Sunday, December 24, 2017
Only an end to the uncertainty will lift all our spirits
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 was John Maynard Keynes, the greatest economist of the 20th century, who taught us about the importance of confidence, or as he dubbed it “animal spirits”, in the economy. As he put it in his General Theory of Employment, Interest and Money in 1936, “most of our decisions to do something positive, the full consequences of which will be drawn out over many days to come, can only be taken as the result of animal spirits — a spontaneous urge to action rather than inaction”.

As we approach the end of an interesting year, there is no doubt that animal spirits are lacking in Britain. The world economy is enjoying a revival but this country is in the slough of despond. Friday’s modest gross domestic product revision reflected growth that occurred more than a year ago. The question is whether anything can be done to lift the spirits.

Consumer confidence has been negative (more people expect things to get worse than better) all year, according to the closely watched GfK survey. The December reading, of -13, is lower than the levels the index tumbled to in the immediate aftermath of the EU referendum in June last year.

In 2015, consumer confidence enjoyed its best year in the survey’s history, with zero inflation and strong employment growth leaving households very chipper. Now, Joe Staton of GfK foresees further declines in confidence in 2018 after what he describes as a “slipping and sliding year”.

The animal spirits of consumers are important, and will help determine how the economy does in 2018. Animal spirits are, however, usually associated with business, and here they are notably absent. The latest results of the Bank of England’s decision maker panel, established to probe the implications of Britain’s withdrawal from the EU, were released a few days ago.

The panel, of about 2,500 executives from small, medium and large businesses across all sectors, is run by the Bank with Professor Paul Mizen of Nottingham University and Professor Nicholas Bloom of Stanford University.

Members have been disappointed by sales growth over the past year and expect a slowdown next year. Sales growth in cash terms, 4.9% in the year to the third quarter, is expected to slow to 3.7%. That slowdown is alongside continued high inflation, which they expect to slow only modestly from its current 3.1% to 2.6%. The panel is also gloomier about jobs, with recruitment growth expected to be lower in 2018.

The panel, interestingly, is more downbeat about wage prospects than are the Bank’s regional agents. While the agents see a modest upturn, the panellists think that wage growth will, if anything, dip from this year’s 2.6% to 2.5%. They also offer little succour to those who expect that falling migration from other EU states will boost wages, with an even split between those expecting to see stronger wages and those anticipating them to weaken.

As things stand, some businesses are squeezing wages to compensate for the impact of sterling’s fall on costs such as raw materials, while others are boosting wages to compensate for the rising cost of living.

The big picture, which explains the lack of animal spirits, is that businesses think they face a weaker sales environment because of Brexit. Asked about the impact on sales in 2020, by a margin of 45% to 18% they expect a fall. The most exposed sectors are those that export to the Continent, and include high-value professional services, manufacturing, transport and information and wholesaling and retailing. In each of these, the probability of a drop in sales in 2020 is put at between 25% and 35%.

Every survey tells a similar story. The Lloyds Bank Business Barometer has edged slightly higher but concludes that “firms remain concerned about the outlook”, with larger companies particularly worried about Brexit.

The Recruitment and Employment Confederation found a rare unanimity among 200 employers it surveyed, with not one expecting economic conditions next year to be less challenging than in 2017, and a decline in confidence about investment and hiring decisions.

What can be done to lift the mood? A stronger global economy is, as I said, not preventing slower growth in Britain. Neither are buoyant stock markets, a reflection of global rather than British strength. Christine Lagarde, managing director of the International Monetary Fund, was right to say the Brexit process is damaging the economy, as her organisation and others had predicted.

Theresa May is striking an upbeat tone after just making it to the finish line for the first phase of Brexit negotiations, but, like a Guide leader telling everyone to buck up, it doesn’t quite work.

The end of the first phase is supposed to be followed by early agreement on the length of the transition period after Britain formally leaves the EU at the end of March 2019. Even here, though, the two sides have managed to sow doubts. The prime minister’s request, in her Florence speech, for a transition period lasting roughly two years has been rather petulantly pegged back to 21 months (the end of 2020) by Michel Barnier, the EU’s chief negotiator.

They are, in truth, both wrong. Two years will not be enough for a transition during which a comprehensive trade agreement between Britain and the EU can be negotiated, with all the bells and whistles it will require. It will need to be much longer, as sensible people in business recognise. The first priority will be a transition deal, and agreement on rolling over the 750-plus deals the EU has with non-EU countries. Only then will the talks be able to proceed to an outline trade agreement. Months of uncertainty, or longer, loom.

Britain’s approach needs to be realistic. Any hope that the end of phase one would be followed by an outbreak of realism has proved unfounded. The prime minister’s goals are inconsistent, wanting comprehensive, frictionless trade, alongside the ability to set our own rules and regulations. Nothing has been learnt in the past 18 months, and I would not expect much greater clarity in May’s promised speech next month. As I wrote recently, it’s a case of still clueless on Brexit, and business knows it.

There are good ideas out there. The Institute for Government has some. It suggests a deal could involve an EU-UK economic area, “bespoke Norway”, or a comprehensive trade area on the Ukraine model, with participation in the single market for sectors that remain aligned in regulatory terms. Or there could be a Canada-plus style of free trade agreement, with a “plus” for some services. The institute also suggests a new regulatory partnership, to manage divergence between EU and UK rules.

The key thing is to have something workable to aim for. In the absence of any such certainty, those animal spirits will remain depressed. And the economy will suffer.