Jeremy Peat: 'The torrent of data and commentary over the past days leads to an inescapable conclusion'

Preliminary estimates (always liable to adjustment) suggest that in the period January to March 2018 UK Gross Domestic Product grew by a paltry 0.1%, just north of nothing at all. The more detailed data indicate that this was not all the adverse impact of the ‘beast from the east’. The construction sector fell away sharply and the small increase in production was down primarily to mining and quarrying and electricity and gas – more heating because of the big freeze no doubt. ‘Services’ is always the largest and hence critical sector. To quote the Office for National Statistics: - “Despite services growth in the most recent quarter, the quarter on same quarter a year ago growth shows a long-term weakening in this part of the economy, particularly in the more domestic consumer-facing industries.”

Over the past 12 months the UK’s rate of economic growth has been just one half of the average for the past 25 years. The weaknesses in business investment and consumer expenditure, alongside continuing tightening of fiscal policy, suggest that the situation can only deteriorate for the next 24 months. The Brexit-related uncertainties over this period will if anything accentuate; and please remember that we are still to face the real negative effects on the economy to be expected when Brexit becomes a reality rather than an all-dominating threat and hit on expectations.

There had been a policy line evolving in the Bank of England that interest rates should be hiked this week and then again and again in a few months, to head off a new incarnation of the inflation threat. Inflation was above target because of sterling’s depreciation following the Brexit vote. But at the same time inflation has been checked by the fact that real earnings have been declining, despite the low level of unemployment. Until very recently Bank economists were anticipating a change in trend, to a steady and continuing increase in earnings growth, rises in pay in real terms, stimulating domestic demand and hence stoking inflation.

The latest data must have put an end to that cunning plan. Certainly the markets believe that to be the case as they have marked sterling down sharply – with the perverse effect of raising inflation risks a touch. But fundamentally, as pointed out in a recent blog by David Bell and Danny Blanchflower, the Bank’s Monetary Policy Committee has over-estimated future wage growth in each of its past 17 quarterly Inflation Reports.

The unusual state of our economy is exemplified by this fact that the MPC has consistently and significantly over-estimated both productivity growth and wage growth for an extended period. The two phenomena have to be connected. It looks as if the root cause is a high level of under-employment in our economy despite the low level of unemployment. Folk may have jobs, but these involve fewer hours of work and less pay than they would like. The new jobs created since the 2008 recession tend to be predominately low-skilled and relatively low paid; and often part-time.

This state of affairs has to change if we are to move towards a higher productivity and rising real wage economy. That will require much improved business confidence and higher investment in our economy from both business and our public sector. A combination of weak business investment and inadequate expenditure on critical infrastructure requirements is exactly the wrong way towards a more productive and competitive economy.

We still await data for Scottish GDP for the first quarter of this year. However, the latest figures that we do have show that Scotland under-performed the UK as a whole both in Q4 2017 and for last year as a whole. Further the latest data from the OECD show a sharp fall-off in inward investment into the UK (presumably including Scotland) and a boom in outward investment. But at the same time retail sales data for Scotland in Q1 are distinctly encouraging. No chickens being counted; we shall wait and watch.

Now for two longer-term thoughts; the first relates to monetary policy. It is quite understandable that the MPC wants to get UK interest rates higher, because if this is not achieved then it is difficult to see what stimulus could be deployed to boost our economy if slower growth deteriorates into recession. Ideally when next recession strikes they would like to be in a position to cut rates by c.3% to provide a real boost. Rates will have to rise a good way before that time of stimulus is achievable. What policy measures remain to help move out of recession if interest rates remain near zero?

The second thought is with regard to a major topic which merits much more attention – namely inter-generational equity or how the elder generation is (relatively) thriving at the expense of them younger folk. Data from the Institute for Fiscal Studies tells us that the so-called millennials are experiencing a decline in generation-on-generation rates of pay. Pensioners have a higher rate of pay than working-age people.

One last amazing statistics from that IFS source; in the 1980s it took some 3 years for an aspiring house buyer to save for a deposit. For these millennials it is likely to take 18 years. This degree of inequity is deeply painful and unsustainable.

Jeremy Peat is visiting professor at the University of Strathclyde International Public Policy Institute.