Political uncertainty is bad for the economy, as it causes some companies to delay capital spending until the fog lifts. In lifting one source of such uncertainty, the clear general election result therefore could be good for growth – especially as it paves the way for a loosening of fiscal policy.
Sadly, though, there are still many things that will hold back growth next year.
One of these is Brexit uncertainty. The UK is now likely to leave the EU in January and enter a transition period during which it negotiates future trading arrangements. As the think-tanks NIESR and UK in a Changing Europe have pointed out, this alone is bad for the economy in the longer run. But it might also be bad in the short run, too. We don’t know what these future trading rules will be. Many economists doubt that a deep and comprehensive free trade agreement can be reached in a few months. But if the transition period is not extended, we’ll leave on WTO terms with the tariff and non-tariff barriers this entails. Uncertainty on this point might well continue to hold back capital spending.
And, remember, there are also many structural obstacles to capital spending, such as a lack of innovation, difficulty of financing investment in intangible assets and the scarring effect on animal spirits of the tech crash and recession. These won’t disappear quickly.
Exporters also face a tricky 2020. Granted, there are reasons for optimism here. There are tentative signs of a de-escalation in the US-China trade war; the pick-up in eurozone narrow money growth is a good lead indicator of recovery; and Chinese purchasing managers’ surveys point to a resumption of growth. So far, however, all these point to only a weak upturn. Nobody expects export-led growth next year.
This year, the economy has grown – albeit weakly – despite all these headwinds thanks to rising consumer spending. Sadly, however, there are also reasons to be cautious here.
For one thing, the outlook for real wage growth is not great. Labour productivity is still stagnating. That means real wages can grow only if import prices or profit margins fall. Sterling’s recent rise offers a little hope for the former. But with millions of people still under-employed – and 1.8m out of the workforce who want a job – it’s not obvious that workers have sufficient bargaining power to significantly drive up wage growth.
What’s more, the pay rises we do get might not feed into greatly higher spending.
One drag here is the housing market. Mortgage approvals have flatlined for the last two years, at only half their pre-crisis peak. This depresses demand for housing-related consumer goods such as furniture, carpets and DIY stuff.
Another drag could be the desire to rebuild savings. During the 2016-17 wage squeeze, the savings ratio dropped and as wages have grown recently so too have savings. This is perfectly normal: we use savings and borrowing to smooth our spending. With the savings ratio still below its post-1970 average, however, some of us might want to increase savings still more. This too will hold back growth.
All of this helps explain a big fact – that futures markets aren’t expecting a rate rise in the next two years. They are pricing in a three-month Libor rate of 0.8 per cent – close to its current level – even by December 2021. That’s a sign that traders expect weak economic growth for many months. And there are lots of reasons to agree with them.
