With all the concerns recently about Greek and Italian debt and about the whole future of the eurozone, you would be forgiven for thinking that the problems of the UK economy had gone away. This couldn’t be further from the truth. Problems are mounting and pessimism is growing.
First there is the problem of a contracting eurozone economy. This will directly impact on the UK as almost half of UK exports go to eurozone countries. Second there is the impact of the government expenditure cuts, most of which have still not taken effect yet. Third there is the fact that, with the combination of inflation over 5% and nominal pay typically rising by no more than 2%, real take-home pay is falling and hence too is the volume of consumer expenditure. Fourth, there is the increasingly pessimistic mood of consumers and business. The more pessimistic people become about the prospects for their jobs and incomes, the more people will rein in their spending; the more pessimistic businesses become, the more they will cut back on investment and economise on stock holding.
Forecasts for the UK economy have become considerably bleaker over the past few weeks. These include forecasts by the National Institute for Economic and Social Research (NIESR), the accountancy network BDO, Ernst & Young’s ITEM Club and the CBI in its SME Trends Survey and November Economic Forecast. The Treasury’s latest Forecasts for the UK Economy, which brings together forecasts by 29 different organisations, also shows a marked increase in pessimism from September to October.
So is it now time for the government to change course to prevent the economy slipping back into recession? Do we need a Plan B? Certainly, it’s something we’ve considered before on this news site (see Time for a Plan B?). The latest call has come from a group of 100 leading academic economists who have written to the Observer. In their letter they spell out what such a plan should contain. You’ll find a link to the letter below and to other articles considering the proposals.
The letter
We economists have a Plan B that will work, Mr Osborne Observer letters (29/10/11)
Articles
Plan B: the ideas designed to restart a stalled UK economy Observer, Daniel Boffey and Heather Stewart (29/10/11)
Plan B could have been even more aggressive, but it would definitely work Observer, Will Hutton (29/10/11)
The economy: we need Plan B and we need it now Observer editorial (30/10/11)
If tomorrow’s growth figures disappoint, Plan B will be a step closer, whatever David Cameron says The Telegraph, Daniel Knowles (31/10/11)
Plan B to escape the mess we are in Compass, John Weeks (7/11/11)
The report
Plan B; a good economy for a good society Compass, Edited by Howard Reed and Neal Lawson (31/10/11)
Questions
- What are the main proposals in Compass’s Plan B?
- How practical are these proposals?
- Without a Plan B, what is likely to happen to the UK economy over (a) the coming 12 months; (b) the next 3 years?
- Why might sticking to Plan A worsen the public-sector deficit – at least in the short term?
- What are the main arguments for sticking to Plan A and not easing up on deficit reduction?
- Find out what proportion of the UK’s debt is owed to non-UK residents? (See data published by the UK’s Debt Management Office (DMO).) How does this proportion and the average length of UK debt affect the arguments about the sustainability of this level of debt and the ease of servicing it?
- If you had to devise a Plan B, what would it look like and why? To what extent would it differ from Compass’s Plan B and from George Osborne’s “Plan A”?
Economic growth in developed countries, like the UK, exhibits two important characteristics. First, growth is positive over the long run such that the volume of output increases over time. Second, growth in the short-term is highly variable with patterns in the volume of output creating business cycles. With increased global interdependence through trade and integrated financial systems, domestic business cycles often resemble a global or international business cycle. This was certainly the case during the late 2000s. Recent releases from the Office for National Statistics provide an opportunity to look again at the characteristics of UK economic growth. In particular, they show the importance of differentiating between nominal and real values. Furthermore, revisions to the data have somewhat revised our view of economic growth before and after the economic crisis of the late 2000s.
The value of goods and services produced in the UK in 2010, as measured by GDP, is estimated at £1.46 trillion. This is the nominal GDP estimate because it measures the economy’s output for 2010 using the prices of 2010. Back in 1948, GDP measured at 1948 prices was £11.97 billion. Based on these nominal estimates the size of the UK economy would appear to have grown some 122 times which is the equivalent of growing by 8.1 per cent each year. However, some of this increase relates not to the volume of output but to the prices of the goods and services produced. It is for this reason that when analysing economic growth we ordinarily look at constant-price or real estimates of GDP. Such estimates effectively show what GDP would have been if prices had remained at the levels of a chosen year known as the base year. The base year now being used in the UK is 2008.
