For years, Britain has suffered a decline in its manufacturing base relative to many of its competitors. In part this was the result of the success of the financial sector and the accompanying high exchange rate. But, with the problems of the financial sector since 2007 and the subsequent recession, attention has increasingly turned to ways of stimulating manufacturing capacity and the competitiveness of the export sector generally.
In other words, attention has turned to the supply side of the economy.
But what should be the features of a successful supply-side policy? Should it encourage competition and focus largely on deregulation and removing ‘red tape’ to encourage market forces to operate more efficiently and effectively? Or should it be more interventionist?
The Business Secretary, Vince Cable, has been in the headlines for criticising his own government’s policy and arguing for a more active supply-side policy – one that is more interventionist. The following podcasts, the second of which is an interview with Dr Cable, look at the arguments for a more active supply-side policy and the forms it could take. The articles look at some of the arguments in more detail.
Podcasts
Industrial strategy ‘lacking in the UK’ BBC Today Programme, Mariana Mazzucato (6/3/12)
Government ‘getting behind’ industry BBC Today Programme, Vince Cable (6/3/12)
Articles
Cable urges long-term plan for industry Financial Times, George Parker (12/2/12)
Cable defends concern over lack of vision Financial Times, Elizabeth Rigby and George Parker (6/3/12)
Vince Cable leaked letter: in full The Telegraph (6/3/12)
Rusting Britain threatens recovery The Telegraph, Alexander Baldock (4/3/12)
Vince Cable is Right: we “lack a compelling vision of where the country is heading” Birmingham Post, David Bailey (6/3/12)
Rebuilding Britain’s economy: the hunt for an ‘industrial strategy’ Citywire Money, Chris Marshall (29/2/12)
Companies must stop hoarding cash and start investing instead Observer, Will Hutton (19/2/12)
Britain needs to shape an industrial strategy Observer, Editorial (4/3/12)
Questions
- Distinguish between the terms ‘industrial strategy’, ‘market-orientated supply-side policy’ and ‘interventionist supply-side policy’
- Identify some ways in which innovations and productivity growth can be supported by government.
- Does interventionist supply-side policy inevitably involve the government spending more?
- If the government wishes to encourage a more entrepreneurial country, should this involve a careful mix of intervention and market liberalisation and, if so, what should the mix look like?
- Summarise the arguments in Vince Cable’s letter to the Prime Minister and Deputy Prime Minister.
- What are the lessons of Silicon Valley for the UK and other European countries?
- How important is successful demand-side policy for a successful supply-side strategy?
- Comment on the following quote from the Will Hutton article above: “British companies are running a cash surplus of some 6% of GDP, again the largest in the world, but are refusing to spend that cash on investment or innovation, preferring to hoard it, preserve profit margins or buy back their own shares. Business investment as a share of GDP is thus the lowest among large industrialised countries.”
The global economic mood is darkening. Levels of consumer and producer confidence have declined and forecasts of economic growth are being downgraded. Mervyn King, Governor of the Bank of England, stated that “this is the most serious financial crisis we’ve seen, at least since the 1930s, if not ever” (see).
So will slow recovery turn into a second recession (a double-dip)? And will recession turn into depression – the persistence of low or negative growth over a number of years? The following articles consider this frightening prospect and whether there are similarities with the Great Depression of the 1930s.
But let’s not be too downhearted. If we all are, the world could end up talking itself into depression. Consumers would seek to claw down their debts and cut back spending; producers would invest less as their confidence wanes; banks would be unwilling to lend. So is there any cause to be cheerful? Well, at least world leaders are increasingly aware of the possibility of world depression and minds are increasingly being focused on how to avoid the situation. The EU summit on 23 October and the G20 summit in Cannes on 3/4 November have EU sovereign debt problems and the global crisis at the centre of their agenda.
But if they do decide to act, what should they do? Is the answer a Keynesian stimulus to aggregate demand through fiscal policy and through further quantitative easing? Or is the approach to act more decisively to reduce sovereign debt and convince markets that governments are serious about tackling the problem – a policy response much more in accordance with new classical thinking and the type of policy that would be recommended by Thomas Sargent and Christopher Sims, winners of this year’s Nobel Prize in Economics?
