Rebalancing the economy

John Mills

The forthcoming EU referendum has turned out to be a major distraction from where our real economic problems lie. Some of the reasons why our economy is slowing have to do with the world economic situation – banking and credit problems in China, instability in the Eurozone, particularly in Greece and Italy and increasing debt in many parts of the world, mostly fuelled by vain attempts to shore up demand sucked out of too many economies by balance of payments deficits. But most of the problems in the UK are not fundamentally to do with either Brexit or world conditions. They are the result of misguided policies pursued by successive governments including – sad to say – the Labour administration between 1997 and 2010. The result is that the UK economy is now really dangerously unbalanced.

The proportion of our annual GDP which we invest rather than consume dropped by the end of 2015 to 12.7% excluding intellectual property – compared to a world average of about 24% and almost 50% in China. By the time you take off depreciation, running at about 11.5%, almost nothing is left – and certainly not enough to keep up with our rising population which triggers a need for about 4% of our GDP to be spent on new investment just to stop our existing accumulated capital being diluted down. This desperate lack of investment is largely why productivity in the UK is almost static.

We have deindustrialised to the extent that now only 10% of our GDP comes from manufacturing, compared to almost one third as late as 1970. As a result, we have lost out on the increases in output per head which manufacturing is much better at producing than services; we have lost millions of high quality blue collar jobs as regional and socio-economic inequality has markedly widened; and we cannot pay our way in the word. We have a huge trade deficit in goods, running at about £120bn a year, only partly offset by our £80bn annual surplus on services.

This contributes to the next problem, which is our massive balance of payments deficit, running at 7% of GDP by the end of last year. Our net income from abroad has turned sharply negative as a result of all the assets we have sold and the money we have borrowed to finance year after year of foreign payments deficits. Transfers abroad – to the EU, remittances abroad and expenditure on our aid programmes – have also been on a rising trend. The result is that we now have a total balance of payments deficit running at well over £100b per annum.

Because, to finance this deficit, we have to sell assets or borrow, we are running up debt both as a nation, through our government and as individuals, far faster than our capacity to pay it back. Because the balance of payments deficit is more or less the mirror image of the government deficit, there is almost no chance of getting rid of one while there is a huge gap on the other.

Finally, what growth we have seen has been driven not by net trade and investment but by consumer demand, largely based on ultra-low interest rates and asset inflation. Unemployment has gone down as a result – which is good – but this can’t go on for ever. The position we are in is completely unsustainable.

What can we do about it? We have to get the economy rebalanced. We need to get gross investment as a percentage of GDP up to 20% or more. To have any chance keeping the balance of payments in viable condition, we need to get manufacturing as a percentage of GDP up to at least 15%. We need to be able to earn our keep in the world and for growth to come from exporting an investment and not just consumption.

How are we going to get there? We need to run our economy in favour of manufacturing rather than services, industry rather than the City, people who make and sell products, rather than bankers. And we need a radical change in fiscal, monetary and exchange rate policies, to get our economy competitive again. We need a big change in economic incentives, to make sure that we devote our limited resources to where they are needed most. Only by making investment and exporting profitable – which they are not at the moment – will we ever get our economy back on track.

Labour’s credibility on economic policy is as low as it is at the moment because the party has no credible strategy for getting the economy to grow again and thus to stop incomes stagnating. No wonder we are losing support. When is Labour going to come to grips with the difficult but soluble problems with which we are faced on the economy – and then move into attacking the dismal record of the current government which has indeed allowed all the imbalances in our economy to get worse year by year since the 2008 crisis?

 Image: Christopher A. Dominic

3 Comments:

  1. George Talbot

    I welcome attention to our current account deficits but they are not more or less the mirror image of the government’s deficits. Current account imbalances are privately financed and the sum of deficits should equal the sum of surpluses globally. So to avoid debts building up, surpluses must be avoided too and to repay debts, surpluses must be spent. Keynes designed his Clearing Union to do this but the US vetoed it. A similar system worked in the postwar decades but was abandoned when capital controls ended and governments could no longer set exchange rates.

    Allowing national governments to limit the freedom of capital would be a good example of “taking back control”. It requires special arrangements for companies that should be transnational. But if accepted (!), trades unions could restore proper wages without losing investment capital so reducing an important cause of intractable deficits. And governments could limit bank credit so it does not inflate asset prices and rents and threaten another global crash!

    Reply
  2. Jonathan

    There’s nothing we can do about it. We’re not in power. And we won’t be in power so long as we have that IRA- and Hamas-loving anti-West communist dimwit Corbyn at the helm.

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This blog is a trail of the paper John Mills will be delivering at the Fabian Society Summer Conference in London this Saturday.