GDP at constant 2008 prices in 2010 is estimated at £1.40 trillion as compared with £314.5 billion in 1948. The real GDP figures reveal that the volume of UK output increased not by a factor of 122 but by a factor of 4.44; this is the equivalent to growth of 2.4 per cent each year.
The nominal GDP estimates for each year from 1948 up to 2010 rise with only one exception: 2009. In 2009, nominal GDP fell by 2.8 per cent. However, over the same period, real GDP fell during seven of the years. What this tells us, is that in six of the seven years, price increases were enough to offset falls in the volume of output such that nominal GDP increased. However, in 2009, the average price of the economy’s output, which is measured by the GDP deflator, rose by a just a little under 1.7 per cent, while the volume of output and, hence, real GDP, fell by almost 4.4 per cent.
The real annual GDP numbers estimate that the volume of UK output declined both in 2008 and 2009. In 2008 output is thought to have fallen by 1.1 per cent, while in 2009, as we have just seen, it fell by 4.4 per cent. The last time the UK experienced two consecutive annual (yearly) falls in output was in 1980 and 1981 when output fell by 2.1 per cent and 1.3 per cent respectively.
If we want to identify recessions then yearly GDP numbers will not do, rather, we need to use quarterly GDP numbers. This is because we are looking for two consecutive quarters where real GDP (output) declined. The revised GDP data show that the UK experienced five consecutive quarterly falls in real GDP in the late 2000s. We went into recession in Q2 of 2008 and came out in Q3 of 2009. As a result, real GDP was 7 per cent lower than before the UK economy entered recession. The previous recession, from Q3 of 1990 to Q3 of 1991 (5 quarters), saw UK output fall by 2.5 per cent. Between these two recessions the UK experienced 66 consecutive quarters of economic growth during which time the revised estimates show that the average annual rate of growth was 3 per cent. Compared with the recession of 2008/09, the next deepest recession in recent times occurred between Q1 of 1980 and Q1 of 1981 (5 quarters) when output fell by 4.7 per cent. In other words, these figures help to illustrate the extraordinary depth of the 2008/9 recession.
Articles
QE plus Economist (8/10/11)
Cameron steadfast as economy halts Sky News Australia, Matt Falloon and Christina Fincher (6/10/11)
Recession was deeper and recovery slower than expected Telegraph, Philip Aldrick (31/10/11) )
Mr Cameron, GDP and the hole in the recovery BBC News, Stephanie Flanders, (5/10/11)
UK economy grinds to virtual halt AFP (5/10/11) )
Recession concern as economy fails to grown Herald Scotland, Ian McConnell (5/10/11)
Data
Quarterly National Accounts, Q2 2011 Office for National Statistics (5/10/11)
For macroeconomic data for EU countries and other OECD countries, such as the USA, Canada, Japan, Australia and Korea, see:
AMECO online European Commission
Questions
- Explain what you understand by the terms nominal GDP and real GDP. Can you think of other examples of where economists might distinguish between nominal and real variables?
- Explain under what circumstances nominal GDP could rise despite the output of the economy falling.
- The average annual change in nominal GDP since 1948 is 8.2% while that for real GDP is 2.4%. What do you think we can learn from each of these figures about long-term economic growth in the UK?
- What do you understand to be the difference between short-term and long-run economic growth?
- What is meant by the concept of a business cycle? In what ways can the characteristics of business cycles differ across time? What about across countries?
- How might the position within the business cycle impact on an economy’s potential output?
- What factors might influence a country’s long-term rate of economic growth?
