Giving up on growth
UK macro-policymakers just keep accepting economic damage as irreversible. They shouldn't.
Yesterday, the Resolution Foundation did what the Resolution Foundation do after every British fiscal event: they produced some excellent charts.
This one in particular caught my eye. It may be the single best economics chart I’ve seen in years.
More than 50 years of economic change, politics and policy all in one picture.
There’s so much here to discuss: how income growth (across the distribution) was stronger in the 1970s than the 2000s - something which is pretty difficult to square with the popular perceptions of those decades, the sharp distributional divides of the 1980s or just how amazing the late 1990s really were.
I’ll be returning to those themes next week. Today I want to concentrate on the right hand side of the picture. The projections for 2019/20 to 2024/25 are eye-catchingly bad. But, taken together, the whole period from around 2005 onwards is miserable.
And whilst the forecasts contained within the Spring Statement were unusually bleak, they come on the back (as Mike Bird pointed out yesterday) of 15 or so years of disappointing growth.
Over that period the UK macroeconomy has been hit by five economic shocks of varying severity: the financial crisis in 2007-09, the spill-over effects of the Eurocrisis in 2010-12, the increased uncertainty and falling value of Sterling after the Brexit vote of 2016, the pandemic and now the energy and food price shock resulting from Russia’s invasion of Ukraine.
Shocks, of course, happen. And policymakers can no more complain about them than a sailor can complain about the wind. What matters is how they react.
What has become increasingly infuriating is that after each hit, policy has meekly accepted the damage as somehow irreversible.
Take the example of the pandemic. Even before this week’s downgrades of their October forecasts, the Office for Budget Responsibility did not expect GDP to return to it’s March 2020 (pre-pandemic) growth path.
The OBR devoted a useful appendix this week to it’s estimates of the lingering economic impact of the pandemic. Or, to use the preferred jargon, the economic scarring.
They’ve actually become a touch more optimistic, lowering the total hit from three percentage points of GDP to two.
The assumptions aren’t especially unreasonable. Lower migration and increased mortality add up to a population some 300,000 smaller. To which one can add declining labour force participation and the results of cancelled investments lowering the expected national capital stock. A smaller total total number of people, fewer of whom are working and with a lower stock of capital all mean growth lower than it otherwise would have been.
But, reasonable as the assumptions are, they are not simply things which policymakers have to accept.
Getting back from the black line to the blue one is not easy or straight forward but nor is it impossible.
A tight labour market should draw some discouraged workers back, rapid growth could prompt firms to step up their investment helping the capital stock to catch-up to trend.
The sad thing is that British policymakers don’t seem at all interested in even trying anymore. In a speech at the start of the month Michael Saunders of the Monetary Policy Committee explicitly rejected the logic of attempting this:
I am not in favour of aiming to restore the lost potential output by “running the economy hot”. The deterioration in potential output due to Covid and Brexit probably cannot be reversed by cyclical pressures. For example, among the people who have left the workforce because of long-term sickness, decisions on whether to re-enter the workforce are likely to depend more on health considerations than on the availability of jobs. Rather than lift potential output, I suspect that a policy of “running the economy hot” would simply produce an even more persistent inflation overshoot and further lift long-term inflation expectations.
This appears to be, at heart, a belief that developments on the demand side of the economy can have a lasting negative impact on the supply side but not a positive one.
I can fully see the logic of thinking that a severe shortfall in demand can cause firms to close, investments to be cancelled and skills to wither. All of which obviously hits the growth potential of the economy. But I cannot see the reason to not hold the symmetrical belief; that a period of higher than expected demand can cause new firms to open, new investments to be planned and skills to develop.
All the way back in 2014, the Resolution Foundation published a useful short note on bounce-back ability.
The 1980s and 1990s recessions were both painful, but the lost output was eventually recovered. GDP, after a gap of 9 years in the 1980s and 6 in the 1990s, recovered to the previous trend.
Since then it seems we’ve given up on even trying.
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