The Preliminary Estimate of the UK Q2 GDP figures by the Office for National Statistics show that the UK economy grew by 0.6% in the second quarter of 2013: double the growth rate of the first quarter and almost back to the long-run average growth rate prior to 2008.
At first sight, this would seem to be good news – certainly from the government’s point of view. What is more, unlike the previous quarter, growth is spread relatively evenly across the three main sectors: the production (manufacturing, mining, water supply, etc.) and services sectors both grew by 0.6% and the construction sector by 0.9% (this sector fell by 1.8% in the previous quarter). (Click here for a PowerPoint of the chart below.)
But while growth in the latest quarter may be balanced between the broad sectors, the rise in aggregate demand is not balanced between its components. As an earlier news item (A balancing act) showed, the rise in aggregate demand has been driven largely by a rise in consumption, and a corresponding fall in saving. Exports are rising only slowly and investment is some 25% lower than in the boom years prior to 2008.
So will the latest growth be sustainable? Will investment now begin to pick up and what constraints are there on investment? The following articles consider some of the issues.
Articles
Economy firing on all cylinders as growth hits 0.6pc The Telegraph, Philip Aldrick (25/7/13)
The good, the bad or the ugly? How the UK economy stands up. The Telegraph, Philip Aldrick (25/7/13)
George Osborne’s 0.6% growth is good but unspectacular The Guardian, Larry Elliott (25/7/13)
The (not-so) green shoots of recovery The Economist, John Van Reenen (23/7/13)
Economic recovery slow to take root for some in UK Reuters, William Schomberg and Max De Haldevang (25/7/13)
GDP figures offer hard evidence for political narrative BBC News, Paul Mason (25/7/13)
Ignore the hype: Britain’s ‘recovery’ is a fantasy that hides our weakness The Observer, Will Hutton (21/7/13)
UK economy: Half-speed ahead BBC News, Stephanie Flanders (25/7/13)
BoE guidance can help sustain the UK recovery The Economist, Kevin Daly (22/7/13)
George Osborne’s description of the economy is near-Orwellian The Guardian, Ha-Joon Chang (26/7/13)
Economic growth: more must be done to encourage investment The Guardian, Phillip Inman (1/8/13)
Data
Gross Domestic Product: Preliminary Estimate, Q2 2013 ONS (25/7/13)
Questions
- Compare the macroeconomic situation today with that prior to the financial crisis of 2007/8 and subsequent recession.
- What factors will determine the sustainability of the UK economic recovery?
- What is meant by the ‘accelerator’ and what will determine the size of any accelerator effect from the latest rise in UK GDP?
- What supply-side constraints are likely to limit the rate and extent of recovery?
- Why do economies that are in recession ‘naturally bounce back’ without any government intervention? Have the macroeconomic policies of the UK government helped or hindered this bounce back? Explain.
- What monetary measures by the Bank of England are most appropriate in the current circumstances?
In the blog The global economy we considered the economic performance of countries across the globe, including the UK. In the first estimate of UK economic growth for the first quarter of 2013, the economy grew at 0.3%, thus avoiding a triple-dip recession. This first estimate is always subject to change, but in this case, the data was confirmed.
The April 2013 figure provided by the ONS of 0.3% growth has been confirmed, once again indicating the slow recovery of the UK economy. Despite these more positive signs for the economy, the IMF has raised concerns of the weak performance of the UK and has urged the government to invest more in projects to stimulate growth. Although the economy has started to grow, economic growth has continued to remain weak since the onset of the financial crisis and recession. Martin Beck, an economist at Capital Economics said:
With employment and average earnings both dropping in the first quarter on their level in the previous quarter, the foundations for a sustained recovery, even one driven by consumers, still look pretty rickety.
Initial estimates by the ONS are always updated and there is still time for the 0.3% growth figure to be changed, as more data becomes available. (Click here for a PowerPoint of the chart.) This latest figure, although unchanged, has given a more concrete indication of where the UK economy is continuing to struggle. Consumer spending increased by only 0.1%, investment and exports declined, but in further signs of a weak economy, the building up of stocks by companies was a big contributor to the UK economic growth – a contribution of 0.4 percentage points. The service sector continued to growth with a 0.6 percentage point contribution to GDP.
