Fresh hope of growth without tears

Analysis

IT IS TIME to take stock. The Easter break follows a week that saw a clutch of slightly mixed data about the state of the British economy: in particular unemployment, inflation and overseas trade. Since we have had a year when almost all data turned out better than originally expected, it is slightly disconcerting to see some apparently turning out worse.

Take unemployment. True, it is still falling, but there does seem to be a slackening of the pace of decline, for the fall in March was 20,500, the lowest decline for eight months. It compares with a monthly fall running at around 50,000 last autumn. That need not matter - arguably the rate of decline has to fall if the decline is to be sustainable, for a too- speedy reduction would suggest that pressures were building up in the labour market that would ultimately burst out in wage inflation. There is no sign of that at the moment, for average earnings are still rising at only 3.5 per cent, a touch down on last autumn.

Still, inflation is a concern. The headline figure, the Retail Price Index, has risen now for six months in a row and stood at 3.5 per cent in March, while the underlying rate, which excludes mortgage payments, also climbed to 2.8 per cent. Even the Treasury's new measure of inflation, which takes out the effect of indirect taxation and so arguably is even more representative, crept up, though at 1.9 per cent it is giving a more comforting signal than the others - which may be why it has just been invented.

In any case, all measures of retail price inflation are lagging indicators, for it takes a while for pressure on prices to feed through to the shops. The more worrying numbers came out earlier in the week, those for producer prices: these show output prices (the price companies charge for the things they sell) rising at 3.8 per cent, and input prices (the price they pay for raw materials) up 11 per cent year-on-year. The combination of a commodity boom and the weaker pound is putting a lot of pressure on the company sector.

Or take trade. The improvement in the current account last year took most commentators by surprise, for they had assumed that as the economy grew rapidly it would suck in an excess of imports. Imports did rise, but exports rose faster. This, plus a much-better-than-expected performance on invisible trade, produced a current account surplus in the second half of the year. But last Thursday showed that in January there was another large deficit on visible trade, with exports falling back sharply. It is always silly to be upset by one month's trade figures, but the December figures were none too good either. We do not yet have any reliable figures for invisible trade, but maybe the sustained move into current account surplus is not as secure as it seemed a month or so ago.

Put all this together and what does it really tell us? It looks very much as though there will be a period of slower growth this year, particularly since there is going to be at least one more rise in British interest rates. (Expect one in May, either following the next monthly meeting between the Treasury and the Bank of England early in the month or following a rise in US interest rates after the May meeting of the Federal Reserve.) But slower growth will still mean something around 3 per cent: not the 4 per cent of last year but still fast enough to continue to pull unemployment slowly down. The first of the graphs shows how the year-on-year percentage change in job vacancies, while still positive (left-hand scale), has turned down and may be signalling a slowing of the economy (right-hand scale).

There seem to be two longer-term messages that are trying to emerge. The first is that we may be able to exit this period of rapid growth in an orderly way, so that we do not make the mistakes of the last cycle and plunge on to an unsustainable boom.

There is a string of things that might go wrong, but one of the first would be a surge in money wages. It is true that earnings in manufacturing have risen quite sharply since the middle of last year and are now going up at about 5 per cent. By contrast, earnings in services are going up by only about 2.5 per cent a year. It is much easier to win increases in productivity in manufacturing than it is in services, particularly during a period when output rises sharply, so that for most of last year, despite this rise in earnings, labour costs actually went down. In other words, productivity was rising faster than money wages. That happy state of affairs seems to have come to an end, but if one looks at the whole economy, the remarkable thing is the way in which earnings as a whole have not risen. Look at the right-hand graph. The ratio of job vacancies to unemployed (a measure of pressure in the labour market) has been rising since the beginning of 1992. But there is absolutely no sign yet of overall earnings climbing in response. The other thing the graph shows is that growth in earnings is stuck at less than half the level it was in the middle 1980s. There is a very simple message here. Provided that the earnings figure sticks there, it will be consistent with inflation around 2 per cent. And if inflation stays around 2 per cent, it should be possible to emerge from rapid growth to sustainable growth.

The second longer-term message is related to this. What is the sustainable growth rate of the economy? Most economists would say about 2.25 per cent a year. But there is an argument that it may be rather higher: not the 4 per cent of last year, but perhaps something more like 2.75 per cent.

The evidence for this comes, in part, from another set of data published last week, the Labour Force Survey. This comes out every three months and gives a different picture of what is happening in the jobs market from the normal monthly unemployment figures. Instead of counting how many people there are on the register, the same department that carries out the census asks 60,000 households each month whether they are in work and if so what sort of work they are doing.

The latest survey shows that there are now 25.4 million people employed in Britain, including 3.3 million self-employed. Compared with 1984, total employment is up by 1.7 million, which sounds a lot, but at the peak of the last cycle, in 1990, there were nearly another 1.5 million jobs.

In other words, the economy was able to generate a lot more employment in the recent past. It should be possible to recreate jobs, and pull back into the workforce not only many of the unemployed but also the "discouraged workers", people who would quite like to work but who are no longer looking for it. The interesting thing about last week's data was that it showed that even though total employment rose by 90,000 in the final three months of last year, the activity rate (the proportion of people who are in work) actually fell a little.

The reason for this is not completely clear, but I suspect it has something to do with the rise in job opportunities for women and for part-time work. Many people see the latter as a sign that jobs have become less secure - that people take part-time work because they cannot find full-time jobs. But actually the rise of part-time opportunities may mean that we are able to use the available workforce more efficiently. If that is right, then it should be possible to sustain what was previously thought to be above-trend growth for a lot longer without running into labour shortages.

All this is conjecture. But look at the way in which the US economy has managed a long period of expansion without much sign of increasing inflation. Maybe we can do the same.