Are we heading back to the economic malaise of the 70s and 80s ? Here's an ominous warning from todays FT ..........
Ominous signs of a slide back to the bad old times
By Philip Coggan Financial Times. Published: May 28 2005 03:00
Tony Blair may be regretting the reduction in his UK parliamentary majority. But it could have been a lot worse. It is beginning to look as if he clinched re-election just before the economy turned sour.
The UK economy has had an extraordinarily good run, without a single negative quarter for output since 1992. For once, a devaluation (sterling's ejection from the Exchange Rate Mechanism) did not lead to a surge in inflation. The transfer of monetary policy to the Bank of England has been a resounding success. Unemployment has drifted down to much lower levels than in France and Germany.
Some of this success has reflected worldwide trends. Inflation, interest rates and bond yields have been low around the globe. Nevertheless, growth has been far stronger than in Britain's European rivals, averaging almost 3 per cent since Labour came to office.
But the impressive overall performance has not been without its weaknesses. The long-term decline of manufacturing has continued. Productivity has not significantly improved. Economic growth has depended too much on consumer spending, which in turn has relied on rising debt levels and a buoyant housing market. There has been a persistent trade deficit and the government's fiscal position, strong in Labour's first term, has deteriorated sharply in its second.
But while such problems cause concern, judging the size and scale of their impact is very difficult. The government may be running a budget deficit but the overall ratio of debt to gross domestic product is lower than that of many other countries. As the Bank has noted, consumer spending might have been even stronger if homeowners had taken full account of the rise in house prices. Debt has risen but low interest rates mean there have been few signs of distress.
All this may be about to change. Perhaps the most extraordinary economic statistic of recent weeks was the announcement by the British Bankers Association that consumers repaid more on their credit cards than they borrowed in April; the first such occasion in 10 years.
Could this be a sign that consumers have finally reached the limit of their willingness to borrow? Some confirmation emerged on Thursday when Barclays, the UK's third largest bank, said bad debts on credit cards were rising more rapidly than expected.
The signs of consumer exhaustion have been around for some time. Consumer spending rose only 0.3 per cent in this year's first quarter, after 0.2 per cent in the fourth quarter of 2004. That took the annual growth rate down to 2 per cent, its lowest level in four years.
This weakness has shown up on the high street. It has been easy to lose count of the retailers that have announced that sales growth has been disappointing. The CBI retail survey in April reported the worst level of activity since 1992. The official retail sales numbers showed an increase in April but the annual rate of growth was just 2.4 per cent; in 2004, it was 6.1 per cent.
As Richard Jeffrey of Bridgewell Securities points out, the news is not all bad. Consumer confidence, as measured by surveys, has held up very well. One reason why retailers have been suffering is that they have been expanding their selling space very rapidly, leading to intense competition. Jeffrey believes the recent weakness in consumer spending is the lagged effect of interest rate rises between late 2003 and the summer of 2004. As that effect fades, consumer spending will recover.
Perhaps. The housing market, which has an important effect on consumer confidence, has stalled rather than collapsed. But it would be remarkable if such a long boom ended so tamely; speculators do not tend to have patience with markets that are going nowhere.
The usual threats to consumer spending are higher interest rates and higher unemployment. Interest rates look unlikely to rise but the jobs market is harder to call. Measures of employment are still positive; but the claimant count of the unemployed has risen for three successive months.
A lingering worry is that the strength of employment in recent years has depended heavily on public sector recruitment. As Gordon Brown starts to run out of taxpayers' money, this support will run out.
Who will take up the slack? Not the manufacturing sector. Manufacturing output was down 1.1 per cent year-on-year in March, while the purchasing managers' survey of the sector fell below 50 in April, indicating a decline in activity. The services sector is a much larger part of the economy and is still growing at a decent rate. But how much of service sector output is dependent on consumer spending? There could be a downward spiral here: if consumers do not spend, companies will not take on new employees, which will depress spending further.
The part of the service sector that is dependent on exports is unlikely to help. The eurozone, the UK's largest market, looks stagnant.
Economists are now looking for the UK economy to grow 2-2.5 per cent this year but that may turn out to be a little optimistic. Even if they are right, however, that outcome will be well short of the Treasury's
3-3.5 per cent forecast. In turn, that is likely to mean that the budget deficit will widen, as tax revenues fall short.Will the chancellor raise taxes to meet his fiscal targets, at a time when consumer demand is faltering? That would only make matters worse.
A lucky break for Gordon Brown is that gilt yields will probably not rise in response to this deterioration in government finances. Demand from pension funds and a strong global bond market should ensure that.
But sterling is starting to slide. No longer is it flirting with $2; now it is threatening $1.80. A weakening currency, a deteriorating budget, a fragile housing market, a struggling manufacturing sector; it all sounds depressingly like the Britain of the 1970s and 1980s.
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