Economics: From doom to boom and to hell with reality
Sunday 26 May 1996
It is so obvious companies ought to plan for the business cycle that it is astounding so few of them do. Of course, over-precise forecasting will produce misleading results, but establishing the idea that demand does not grow steadily ought to be an absolutely crucial discipline on corporate planners.
This thought should also be sparked by stories like the one which appeared on the front page of our sister paper, The Independent, on Friday. The headline was: "Yes, the boom is coming." The argument it developed was that a consumer-led mini-boom would get un- der way in the next few months, to the advantage of the Government.
Whether there is much political benefit to the Tories is open to question, but the evidence is certainly mounting that consumer demand will be strong through this year. The particular news which sparked the story was that consumer spending in the first three months of this year rose faster than at any time for two years, but even ahead of that there have been positive signs. The graph on the left shows a couple of measures of consumer demand, car registrations and retailers' confidence, which JP Morgan's London economics team has highlighted. As you can see, both of have perked up considerably in recent months.
Consumption is more than 60 per cent of the economy, so obviously strong demand from there will pull the UK through this year and we will end up with acceptable growth: perhaps only 2.5 per cent, but accelerating through the year. What we do, however, is not very important in global terms: we are not a big enough economy to have more than a marginal impact on the rest of the world. But another interesting story is a-brewing there, for other countries seem to be facing another period of growth too. In fact it seems quite plausible that the world will soon be experiencing the first bout of synchronised growth since 1986.
You can track through the main economies to see how this might be. The US: the pause seems to be past, and though the statistics suggest that the economy ought to be close to capacity, there are no very obvious signs of strain. Japan: at last, at last, at last, there does seem to be real evidence of a recovery. It is fragile and the barrier to growth of a giant debt overhang remains, but the outlook is brighter than for five years. Germany: a ghastly six months of recession, and very little real signs of recovery yet. But money supply is loose, there are the first tiny signs of a recovery in business confidence and the real economy seems no longer to be going down, so the worst is probably past. France: much the same applies as Germany. The UK: see above. Italy: real GDP has been growing at between 2 and 3 per cent for the last 18 months and although the second half of this year looks less encouraging, there is no real sign of impending recession.
Add in continuing rapid growth from most of the newly-industrialised countries and (often overlooked) much better growth prospects in eastern Europe, including Russia, and you can see that by the end of this year and into 1997 we might be seeing really strong growth world-wide. The world's bond markets have already noted this: they fear the impetus to inflation that such growth might generate. This is the main reason they have been pushing up long-term interest rates recently.
They are particularly concerned at the sharp rise in global monetary growth, as shown in the right-hand graph. The US and the UK have both been running increasingly easy money policies, and Germany has suddenly switched from negative monetary growth to positive in recent months. Put the whole OECD together (the solid line) and money supply is clearly climbing quite fast.
While one should not take rapidly growing money supply as an inevitable harbinger of rising inflation, if the world's main central banks pump money into the world economy at the same time, it would be pretty odd if it did not first encourage growth, and eventually threaten to increase inflation. The links are clearly very elastic and operate with long and uncertain time lags, but they do still exist.
If there is a synchronised world expansion, what then? The memories of 1986 should be slightly chilling, for the expansion became unsustainable. A policy mistake after the October 1987 share-price crash, when interest rates around the world were cut, helped exacerbate the 1988/9 boom, which was further sustained on the Continent by the impetus from German reunification. The whole party then collapsed into the early 1990s recession, though different countries went into and out of recession at different times.
History never quite repeats itself, for both the policy makers and the financial markets have a memory which lasts a decade - though both are shaky beyond that. So it would be misleading to suggest that we will have a sustained boom through the next three years, followed by a post-millennium hangover, just as we did a decade ago. Much more likely would be a less marked expansion, an earlier easing of growth, and a world-wide mini- recession in, say 1998 or 1999.
So it seems likely that the amplitude of the cycle will be lower than in the recent past. Nevertheless, it would be naive in the extreme to believe that there will not be some kind of cycle. Let's try and translate that into UK terms.
We can assume accelerating growth this year and probably quite rapid growth next. But by the spring, maybe even in the autumn, there will be the first signs of a rise in interest rates. Then through the summer and autumn of next year and right into 1998, interest rates will rise further. To start with there will not be much impact on the economy, which will continue to grow rapidly. But during the latter half of 1998 things will slow down quite sharply and by 1999 growth will hardly be moving at all. There may be a not-too-serious recession, the depth of which will be determined by the extent to which all the major economies head south together. The more synchronised the world economy, the deeper the recession is likely to be.
This implies the next government (of whatever political hue) will enjoy a year of decent growth, but then find itself presiding over a squeeze, with both interest rates and maybe taxation (depending on spending plans) having to rise again.
This may all seem a touch dispiriting. Many people (wrongly) still think the UK is in recession now. Many people (rightly) have been concerned about the fragility of growth in recent months. So it might seem premature to be warning that the fun will not last. But do remember the business cycle. The reason for noting that the economy will look a lot stronger as the year progresses is precisely because a lot of people are still unnecessarily pessimistic. Three months ago that pessimism had much more justification than it does now. The reason for noting that at some stage before the end of the century there is likely to be at least a mini-recession is because a few months more of good growth will persuade us that there is no chance of that happening. And like those corporate planners who think only in straight lines, we will be wrong.
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