Falling unemployment, declining inflation and stronger growth – a better picture for the UK in 2014? But can it last?
After several years of weak expansion, the UK economy is enjoying a relatively strong cyclical recovery
Can the UK continued to experience a recovery in output, jobs and investment?
Will the recovery be balanced and sustainable?
How resilient is the UK? What are some of the major threats to growth in 2014 and beyond?
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Threats to UK Economic Recovery
1. Threats to UK Economic Recovery
and long term Economic Growth
Geoff Riley
April 2014
2. Threats on the Horizon?
• After several years of weak expansion, the UK
economy is enjoying a relatively strong cyclical
recovery
• Can the UK continued to experience a
recovery in output, jobs and investment?
• Will the recovery be balanced and
sustainable?
• How resilient is the UK? What are some of the
major threats to growth in 2014 and beyond?
5. Reminder of key objectives of macroeconomic policy
Price Stability – i.e. Low
Positive Inflation
A Sustainable Growth of
Real GDP (National
Output)
Falling Unemployment /
Full Employment?
Higher Average Living
Standards (Income per
capita)
Improved Global
Competitiveness / Trade
Balance
A More Equitable
Distribution of Income
and Wealth
6. Is the UK achieving a Balanced
Recovery from the Recession?
1. Re-balancing away from consumption and
imports towards exports and business
investment
2. Re-balancing away from dependence on the
housing market towards manufacturing
3. Improving regional balance of output & jobs
7. State of the UK Economy 2009-2014
2014 data is a forecast 2009 2010 2011 2012 2013 2014
Real GDP - % change -5.2 1.7 1.1 0.1 1.4 2.4
Unemployment rate - % of
labour force
7.6 7.9 8.1 7.9 7.8 7.5
Fiscal balance - % of GDP -11 -10 -8.0 -6.2 -6.9 -5.9
Consumer price inflation – % 2.2 3.3 4.5 2.8 2.6 2.4
Current account balance (BoP) -
% of GDP
-1.4 -2.7 -1.5 -3.8 -3.4 -2.5
8. State of the UK Economy 2009-2014
2014 data is a forecast 2009 2010 2011 2012 2013 2014
Real GDP - % change -5.2 1.7 1.1 0.1 1.4 2.4
Unemployment rate - % of
labour force
7.6 7.9 8.1 7.9 7.8 7.5
Fiscal balance - % of GDP -11 -10 -8.0 -6.2 -6.9 -5.9
Consumer price inflation – % 2.2 3.3 4.5 2.8 2.6 2.4
Current account balance (BoP) -
% of GDP
-1.4 -2.7 -1.5 -3.8 -3.4 -2.5
9. State of the UK Economy 2009-2014
2014 data is a forecast 2009 2010 2011 2012 2013 2014
Real GDP - % change -5.2 1.7 1.1 0.1 1.4 2.4
Unemployment rate - % of
labour force
7.6 7.9 8.1 7.9 7.8 7.5
Fiscal balance - % of GDP -11 -10 -8.0 -6.2 -6.9 -5.9
Consumer price inflation – % 2.2 3.3 4.5 2.8 2.6 2.4
Current account balance (BoP) -
% of GDP
-1.4 -2.7 -1.5 -3.8 -3.4 -2.5
10. State of the UK Economy 2009-2014
2014 data is a forecast 2009 2010 2011 2012 2013 2014
Real GDP - % change -5.2 1.7 1.1 0.1 1.4 2.4
Unemployment rate - % of
labour force
7.6 7.9 8.1 7.9 7.8 7.5
Fiscal balance - % of GDP -11 -10 -8.0 -6.2 -6.9 -5.9
Consumer price inflation – % 2.2 3.3 4.5 2.8 2.6 2.4
Current account balance (BoP) -
% of GDP
-1.4 -2.7 -1.5 -3.8 -3.4 -2.5
11. State of the UK Economy 2009-2014
2014 data is a forecast 2009 2010 2011 2012 2013 2014
Real GDP - % change -5.2 1.7 1.1 0.1 1.4 2.4
Unemployment rate - % of
labour force
7.6 7.9 8.1 7.9 7.8 7.5
Fiscal balance - % of GDP -11 -10 -8.0 -6.2 -6.9 -5.9
Consumer price inflation – % 2.2 3.3 4.5 2.8 2.6 2.4
Current account balance (BoP) -
% of GDP
-1.4 -2.7 -1.5 -3.8 -3.4 -2.5
12. Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
13. Inequality of Income & Wealth
• Widening wealth
and income gap
• Social immobility
Median income = £21,400
Mean income = £30,100
Mean income for top 1% = £150,000
Mean income for poorest 1% = £8,430
14. Some Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
15. The Productivity Puzzle
• UK productivity
has fallen since
2008
• Persistent
productivity gap
with leading
nations
• Holds back
growth of
potential GDP
• Why is this
happening?
