Stephen King: Rebalancing the British economy is easier to say than it will be to do
Economic outlook: Sterling's sharp decline might create conditions for an export renaissance – but 'might' is not 'will'
Monday 28 March 2011
Having created the Office for Budget Responsibility (OBR), George Osborne no longer has to be held to account for the economic numbers underlying his Budget projections. That's a good thing. Unlike some of his predecessors, the current Chancellor of the Exchequer cannot be accused of massaging the figures to suit his own purposes. His fiscal arithmetic should, therefore, be better able to stand up to independent scrutiny.
The OBR, however, is stacked to the rafters with economists. And, being one myself, I happen to know that forecasts can often go badly wrong. Projections can be undone by unforeseen events, they can fall victim to their own inconsistencies and they can depend too much on a heavy dose of wishful thinking.
The Chancellor should take note. While he may not be directly responsible for the economic forecasts any more, his own political career still depends on how the UK economy performs, not only in absolute terms but also relative to the forecasts now emanating from the OBR. Mr Osborne's fiscal projections will only add up if the OBR gets its own numbers right.
I'm not sure the latest OBR forecasts contain any howling inconsistencies, but they certainly suffer from wishful thinking. One way of judging the credibility of any forecast is to see whether it's consistent with the broad historical experience.
On the surface, the OBR's numbers seem to pass this particular test. Growth accelerates but averages only 2.6 per cent per annum in the five years to 2015. By past standards, particularly following deep recessions, this is not a particularly blistering pace. Growth in the five years to 1987, following the Thatcher recession of the early-1980s, averaged 3.7 per cent. So there's plenty of upside.
Digging a little deeper, however, I begin to wonder. The wishful thinking relates to the apparent "rebalancing" projected for the UK economy over the five years to 2015, reflected in a protracted shift towards exports as the key driver of growth at the expense of consumption. The average annual growth rate of exports over this period is projected to be 6.4 per cent. Over the entire post-war era, that pace of growth has only been achieved during three periods: continuously through the late-1990s, in the five years to 1977 and from the late-1960s through to the early-1970s.
For the purposes of rebalancing, however, it's not good enough for exports to be strong in absolute terms. They also have to be strong relative to imports. After all, if exports from Dover simply reflect imports to Folkestone, there is little net benefit for the UK economy as a whole. The OBR has clearly taken note. On its forecasts, imports grow at a 3.9 per cent annual rate between now and 2015. That's very weak. With the exception of recessionary periods, when domestic demand is plunging, in the process dragging down demand for imports, there have been precious few occasions when import growth has been so soft.
But it's only when you put the export and import numbers together that the extent of wishful thinking becomes apparent. Over the five years to 2015, the average annual "gap" between the growth rates of exports and imports amounts to 2.5 per cent. That's been matched in only two five-year periods since the end of the 1940s: specifically, the five years ending in 1977 and 1978. So, from over 60 years of economic history, only twice has the UK experienced what is supposedly on offer over the coming five years. By the laws of probability, if not the laws of economics, the OBR has only a one-in-30 chance of being right. That's hardly encouraging.
That's not to say that a rebalancing on this scale is impossible. The UK is heavily in debt and the years ahead may see a lot of deleveraging. Households may choose to pay off mortgages while the Government, as we know, is intent on repaying our collective liabilities. Deleveraging, in turn, points to unusually weak domestic demand growth and, hence, lower imports. Meanwhile, sterling's dramatic decline in 2008, alongside rampant demand growth in the emerging world, might create the conditions for a sustained export renaissance.
"Might", though, is not the same as "will". While economists often become terribly excited about the supposed benefits of a declining exchange rate, the benefits never seem to last. That's hardly surprising. Price is but one factor influencing export success. Quality, design, marketing, after-sales service and so on all matter yet these factors are casually brushed to one side by those who believe a big drop in sterling will cure all ills. It didn't work after the 1967 devaluation, it didn't work after the 1992 devaluation and it is unlikely to make a great deal of difference after the 2008 devaluation. A falling exchange rate just allows sloppy habits to continue for a little while longer.
As for our ability to sell exports to the emerging world, I'm sorry to say that we've hardly got going. Compared to our main industrial rivals in the developed world – the US, Japan, Germany and France – we've massively lagged behind. Whereas these other nations have seen their exports of goods to the emerging world rising as a share of their total exports over the last quarter century, our exports to the emerging world, relative to total exports, have headed lower. Our trade is still geographically-focused on the world's plodding economies, notably those elsewhere in Europe.
The UK's export prospects would be a lot better were we the only nation suffering economic difficulties. But we're not. Our debt problems are hardly unique. Austerity is not purely a British disease: we're seeing cuts all over Europe and it won't be long before we see cuts in the US too. And now the industrialised world has to cope with the impact of higher food and energy prices, a result of both the political upheavals in the Middle East and the strength of demand in China and other fast-growing emerging nations. An already-feeble recovery in economic activity in the industrialised world is about to get even weaker. Delivering a sustained improvement in Britain's export performance against this kind of background will really take some doing.
Optimists will point to high levels of business and consumer confidence in the Western world and suggest that life is about to get a whole lot better. But we already have some early evidence of the effect of higher oil prices: US consumer confidence dived last month, with expectations about the future showing their fifth biggest monthly decline since records began. And the last time business confidence was this high was in the first half of 2008, just before the headlong plunge into global recession.
It may be that the UK economy will be able to deliver the pace of economic expansion projected by the OBR. But I'd wager that the engine of growth will not be the huge improvement in trade which underpins the OBR's numbers. It's more likely to be that old stalwart, the UK consumer. If so, hopes of rebalancing will, yet again, fizzle out, raising doubts over the sustainability of the recovery. Wishful thinking is all very well but, when it comes to Britain's trade performance, history is not on the side of the optimists.
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