Why the UK’s economy is still grossly out of balance

Investment is low, the trade deficit is growing, and what growth we have is largely driven by ultra-cheap money and asset inflation. This is unbalanced and unsustainable.

John Mills
30 July 2015
Bank of England

Consumer demand has been propped up by low interest rates. Flickr/Bank of England. Some rights reserved.

On 30th June 2015, the Office for National Statistics published key figures – set out below with comments – for the first quarter of 2015.

Table 1

Source: ONS BNBP Balance of Payments Quarterly First Releases.  All figures are in £m.

Trade Balance      The trade balance shows a modest improvement on previous trends but it is questionable whether this will be maintained with sterling at its current strength.

Net Income from Abroad The latest statistics show a substantial worsening of recent already highly adverse trends. The 2014 negative total has been sharply increased from previous estimates – from £38,754m to £44,976m – and, at an annualised rate, the 2015 figure may well finish up in excess of £50bn, a huge swing from the position less than five years ago. It is impossible not to associate this vast deterioration with the massive sell-off of UK assets which is currently financing our balance of payments deficit.

Net Transfers Abroad  Our Net Transfers Abroad have fallen back slightly in the first quarter of 2015 compared to previous levels but are unlikely to reduce significantly on an annual basis.

Net Totals   Mainly because of previous underestimates by ONS of the rate at which our Net Income from Abroad has deteriorated, the total Balance of Payments deficit for 2014 has also been sharply uprated from the 2014 Q4 ONS estimate of £97,920m to £105,651m – an increase of almost 8%. On present trends the 2015 overall foreign payments deficit is likely to be at least £100bn and may well be even higher.                              

The next table shows the position on borrowing and lending in the UK economy, with figures going back to 2000 to provide context for what is happening now.

Table 2

Source: Table I. Net Lending by Sector in ONS Statistical Bulletin – Quarterly National Accounts 2015 Q1 and previous editions of the same table. All figures are in £m. Figures for 2013, 2014 and 2015 are still being reconciled by ONS and the net totals will also be very close to zero when this process is complete.

Public Sector  Public sector borrowing fell back during the first quarter of 2015 to an annualised rate of about £70bn as a result of much more borrowing by both the corporate and household sectors.

Corporations  Increased borrowing by the corporate sector reflects greater levels of investment in relation to retained profits and is generally to be welcomed. Total investment as a percentage of GDP (excluding R & D) rose from 13.5% in 2014 to 13.7% in 2015 Q1, although the proportion of this total devoted to manufacturing remained at no more than just over a quarter, confirming that most UK investment is not concentrated in the sectors of the UK economy where it is likely to be most productive.

Households   Consumer borrowing rose sharply in the first quarter of 2015 and at an annualised rate is now running at about £20bn per annum. This is £80bn a year – nearly 5% of GDP – more than it was five years ago. Especially with the prospect of interest rate rises not being too far away, it is highly questionable whether this rate of increase in consumer borrowing is either desirable or sustainable.

Foreign Balance  Our balance of payments deficit has to be financed by selling assets or borrowing from abroad as the money sucked out of the economy by the current deficit has to be matched exactly by inflows of funds from overseas. In turn, our lending from abroad has to be matched pound for pound by either corporate or household or government net borrowing.  

Policy Conclusions

The UK economy is extremely unbalanced. Total investment as a percentage of GDP, at less than 14% (excluding R&D), is one of the lowest in the world, and much too little of the total is investment in seriously productivity enhancing assets. Manufacturing as a proportion of GDP, now barely above 10%, is far too low to avoid our having much too little to sell to the rest of the world to pay for our imports. On top of a chronic trade imbalance we have net income from abroad becoming more and more strongly negative and net transfers abroad on a generally rising trend, providing us with an annual balance of payments deficit now running at over £100bn a year – over 6% of GDP. In consequence, both as a nation and through our government, we are running up debt at an unsustainable basis. What growth we have is very largely consumer led, largely driven by ultra-cheap money and asset inflation, both of which are also unsustainable in anything but the relatively short term.

Unfortunately, the figures in the tables above do nothing to indicate that any of these chronic problems are being addressed successfully – or indeed are being tackled at all. In particular:

Investment and Productivity   With investment as low as it is and so little of it invested in the most productive parts of the economy, where depreciation now probably exceeds new investment, there is no prospect of any significant and sustained increases in output per head and no way in which we are therefore going to see any appreciable rise in living standards.

Balance of Trade  If we continue with an exchange rate which makes almost all internationally tradable low and medium tech manufacturing uneconomic, we will never raise the proportion of out GDP devoted to manufacturing to a level – probably around 15% – which would enable us to avoid unending trade deficits.

Net Income from Abroad  If we continue to live beyond our means to the tune of 6% plus per annum, selling assets or borrowing from abroad on which there is a return of some 5% per annum, our net income from abroad will deteriorate at about £5bn per annum every year for the foreseeable future.

Transfers Abroad  We have net transfers abroad in the form of payments to the European Union, net remittances by those who have migrated to the UK and foreign aid programmes which, taken together, cost sums of money which we are currently incapable of funding other than by selling assets or borrowing from abroad.

Balance of Payments  Overall, we have balance of payments deficits every year whose total value is now spiralling up to levels which are becoming more and more unsustainable.

National Solvency  As a country, we are becoming deeper and deeper in debt as our total assets become worth increasingly less than our total liabilities, as a result of the relentless sale of assets which we have allowed to take place, to finance a standard of living which we are not earning and which we cannot afford.

Government Deficit  The government deficit is very largely the residual left over when household and corporate borrowing is deducted from the proceeds of selling assets overseas and borrowing from abroad to finance our balance of payments deficit. If our foreign payments deficit continues to be in excess of £100bn per annum, there is not the slightest chance of the government deficit falling to zero, or even being reduced to a significantly lower but more manageable level.

Consumer Borrowing  Yet again, we are falling back on rising consumer debt to fuel demand whereas actually what we need is for consumers to save more to finance much higher levels of productive investment.

The overall conclusion is that the recent GDP expansion we have seen – at last at a rate sufficient to begin to bring average living standards up to where they were in the 2000s – is very unlikely to be sustained. We have seen some growth as more and more people have been pulled into the labour market and this is very much to be welcomed. But it is not sustainable. Growth is much more likely to peter out as a result of a combination of turmoil in the EU, government expenditure cuts, our worsening balance of payments position, and no net investment in the crucial sectors of the UK economy that are capable of producing significant productivity increases.

The sad truth is that our unbalanced and uncompetitive economy is simply not capable of achieving any worthwhile sustained growth. This is why we face years of stagnating living standards, as whatever growth we do achieve is diluted by our rapidly rising population. Projections that we will continue to see the UK economy growing at up to 3% per annum will, unfortunately, turn out to be sadly misplaced. The economic strategy currently in vogue is absolutely no way to run the UK economy.

This article is part of the There is an Alternative series. An economist and entrepreneur, John Mills is Chairman of JML. He recently established The Pound Campaign to raise awareness of the uncompetitive exchange rate and the effect it is having on UK manufacturing and the wider economy. John Mills sits on openDemocracy's board.

John Mills is a donor to openDemocracy.

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