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28 Oct, 2021 09:06

Dishy Rishi Sunak serves up a thin gruel budget that fails to address the key problem with the UK economy – lack of productivity

Dishy Rishi Sunak serves up a thin gruel budget that fails to address the key problem with the UK economy – lack of productivity

​​The good news about the UK budget is that the economy is recovering to pre-Covid levels faster than we thought. The bad news is that, even before the pandemic, it has been and remains fundamentally under-productive.

After the crushing impact of the Covid pandemic and three national lockdowns, the UK economy was on its knees. Economic output fell by 25% in the immediate aftermath of the first lockdown in March 2020. So, the chancellor of the exchequer Rishi Sunak opened his Budget speech on Wednesday with relatively good economic news: things aren't as bad as everyone feared. But as for the chancellor's own policies? While there were a few tasty morsels, like simplifying the UK's mad alcohol taxes, there was little or nothing that would change the UK's dire economic fundamentals.  

The good news that Sunak announced was that the economy was recovering more than expected. The Office for Budget Responsibility has upgraded its forecast for economic growth and expects domestic economic output –GDP– to return to pre-pandemic levels around the end of this year. Unemployment, which was once expected to be stratospheric, will likely peak at just over five percent. In real terms, wages have grown by almost three and a half percent since March 2020. 

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The most obvious bad news is inflation. Sunak noted: “Inflation in September was 3.1% and is likely to rise further – with the OBR expecting CPI to average 4% over next year.” So, while wages may be rising, living standards for many people are likely to fall – particularly once an additional combined 2.5% is whacked on to National Insurance rates for employees and employers. Most of that will be used to try to deal with the NHS backlog of treatment, which will get worse before it gets better. 

Sunak could, not unreasonably, point to problems in the world economy for the rise in inflation. Energy prices are shooting up as demand rises and there are problems with supply chains, too. A world coming rapidly out of Covid hibernation is struggling to cope.  

That's why it is essential to look beyond these immediate problems, which are hopefully temporary, to examine the state of the UK economy in the longer term. One statement Sunak made was particularly striking in this regard: “If we want to see higher growth, we’ve got to tackle the problem that’s been holding this country back for far too long: our uneven economic geography.” 

While the country's economic divide is a problem, it is a symptom of something more fundamental: the UK's appalling record on productivity – a measure of how much wealth is created for each unit of labour. And productivity has been in the doldrums for years. While other developed countries have had similar problems, the UK's has been much worse.

In 2018, the Office for National Statistics (ONS) noted: “The UK has the largest 'productivity puzzle' – the difference between post-downturn productivity performance and the pre-downturn trend in the G7; this was 15.6 per cent in 2016, around double the average of 8.7 per cent across the rest of the G7.” The UK government and businesses are simply not investing enough to make work more efficient and productive. 

The upshot is stagnating living standards. Wages can't grow sustainably unless workers are producing more per hour than they did before. That requires investment in new equipment and systems. It doesn't even have to be terribly 'cutting edge' stuff. Just getting workplaces up to the latest standards of machinery, IT and the rest would be a big step forward. 

Instead, successive governments have been more obsessed with stability than with growth. The former Labour chancellor Gordon Brown made great play of his desire that there should be 'no more boom and bust' after a series of big recessions from the Seventies through to the early Nineties. Yet we still had a 'bust' with the financial crisis of 2008, but there's been precious little evidence of a 'boom.' Brown liked to boast about there being sixty-plus quarters of continuous growth under his stewardship of the treasury, but it was all pretty measly and much of it was generated by credit rather than production.

Since the crash, governments have been even more desperate to keep things on an even keel. The economy has been propped up by ultra-low interest rates and hundreds of billions of pounds have been pumped into the economy through the Bank of England's quantitative easing programme. Many firms are barely keeping their heads above water, simply surviving well enough to service their debts and too broke to invest to raise productivity. The problem is that those companies are leaching business from firms that are profitable and could invest more. 

The pandemic may have made things even worse. The government has spent the pandemic dishing out billions in loans to keep companies afloat. The good news is that many viable businesses that might have been ruined by the lockdowns have survived. The bad news is that even more of them are burdened with debt and in no position to invest further. What the economy needs is a bit of 'creative destruction,' getting rid of these 'zombie' companies so that more productive firms can thrive.  

In the short term, that would mean job losses, even a recession, but it would get rid of some of the barriers to long-term growth. One way would be to increase interest rates, even just a little. But Sunak admitted in his speech that even a rise of one percent could cost the government £23 billion per year, given the massive public debt. 

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The one 'big idea' that the Conservatives have got is the drive to reach Net Zero. That means that energy bills will continue to rise, whatever happens in global markets. It means government support and investment decisions will flow to environmental projects, many of which will make the productivity problem even worse. These policies will make life even more expensive while pushing capital into areas of the economy that may well prove to be dead ends. What was that old saying about governments being useless at 'picking winners'?

Turning things around would be painful, but putting off the necessary changes simply allows the problems to get even worse. This was another Budget that kicked the can down the road. 

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The statements, views and opinions expressed in this column are solely those of the author and do not necessarily represent those of RT.