So, what does the future look like for the UK? Although the estimate of 0.3% figure did prevent a triple-dip recession and the IMF did comment on the ‘improving health’ of the economy, signs of recovery remain weak.
Crucial to the recovery will be government spending, but more than this, the government spending must be in key growth industries. Data suggests that the UK invests less than other G8 countries as a percentage of GDP and this is perhaps one of the key factors that has prevented the UK recovery from gathering pace. The future of the UK economy remains uncertain and government policy will be crucial in determining this future course. The following articles consider the latest growth data.
Signs of weakness mar UK economic growth Reuters, Olesya Dmitracova and William Schomberg (23/5/13)
UK first quarter growth unchanged BBC News (23/5/13)
Concerns over underlying health of UK economy as 0.3% growth confirmed The Guardian, Philip Inman (23/5/13)
Statisticians confirm 0.3% UK growth for first quarter of 2013 Financial Times, Claire Jones and Sarah O’Connor (23/5/13)
UK GDP: concerns about underlying economy as 0.3pc growth confirmed The Telegraph, Philip Aldrick (23/5/13)
Britsh economy returns to growth in first quarter The Economic Times (23/5/13)
U.K. households not loosening purse strings Wall Street Journal, Ainsley Thomson and Ilona Bllington (23/5/13)
IMF: UK should push for economic growth BBC News (22/5/13)
Questions
- Why are numerous estimates of GDP made by the ONS?
- How is GDP measured? Is it an accurate measure of economic growth? What about economic development?
- Why does 0.3% growth in the first quarter of GDP not necessarily imply that the UK economy is recovering?
- Why have certain aspects of the UK economy performed better or worse than others?
- What areas should the government invest in, according to the IMF?
- Why would government spending in investment create economic growth? Is this likely to be short term or long term?
The link below is to an article by Bill Gates, founder of Microsoft. He argues that per-capita GDP is a poor indicator of development, especially in Sub-Saharan Africa.
The problems with using GDP as an indicator of the level of development of a country are well known and several alternative measures are in common use. Perhaps the best known is the United Nations Development Programme’s Human Development Index (HDI), where countries are given an HDI of between 0 and 1. HDI is the average of three indices based on three sets of variables: (i) life expectancy at birth, (ii) education (a weighted average of (a) the mean years that a 25-year-old person or older has spent in school and (b) the number of years of schooling that a 5-year-old child is expected to have over their lifetime) and (iii) real gross national income (GNY) per capita, measured in US dollars at purchasing-power parity exchange rates (see Box 27.1 in Economics 8th edition for more details).
But although indicators such as this capture more elements of development than simple per-capita GNP or GNY, there are still serious shortcomings. A major problem is the lack of and inaccuracy of statistics, especially when applied to the rural subsistence and informal urban sectors. The problem is recognised and some countries are trying to address the problem (see the second article below), but the problem is huge. As Gates says:
It is clear to me that we need to devote greater resources to getting basic GDP numbers right. … National statistics offices across Africa need more support so that they can obtain and report timelier and more accurate data. Donor governments and international organisations such as the World Bank need to do more to help African authorities produce a clearer picture of their economies. And African policymakers need to be more consistent about demanding better statistics and using them to inform decisions.
Another problem is how you convert data into internationally comparable forms. For example, how are inflation, exchange rates, income distribution, the quality of health provision and education, etc. taken into account?
How GDP understates economic growth The Guardian, Bill Gates (8/5/13)
States’ GDP computation report out soon, says Nigeria statistics bureau Premium Times (Nigeria), Bassey Udo (9/5/13)
Michael Porter Presents New Alternative to GDP: The Social Progress Index (SPI) Triple Pundit, Raz Godelnik (13/4/13)
Questions
- By accessing the Human Development Index site, identify which countries have a much higher ranking by HDP than by per capita gross national income. Explain why.
