Don’t expect a return to the boom years
OPTIMISM is back in fashion at the Old Lady of Threadneedle Street. It is always tricky to work out what the Bank of England is talking about in its Inflation Reports so I’m grateful to George Buckley, chief UK economist at Deutsche Bank, for his help in trying to decipher the relevant graphs. The Bank’s growth forecasts are quite extraordinary and, I regret to say, not especially convincing.
For 2009, the Bank thinks the UK will shrink by 4.9 per cent, a worse outcome than the 4.4 per cent collapse previously predicted (these numbers are approximate as the Bank doesn’t give exact forecasts). However, it appears to believe that the third quarter’s fall of 0.4 per cent will turn out to have been less severe. For every other year, the forecasts are more optimistic than they were when the Bank produced its last Inflation Report. It sees the economy growing by 2.1 per cent next year; an astonishing growth of four per cent in 2011 and an equally implausible 3.5 per cent in 2012. I’m sorry but I just don’t buy any of it.
King is right that we are slowly recovering. But it is hard to see how we will get back to the UK’s peak level of output – which we reached in the first quarter of 2008 – by the first half of 2011. That is much too optimistic – by convention, the Bank is forced to make certain implausible assumptions, especially when it comes to tax and spend.
What few have yet to grasp is the extent of the fiscal tightening that is about to engulf us. We are spending far too much compared to what our economy is producing – and we are only raising £4 for every £5 the government is splashing out. Some of this deficit is purely cyclical and will disappear when the economy does start to grow properly again; but a substantial part of is structural and caused by Gordon Brown’s ridiculous spending binge, starting in 1999. While the current policies outlined in the Budget already imply a substantial amount of fiscal tightening (and these were accounted for by the Bank yesterday) the Tories will be forced to be much more radical if they win next year’s general election. This will cut growth.
Regrettably, some of the tightening will take the form of higher taxes; no political party would have the guts to concentrate exclusively on spending cuts. Virtually everybody who lives in the UK will pay more for reduced public services over the two or three years. On top of that, there will be many other headwinds over the next 18 months. There is no way that unwinding quantitative easing will take place smoothly; yields on UK gilts are bound to go up; the current mini-bubble in the housing market will pop; and the global recovery could easily be derailed by an as yet unforeseen shock.
There is another reason why the economy is unlikely to bounce back to a four per cent growth rate. The UK is now deeply uncompetitive. Top rates of income tax are too high; corporation tax is far steeper than in most of our competitor nations; and the climate of opinion has turned decisively against business. Increasingly, firms that would have chosen to locate some of their activities in the UK will think again. Hong Kong is now an increasingly attractive place to invest, as is Singapore. The UK’s trend rate of growth used to be 2.75 per cent a year; now it is unlikely to be any higher than 2.25 per cent, thanks to years of flawed tax, spend and regulatory policies from Westminster and Brussels.
Britain is growing again. The recession is over. But 4 per cent growth in a year’s time? Give me a break.