With all the doom and gloom of recent economic data, including rising inflation and higher unemployment, there’s finally a small speck of light and that’s in the form UK retail sales. The latest data from the ONS suggests that sales in the UK in September were higher than previously forecast and reversed the 0.4% decline we saw in August. A big contributing factor to this positive data was a boost to online sales, but this small glimmer of hope is unlikely to be sufficient to keep the economy going – unless sales keep rising, we are unlikely to see any significant increase in economic growth.
The data, while positive, is still unlikely to have any impact on economic policy. The minutes from the Monetary Policy Committee showed that there was unanimous support for further quantitative easing, as the threat of weak growth and financial instability and uncertainty remains. An economist from Barclays Capital said:
‘We don’t think the recent strong growth in monthly sales is likely to be sustained…The environment for retailers is likely to remain challenging as consumer spending remains depressed driven by low confidence and slow earnings growth.’
The data from September is positive, but it does little to offset the decline in sales seen in August. It was revised down from 0.2% to 0.4% – some blame the hot weather, which discouraged consumers from hitting the high streets in preparation for the winter. The key data to look out for will be sales figures for the next few months. Only then will we have more of an indication about exactly which direction the economy is moving in. The following articles consider this latest economic data.
Retail sales in UK unexpectedly increase at fastest pace in five months Bloomberg, Scott Hamilton (20/10/11)
UK retail sales see stronger-than-expected rise BBC News (20/10/11)
Nothing expected from today’s UK retail sales figure FX-MM, Richard Driver (20/10/11)
Retail sales: what the economists say Guardian (20/10/11)
£1 in every £10 now spent online, says ONS Telegraph, Harry Wallop (20/10/11)
Retail sales rise more than expected Financial Times, Sarah O’Connor (20/10/11)
Retail sales up but good weather has a price Sky News (20/10/11)
Questions
- Which factors have contributed to the higher than expected sales figures for September?
- Why do economists not believe that the higher growth in sales means signs of recovery for the UK economy?
- How has higher inflation impacted UK households?
- To what extent do you think the warm weather held back retail sales?
- What could explain why there has been a significant growth in online sales?
The following podcast from the BBC Radio 4’s series, A Point of View is by John Gray, emeritus professor of European thought at the LSE and author of False Dawn: The Delusions of Global Capitalism. In the podcast, he considers whether Marx, the great 19th century thinker, was right to predict the demise of capitalism.
Marx’s picture of the end of capitalism and the stages of society that would succeed it have been dismissed by most academics and commentators as quite false. Marx predicted that as capitalist economies became increasingly unstable and unequal, so workers would rise up in revolution. What would follow would be a socialist state in which the means of production would be collectively owned and output and distribution would be planned. As socialist economies became wealthier and life was perceived to be fairer, so the need for state control would diminish. Eventually the state would wither away and the ultimate stage of communism would be reached, where there would sufficient resources to reward everyone according to their needs.
Two of the key criticisms of Marx’s analysis are: (a) capitalism was overthrown in only a few countries and (b) in the countries that did adopt central planning, such as the Soviet Union and Eastern European countries, the state did not wither away; instead, they reverted to capitalism.
But whilst Marx’s analysis of a post-capitalist world may have been flawed, his analysis of the weaknesses and tensions of capitalism have been prophetically correct in many regards. As John Gray says:
It’s not just capitalism’s endemic instability that he understood, though in this regard he was far more perceptive than most economists in his day and ours.
More profoundly, Marx understood how capitalism destroys its own social base – the middle-class way of life. The Marxist terminology of bourgeois and proletarian has an archaic ring.
But when he argued that capitalism would plunge the middle classes into something like the precarious existence of the hard-pressed workers of his time, Marx anticipated a change in the way we live that we’re only now struggling to cope with.
Listen to the podcast and try to assess whether we are witnessing a 21st century version of Marx’s 19th century vision.
A Point of View: The revolution of capitalism (article) BBC Radio 4, John Gray (4/9/11)
A Point of View: The revolution of capitalism (podcast) BBC Radio 4, John Gray (4/9/11) (see alternatively)
Has Western capitalism failed? BBC News (23/9/11)
Questions
- Why, according to Marx, do capitalist societies contain the seeds of their own destruction? What role would the middle classes play in this?