- Why is expressing GNY in purchasing-power parity (PPP) terms likely to increase the GNY figures for the poorest countries?
- Explain the following quote from the Gates article: ‘I have long believed that GDP understates growth even in rich countries, where its measurement is quite sophisticated, because it is very difficult to compare the value of baskets of goods across different time periods’.
- Why is GNY per capita, even when expressed in PPP terms, likely to understate the level of development in subsistence economies?
- Explain whether the rate of growth of GNY per capita is likely to understate or overstate the rate of economic development of sub-Saharan African countries?
- Why are the challenges of calculating GDP or GNY particularly acute in sub-Saharan Africa?
VAT was introduced on the 1st of April 1973, as part of the conditions for the UK entering the Common Market. Designed by a French tax expert, Maurice Lauré, it was initially envisaged as a straightforward replacement for purchase tax, which would be applied to most goods and services.
Forty years on, VAT is increasingly complex, with numerous exemptions, many anomalies in its scope, and increasingly expensive challenges to its imposition. How did we get to this point? And is it time for VAT to undergo a mid-life makeover?
All governments have to raise taxes – to redistribute income and to fund public spending. They have a number of mechanisms they can use, but essentially they have to tax incomes (direct taxes), spending (indirect taxes) or a mix of both. The main indirect tax in the UK is VAT, which now raises over £100bn a year, compared with £1.5bn in its first year (see above chart: click here for a PowerPoint version). Initially envisaged as a simple, cross-Europe purchase tax, the current system is complex and at times appears to have been formulated ‘on the hoof’, never a good way to build a tax system.
In the 2012 Budget, the Chancellor decided to apply the standard rate of income tax to hot takeaway pasties; previously they had been zero-rated. However, he had sharply underestimated the ability of the industry to lobby against the tax, working closely with the tabloid press. Perhaps more importantly, he also missed the complex nature of the good; when is a hot pasty just cooling down? And what is hot? The government backtracked and now 20% VAT is only charged on pasties that are deliberately kept hot. You might think that this change of heart avoided introducing an anomaly, but consider how you might feel if you sell takeaway baked potatoes, which are subject to VAT.
Apart from the complexity of the system, VAT is unpopular with some commentators who feel that it falls too heavily on low-income households. Although many foodstuffs are zero-rated and housing is exempt, VAT is charged at 20% on clothing and many necessities such as cleaning materials. Gas and electricity are subject to a reduced rate of 5% and both alcohol and cigarettes have additonal excise duties imposed and yet are disproportionally consumed by the poor. When the standard rate of VAT was temporarily dropped to 15% in 2010, but then permanently raised to 20% in 2011, many felt that this was a shift in the tax burden to the poor.
So complex, irrational and prone to changes following political lobbying or expensive legal cases, VAT does seem to be stumbling into its forties under something of a cloud. However, it remains the case that it raises a large proportion of UK tax revenues at relatively low direct cost and provides the Chancellor with a reasonably effective fiscal policy tool. Even if a government wanted to put in place an alternative, it is likely that the associated political risks would be too high for it to do so. We might hope for some rationalisation of the current system, but there is little doubt that we will be raising a glass to VAT’s 50th birthday in 2023.
The links below include some articles on VAT’s 40th birthday and some more general articles on VAT.
Articles
VAT is 40 years old- and now has middle-age spread The Guardian, Juliette Garside (31/1/13)
Is VAT suffering a mid-life crisis at 40? BBC News, Colin Corder (31/3/13)
VAT at 40, not simple, not popular, but central to government revenue-raising The Chartered Institute of Taxation (28/3/13)
Happy birthday VAT, here’s how not to pay you The Telegraph, Rosie Murray-West (31/3/13)
Poorest spend higher proportion of VAT than richest BBC News (31/10/11)
A Value- Added Tax offers much to love- and hate New York Times, Gregory Mankiw (1/5/10)
EC Standard VAT Declaration European Commission Roadmap (2012)
Data and information
VAT pages HMRC
Public sector finance statistics HM Treasury (follow link to latest Public finances databank (Excel file) and go to Worksheet C2)
Latest European Union EU VAT rates VATLive
Questions
- Explain why VAT might be deemed regressive. Can you formulate an argument that it falls more heavily on the rich than the poor?
