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ECONOMY WATCH – UK and worldwide

Date: 26 January 2022

ECONOMY WATCH – UK and worldwide

Tarrant Parsons

Economist Dr Sentance is a former external member of the Monetary Policy Committee of the Bank of England. He has also been senior economic advisor at PwC and is currently senior adviser at economics consultancy, Cambridge Econometrics.

The impact of the Covid-19 pandemic

Statisticians calculate that GDP in the UK fell by 10% last year. To give context, Dr Sentance said there hadn’t been such a big drop since the 1920s, though the decline then was worse as it lasted three years. He added that given the extent of the fall, it was surprising the aftermath had not been more negative – but this was partly due to measures taken during the pandemic.

Since the most recent lockdown was eased, we are just 0.8% below where we started before the pandemic. So, it’s quite a good recovery, but we have not gone back to where we might have been without the pandemic, when we would have seen 1% to 2% economic growth.”
 
Lockdowns had created most of the business and economic problems, with the March 2020 lockdown prompting the most dramatic fall in UK output followed by a significant bounce-back in the summer as restrictions were eased. It fell again with next lockdown but impacts became less severe with each lockdown, as measures became less draconian and people adjusted behaviour, such as turning to online shopping. 
 
Sectors affected differently
 
Drilling down, sectors have been affected differently. Unsurprisingly health and social work experienced output growth. But, to a much smaller extent, so did hospitality, public administration, retail and wholesale and information and communication.

Sectors that saw negative output were admin/support, transport/storage, education, manufacturing, professional/scientific, construction, arts/entertainment and finance and insurance.
 
Brexit
 
The UK economy is about 5% or 6% below where economists in the 2010s expected it to be. This has been caused by Brexit as well as the pandemic.
 
“Most people in business and economics would say the impact of Brexit on the economy has not been positive. It’s disrupted trade arrangements, movement of labour, caused migrant workers to go back to their home countries; it has disrupted investments patterns, as businesses have been reassessed.
“While there are potentially positives with new trade agreements…that potential is going to take quite a time to realise, if it comes through at all.”
 
Dr Sentance added the recent trade deal with New Zealand, “a small country on the other side of the world”, would make little difference.
 
Global economy

Similar to the UK experience, global GPD experienced a sharp fall in 2020, dropping nearly 2% lower than in the 2008 financial crisis, then rising quickly before dipping again though to a much lesser extent.
 
Growth was expected to be quite strong in 2021/22, though it would not take us to pre-pandemic forecast levels, Dr Sentance said. Inflationary pressures would pick up this year and next.
 
GDP growth figures showed that the UK had been hit harder than the US and Euro area, but with a slightly stronger recovery forecast in 2021.
 
He added: “There’s not a massive difference in what’s happening in the major economies. But some of poorer economies are going to struggle much harder to recover. They don’t have the infrastructure and resources, access to the vaccines that helped us bounce back.”
 
Slow decade
 
The 2020s are not going to be a good decade for growth in the UK, with forecasts at 1.5%. According to Bank of England GDP growth figures, this will be among the slowest since the 1820s.
 
“One reason is the big economic shock of the pandemic, but even before that, we were seeing a significant slow-down in growth and productivity across Western economies. Economists haven’t properly explained that and certainly don’t have a solution for it.”
 
Negative Impact

The negative legacy of the coronavirus pandemic globally would likely be as follows:
  • “Scarring” of economy due to business closures, increased debt and employment disruption
  • Level of economic activity not returning to previous trends in many countries
  • Some health-related restrictions and uncertainty likely to persist and act as a drag on growth
  • Increased levels of public borrowing
  • Inflation threat from injection of large monetary and fiscal stimulus due to crisis measures
 
Dr Sentance referenced a recent CBI manufacturing survey which found we are now experiencing the greatest shortages of both skilled and ordinary labour plus materials since the mid 1970s.
 
Potential for positive impact
 
The pandemic might have the following positive influence:
  • Increasing interest in and policy support for the “green agenda”, with home or hybrid working seen as a long-term option and role of the office changing.
  • More business taking place online
  • Increasing awareness of impact of health and wellbeing on the economy, with more emphasis on “soft” capital investment, for example in health education.
  • A reshaping of the services economy, particularly affecting hospitality and travel; the need for frequent international travel has come into question.
 
Inflation in the UK
 
Taking 10 different inflation measures in August/Sept or Q2/3 of 2021, the average growth in inflation is 5.4%. Within this, the CPI shows a lower figure of 3.1%, but the house price index showed growth of 10.6% and factory gate prices were up 6.7%. Dr Sentance felt the average figure between 5% and 6% was an accurate prediction of where inflation was headed.
 
The increase would come from a variety of sources: rising energy, supply chain disruption and materials shortages, skill shortages and wage pressure, the ending of temporary tax cuts and business support, longer term tax and cost increases and the long period of loose monetary policy – with low interest rates and quantitive easing.
 
UK debt and interest rates
 
To put the national debt in context, the UK has had a debt of just below 100% of GDP – roughly where it is now – since the year 1700. There were spikes in war time, especially WW2, and falls in peacetime.
 
The current interest rate of 0.1% is an unusual development for the UK economy, the lowest level in recorded history. A move to 1% to 2% in the next 12-18 months was looking likely. Signals from Chancellor of the Exchequer, Rishi Sunak, suggested he was interested in tackling borrowing and Government debt. Dr Sentance advised a timeframe of 3 to 5 years to do this would be better than 1 to 2 years.
 
Dr Sentance said: “Even though the figures look scary, there’s no burning platform necessary for the Chancellor to rein in public debt. He’ll want to get borrowing down gradually but not necessarily as a matter of urgency. The risk is the Chancellor will be more austere than he needs to be, adding to business costs, and stalling recovery.”
 
 
Q&A
 
Q: The Government this week announced its Green plan ahead of the Glasgow COP26 conference. How deliverable do you think it feels? As we move to electric cars, for example, there’s a substantial loss of duties on petrol.
 
A: The challenge for Green agenda is it’s very long term. The Government is saying: ‘we’re going to shift from gas boilers in your home by 2035”. A lot of things could happen before then. The main observation to make is there’s a lot of talk and probably not enough incentive for people and businesses to take action now.
 
So, everything is couched in terms of net zero by 2050. These are very long time scales and everybody knows that the Government, as individuals, won’t be in power at that time.

“It's a real challenge. I don’t think the Government has done a good job at putting in place institutions and frameworks that would actually build confidence in how we are going go about the challenge.

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