With the United Kingdom on its third Chancellor and Prime Minister in as many months, the situation is, thankfully, now stabilising. The currency has bounced, UK gilt yields have come off from their high levels in late September and a semblance of stability has returned to the UK’s financial markets. Caution, however, is still required. A global recession is likely, with a potentially significant fall in house prices, while the current account deficit remains significant and troubling at a time when global money is tightening up, making access to the kindness of strangers much harder.
With the failure of the Truss experiment, it looks as if Britain may completely return to a more well-worn economic path. That would be a mistake. The central goal of the Truss administration was correct. Its aim to raise the trend of GDP growth was admirable, sensible and much-needed, as UK growth has been sub-par ever since the global financial crisis of 2007 — 09.
According to IMF data, in the mid 1990s, the UK’s GDP per capita was the same as that of Ireland. On the latest data, however, Ireland’s GDP is now significantly more than the UK’s (in real, PPP adjusted terms), taking into account the fact that Ireland’s data is somewhat boosted by some unusual factors relating to international corporates. It’s not just against Ireland, though, that the UK’s economic performance looks sluggish. Having almost caught up with Germany before 2007, the UK has lost ground in the past fifteen years. Against Sweden, it’s a similar story, whilst it is only against “no growth” countries like Italy where the UK has managed to push ahead.
Accelerating the economy’s GDP growth rate, therefore, is essential. If achieved in the correct manner, it would raise standards of living across all income groups and provide more funding to improve public services.
Sadly, though, whilst the central goal of Trussonomics was laudable, its timing and execution went awry. In particular, the diagnosis as to how to accelerate the economy’s growth rate was outdated. It was a Thatcherite prescription for an economy that is today in a very different place to where it was in the late 1970s. Tax rates for high income earners aren’t outrageously high, most of the workforce is not unionised, while Britain remains an attractive destination for overseas capital.
Today’s economic challenges are multiple. They include unaffordable housing, low owner occupation rates, significant income inequality and an almost zero growth of multi-factor productivity — the true measure of sustainable wealth creation — in the past decade (according to OECD data).
On top of that, there are significant issues with the structure of the labour market meaning that the government effectively has to top up the wages of many of the country’s workers. At the same time, many large multinational companies benefit from cheap labour but don’t pay tax on their profits. Added to that, 40 per cent of the population over the age of 16 receive some form of benefit or pension from the Government.
The list of policies which are therefore needed is long. At its heart, though, the problem with the UK economy is threefold: over-financialisation and over-indebtedness; the rise of zombie companies; and the inability of successive governments to ensure that the labour market structure is set up so that sensible wages are paid at lower income levels.
To address the first two of those factors the UK must reform its financial system. In particular it needs to begin to reverse the BASEL rules which have had the effect of giving banks the incentive to focus their capital usage on mortgage loans at the expense of lending to productive parts of the economy. The capital required for a mortgage loan is around an eighth of that required for a corporate loan.
Bringing those two closer into balance would redirect capital towards more productive uses, help raise productivity growth and at the same time deflate the excessively expensive housing market. We are very much in favour of the construction of new houses and of home ownership too, but to pin high house prices at the door of insufficient supply rather than excessive mortgage debt is lazy thinking. What would be best for aspirant homeowners is a re-engineering of our growth drivers, with an adjustment of the risk weightings of mortgages starting as house prices fall, and occurring over a prolonged period of time, thereby avoiding unnecessary shocks.
With broader investment offers, more capital will be challenged into productive areas, thereby triggering greater growth. Look at the high level of zombie companies in the UK economy, for example. The significant zombie corporate base is holding back the productivity growth of the UK economy. A “creative reconstruction”, or Schumpeter 2.0, if you like, would aid Britain’s ability to generate higher growth rates.
Finally, through better control of unskilled immigration and encouraging accelerated levels of automation (capital deepening), whilst at the same time addressing the manipulation by big companies of the corporate tax system, the UK should be able to begin to address income inequality.
Once the Government’s books are balanced, therefore, the emphasis of economic policy must shift towards accelerating growth and doing so in a sustainable manner, not via a cheap short-lived economic stimulus. The approach we outline here would start that process of returning to higher growth rates and creating a more stable long term social and economic outlook.
Chris Watling is CEO and chief market strategist of Longview Economics and Sir Robert Buckland KBE KC is Conservative MP for South Swindon, former Lord Chancellor and secretary of state for Wales
