What killed the UK recovery?
It is now fairly widely acknowledged that the British recovery has stalled in 2011. Whilst Britain may yet avoid a double dip recession growth looks set to be sluggish.
Given the more pessimistic outlook it is important that policy makers are clear about the reasons for this slow down, otherwise we risk a misguided policy response.
George Osborne is relatively clear that the slower growth profile of theUKeconomy, and the reasons that 2011 growth may well miss the OBR forecasts, is because of a more troubled global outlook – the debt standoff in the United Statesand the ongoing Eurocrisis in particular.
The left meanwhile are mainly focussed on the impact of austerity.
Both answers risk missing the point – what is killing the UK recovery is actually falling real wages.
Each month he Treasury publishes a compilation of independent forecasters views on the UK economy. The table below shows the median forecast from back in January (when optimistic observers expected growth of 2.0%) and the most recent forecasts from July, when the estimate had fallen to just 1.3%.
For completeness sake I have also included the OBR’s own numbers.
Whilst there has been a lot of attention (rightly) paid to the falling headline number, I have seen less comment on the make up of that falling growth forecast.
The first thing to notice is that since January independent forecasters have revised up their export growth forecast and revised down their import forecast (as a result of domestic weakness meaning less imports). The end result is that the contribution of net trade to GDP growth was expected to be 0.5% in January but is now expected to be 1.3%. In other words – for all George Osborne’s talk of global headwinds hitting growth independent forecasters now expect Britain’s export performance to be better than they did in January. A questionable assumption maybe – but weaker external is not a fact explaining the downgrades to the growth forecast.
What has caused growth to be revised down is dramatic collapse in domestic demand forecasts from an expected 1.5% contribution to growth in January to just 0.1% now.
The chart below demonstrates this:
What has caused this collapse in domestic demand? A huge fall in private consumption forecasts from expected growth of 1.2% in January to an expected contraction of 0.3% in July.
Whilst the government has talked up exports and investment for the past year and the opposition has focused on spending cuts, the consumer outlook has become dire.
Why has consumer spending been revised down so heavily?
A substantial part of the answer can be found in falling real wages. Back in January independent forecasters expected RPI inflation to be 4.0% in 2011 and average earnings to grow 2.6%, implying real wages would fall by 1.4%. They now forecast RPI of 5.3% and average earnings growth of 2.5%. Real wages are now expected to fall by 2.8% – double the estimate of January.
Because of this consumption estimates have been radically revised down and GDP with it.
If one wants an answer to why the recovery is faltering, one would do well to start looking at real wages – an area policy makers haven’t spent anywhere near enough time talking about.
So, remind me, when does expansionary fiscal contraction kick in?
Oh, yeah, it was, er, here a minute ago but, er, you were looking the other way, so, er, you missed it, sort of…
maybe we need some more QE..
http://www.guardian.co.uk/business/2011/aug/14/quantitative-easing-riots
The article reinforces Duncans’s assertions that real wages have fallen, that “trickle down” is a myth and that the profits from economic growth go to the wealthy only as owners and shareholders. In other words, that our current situation (of high public and household debt, private sector awash with money and no idea as to what to do with it) is the logical conclusion of neo-liberal capitalism.
(As I recall, quantitative easing was Bank of England policy. Tories again, tsk tsk. Labour advocated VAT cuts and capital expenditure.)
I obviously forgot the sarkmark.
“Why has consumer spending been revised down so heavily?”
Why this convoluted argument about real wages? The deflator has been revised up, and hence real-terms spending has been revised down, as have real-terms earnings.
So again: the proximate cause for downgrades to both real spending and real earnings are higher than expected inflation. Not a “collapse in spending” caused by “fiscal austerity”.
The ‘convulted argument’ is for two reasons. (i) If average earnings had kept up with inflation consumer spending would not be as hard hit. (ii) Policies designed to raise earnings are unlikely to hit growth whilst policies designed to lower inflation probabaly would.
I never claimed this was due to ‘fiscal austerity’. Although ther is an effect (public sector pay freeze, VAT rise being two obvious one plus (all things being equal) austerity does lower real wages).
Well, that is saying the same thing. Have the forecasts for nominal household consumption or nominal household income changed, or not?
It not, then yes, “convoluted” is understating it: is simply not true that “real consumption has been revised down BECAUSE real incomes have changed”. Both have changed BECAUSE inflation has changed.
Treasury doesn’t publish the nominal forecasts of independent forecasters.
What we can say is that in the March Forecasts the OBR revised CPI and RPI up (and the GDP deflator up in 2011/12 and 2012/13) but revised nominal GDP down.
http://budgetresponsibility.independent.gov.uk/wordpress/docs/economic_and_fiscal_outlook_23032011.pdf
(Table 4.4)
That is misleading; they moved down the forecasts for the *level* of NGDP, which looks to be due to a loss of c£10bn from the 2010-11 FY – snowpocalypse?
In the spreadsheets for the November 2010 outlook they were expecting 4.8% NGDP growth in calendar 2011, and that is the exactly the same in the spreadsheet for March 2011. By contrast they were forecasting 4.2% NGDP growth for the same year back in the June 2010 PBR.
I don’t think that is misleading when I say ‘revised down nominal GDP’ I mean the level. If I me and the growth rate I’ll say ‘revised down the growth rate of nominal GDP’ – may just be me though so sorry if it’s unclear.
Table 4.4 is very interesting though – look at the change in the real GDP growth forecast and the change in the GDP deflator.
E.g. 2011/12 real GDP growth revised down -0.2%, GDP deflator increased by 0.5%, 2012/13 real GDP growth revised down -0.1%, GDP deflator 0.3%.
I don’t accept that the revising down of 2011 forecasts is simply a nominal/real issue entirely down to inflation.
We’ll have a better idea in the Autumn when the next OBR forecast (which will be revised down) also gives us new nominal forecasts.
Guess we’ll have to disagree until then.
I found this graph showing how the forecast for nominal/real/deflator has changed for 2011:
http://stocktickle.com/2011/08/04/uk-gdp-forecast-revised-up-for-2011/
it looks pretty compelling, though I haven’t checked the numbers.
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[...] to do? Almost certainly cause a fall in effective demand. Which as Duncan Weldon points out, is exactly the problem with the economy at the moment. And of course, unless demand were to pick up, firms are unlikely to start investing [...]
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Unfortunately the rise in prices has not coincided with a rise in wages, so households are having to keep a tighter grip on their outgoings and income. It would appear that without wages going up (or back up) there will be no confidence from the consumer to begin spending as they did before. This, in turn, has once again slowed down the UK economic recovery.
Katie Leaver, London Loves Jobs