Duncan’s Economic Blog

The Past is Another Country

Posted in Uncategorized by duncanseconomicblog on March 27, 2009

We all know we are in a recession, and today came the news that last quarter was worse than originally though. But we also all realise the recession will not last forever. Few seem to be discussing post-recession Britain. The assumption seems to be that it will resemble pre-recession Britain: house prices will continue their march upwards, the FTSE will quickly ascend to its old highs, consumers will rush back to the high street and business will return to normal.

I’m not so sure. Psychologists have a term called ‘recency effect’, a cognitive bias whereby if someone is exposed to something for long enough they tend to think of it as ‘normal’. It strikes me that many are suffering from this. The last two decades were not ‘normal’.

Fund managers like to differentiate between ‘cyclical’ and ‘structural’ shifts. A cyclical movement is a typical recession – the business cycle which is an ordinary part of capitalism. A structural move is something bigger, the slow but significant turning points of economic history.

Whilst most observers seem to think that Britain is only undergoing a cyclical downturn, I believe the movement is structural. The cyclical downturn will end – maybe at the end of this year, maybe in the next. The structural shift is more long lasting.

Without capital flows from Asia Britain will have to learn once again to live more within its means.

So what will the post-recession world look like? If I were to hazard a guess I’d suggest the following: permanently lower house prices, much less credit availability, less of a dominance of financial services and property in the economy. Consumer spending will simply not grow as quickly as we have become accustomed to. We’ll have to manufacture more. Savings rates will be higher.

The economy will simply not be as buoyant as in previous years. Although the economy will grow, if consumer spending does not grow as quickly as previously, people will not feel as well off. This has profound political implications. One that all parties must accept.

The agenda must be based about managing the transition. The Tory record on managing such structural shifts is terrifying, a legacy of destroyed local economies across the old manufacturing and mining communities. Labour will need to embrace a more active industrial policy, something Lord Mandelson seems to understand. We will need a rigorous focus on re-training and re-skilling. We will need to counteract the potential effects of what economists dub ‘Hysteresis’, the fact that a short term rise in unemployment can have more permanent effects.

All of those issues need to be engaged with in the next manifesto.