Thinking outside the 1930s box BBC News blogs, Paul Mason (7/10/11)
Britain faces slowest recovery in a century Guardian, Katie Allen (12/10/11)
The Depression: If Only Things Were That Good New York Times, Sunday Review, David Leonhardt (8/10/11)
Recovery has ‘stalled’, say leading economists Financial Times, Sarah O’Connor (11/10/11)
Nobel prize in economics Republica, Opinion (Nepal), Sukhdev Shah (11/10/11)
Questions
- In what ways is the current global economic situation similar to that in the early 1930s?
- In what ways is it different? Do these differences provide more or less cause for hope for avoiding a global depression?
- Explain the following quote from the first article above: “I think that we face the quite real prospect that the market is removed as the determining mechanism for setting the price of capital within the eurozone at the sovereign level.This would put internal credit creation back under the control of the state.”
- How is the supply side of the economy relevant to (a) the short-run prospects for economic growth; (b) the long-run prospects?
- If technological progess slows down, what will be the implications for employment and unemployment? Explain.
- How is policy credibility relevant to the success of the decisions made at G20 and EU summits? (See last aricle above.) How would a Keynesian respond to the analysis of Sargent and Sims?
The quarter 2 UK GDP growth figures were published at the end of July. They show that real GDP grew by a mere 0.2% over the quarter, or 0.7% over 12 months. These low growth figures follow 2010Q4 and 2011Q1 growth rates of –0.5 and 0.5 respectively, giving an approximately zero growth over those six months. The recovery that seemed to be gathering pace in early 2010, now seems to have petered out, or at best slowed right down. According to an average of 27 forecasts, collated by the Treasury, GDP is expected to grow by just 1.3% in 2011 – below the potential rate of economic growth and thus resulting in a widening of the output gap.
With such a slow pace of recovery, current forecasts suggest that it will be 2013 before the economy returns to the pre-recession level of output: just over five years after the start of the recession in 2008. This chart from the National Institute of Economic and Social Research compares the current recession with previous ones and shows how the recovery is likely to be the slowest of the five recessions since the 1930s.
The Confederation of British Industry (CBI) in its latest Economic Forecast says that the economic outlook has become more challenging.
The intensification of euro area sovereign debt pressures has added to the downside risks facing the UK economy – although the agreement reached at the recent summit appears to represent an initial step towards resolving the issues.
Meanwhile the global economy is going through a soft patch, partly as a result of the previous surge in commodity prices, which has put pressure on household budgets and raised costs for businesses.
Against this backdrop confidence appears to have wilted somewhat.
The opposition blames the slow pace of recovery on the austerity measures imposed by the government. The depressing of aggregate demand by cutting government expenditure and raising taxes has depressed output growth. The problem has been compounded by a lack of consumer spending as real household incomes have been squeezed by inflation and as consumers fear impending tax rises and cuts in benefits. And export growth, which was hoped to lead the country’s recovery, has been hit by weak demand in Europe and elsewhere.
With weak growth, the danger is that automatic fiscal stabilisers (i.e. more people claiming benefits and lack of growth in tax revenues) will mean that the government deficit is not cut. This may then force the Chancellor into further austerity, which would compound the problem of low demand. The opposition has thus been calling for a (temporary) cut in VAT to stimulate the economy.
The government argues that rebalancing the budget is absolutely crucial to maintaining international confidence and Britain’s AAA rating by the credit rating agencies, Moody’s, Fitch and Standard and Poor’s (S&P). Any sign that the government is slacking in its resolve, could undermine this confidence. According to George Osborne, while other countries (including the USA and many eurozone countries) are facing a lot of instability, “Britain is a safe haven. We have convinced the world that we can deal with our debts, bring our deficit down, and that’s meant that interest rates, for British families, for British businesses, are lower than they would otherwise be; it means that our country’s credit rating has been affirmed … and it means that we have that crucial ingredient of any recovery – economic stability.”
What is more, the government claims that the essence of the UK’s problem of low growth lies on the supply side. The focus of growth policy, it maintains, should be on cutting red tape, improving efficiency and, ultimately, in reducing taxes.
What we are witnessing is a debate that echoes the Keynesian/new classical debates of the 1980s and earlier: a debate between those who blame the current problem on lack of aggregate demand and those who blame it on supply-side weaknesses, including weaknesses of the banking sector.
