanently weaker long-run growth, has been popularised by Larry Summers, former US treasury secretary.

We do not know yet what will happen to Britain’s growth over the long run, but quarterly growth rates of 0.4%, 0.7% and 0.8% so far this year, the latter confirmed in new gross domestic product figures, is a long way from short-term stagnation. The OBR will revise its growth forecasts higher.

Now the growth cavalry has arrived, just in time, what will Osborne do with it? The broad message this week will be the programme is workimg and that he intends to stick with it. It will also be to emphasise that there is a very long way to go.

That should mean two more things. One is that growth has to be nurtured. The other is that the coalition has not given up on achieving better balanced growth.

The latest GDP figures showed the scale of the challenge. Despite recent stronger growth, it will be well into next year before the gap between where we are now and where we were when the economy dived into recession in 2008, 2.5%, is eliminated.

On the question of balance, the recovery was always going to need consumer spending. So far it has needed it a bit too much. I have to mention business investment, which rose in the third quarter. But it was up a mere 1.4% on the quarter, and down 6.3% on a year earlier.

There are doubts about the reliability of the business investment numbers, as Mark Carney points out, but its fall contrasts sharply with a 2.4% rise in consumer spending over the past year. Business investment and net exports subtracted from growth. Consumer spending, helped by government and inventories, drove it.

Had exports and investment made a suitable growth contribution, we might have had 2.5% growth in the past year rather than 1.5%. Had they done so at the pace of the 1990s, growth could have topped 3%.

The announcement from the Bank of England, agreed with the Treasury, that in future the Funding for Lending scheme will focus on business rather than household lending, can with other tweaks be seen as evidence that lending to individuals can stand on its own feet, albeit it with the help of record low interest rates.

That can be tied with some Bank concerns about the housing market, reflected in its latest financial stability report. I would not bet on Help to Buy surviving for anything like its full three years.

But the move was also a recognition that business lending, to small and medium-sized firms (SMEs) still needs a lot of nurturing. On its own that will not give us an investment-led recovery but it will help. Lack of finance prevented some firms from exploring new export markets.

Lending to SMEs is still falling, according to Bank figures on Friday, so the shift of emphasis is welcome. We wait to see whether it works.

As for the decision to reduce implicit support for the housing market, we should not look for too much of an effect. Michael Saunders of Citi points out that of the 42 banks which signed up to use the Funding for Lending scheme (FLS), 14 have not used it at all, and use by the rest has been declining, from a peak of £9.5bn in the final quarter of 2012 to just £1.1bn in the second quarter of this year.

As he puts it: “Credit growth [to households] has picked up recently, but this seems to reflect the general improvement in banks’ health and the economic outlook, plus the Help to Buy (HTB) scheme, rather than the FLS.”

For this reason some dismiss Carney’s move as irrelevant but that is going a bit too far. It is the first explicit use of financial policy, in addition to the other weapons at the authorities’ disposal; monetary policy (interest rates and quantitative easing) and fiscal policy (tax and spending).

The two strongest messages we should take from the move is firstly, that the Bank does not intend to allow housing history to repeat itself, so there may be further more meaningful moves to calm the market if its financial policy committee deems it necessary.

The second is that Carney intends to be a financial policy activist while keeping rates low under his forward guidance. Indeed, this use of financial policy should be seen as pushing out the date when interest rates eventually rise

The trick for Osborne and Carney is to keep the consumer side of the economy growing - interestingly, taking the second and third quarters together, wages and salaries were 3.7% up on a year earlier - while boosting the contribution from exports and investment.

Some of that is outside Osborne’s hands - the latest eurozone numbers suggest the move away from the abyss has not resulted in the return of much growth - so Britain’s exports will continue to struggle.

Some of it is within his gift. Business thinks the government is moving too slowly on infrastructure, is deaf to its pleadings on business rates (bigger for many firms than corporation tax), and continues to load on costs and red tape. In this environment, it is unsurprising many firms have chosen to remain in their shells.

Businesses do not expect too much from politicians, and are wary of small changes trumpeted by chancellors as transformational. But they will be looking for something, amid the political pressure on the chancellor to respond to popular concerns about the rising cost of living.

The return of growth should not, under any circumstances, mean a big giveaway this week. Even if it sneaks down into double figures, public borrowing remains very high by past standards.

Growth provides an opportunity to ensure the deficit continues to fall and politicians, now and in future, are not tempted to spend or tax cut their way to popularity.

Two think tanks, Reform and Policy Exchange, set out proposals last week. Reform favours targeting pensioners and pensions, ending their exemption from National Insurance contributions and questioning the future of tax relief on pensions.

Policy Exchange called for new fiscal rules which would commit the government to reducing the public sector debt to GDP ratio every year, against the penalty of scrapping the annual indexartion of the personal tax allowance, benefits and any increases in public sector pay.

I doubt we will see too much of that this week, though the ball is in the chancellor’s court. At the Tory conference in September he pledged to deliver a budget surplus by 2020. We await the details of that, either this week or in the March budget.

In the meantime his task for the next 12 months is to enable growth that is not only stronger but better balanced.