- Why does capitalism transform everything it touches?
- Explain what is meant by ‘creative destruction’.
- How would Marxists respond to the criticisms of their analysis that the middle classes have got proportionately bigger and that, with the advent of the minimum wage, even the poorest workers are protected?
- To what extent has the experience of the developed world since the banking crisis of 2007/8 lent weight to the Marxist analysis?
- John Gray says that “Today there is no haven of security.” What does he mean by this and is there an answer within capitalism?
- And here’s a hard question to finish with: if capitalism does contain the seeds of its own destruction, what will succeed it? Will it be something other than capitalism and, if so, what? Or will it be a new variety of capitalism and, if so, what will it look like?
Stock markets have been plummeting. The FTSE 100 index was 6055 on 7 July 2011; by 10 August, it was 17% lower at 5007. Since then it has risen as high as 5418, but by 13 September was down to 5092. Other stock markets have fared worse. The French index fell 30% between early July and September 13, and the German DAX index fell 32% over the same period.
These falls in share prices reflect demand and supply. Investors are worried about the future of the eurozone and the health of the European economy as Greek default looks more and more likely and as the debts of various other European countries, such as Portugal, Ireland and Spain, seem increasingly unsustainable in an environment of sluggish economic growth. They are also worried about high public-sector debt in the USA and the likelihood that global recovery will peter out.
The ‘bear’ market (falling share prices) reflects increased selling of shares and a lack of demand. Not only are investors worried about the global economy, they are also speculating that share prices will fall further, thereby compounding the falls (at least until the ‘bottom’ is reached).
But why have share prices fallen quite so much? And does it matter to the general public that this is happening? The following articles seek to answer these questions.
Articles
Shares tumble on fears over Greek default Guardian, Graeme Wearden (12/9/11)
European Factors-Shares set for steep fall on Greece worries Reuters (12/9/11)
Markets set for turmoil after G-7 letdown BusinessDay (South Africa), Mariam Isa (12/9/11)
What will happen if Greece defaults? The Conversation (Australia), Sam Wylie (12/9/11)
Germany and Greece flirt with mutual assured destruction The Telegraph, Ambrose Evans-Pritchard (11/9/11)
Market Swings Are Becoming New Standard New York Times, Louise Story and Graham Bowley (11/9/11)
The next bull market The Bull (Australia) (12/9/11)
Prepare For Recession And Bear Market Forbes, Sy Harding (9/9/11)
Eurozone crisis: What market turmoil means for you BBC News, Kevin Peachey (8/9/11)
Stock market indices
FTSE 100: historical prices, 1984 to current day Yahoo Finance
Dow Jones Industrial Average: historical prices, 1928 to current day Yahoo Finance
Nikkei 225 (Japan): historical prices, 1984 to current day Yahoo Finance
DAX (Germany): historical prices, 1990 to current day Yahoo Finance
CAC 40 (France): historical prices, 1990 to current day Yahoo Finance
Hang Seng (Hong Kong): historical prices, 1986 to current day Yahoo Finance
SSE Composite (China: Shanghai): historical prices, 2000 to current day Yahoo Finance
BSE Sensex (India): historical prices, 1997 to current day Yahoo Finance
Stock markets BBC
Questions
- What factors have led to the recent falls in stock market prices? Explain just why these factors have contributed to the falls.
- What is likely to happen to stock market prices in the coming weeks? Why is it difficult to predict this?
- What is meant by the efficient capital markets hypothesis? If markets were perfectly efficient, why would it be impossible to predict future movements in stock market prices? Why may stock markets not be perfectly efficient?
- What factors determine stock market prices over the longer term?
- How are share prices influenced by speculation? Distinguish between stabilising and destabilising speculation.
- Explain the various ways in which members of the general public can be affected by share price falls. Are you affected in any way? Explain.
- If Greece defaults, what will determine the resulting effect on stock markets?
- To what extent does the stock market demonstrate the ‘brutal face of supply and demand’?