Britain's productivity gap with its
main developed country rivals is at its
widest in 20 years –if productivity
stagnates, wages are less likely to rise
and growth could disappoint
16. Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
17. Could rising costs de-rail recovery?
Energy prices Climate change
policies
Labour costs Financing costs
Cost pressures on UK
businesses have eased in
recent years
But volatile costs cause
uncertainty
Higher costs hit profits
and planned capital
investment
18. Could rising costs de-rail recovery?
Energy prices Climate change
policies
Labour costs Financing costs
Cost pressures on UK
businesses have eased in
recent years
But volatile costs cause
uncertainty
Higher costs hit profits
and planned capital
investment
20. Could rising costs de-rail recovery?
Energy prices Climate change
policies
Labour costs Financing costs
Cost pressures on UK
businesses have eased in
recent years
But volatile costs cause
uncertainty
Higher costs hit profits
and planned capital
investment
21. Could rising costs de-rail recovery?
Energy prices Climate change
policies
Labour costs Financing costs
Cost pressures on UK
businesses have eased in
recent years
But volatile costs cause
uncertainty
Higher costs hit profits
and planned capital
investment
22. Could rising costs de-rail recovery?
Energy prices Climate change
policies
Labour costs Financing costs
Cost pressures on UK
businesses have eased in
recent years
But volatile costs cause
uncertainty
Higher costs hit profits
and planned capital
investment
23. Over-dependence on low interest rates?
“Investors are becoming dangerously reliant on
rock-bottom interest rates, with many
becoming so indebted they will face serious
problems when borrowing costs rise, the
International Monetary Fund (IMF) has
warned. The IMF said that the amount of cash
spent on leveraged loans - the high-debt
instruments with financial problems - now
exceeds the level in 2007 before the crisis.”
– Ed Conway, Sky News, April 2014
24. Some Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
28. Some Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
30. Deflation risk
Adjustment and
recovery in
southern Europe
cannot be taken
for granted,
especially if Euro
Area-wide
inflation remains
low, or even
turns into
deflation. (IMF,
April 2014)
31. Some Threats to the UK Recovery
Inequality and
Immobility
Stagnant
Productivity
Rising Costs of
Production
Public and
Private Debt
Continuing
Euro Crisis
Another
Housing
Bubble
35. Legacy of Recession: Hysteresis v Creative Destruction
When an economy is
disabled by recession – risk
of permanent loss of
national output
Loss of productive capacity
due to low investment /
business closures
High rates of long-term
structural unemployment –
shrinking labour force
Hysteresis Recessions can cast a dark
shadow but capitalist
economies usually bounce
back
Recessions prompt
emergence of new business
models and an increase in
start-ups
New technologies can act as
a catalyst for renewed
growth and investment
Creative
Destruction
36. Legacy of Recession: Hysteresis v Creative Destruction
When an economy is
disabled by recession – risk
of permanent loss of
national output
Loss of productive capacity
due to low investment /
business closures
High rates of long-term
structural unemployment –
shrinking labour force
Hysteresis
Capitalist economies usually
bounce back
Recessions prompt
emergence of new business
models and an increase in
start-ups
New technologies can act as
a catalyst for renewed
growth and investment
Creative
Destruction
37. Legacy of Recession: Hysteresis v Creative Destruction
When an economy is
disabled by recession – risk
of permanent loss of
national output
Loss of productive capacity
due to low investment /
business closures
High rates of long-term
structural unemployment –
shrinking labour force
Hysteresis
Capitalist economies usually
bounce back
Recessions prompt
emergence of new business
models and an increase in
start-ups
New technologies can act as
a catalyst for renewed
growth and investment
Creative
Destruction
40. Coalition Policies
Austerity measures, cutting govt spending, welfare caps, reducing
the number of public sector jobs
Desired Effect:
• To reduce borrowing requirements
• To reduce debt servicing costs
• To maintain / reclaim AAA credit rating
Winners: Losers:
Borrowers – cheaper interest rate Businesses and consumers – less jobs
lower incomes, more hardship
Tax payers paying off debt in future
43. Coalition Policies
Public sector redundancies, cutting spending for local government,
privatisation (e.g. Royal Mail and the Tote)
Desired Effect:
• To encourage more private sector activity
• To reduce inefficiencies in government departments
• Belief that government sector is less innovative and dynamic / low value for money
Priority:
Less public sector activity SHOULD encourage “crowding in” of private sector activity.
44.
45. Coalition Policies
£375 billion of planned public and private sector infrastructure
investment has been announced by the government.
Desired Effect:
• Address problems created by ageing infrastructure
• Capital spending designed to improve competitiveness and growth
Possible Diagram:
Investment as a component of AD
LRAS effects import too
Time
• Very long time lags – will pension fund / insurance companies continue to fund into
the long term?
