Sunday, February 20, 2022
Private sector lags behind in our unbalanced recovery
Posted by David Smith at 09:00 AM
Category: David Smith's other articles

My regular column is available to subscribers on www.thetimes.co.uk This is an excerpt. Not to be reproduced without permission.

For as long as I can remember, people have observed that the UK economy is unbalanced. Many chancellors have taken office promising to restore the economy’s balance. None, I would suggest, has yet succeeded.

Usually, the imbalance was described in terms of an economy too reliant on consumer spending, and on too much money going into property rather than productive investment, The pandemic was supposed to be followed by a period of, as they say, “building back better”.

That remains an ambition, and it is a laudable one, but it is important to recognise that the starting point is an economy more unbalanced than ever. Economic nirvana is an economy driven by exports and investment, moving productivity growth – the ultimate driver of prosperity – higher.

Economic reality is rather different. The good news recently was that the economy is almost back to pre-pandemic levels, with gross domestic product in the final quarter of last year just 0.4 per cent below its level two years earlier.

Though that still means two years of lost growth it represents a rebound which is quicker than a typical recession-recovery cycle, which usually takes three years and, after the financial crisis, took five.

The nature of that recovery is, however, nevertheless a cause for concern. Consumer spending has done OK and, like GDP as a whole, is a mere 0.4 per cent below pre-pandemic levels. But exports, hit by Brexit as well as the pandemic, are a huge 18 per cent down. Business investment, which had stagnated after the EU referendum in 2016, is down by more than 10 per cent even on that underwhelming pre-pandemic level.

So if exports and business investment remain depressed, where has the growth been coming from? The answer is that it has been coming from the government. Samuel Tombs, chief UK economist at the consultancy Pantheon Macroeconomics, separated private sector and public sector GDP.

Spending by the government, in the form of public spending and public investment were 10.9 per cent higher, in real terms, in the fourth quarter of last year compared with two years earlier. In contrast, private sector GDP was down by 3.2 per cent. The private sector is not back to where it was before coronavirus and may take some time to do so. Its performance is more like a typical recession and recovery.

You may remember that in 2020, when the UK’s economic performance was worse than others, with the biggest drop in GDP in the G7, ministers and government supporters made much of the fact that the treatment of the public sector by the official statisticians artificially depressed this country’s GDP in comparison with others.

Well, what the public sector took away then, it is giving back now. In the final quarter of last year, according to the Office for National Statistics ONS), the largest contributors to the rise in quarterly GDP “were from human health and social work activities driven by increased GP visits at the start of the quarter, and a large increase in coronavirus (COVID-19) testing and tracing activities and the extension of the vaccination programme”. The private sector was some way behind.

The UK’s export performance is quite disturbing, though perhaps not that surprising. After falling very sharply in 2020, along with everything else, exports dropped again last year, by a little over 1 per cent. This was quite an achievement in a year in which, according to the International Monetary Fund, world trade volumes in goods and services rose by a very strong 9.3 per cent. In the context of these figures, global Britain looks like a sad joke.

You do not need to be Hercule Poirot to work out that Brexit, and a trade deal put together by the negotiating equivalent of Inspector Clouseau, has damaged Britain’s overseas trade, in both directions, whatever the new minister for Brexit opportunities says. I admire what successful exporters do, but they are operating with a ball and chain attached to their ankles.

A survey last week of 1,000 firms by the British Chambers of Commerce (BCC) showed that nearly three-quarters of businesses, 71 per cent, say the deal has been bad for them, standing in the way of their ability to grow. Small and medium-sized firms have been worst affected with the majority citing additional costs, paperwork and delays. The deal, they say, has put the UK at a competitive disadvantage.

A recent survey showed that a high proportion of MPs struggle with simple statistics. Those who voted for the UK’s deal with the EU have an even bigger struggle with basic economics. The BCC has put forward a five-point plan for improving on the deal but it is not clear that anybody in government is listening.

As for business investment, we have arrived at the point that Elvis Presley might have described as now or never. Businesses have until April 2023 to take advantage of Rishi Sunak’s “super deduction” in which they will be able to offset 130 per cent of their investment spending against their corporate tax liability. It is not as generous as its sounds, allowing firms, in the Treasury’s own description, to cut their tax bill by up to 25p for every £1 they invest in plant and machinery. But it is an incentive, and unless firms choose to take advantage of it, we may have to write off a meaningful investment recovery.

After that, the corporation tax rate will in any case go up from 19 to 25 per cent and all bets will be off, with forecasters expecting investment to weaken after April 2023.

Investment intentions surveys are, it is true, quite strong, suggesting that this could indeed be the year when business investment finally kicks in. But firms have a lot on their plate, including sharply rising costs, a coming national insurance hike and recruitment difficulties. As I have pointed out before, investment and recruitment are complementary, not substitutes for each other. If you are investing in new plant and machinery you need to be sure that you have the people to operate it.

The Office for Budget Responsibility (OBR), the official forecaster, predicted in late October, its most recent forecast, that this year would be a bumper one for business investment, with a rise of 15.7 per cent. But forecasters have become more downbeat since then, with the latest average of new independent forecasts compiled by the Treasury suggesting a rise of just over 5 per cent.

How will the UK’s economic imbalance resolve itself? Government support of the kind unveiled during the pandemic cannot be permanent and, indeed, will be greatly reduced in coming years. The private sector will have to resume its position as the driving force of the economy.

Economists fear that the resolution to the imbalance will be slower growth and that, having seen growth taken down several notches after the global financial crisis, the pandemic and Brexit will have taken it down even more. That does not have to be the case if it were possible to be more optimistic about exports, investment and productivity. But something would need to happen soon to justify such optimism.