Why is the British Economy in Greater Trouble Than Most Others?

The British economy is struggling. As in the case of China and Russia, the situation is slowly unfolding, but compared to almost every OECD economy, and certainly compared to the others of the big seven (G7), Britain is doing dreadfully. Its current consumer prices increased 9.1 percent over the last year with the expectation they will continue to rise (possibly doubling the current rate in 2023). The official figures for GDP, for to show that all sectors of the economy declined over the last year. The economy is only 0.9% bigger than it was in November 2019, while its population has grown about 1.5%. Unemployment has fallen to low levels but is beginning to rise. Wage increases are a long way behind inflation.

Russia’s troubles are easily explained. Despite strong hydrocarbon exports, the economy is being slowly strangled of component imports by the sanctions imposed because of the invasion of Ukraine. China’s are because its giant property sector is switching from a Minsky boom to a Minsky bust.

Most economies in the world have been badly hit responding to the Covid pandemic (that includes China).The Ukraine war has raised prices of commodities like grain and hydrocarbons, although the worst increases are retreating. Wars disrupt economies even if the country does not deploy fighting men.

The Covid pandemic has disrupted international supply chains, a timely reminder of how interdependent the world is. It is not just that components are produced in different countries from the users. They have to be shipped. Shanghai, the biggest port in the world, is in a lockdown. So there are ships anchored offshore, waiting to enter. That means there are fewer ships for the rest of the world and so, for instance, trans-Tasman shipping capacity is limited; evident by the gaps on your supermarket’s shelves. (Shipping prices are more three times than their pre-pandemic level.)

But these effects are not peculiar to Britain, so they do not explain why it is doing exceptionally badly. Nor can it be explained by Britain’s economic cycle being out of phase from everyone else’s, a common source of confusion, especially by those who are after dramatic headlines. The relative deterioration has been going longer than a business cycle.

One sort of explanation is that once Britain was the workshop of the world, but other economies caught up. However, the catchup countries are now doing better. Only slightly better in any average year but the deficit accumulates.

I am not sure that the data is that reliable. International comparisons are difficult, especially for non-traded goods and for services. But suppose Britain is growing more slowly. One argument is that the economy is over-regulated. But is it more over-regulated than comparable economies? While I think good quality regulation is preferable, I am not convinced that it affects economic growth as much as the promoters of this view argue. Our strongest recorded economic growth boom was under the First Labour Government after the Great Depression recovery, when there were increasing interventions. The market liberalisations from the 1980s often cost a fortune, as in the case of leaky buildings. On average, they probably improved the quality of output, which GDP does not measure well, but there is no evidence of their improving the material growth rate.  Similarly the strongest period of recent British growth was under Tony Blair; NewLabour is not remembered for liberalising economic regulation.

Another explanation for the long-term decline is that Britain has specialised in exporting services (particularly financial services) but at the cost of its manufacturing sector. Allow me to skip the longer analysis and note that the dominance of City of London has been at the expense of the rest of Britain (those promoting ‘levelling-up’ take notice) but that the share of manufacturing would have declined anyway for the same reasons it has done in other affluent economies.

However, any such weakness does not explain the recent relative deterioration. Surely it is Brexit and the economic consequences. It is not hard to compile a long list of anecdotes which describe the difficulties the British export sector is currently facing.

Let me begin in good Popperian fashion, by setting out the strongest argument for the economic benefits of Brexit. They are not the slogans which people voted on, and I acknowledge that those who value constitutional independence might be willing to pay a premium for it in lower material output. I focus on the economic argument that the British economy outside the EU will be better off in the long run.

Note that this version of the argument accepts that any shock as large as the Brexit will cause damage in the short-to-medium run as industries adjust to the new situation. Could there be gains in the longer run?

The Brexiteers’ case seems to be that EU regulations were clumsy and holding back the potential of British industry. A less interventionist regime will liberate that potential and eventually lead to faster economic growth.

A New Zealander is allowed to be sceptical. That was the argument for Rogernomics and, as I said, there is no evidence, other than anecdotes and statistical distortions, to indicate that our market liberalisation speeded up economic growth (or even that the economy recovered the loss from the Rogernomics stagnation). The economy continues to trundle along at much the same growth rate as it did before Rogernomics despite, according to the World Bank, being at the top of the list of countries with which to do business. Of course, the Brits may have more sophisticated regulators than ours, thereby getting more of the upsides of the liberalisation and less of the downsides. We shall see.

There is also a sense that regulation as increased has a result of Brexit. While the Brits can liberalise their internal domestic market, they face increased red tape at the border. An exporter to the EU still has to meet EU standards; because the EU market is over six times the size of Britain’s, the EU determines the standards. Additionally, the additional documentation now required for exporting to the EU is a form of regulatory overload.

It is true there has been some liberalisation at the borders for other markets but the British trade deals have been mainly the ones that the EU did anyway. The good news is that both Australia and New Zealand got better access for their agricultural exports from Britain than the EU gave us.

Perhaps the Brits are hoping to do a better deal with the US than they would have got had they remained in the EU. We shall see, but I am sceptical. The US are tough, inward protecting bargainers as we saw with the TPP. Britain hopes to join the CPTPP; it would be a good win for them (and us) but will not offset the loss of the EU market.

Withdrawing from a trade agreement is akin to a breakdown of the supply chain. This time though, it is not so much being able to get the shipping as that the ‘ships’ one does get are expensive rust buckets.

Even so, in a declining economy there will be some who do well. In Britain’s case, it is the retired, who are not threatened by unemployment, living on affluent investment incomes which benefit from higher profits and interest rates and who are nostalgic about the England they grew up in when it was still possible to pretend Britain was a world power. All they want is income tax cuts. They sound very much like the members of the Tory party who are voting for Liz Truss.