So what should be done? Is it time for a (modest) fiscal expansion, or at least a reining in of the fiscal tightening? Should the Bank of England embark on another round of quantitative easing (QE2)? Or does the solution lie on the supply side? Or should policy combine elements of both?
Articles
UK economy grows by 0.2% BBC News (26/7/11)
Economic growth stalls – and slump will carry on until 2013 Independent, Sean O’Grady (27/7/11)
GDP figures mean Britain will miss its economic growth targets Guardian, Julia Kollewe (26/7/11)
UK GDP figures show slower growth of 0.2% BBC News (26/7/11)
UK growth forecast looks unrealistic after GDP fall Independent, Sean O’Grady (27/7/11)
UK set for low growth as the mood ‘darkens’ Independent, Sean O’Grady (1/8/11)
No sign of a U-turn – but there may be a minor course change Scotsman, John McLaren (27/7/11)
George Osborne vows to stick with ‘plan A’ despite UK GDP growth slowdown The Telegraph, John McLaren (27/7/11)
Weak growth may force Chancellor into further austerity The Telegraph, Jeremy Warner (26/7/11)
UK households squeezed harder than US or Europe The Telegraph, Philip Aldrick, and Emma Rowley (30/7/11)
UK Government will have to act if growth remains weak, warns CBI The Telegraph, Philip Aldrick (1/8/11)
UK economy GDP figures: what the experts say Guardian, Claire French (26/7/11)
My plan B for the economy Guardian, Ed Balls, Ruth Lea, Jonathan Portes, Digby Jones and Stephanie Blankenburg (27/7/11)
Not much of a squeeze The Economist, Buttonwood’s notebook (26/7/11)
Some safe haven The Economist (30/7/11)
UK growth – anything to be done? BBC News, Stephanie Flanders (26/7/11)
IMF report on UK: main points The Telegraph, Sarah Rainey (2/8/11)
Families to be £1,500 a year worse off, IMF warns The Telegraph, Philip Aldrick (2/8/11)
IMF casts doubt on UK deficit plan, Financial Times, Chris Giles (1/8/11)
Data and reports
GDP Growth (reliminary estimate) ONS
Gross domestic product preliminary estimate: 2nd Quarter 2011 ONS (26/7/11)
World Economic Outlook Update IMF
OECD Economic Outlook No. 89 Annex Tables OECD (see Table 1)
United Kingdom: IMF Country Report No. 11/220 IMF (2/8/11)
Prospects for the UK economy National Institute of Economic and Social Research (3/8/11)
Questions
- What special ‘one-off’ factors help to explain why the underlying growth in 2011Q2 may have been higher than 0.2%?
- Why is the output gap rising? How may supply-side changes affect the size of the output gap?
- Why is the recovery from recession in the UK slower than in most other countries? Why is it slower than the recovery from previous recessions?
- How may automatic fiscal stabilisers affect (a) economic growth and (b) the size of the public-sector deficit if the output gap widens?
- Distinguish between demand-side and supply-side causes of the slow rate of economic growth in the UK.
- Compare the likely effectiveness of demand-side and supply-side policy measures to stimulate economic growth, referring to both magnitude and timing.
The Chancellor of the Exchequer, George Osborne, delivered the annual Budget on 23 March. He was very keen to have a ‘Budget for growth’ given the pessimism of consumers (see Table 1, UK, line 3, in Business and Consumer Survey Results, February 2011) and the bad news on inflation (see 4.4% and rising?).
But what could he do? Despite being urged by the Labour opposition to stimulate aggregate demand by cutting the deficit more slowly, he ruled out this alternative. It would be perceived by markets, he argued, as a sign that he was ‘gong soft’ on the commitment to tackle the deficit.
If stimulating aggregate demand directly was out, the alternative was to use supply-side policy: to provide more favourable conditions for business by cutting ‘red tape’, providing tax incentives for investment, reducing regulations, simplifying tax, cutting corporation tax financed by tax increases elsewhere, creating 21 ‘enterprise zones’ and funding extra apprenticeships and work experience placements.