46. Key Infrastructure Projects
• 2nd Forth Road Bridge
• Argyll wind farm array
• Cross Rail
• High Speed Rail 2
• London Gateway Port
• Network Rail’s £28bn infrastructure plan for the
UK rail network
• London’s new super sewer
• Nuclear power plants e.g. the proposed one at
Hinkley Point
47. Coalition Policies
New Competition and Markets Authority, Privatisation, further
liberalisation of markets such as energy, postal services, banking
Desired Effect:
• To address widespread “market failures”
• To boost productive, allocative and dynamic efficiency
• To provide incentives for extra investment as a driver of growth
Efficiency:
Will regulators be sufficiently powerful and decisive?
Substantial barriers to entry exist in many utility industries
48. Coalition Policies
Patent box incentive, cuts in corporation tax, reforms to
immigration policy, launch of the Green Investment Bank
Desired Effect:
• To rebalance the economy away from just service sector growth
• To increase injections into the circular flow and create multiplier effects
• To seek markets beyond Europe and North America to diversify risk
Wider Context:
Shifting sands of globalisation – not just a BRIC story anymore
Trans-Pacific Partnership, US-European trade talks
The rise of South-South trade
Greater use of managed currencies by countries as a macro policy instrument
49. Selected Competitiveness Rankings for 2013
1:
Switzerland
2: Singapore
3: Finland
4: Germany
5: United
States
10: UK
Competitiveness Indicators
1. Institutions and
Infrastructure
2. Macroeconomic stability
3. Health/education systems
4. Financial markets (including
strength/stability of banks)
5. Technological readiness
6. Market size (linked to
population size and per
capita incomes)
7. Business sophistication
(quality of supply chains,
industrial clusters) and rate
of innovation
53. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
54. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
55. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
56. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
57. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
58. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
59. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
60. Key Supply-Side Challenges for the UK Economy
Persistent
Productivity Gap
High youth
unemployment
Deep regional
economic divide
Structural trade
deficit (BoP)
Low trend growth
of GDP
Rise of Emerging
Nations
Low investment &
research spending
Rising inequality /
relative poverty
61. Long run supply side growth
• Analysis - Identify 3 policies
that might boost the supply
side of the UK economy in
the long term
• Evaluation – What factors
might limit the effectiveness
of your suggestions?
62. Improving labour supply
Analysis
• A labour shortage is
often a reason limiting
the economy’s scope
for growth
• Additional labour can
be obtained from
overseas, or by boosting
participation rates of
the native UK labour
force.
Evaluation
• Immigration is politically
controversial – depends
on nature of migration
• Tax and welfare systems
can create disincentives
for people to take paid
work
63.
64. Longer Term Dynamic Effects of Migration
Labour Market Fiscal Effects
Consumption Competitiveness
Waves of inward migration can have structural effects on a
country’s macroeconomic performance
Increase in the
labour supply
which might cause
lower unit labour
costs for host
country
Inward migration
increases pressure
on govt spending
but will also lead
to rising tax
revenues
• Human capital
helps generate
new ideas
• Many migrants
start businesses –
possible exporters
• Knowledge
spillovers
• Increase in
population size
• Rising demand
for public services
• If housing stock
is fixed, can lead
to higher prices
and rising rents
65. Longer Term Dynamic Effects of Migration
Labour Market Fiscal Effects
Consumption Competitiveness
Waves of inward migration can have structural effects on a
country’s macroeconomic performance
Increase in the
labour supply
which might cause
lower unit labour
costs for host
country
Inward migration
increases pressure
on govt spending
but will also lead
to rising tax
revenues
• Human capital
helps generate
new ideas
• Many migrants
start businesses –
possible exporters
• Knowledge
spillovers
• Increase in
population size
• Rising demand
for public services
• If housing stock
is fixed, can lead
to higher prices
and rising rents
66. Longer Term Dynamic Effects of Migration
Labour Market Fiscal Effects
Consumption Competitiveness
Waves of inward migration can have structural effects on a
country’s macroeconomic performance
Increase in the
labour supply
which might cause
lower unit labour
costs for host
country
Inward migration
increases pressure
on govt spending
but will also lead
to rising tax
revenues
• Human capital
helps generate
new ideas
• Many migrants
start businesses –
possible exporters
• Knowledge
spillovers
• Increase in
population size
• Rising demand
for public services
• If housing stock
is fixed, can lead
to higher prices
and rising rents
67. Longer Term Dynamic Effects of Migration
Labour Market Fiscal Effects
Consumption Competitiveness
Waves of inward migration can have structural effects on a
country’s macroeconomic performance
Increase in the
labour supply
