Brexit ... does the future look bright?
Can we really rely on forecasts without fully knowing the terms of an exit deal, asks Neil Gibson?
It has been a busy period for economic news in the UK and Ireland. New economic forecasts have been presented by the IMF and the Organisation for Economic Co-operation and Development (OECD), the Irish Budget was presented and the Office for National Statistics (ONS) announced that recent data revisions mean Britain has £490bn less wealth than previously estimated.
On top of all this economic news, EY hosts its annual Entrepreneur of the Year award in Ireland this week, celebrating the innovators who continue to build world-leading businesses, whatever the economic challenges may be. With so much to discuss, I have chosen to present a selection of short stories rather than comment on just one of these important events.
Is productivity nearly everything? Nobel-winning economist, Paul Krugman, of whom I am a big fan, famously quoted that productivity is not everything — but, in the long-run, it is almost everything. Productivity, which is a measure of how much we produce for a given labour input, is used as a key economic health barometer and is ultimately what makes nations wealthier.
It has been virtually stagnant in the UK for a decade and the OBR in its Forecast Evaluation Report has admitted defeat in trying to forecast it. Predicting a return to historic ‘norms’ has proved unsuccessful and, therefore, the OBR has decided to set out a more modest projection for productivity growth in the years ahead. This is refreshing.
I have long criticised models for their adherence to norms, equilibria and what went before to predict the future.
Lower productivity will present a problem for the Chancellor as it will mean lower tax revenues will be forecast, impacting the Budget flexibility. Does productivity matter as much as suggested?
The answer is yes, but care must be taken with its interpretation. If an economy can ‘afford’ more luxury jobs that are lower productivity, then the average will be pulled down even though employment rates may be rising. For example, more workers in retail, care industries, tourism and the charitable sector would drive down headline productivity but provide many more people with jobs.
This means we must look beyond the headline figure and explore the reasons for lower productivity within sectors (or ideally firms). It is also important to look at GVA (or GDP) per head to understand standards of living, as this measure takes account of demographic factors and employ- ment rates. The reason for a poor productivity performance in the UK is likely to be the result of a combination of factors:
Sectoral mix: Employment is increasing in a range of relatively lower productivity sectors.
Labour hoarding: With limited pay inflation, firms have less pressure to shed staff.
Forbearance in the finance sector: Banks and lenders are showing restraint on commercial debt, looking to support re-financing or re-structuring due partly to the low cost of finance at present and partly as a result of limited alternative investment opportunities.
Low levels of investment: Firms have retained profits, rewarded shareholders but held back on investing in capital.
Structural change within sectors: Flexible working contracts and disruption to traditional business models have lowered the cost of entry into many sectors.
Measurement issues: Particularly in the service sector and public service, it can be difficult to truly measure GDP, especially in areas such as IP and quality of service.
It is a complex story and one that is not easily answered. Much research is needed and the OBR report is refreshing in looking at its own errors and thinking about how to improve — an important lesson for all economic forecasters.
OECD opines on Brexit The OECD announced that Britain would be much better off if only it could reverse the Brexit decision.
That may or may not be true, but the suggestion that Britain’s productivity problems would be solved by abandoning the decision to leave seemed, at best, curious.
The UK’S productivity malaise was in full effect whilst in the EU, as were longstanding regional differences also cited in the commentary. It begs the question can we really be sure remaining in the EU would have finally addressed these long running problems? Perhaps the UK will be weaker outside of the EU, perhaps not — there are strong European economies both inside and outside of the EU.
Economists must recognise that their ability to foresee the future is questionable given recent high profile errors.
Whether it was the depth of the recession and subsequent recovery a decade ago, or the immediate impact of the Brexit vote, the profession would be wise to be somewhat less certain in its projections of what will happen.
I say this as a forecaster — someone who relies on models to help with analysis and thinking through policy choices.
However, without clarity on the terms of an exit deal and future trading agreements, all forecasts should be viewed as conditional. The detail of the OECD report is more reflective of this uncertainty but the press comments were misleadingly definitive. If the UK was to avoid economic collapse when it leaves the EU, many a professional economist’s reputation would be severely damaged.
Irish Budget in stark contrast In contrast to the context for the forthcoming UK budget, the forecast for growth in the Irish Budget was a very healthy 4.3% this year and 3.5% next.
These projections could well prove conservative if consumers, buoyed by rising real incomes, begin to spend more.
This increased spending will complement the rise in government spending, healthy investment levels and strong trade performance (though import volumes are growing).
The Budget presented was a balanced one, with stamp duty on commercial property, ‘sin taxes’ and changes to the taxing of IP offsetting small, personal giveaways and initiatives to increase infrastructure spend.
Interestingly, the Budget showed the nervousness in Ireland regarding Brexit, which received no fewer than 17 mentions in the speech and the words US, global and digital (to pick three) managed just five between them. Was this a welcome recognition of the challenges ahead, or a slight sense of fearfulness that the fastest-growing economy in Europe does not warrant?
It is hard to say, but it was encouraging to see a focus on infrastructure, housing and keeping Ireland competitive, even if there will clearly need to be more investment to make this a reality.
Celebrating success A highlight in the EY calendar is the Entrepreneur of the Year, now in its 20th year. A number of notable NI entrepreneurs have won the award in the past and the event in City West Hotel is shaping up to be another exciting evening.
Reflecting back on productivity, of which enterprise is a key driver, it is always refreshing to celebrate success. The level of positivity amongst this year’s cohort is truly inspiring.
Risks are simply opportunities if looked at differently and technological disruption is not a threat but something to embrace and on which to capitalise.
Even more encouraging is the broad geographic and sectoral spread which, once again, is a reminder that there are great businesses everywhere. Congratulations to all the finalists.
The OECD insists the United Kingdom would be better off if it could reverse the Brexit decision