EconomyIssue 01 - 2023MAGAZINE

British economy headed for a perfect storm

By 2024 the overall price level will be some 15% higher than was estimated in the autumn of 2021

The Bank of England’s (BoE) forecast of a 15-month recession, along with inflation well into double digits, and worse, the sharpest fall in living standards on record, shocked Brits. It should not have been the case. Ukraine war has caused global price hikes and economic woes; these are turbulent times. In Britain, the crisis has exposed our extreme vulnerability caused by 40 years of wrongheaded economic policy.

This economic conjuncture is the bleakest witnessed in the country’s history. Every dysfunction, whether it’s poor productivity, the threadbare welfare state, the menace of predatory finance, inadequate human capital, a systemic aversion to risk-taking, or a paucity of public investment, has emerged at the same time to create a perfect storm.

One could also add the carelessness about who owns the UK’s national assets, a lack of economic resilience in critical sectors, overheated property prices, exit from the EU’s single market, impotent regulatory agencies, weak business investment, the list goes on.

Worse, the resulting analysis from the country’s political class is desperately inadequate. On the (increasingly dominant) right of the Conservative Party, the answer is seen as doubling down on the Thatcherite brew that is the proximate cause of the crisis: a commitment to small-state economics, low taxes, and minimal intervention to “unshackle enterprise” from imagined over-regulation. And the left is yet to offer a systemic, comprehensive response, notwithstanding interventions like the popular proposal for an energy price freeze.

Activists demand full-blooded, top-down “socialism” while the broader liberal-left tradition (plainly the direction Labour’s Keir Starmer wants to take his party) fails to work out feasible, practical reforms, leaving a vacuum. In the face of an economic and social emergency, dramatized by millions being unable to pay fuel bills potentially as high as £5,000 in 2023 but with roots that go very much deeper, the political response is not good enough.

The facts are these: inflation will only retreat little by little in the years ahead. By 2024 the overall price level will be some 15% higher than was estimated in the autumn of 2021, a forecast already quaintly outdated. The Bank of England is projecting five successive quarters of recession, extending into the last three months of 2023. On both these indicators, Britain’s performance will be the weakest in the G7.

The country thus confronts continuing “stagflation”, stagnant growth and ongoing inflation, until at least the mid-2020s, if not beyond. Business investment is running below its dismal long-term average as confidence drops sharply, while hitherto buoyant inward investment from overseas firms has stagnated, both impacted by Brexit. Exports have been savagely hit by the loss of access to EU markets and that loss has not been compensated for by growth elsewhere. In the first quarter of 2022, the UK’s current account deficit was 8.3% of GDP, a scale normally only seen by emergent and basket-case economies.

The Sterling has fallen by more than 10% against the dollar since March 2022. Bank of England officials had hoped that interest rates would peak around 3% after the recent rise to 1.75%, but that seems improbable as inflation climbs, simultaneously interacting with the weakness of the currency. The market expectation is that rates will now peak at 4% over the next 12 months, but even that may be an underestimate given the need both to contain inflation and support the sterling. As a result, a generalized fall in house prices is increasingly likely: Capital Economics forecasts a decline of 7% over the next two years, with others chiming in with even gloomier predictions.

British consumers’ willingness to spend is closely correlated with buoyancy in the housing market: A decline in house prices, although much needed by first-time buyers, will have the unwelcome side effect of adding momentum to the coming recession. Beware: If the administration mishandles economic policy by prioritizing inflationary tax cuts, poorly targeted help with energy bills, and ill-conceived, unproven deregulation to “unshackle” enterprise, the recession could be much deeper and more protracted than even the Bank’s recent forecast. The British economy’s vulnerabilities are being cruelly exposed. Where can these vulnerabilities be found and what can be done to remedy them?

