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What Brexit mistake?

What Brexit mistake?

It's being widely alleged that economists were wrong about Brexit. The Bank of England, Treasury and many independent forecasters had warned that a vote to leave the EU would put the UK on the brink of recession. But latest purchasing managers' surveys show that services sector growth is at a 17-month high and manufacturing growth at a 30-month high. Such figures, says Markit's Chris Williamson, are “consistent with the economy expanding by 0.5 per cent in the fourth quarter”. That's a tad below the long-term average, but better than economists had expected.

So, why were the doom-sayers wrong? Here are five possible reasons.

• Consumer spending has been strong recently as shoppers have pulled forward spending from 2017 in anticipation of rising prices. If this is the case then spending will falter this year. If this is the case then Andy Haldane will be vindicated: economists' error was “more a question of timing” than a grave mistake. And there is evidence for this. Next recently warned of a tough year on the high street, and the SMMT says new car sales fell last month after a strong year.

■ Households expect the squeeze on real incomes caused by sterling's rise to fall upon profits rather than wages and so have carried on spending. Yes, such a squeeze should reduce capital spending. But because investment spending now reflects decisions taken months ago, the effect of this isn't yet felt. Net, therefore, the economy has had a temporary boost.

■ People discount the distant future very heavily. Mainstream economists claim that Brexit will make us worse off in the long run because lower exports (relative to what we'd have if we stayed in the EU) will reduce productivity growth. Basic textbook theory says this prospect should depress spending now. But it won't, if consumers don't base today's spending on their view of what incomes will be in 10 or 20 years' time.

■ The Bank of England took measures to mitigate the blow to the economy. Yes, the hydraulic impact of the quarter-point rate would have been small. But perhaps there was a bigger boost from its promise to ease policy further if necessary - a boost which might have come via the lower pound that such talk caused.

■ As Andrew Lilico (a pro-Brexit economist) says, doom-mongering was based upon political rather than economic judgments - say, that there'd be an immediate triggering of Article 50, or less free trade or no better regulation. It might be that these political assumptions were wrong, not the economics.

All these possibilities are consistent with economists being right about the economics of Brexit. It's just that the adverse effects haven't been seen yet, or have been masked by a policy response, or that they got the politics wrong.

What's more, we cannot even be sure that economists were wrong about the short-run effects of the Brexit vote. Most of them believe that Brexit will make us worse off than we'd be if we'd voted to stay in the EU. When we voted to leave, therefore, they cut their economic forecasts relative to their baseline projections which were predicated upon a Remain vote. The fact that growth has been strong recently might tell us not that their view on Brexit was wrong, but that those baseline forecasts were too gloomy. Had we voted to remain, growth might be even stronger now than it is. We'll never know.

What we do know, though, is that there's a strong common-sense reason to have expected the leave vote to have depressed growth. Quite simply, increased uncertainty causes people to delay spending. Childish snarks against economists duck the tricky question: if that common-sense theory was wrong, why?

We must, though, remember something else. Imagine you'd believed the dire warnings pre-plebiscite. What would you have done? You'd have shifted into foreign currency and overseas equities. And you'd have done very well. Economists' warnings did not cost you money.

I'll concede that there is plenty wrong with mainstream economists. Their under-prediction of recent economic growth, however, is a long way down this list.

MORE FROM CHRIS DILLOW...

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Chris blogs at http://stumblingandmumbling.typepad.com

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By Chris Dillow,
09 January 2017

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Chris Dillow

Chris spent eight years as an economist with one of Japan's largest banks. Here, he provides insightful commentary on the latest economic news and data, along with thought-provoking articles about investor behaviour.

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