which might cause
lower unit labour
costs for host
country
Inward migration
increases pressure
on govt spending
but will also lead
to rising tax
revenues
• Human capital
helps generate
new ideas
• Many migrants
start businesses –
possible exporters
• Knowledge
spillovers
• Increase in
population size
• Rising demand
for public services
• If housing stock
is fixed, can lead
to higher prices
and rising rents
68. Longer Term Dynamic Effects of Migration
Labour Market Fiscal Effects
Consumption Competitiveness
Waves of inward migration can have structural effects on a
country’s macroeconomic performance
Increase in the
labour supply
which might cause
lower unit labour
costs for host
country
Inward migration
increases pressure
on govt spending
but will also lead
to rising tax
revenues
• Human capital
helps generate
new ideas
• Many migrants
start businesses –
possible exporters
• Knowledge
spillovers
• Increase in
population size
• Rising demand
for public services
• If housing stock
is fixed, can lead
to higher prices
and rising rents
69. Improving labour mobility
Analysis
• The UK housing market
often makes it difficult
to overcome problems
of geographical
immobility of labour
• Big differences in house
prices and poor
transport links prevent
labour movement
Evaluation
• Tackling the housing
market and transport
infrastructure problems
Britain faces is a huge task
• Interventions are often
hugely expensive with
significant time lag
problems
70. Improving
labour productivity
Analysis
• It’s vitally important that the
UK doesn’t just have more
labour, but better labour –
that can produce higher
value output
• Investment in skills, training
and equipment are all
possible routes to higher
productivity
Evaluation
• This is a long term
problem that can take a
generation to tackle.
• Who is responsible?
Firms or government?
• Who should pay?
71. Improving
innovation and enterprise
Analysis
• By creating the conditions in
which innovation and
enterprise thrive, new
businesses will start-up,
new products will be
developed and new markets
pioneered
• The greater the incentive,
the bigger the gains
Evaluation
• Tax cuts to incentivise
entrepreneurial wealth
might cause increases in
inequality.
• Innovation often has high
failure rates, making it
hard for governments to
‘pick winners’.
72. Improving infrastructure
Analysis
• Improved infrastructure
could help reduce the
‘bottlenecks’ that prevent
the economy from
expanding
• Improved transport can aid
labour mobility, cheaper
energy reduces costs across
the economy.
Evaluation
• Transport and energy
infrastructure is expensive
and are subject to
significant time-lag effects.
• Infrastructure provision
sometimes conflicts with
other policy goals, such as
reducing environmental
impacts
73. Economic Importance of Infrastructure Investment
Examples of UK infrastructure projects
• 2nd Forth Road Bridge
• Cross Rail and the High Speed Rail project
• London Gateway Port & new London super sewer
• Nuclear power plants including Hinkley Point
Economic significance of infrastructure
• Potentially high multiplier effects from multi-
billion investment projects – boosts AD and jobs
• Lack of infrastructure may discourage FDI
• Increases the capital stock / productive potential
74. Economic Importance of Infrastructure Investment
Examples of UK infrastructure projects
• 2nd Forth Road Bridge
• Cross Rail and the High Speed Rail project
• London Gateway Port & new London super sewer
• Nuclear power plants including Hinkley Point
Economic significance of infrastructure
• Potentially high multiplier effects from multi-
billion investment projects – boosts AD and jobs
• Lack of infrastructure may discourage FDI
• Increases the capital stock / productive potential
75. Examples of UK Government Supply-Side Policies
Privatisation of
Royal Mail
Patent Box
Incentive
Modern
Apprenticeships
Welfare Caps /
Reforms
Shale Gas Tax
Cuts
Corporation Tax
Cuts
National
Infrastructure
Plan
Launch of Green
Investment
Bank
76. To what extent could supply side improvements
improve UK competitiveness?
Knowledge
Application
• Refer to supply side problems that raise UK business costs
and restrict competitiveness
Analysis
• Identify supply side policies and explain how they might
work. Use an AS/AD diagram to show the impact of changes
in AS on real income, and especially the price level.
Evaluation
• Discuss the problems and limitations of supply side policies.
Introduce other factors that influence competitiveness,
such as the exchange rate.
77. Threats to the Recovery - Overall
• Domestic threats:
– Continued weak productivity
– Damaging effects of high debt levels
– Vulnerability to a rise in interest rates
– Doubts about level of spare capacity
– Falling real wages for millions
– Evidence of renewed housing / consumer credit boom
– Regional imbalances continue to widen
– UK running a historically high current account deficit
78. Threats to the Recovery - Overall
• External threats:
– Deflation / slowdown in European Union
– Geo-political risks including Ukraine crisis and risk
of rising world food prices
– Appreciating sterling – damaging exports?
– World economy perhaps over dependent on ultra-
low interest rates – will global growth slump if
interest rates start to rise?