- Why is VAT administratively cheap? Other than generating tax revenues, can you think of any advantages of the tax?
- Newspapers and books are zero-rated in the UK, while e-books and news apps are standard rated at 20%. Can you identify some other anomalies in the UK VAT system? Is there an argument that a better approach would be to charge a lower rate on all goods and services?
- Who pays VAT, consumers or producers? Illustrate your answer with a diagram, or two.
- A business has to register for VAT once it has a turnover of £77,000 pa. Does this system give rise to any perverse incentives?
- Countries across the European Union have varying VAT rates, applied to very different ranges of products. Explain why this might hinder the workings of a single European market.
- Imagine you were running a brand new economy; would you use a value-added tax to raise revenues? What are the alternatives open to governments?
When you look at the linked articles below, I’m sure many of you will be thinking that this is an odd choice for an economics blog! However, part of the economic relevance of ‘cyber-crime fighters’ relates to the relative skills of workers and the gap that exists between the most and least skilled workers in the UK.
Crime has always existed, but as technology has developed the types of crime committed have grown along with the complexity of them. For certain crimes, a very skilled individual is needed. With this emergence of technologically advanced crimes, those fighting crimes have also had to improve their skills and techniques. Thus crime-fighters have become more technologically advanced as well.
The problem is that the number of skilled workers able to deal with things like cyber crime has not kept pace with the demand for them and thus we have a skills gap. Usage of the Internet has continued to grow, creating more and more opportunities for cyber crime. However, the UK supply of IT and cyber-security professionals has not been able to keep pace. Therefore, we have a shortage of skilled labour in this area.
More investment into research and education is occurring, with the aim of addressing this shortage, but it is expected to take many years before supply catches up to demand. In particular, more investment is needed in the sciences and technology subjects at school to create the supply at university level. The NAO said that:
‘The current pipeline of graduates and practitioners are unable to meet demand.’
A second area of relevance to economics is the cost of cyber crime. The NAO estimated that the cost is somewhere between £18bn and £27bn per annum. However, on the other side, is there a case that crime actually benefits the macroeconomy by requiring government investment. As cyber crime has grown, so has the demand for cyber-crime fighters and this has created more jobs. With more jobs comes increased spending and the benefits of the multiplier. The following articles consider cyber crime and the impact it is having.
National Audit Office warns UK needs more skilled cyber crime fighters BBC News (12/2/13)
IT staff shortages raise cyber crime risk Sky News (12/2/13)
UK planning ‘Cyber Reserve’ defence force BBC News (3/12/12)
Britain vulnerable from cyber attacks for at least 20 years The Telegraph, Tom Whitehead (12/2/13)
Britain targeted by 120,000 every DAY with cost to country thought to total £27billion Mail Online, Jack Doyle (12/2/13)
Questions
- Illustrate the demand for and supply of labour curves in the market for cyber crime fighters. How is the equilibrium wage determined?
- If there is increased investment in education, how would this affect the shape and position of the MRP curve and what impact would this have on your diagram?
- If there is a shortage of cyber crime fighters, what does that suggest about the position of the two curves? Illustrate this situation and explain why it is a problem.
- Which factors would be considered by NAO in estimating the costs of cyber crime?
- Explain why crime can pay.
- How does the macroeconomy benefit from increased crime? Illustrate this on a diagram.
- Does your answer to question 5 above suggest anything about the effectiveness of using GDP as a measure of welfare?
- How is the multiplier effect relevant?
The Preliminary Estimate of the UK Q2 GDP figures by the Office for National Statistics show that the UK economy grew by 0.6% in the second quarter of 2013: double the growth rate of the first quarter and almost back to the long-run average growth rate prior to 2008.
