Friday, August 14, 2015

The political aftermath of this year’s general election looks set to be played out over an extended period. However this point, 100 days after the election, seems to be an appropriate time to provide an early analysis of the economic dimension of the new administration’s performance. The election confirmed the positions of many key players – David Cameron and George Osborne are still in residence in Downing Street – but the change from coalition to majority Conservative rule has freed the government of some constraints. In many respects, then, this is indeed a new government.

The economic importance of this political change was evidenced by the second Budget of the year. The Chancellor took the opportunity to introduce a new wave of government spending cuts, many of which would have been difficult to implement within a coalition. His plans to reduce the deficit sharply were blown off course after 2012, and this year’s Budgets have provided renewed impetus to the austerity drive. The March Budget was criticised for its rollercoaster properties - implying as it did a severe downswing in government spending before a pre-election upswing. In the Summer Budget these fluctuations were smoothed out, and the period over which the deficit is to be removed was extended. These are welcome developments, restoring some sense to the time profile of fiscal retrenchment. But the impact on growth of the spending cuts that will be imposed over the next couple of years will need to be monitored carefully, and policy should be adjusted in line with this impact if need be.

The broader macroeconomic context has continued to develop reasonably favourably, with output growth looking to be on course for around 2.5% over the year. Meanwhile, inflation has been subdued. This has been largely the result of falling oil prices (nothing to do with the government), and the short period earlier this year when, on average, prices were falling does not look set to trigger a harmful and sustained deflation. Indeed this period of low price inflation has allowed real wages to rise for the first time in several years.

Whether this increase in earnings reflects a much needed upturn in labour productivity remains to be seen. Shortly after the Summer Budget, the government published Fixing the Foundations, its plan to restore productivity. This contains some good ideas around employer-led training, the role of universities in developing human capital and innovative capacity, transport, digital infrastructure, and housing investment. It is certainly the case that investment is needed across the full range of economic activities in the country in order to secure productivity gains. Business investment is critical, and encouraging such investment requires a stable environment which is difficult to guarantee in present circumstances – given in particular the recent trauma of the Eurozone centred on Greece and the uncertainty surrounding a British referendum on continued membership of the EU.

While the commitment to supporting investment in infrastructure is welcome, less pleasing has been the government’s ability to turn this commitment into reality. Major investments in upgrading the rail network have been ‘paused’, leading many to fear that they might ultimately be scrapped. In the North of England, in particular, this has severely challenged the government’s own concept of the Northern Powerhouse, and some considerably clearer thinking around this (and indeed around other aspects of regional devolution) is urgently needed.

Economic opinion is divided about whether the cuts announced in the Summer Budget come at a better time for the UK macroeconomy than did those introduced in 2010. But whatever one’s view on that, it is certainly the case that the microeconomic effects of the current round of cuts will attract attention. In particular, the distributional effects will need monitoring closely, with large cuts being made to the welfare budget. This being so, it is highly regrettable, indeed shameful, that the Treasury will no longer publish a distributional analysis of the effects of policy. This is a step back. An important future measure of this government’s economic performance will be how the poorest have fared – and it is too early yet to come to any conclusions on that.

For a variety of reasons, there has been an increased concentration of low wage workers in the UK. Most significantly, technology is leading to a polarisation of jobs, with concentrations at the top and bottom ends of the skill and wage distribution. Many lower skill workers have been employed at wages below the Living Wage, and this has imposed costs on the welfare system. The Chancellor’s announcement in the Summer Budget of a new Living Wage (at a level between the existing national minimum wage and the Living Wage) should encourage employers to address the issue of productivity amongst their lowest paid workers, and should reduce the burden imposed on the welfare state by low pay. Whether this alone can be sufficient to address the large trends that have caused the problem of low pay in the first place is, however, moot. The impact of technology on the labour market, just like the impact of the ageing workforce, requires some big thinking, not just in government. That has yet to surface.

Returning to the overall macroeconomic picture, the Chancellor’s imposition, in normal times, of a ‘fiscal lock’ – limiting his own room for manoeuvre in spending and tax decisions – is unfortunate. It seems to reflect a view on the government’s part that its primary economic objective should be to balance its own books. Over the long run, it is certainly important that the government should not accumulate debts that are unsustainable. But, as someone once observed, in the long run we are all dead, and in the shorter run it is vital that the government should retain for itself discretion over all the levers of influence on the economy. Maybe, though, the definition of what makes for normal times will turn out to mean that the fiscal lock amounts to little beyond the hype. The early abandonment of 2018-19 as the target date for clearing the deficit certainly suggests as much. As he showed in 2012 when easing back on austerity, the Chancellor’s practice is generally markedly more sensible than his rhetoric.

Overall, then, the first 100 days have seen quite a lot of action in the economic sphere. The government’s policy will evolve, surely, as events unfold. There have been positives – smoothing out the rollercoaster, the new Living Wage – but there remain some very real concerns, particularly around the distributional impact of policy and the climate of uncertainty surrounding a possible Brexit. When all is said and done, 100 days is just that. The horizon over which these policies will ultimately be judged is much longer.

Thursday, August 06, 2015

The latest statistics on industrial production show a dip in output over the month to June of this year. Nevertheless, inputting these data into my neural network forecaster indicates that year-on-year movements in this series can be expected to be somewhat more positive than forecasts have indicated in the past. The rate of growth can be expected to slow, but the imminent danger of this series turning into negative territory appears to be receding somewhat.