Finally the UK can get on board the global economic upswing
This year was not the economic disaster for the UK predicted by some of the more excitable pundits. It was not quite a fun-filled year either. With luck, next year will be better now that the UK and the EU have made enough progress on the Brexit divorce to move on to what counts for the economy – post-brexit trade.
Pardon the imagery but, until now, the Brexit divorce had acted like a kidney stone, preventing the UK from enjoying its usual healthy economic vigour. Now the stone is passed, with some considerable political pain, the outlook seems brighter.
What did we learn in 2017? First the positive news: the major downside risks to growth did not manifest in a major way. Despite the hit to real wages from rising import prices caused by the fall in sterling, households have used their balance sheets, which are stronger than a decade ago, to smooth their consumption.
Similarly, businesses have continued to hire and invest to meet the growing demand at home and abroad. That households have simply opened up their wallets more as prices have risen, and firms have continued to expand production despite heightened uncertainty, reflects a healthy underlying confidence in the economy. We can be less nervous about future shocks.
Now the negative news: although growth has held up OK, slowing only a little to 1.5pc this year, compared to the post-lehman average of 1.9pc, the UK has missed out on the building global upswing. After enjoying one of the fastest post-lehman recoveries of the major advanced economies, the UK should have been riding high this year as the rest of the advanced world enjoys the strongest synchronised upswing in a decade. Instead, held back by its Brexit nerves, the UK has sat on the sidelines.
Yesterday’s breakthrough in the Brexit negotiations lowers the chance that the UK could exit the EU in March 2019 without an agreement for post-brexit trade. As firms and households begin to discount this risk too, confidence will rise and the global upturn can begin to rub off on the UK a bit more. As Brexit uncertainty was the major factor weighing on growth this year, reducing some of this uncertainty should be positive for growth. Higher business and household confidence from the lower risk of a hard Brexit should underpin stronger gains in long-lived consumption and investment. The UK’S annual GDP growth rate could rise towards 1.8-1.9pc in 2018 and 2019.
The improved outlook for the economy also lowers the risk that voters could eventually vote hard-left Labour leader Jeremy Corbyn into Number 10. Markets worry that, if Mr Corbyn’s Leftist policies were followed, the UK would risk repeating the painful mistakes of the Seventies.
Labour is marginally ahead in the polls after Prime Minister Theresa May’s botched election and mishandling of Brexit. A more moderate Labour leader would be much further ahead in the polls by now. There is a good chance that, if the economy picks up, Corbyn’s lead will start to fade.
Brexit is no different to other politically charged issues – the most extreme views tend to dominate the public debate. Most of the time, such predictions are decidedly wrong. On its own, Brexit will not turn the UK into a land of milk and honey. It is not likely to be the end of the world either.
The likely reality is that, unless the UK takes steps to improve its fiscal, supply-side and non-eu trade policy, it will see its long-term growth rate fall by a few tenths of a percentage point per year after Brexit, from its potential rate of 2.2pc while inside the EU. Indeed, the fall in the value of sterling since the Brexit vote reflects just that: global markets lowering their expectations for long-run UK growth. The rebound in sterling on the news that the Brexit divorce had been settled reflected markets reversing some of this pessimism.
Unless the UK changes its approach to economic policy, expect it to be less of a magnet for foreign capital and talented foreign workers. The UK might have to start living more within its means, dedicating more of its income to saving and investment, and less to consumption. With the right policies, the UK could rise back towards the top of the growth league for advanced countries. Hopefully, now the sensitive Brexit divorce has been mostly settled, the UK can begin to focus not just on Brexit but also a bit more on other key economic policy areas. The policy path the UK follows over the next year will have a decisive impact on its long-term fortunes.
A stronger commitment to sound economic policies and budgetary discipline would underpin a rise in business and household confidence. The UK could finally get its public finances in order while pursuing supply-side reform – think housing
– to make the economy more productive and raise potential growth.
Today, the UK continues to profit from the indispensable reforms of the Thatcher era. Firms still benefit enormously from the UK’S highly flexible labour and product markets. Indeed, the biggest testament to these policies is that the Blair/brown Labour government did not do much to alter them. With the country still split on Brexit, the UK’S New Year resolution ought to be to find a policy direction that a majority of the country can get behind, even if it is an old one.
‘Brexit will not turn the UK into a land of milk and honey. It is not likely to be the end of the world either’