Poor productivity becomes acute

Poor productivity, long the bane of the UK economy, has now become acute. Ever since the 2008 financial crisis, the productivity growth rate has slumped, leaving little scope for wages to grow. Indeed, after rising by around a third on average for every decade since 1970, over the last 14 years, real wages have broadly stagnated, a trend now made starker by prices rising faster even than nominal wages. The 3% drop in the real value of regular pay between April and June 2022 compared with last was the sharpest on record. The pain is manifesting itself in the wave of industrial unrest. One in five households is predicted to have exhausted its savings by the end of 2024, and this is happening as the basic level of benefits has dropped to £77 per week, the lowest in relation to average pay on record.

Both the Resolution Foundation think tank and the National Institute for Economic and Social Research warned that the combination of falling living standards and desperately weak income support could push well over a million families into destitution by the next election. The number could rise even higher depending on the scale of support the new government offers households facing dramatic hikes in energy bills. Voices as various as money-saving experts Martin Lewis and Tory mayor of Tees Valley Ben Houchen are right to warn that Conservative leaders have not begun to grasp the avalanche of social distress about to overwhelm so many, with families having to choose between shivering or starving.

Yet the deep-rooted deficiencies of the British economy go unaddressed. Take the skills deficit in the British workforce, which is as immune to successive state efforts to encourage training as ever, exacerbated by weak middle management. Over £3bn of unspent Apprenticeship, Levy funds have been returned to the Treasury over the last three years. Colleges, the locus of reskilling and training, report that they are unable to recruit teachers or lecturers at prevailing public sector wages, and so are unable to meet the demand for courses in fast-growing industries like robotics or AI. The average number of days an employee spends on training each year fell by 18% between 2011 and 2017.

Public services generally have been weakened by the austerity of the former coalition government, and the tardiness of its successors in loosening the purse strings. Education spending in real terms is projected only to recover to 2010 levels in 2024 — and then only if the government is prepared to ratchet nominal spending up in line with the sharp rise in inflation since the 2021 plans were signed off. The NHS, with a record backlog of 6.7 million -people waiting for treatment, including for acute and chronic illnesses, is reeling. People are fearful about the consequences of falling ill as news spreads about waiting lists and the difficulty of even getting an appointment with a GP. From the Passport Office to the criminal justice system, public provision is failing. The decimation of our public realm was not caused by an act of God or even belt-tightening required by underlying economic circumstances. It is an active choice by Conservative politicians who value tax cuts and limited public borrowing over high-quality public services. The results are there for all to see.

Equally worrying is the lack of economic dynamism. The UK stock market now rarely raises new risk money for start-ups, scale-ups, or flotation. There is only one fully-fledged technology company in the FTSE 100. Enduring weaknesses in investor and bank support for businesses, especially small- and medium-sized businesses, persist. Loans to businesses are largely still made against the collateral of bricks and mortar rather than ideas, new technologies, and business plans. Nor can build a dynamic economy while rewards for those at the top remain lush, with incomes at the bottom under such intense pressure. The right believes that inequality and growth go together — as the necessary consequence of offering generous rewards to risk-taking wealth creators — but the UK seems to have the worst of both worlds, with the highest inequality in Europe and growth rates that are truly dismal.

And the storm is getting heavier

The annual inflation rate jumped to 11.1% in October of 2022 from 10.1% in September. It has become the highest inflation rate since October 1981. The main contributors to this crisis are housing and household services (26.6% vs. 20.2%), with increases in natural gas (128.9%) and electricity (65.7%) prices snuffing the life out of common Brits. Prices for food and non-alcoholic beverages (16.2% vs. 14.5%) are also maintaining higher ranges.

There has been a change of guard as well, with Conservative MP Rishi Sunak replacing Liz Truss, who resigned on October 20, after a tumultuous 45-days reign, which saw a disastrous ‘Mini Budget’ weakening the COVID-battered economy even further through unplanned tax reforms, energy bill cap and stamp duty.

However, Rishi Sunak’s appointment at 10 Downing Street hasn’t brought much cheer. The inflation ratio came down from its all-time high of 13.2% to 11.1%. That’s the only good news if the writer has to be that optimistic.

Now, the Confederation of Business Industry forecast says that Britain’s economy will shrink by 0.4% in 2023.

