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The battle for growth

Slower growth in 2011 is not due to the eurozone crisis; slower growth in 2012 will be.

George Osborne was reported recently by the BBC as saying: "It is a very, very difficult and dangerous situation in the eurozone - Britain is impacted by what's happening. There's no doubt that growth in Britain, jobs in Britain, have been hit by what's going on in the Eurozone."

This is probably only true of the last few months, and then only to a limited extent. The slowdown in growth in Britain began in the fourth quarter of last year, since when real GDP has only increased by 0.5 per cent, and employment growth began to falter earlier this year. The crisis in the eurozone has been rumbling on for some time, but it only came to a head sufficiently to affect the UK over the summer months.

This can be seen in the latest trade data. UK export volumes to other EU countries increased by 5 per cent over the last year; exports to the rest of the world were up just 1 per cent over the same period. If the eurozone crisis was to blame for weak growth in Britain, these figures would be the other way round.

Other explanations are needed for the underperformance of the growth in Britain and two stand out. First, higher oil and food prices - and the increase in VAT - have squeezed households' spending power. This is evident in the latest retail sales data. Sales values increased by 5.4 per cent over the last year - a healthy rate of increase - but sales volumes were up just 0.6 per cent. The difference is inflation. Second, the Chancellor's tough fiscal plans have taken demand out of the economy and dented business confidence about future levels of spending. Hiring and investment spending have slowed as a result. Hopes that the private sector would respond to a tough fiscal policy with a burst of entrepreneurial activity have proved totally misplaced.

The worry in all this is that the effect of the eurozone crisis on growth and jobs in Britain is yet to come. Even if the crisis does not worsen - and it would be a brave person who argued that this categorically will not happen - demand in the eurozone is going to weaken in coming months and many forecasters believe it will slide back into recession. This will affect UK exporters: around two-thirds of UK exports go to the rest of Europe. Harder to measure, but possibly more important for growth and jobs in the UK, will be the effect on business confidence. Few company directors will feel comfortable implementing expansion plans at a time when the news headlines are dominated by the risk of Armageddon on the UK's doorstep.

And if the crisis does get worse, the prospect of the banking system freezing up again, followed by another credit crunch, will be a real one.
This is already being reflected in economic forecasts. Earlier this week the CBI revised down its estimates for growth in the UK to 0.9 per cent in 2011 and 1.2 per cent in 2012 and the European Commission predicts growth of just 0.7 per cent in 2011 and 0.6 per cent in 2012. If the Commission is right then the UK is going to come perilously close to a recession in the next few quarters.

This is a challenging backdrop for the Chancellor as he prepares for his Autumn Statement on 29 November. The Government has published a Growth Review, a Plan for Growth and is now reviewing the Plan for Growth. But the economy is barely growing and the outlook is for things to get worse not better. Each of these documents suffered from the same basic weakness. It started from a set of measures agreed between the coalition partners - cuts in corporate tax rates, an increase in the personal tax allowance, aggressive budget deficit reduction - and attempted to build a growth plan around them. This is the wrong approach.

A plan for growth should not be based on a set of miscellaneous policies agreed in coalition negotiations. It should identify what is needed for the economy to grow - additional demand in the short-term and increasing supplies of capital, labour and land in the medium-term, together with better ways of utilising them - and then work out how the government can help deliver them.

We are promised "credit easing" and a focus on housing and infrastructure. These are welcome but more, much more, is needed.

Tony Dolphin is the Senior Economist and Associate Director for Economic Policy at ippr