Thank goodness for political stability – the economic clouds ahead are darkening
October 24, 2015
Put to one side parliamentary frolics over signing up to Mr Osborne’s Charter for Budget Responsibility. Credible economic policy in the UK is thankfully secure as a consequence of an election outcome that confounded virtually everyone, pundits and participants alike. Thank goodness – for amidst relentlessly positive news stories heralding record high levels of employment, rising investment, sustained levels of overall growth and real wage increases, future economic recovery cannot be taken for granted.
In truth any incoming administration in May would have faced an economic outlook almost as grisly as that inherited in 2010; the real relief is that this sense of uncertainty has not extended to the government’s political survival.
With hindsight it becomes clearer that the novel demands of peacetime coalition administration meant that too many economic problems were parked rather than solved over the past five years. Ultra-low interest rates, held at emergency levels now since March 2009, have also helped mask the true extent of the UK’s debt mountain and ongoing deficit financing.
Anyone under the age of thirty has been lulled into the false sense that these costs of borrowing are ‘normal’. Few realise the distorting effect this is having on our economic recovery. In addition, the electorate have shown signs of austerity fatigue without realising that collectively we have barely begun to rebalance the UK economy away from reliance on consumption driven by rising property values, towards investment, infrastructure programmes and export-led growth.
As a consequence, one unhelpful number that ought to be giving rise to major disquiet within the Treasury is our persistent current account deficit. In decades past this monthly statistic enjoyed a near-mythical importance and general elections were regarded as being won and lost according to the calculation of this esoteric measure between what the UK spends overseas and what it earns.
Today our current account deficit stands at 6.5 per cent of GDP, an historic high outside of wartime conditions. It is the most obvious indication that we are persistently living beyond our means.
One reason for this is that the UK’s overseas liabilities now exceed our assets, which for decades until the financial crisis had been a reliable source of dividend income into our public coffers.
The continued importance of the UK’s global reach in financial and professional services makes it all the more critical that a pragmatic UK Treasury continues to promote a credible policy framework that enjoys the confidence of the capital markets.
The price for any loss in confidence would be instant and devastating. This level of current account deficit requires the reassurance of those overseas investors lending to the UK. Any suggestion that the policy prescription of Messrs Corbyn and McDonnell might hold sway would almost certainly rapidly result in a severe balance of payments crisis, which would soon feed into sterling rates. But – as Chancellor Osborne will surely point out in his forthcoming Autumn Statement – we are by no means out of the woods. The subdued external demand, in both China and a slew of emerging markets, makes for a potentially turbulent time ahead.
During this early period of majority government, the Chancellor rightly seeks to cut the deficit by means of sustained growth and further cuts in public spending. Substantial tax hikes will only be on the agenda if Plan A fails to have the desired impact on deficit reduction.
But remember this: there is no end in sight here in the UK to the era of emergency level interest rates. Continuing global economic strife underlines the Bank of England’s reluctance to raise rates with emergency levels of credit having now been sustained for over six-and-a-half years. By rights this should have set alarm bells ringing. But the flooding of capital into financial assets – and the enrichment of those holding bonds, stocks and especially real estate means that there is a conspiracy of silence over exactly what is happening out there.
Let’s face it – at a time when Barclays, RBS and others have been slapped with astronomical fines for rigging the markets in LIBOR and foreign exchange, we should not be blind to the fact that the most dangerous contemporary market rigging is being undertaken by central banks across the globe. Excessively loose monetary policy will eventually spark another financial crisis on a potentially more devastating scale. When all the normal market signals have disappeared under a mountain of cheap money, it remains nigh-on impossible to make a rational investment decision. Risk is being almost universally mispriced and before the world is very much older there will surely come a reckoning…
But as ever the real question is when precisely this reckoning will come. All of which points towards renewed political impetus to promote growth via infrastructure – one of the many dogs that failed to bark during the recent General Election campaign. Pity the Labour Party, whose gut instinct at the last election as we now know, would surely have been to promise vastly higher borrowing to help patch up the UK’s deteriorating infrastructure. However, Ed Miliband knew that even to suggest such action would have left Labour open to a tsunami of accusations that it was set on “more borrowing and more debt”.
Watch the Chancellor step into the breach in the months ahead and quietly indicate a willingness to exploit the ultra-low cost of borrowing by a UK powerhouse programme on high-tech infrastructure, roads, railways and perhaps even, following a final decision on the Davies Commission’s report, airport capacity…