The CBI’s forecast marks a sharp downgrade from its last forecast in June, when it predicted growth of 1.0% for 2023. Also, the UK GDP won’t return to its pre-COVID level until mid-2024.

To make matters worse for the Brits, consumer product prices will rise by 5.7% in the coming months.

Bloomberg cited a Bank of England report, where chief financial officers surveyed by the apex bank said that they expect prices to be growing at an annual rate of 7.2% till 2023 end and by 3.9% in the following three years.

A Guardian report says that up to half a million of the most vulnerable Brits haven’t got government help to pay their energy bills since October, with an estimated 1.3 million vouchers for homes with prepayment meters either lost, delayed or unclaimed. All UK households are supposed to receive £400 during the winter period of 2022-23 under the energy bills support scheme, announced in February 2022.

Analysts have warned of a 30% collapse in the domestic property market, perhaps the biggest demand slump since the 2008 Global Financial crisis. New homebuyer enquiries have plunged to their lowest level, reveals the stats from RICS Housing Surveyors Report.

Average home price has dropped some 1.4% to £263,788 in November 2022, according to the building society’s house price index. It was the third monthly decline in a row, and the biggest drop since June 2020. Annual house price growth slowed down sharply to 4.4% in November 2022, from 7.2% in October.

Average five-year fixed mortgage deals are still above 5% and resulting in higher costs and this has continued to keep the demand on the lower side.

This slowdown came after a two-year COVID-induced home buying frenzy, as property transactions in September 2022 went down by 32% from their 2021 peak.

As per the British Retail Consortium data, prices of meat, eggs and dairy are rising. Supermarkets are going through product shortages and supply chain stretches.

Not only eggs, aubergine, cucumber, peppers and tomatoes are getting short in supplies and won’t please those who were thinking to consume veggies to meet their nutritional needs.

North-East UK has been the biggest sufferer of this food crisis, with areas such as Birmingham and Liverpool facing the maximum brunt. As per the Consumer Research Data Centre at the University of Leeds, some 45% of this particular area of the country needs “extra support”.

Families in Yorkshire and the Humber, the West Midlands and the North West too are struggling to afford nutritious food.

The area around Birmingham and Liverpool is also having poor online delivery access and high levels of fuel poverty. The residents are either from the low-income category or lack car access to the nearest food bank/supermarket.

Seven in ten Parliamentary constituencies have at least one area in need of urgent help accessing affordable food. Research by an educational charity called ‘Sutton Trust’ shows that over half of UK, schools are witnessing a steady rise in pupils who can’t afford lunchtime meals and yet are not eligible for a free school meal.

Things have indeed gone out of hand, so much so, that Finance Secretary Jeremy Hunt asked the banks to support the Brits struggling to pay their mortgages amid the ongoing cost-of-living crisis.

There is no hiding from the fact that UK homeowners have been hit with higher mortgage payments, thanks to the Truss government’s disastrous mini-budget, which deteriorated the cost-of-living crisis in 2022. Borrowing costs have gone up, along with the payments on variable-rate mortgages. Even the ones, who need remortgage, are facing higher rates as well.

While average five-year fixed mortgage deals are ranging around 5% (in some cases, have gone above that ratio as well), this has put additional pressure on households amid soaring energy and food bills.

Lenders have been contacting customers to remind them about the payment deadlines, but even if they want to provide assistance to these vulnerable Brits, the lack of guidance from banking regulators is proving to be a major roadblock for them.

While the Financial Conduct Authority (FCA) asked the UK banks to be flexible during the COVID period by providing payment holidays and interest-only arrangements, it hasn’t been that prescriptive on how these lenders can provide a respite to their customers during the cost-of-living crisis.

The winter of 2023 won’t be a kind one for the Brits. This time, they are faced with a tough choice between shopping for high-end products or stocking up on food and other necessities as the winter steps in. Political instability and disastrous economic planning from the Conservatives have truly muddled the plot for the domestic population, so much so that daily survival has become a sort of battle for them.

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