The links below give details of the measures and consider their likely effectiveness. Crucially, the Budget will be much more successful in encouraging investment if people think it will be successful. In other words, its success depends on how it affects people’s expectations. Will it help confidence to return – or will the impending tax increases and cuts on government expenditure only make people more pessimistic?
Webcasts
Budget: Chancellor George Osborne opens speech BBC News (23/3/11)
Budget: Osborne wants to ‘simplify taxes’ BBC News (23/3/11)
Budget: Osborne lowers corporation tax BBC News (23/3/11)
Budget: BBC Economics editor Stephanie Flanders BBC News (23/3/11)
Budget: BBC business editor Robert Peston BBC News (23/3/11)
Enterprise Zones on the way back Channel 4 News, Siobhan Kennedy (22/3/11)
Articles
Osborne’s Budget ‘to fuel growth’ BBC News (23/3/11)
A budget for big business BBC News blogs, Peston’s Picks, Robert Peston (23/3/11)
Budget 2011: tax grab is the real story Guardian, Patrick Collinson (23/3/11)
Budget 2011 – full details Independent (23/3/11)
Osborne shakes up corporation tax Financial Times, Vanessa Houlder (23/3/11)
Osborne unveils ‘Budget for growth’ Financial Times, Daniel Pimlott and Chris Giles (23/3/11)
Budget 2011: Guardian columnists’ verdict Guardian, Jackie Ashley, Martin Kettle, George Monbiot, Julian Glover (23/3/11)
Budget 2011: a million low-paid people escape tax but fiscal drag catches others The Telegraph, Ian Cowie (23/3/11)
Budget 2011: some good news and lots of micro-management The Telegraph, Janet Daley (23/3/11)
Micro trumps macro BBC News Blogs: Stephanomics, Stephanie Flanders (23/3/11)
George Osborne, growing giant of the Tory party, launches ‘slow burn’ Budget Guardian, Nicholas Watt (23/3/11)
Budget documents
2011 Budget, HM Treasury (23/3/11)
Budget 2011 press notice, HM Treasury (23/3/11)
2011 Budget documents, HM Treasury (23/3/11)
Questions
- What supply-side policies were included in the Budget?
- What will be the impact of the Budget measures on aggregate demand?
- What are the major factors that are likely to influence the rate of economic growth over the coming months?
- What would have been the advantages and disadvantages of a more expansionary (or less contractionary) Budget?
- What will be the effects of the Budget measures on the distribution of income (after taxes and benefits)?
On 30 August, Japan’s opposition party, the Democratic Party of Japan (DPJ), won a landslide victory in the Japanese election. Although there are signs that the Japanese economy is beginning to pull out of recession (see Green shoots as autumn approaches), deep economic problems remain. Unemployment is at record highs; it has the highest national debt as a proportion of GDP of any of the G8 countries (see OECD Economic Outlook Statistical Annex Tables; consumer spending remains subdued; deflation seems entrenched; exports have slumped; bureaucracy is deeply embedded in government; and it has a rapidly ageing population.
So what is expected of the new government and what can it do? The following articles address these questions.
Japan’s Hatoyama sweeps to power (video) BBC News (31/8/09)
New Japanese government seeks a strategy for growth The Nation (Thailand) (1/9/09)
Japan’s new leader faces tough task Radio Australia (1/9/09)
Hatoyama faces daunting economic task BBC News (31/8/09)
DPJ needs to reinvigorate domestic economy of Japan China View (1/9/09)
Analysts worry DPJ’s policies may be a bane to Japan’s economy Channel NewsAsia (31/8/09)
Hamish McRae: Post election, what do the Japanese really want to do with their country? Independent (1/9/09)
Japan’s Government: Five Ways to Fix the Economy Time (1/9/09)
The vote that changed Japan The Economist (3/9/09)
Questions
- Paint a brief picture of the current state of the Japanese economy.
- What policies are advocated by the new government and what difficulties lie in the way of achieving the policy goals?
- What supply-side policies would you recommend for Japan and why?
For years, Britain has suffered a decline in its manufacturing base relative to many of its competitors. In part this was the result of the success of the financial sector and the accompanying high exchange rate. But, with the problems of the financial sector since 2007 and the subsequent recession, attention has increasingly turned to ways of stimulating manufacturing capacity and the competitiveness of the export sector generally.