So here we are, staring into the abyss of what is expected to be the longest recession in 100 years. Today’s GDP data (10 November), which showed that the British economy shrank by 0.2 per cent in the third quarter of the year, doesn’t mean we are in a recession yet – the definition of that is two quarters of contraction and so far we’ve only had one – but it does mean that by the start of next year, it’s likely we will be in recession, a predicament that is expected to last “throughout 2023 and 2024”, according to the Bank of England.
The UK isn’t alone in experiencing economic weakness. Supply chain and labour force issues created by the pandemic, and the energy and inflation shock from the war in Ukraine, have hit growth in global economies. So far, however, most other countries have not succumbed to the fate the UK is facing: at the end of last month figures showed the eurozone’s GDP had grown in the third quarter – albeit by only 0.2 per cent – while last week the US surprised economists by pulling itself out of a technical recession, with third-quarter growth of 2.6 per cent.
Why is the UK’s economy in such a parlous state? There are, clearly, various contributing factors that are peculiar to the UK (Brexit, the mini-Budget) but running through those is a common thread: investment.
Investment has been declining since the 1980s, according to figures from the World Bank, which show that expenditure by the public and private sectors peaked at about a quarter of GDP in 1974 and then again in 1989, before beginning an inexorable slide. In the post-financial crisis years it bottomed out, languishing at 16 per cent of GDP. Since then, it’s barely recovered: in 2020 and 2021 British organisations invested the equivalent of just 17 per cent of GDP. In the US that figure is 21 per cent; in the eurozone, it’s 22 per cent.
“Investment is what leads an economy to grow,” says Christopher Martin, a professor in the department of economics at the University of Bath. The current weakness of the pound (it is still languishing near record lows against the dollar) should theoretically be encouraging companies to invest but Martin says that at the moment it’s a symptom of, rather than a cure for, low investment. “Foreign companies typically look at the UK and see a lack of skills, a lack of infrastructure, and therefore less incentive to invest. And so these companies don’t buy pounds, and therefore the currency is weak.”
It’s not just the private sector that needs to be investing. Government austerity in the 2010s did serious damage to investment, adds Martin, and any belief that repeating the exercise now might improve growth is a mistake. “Austerity means less government investment in the broadest sense in terms of people and infrastructure. It’s just going to make the problem worse.”
We can see this playing out in real-time in the way the NHS is struggling to cope with the sudden rise in the number of sick people in the UK – and the knock-on effect on the economy of their absence from the workforce. Official figures have shown that a record 2.5 million people were experiencing long-term sickness in July, while 400,000 people have left the workforce since the beginning of 2020 because of ill health. That pulls down growth: with fewer workers, productivity suffers, which in turn harms growth. It’s no coincidence that figures released this week showed that for every £1 spent on health, £4 of economic growth is generated – yet the NHS is facing real-terms cuts to its budget that are likely to become even more severe after Jeremy Hunt’s Autumn Statement next week.
Brexit is, clearly, a major contributing factor to the lack of investment in the UK. “The promises that prosperity was around the corner just did not materialise,” says Evarist Stoja, a professor of finance at the University of Bristol. “Countries have not lined up to sign trade deals with us. The boom in the financial industry due to deregulation has not materialised.” When the Brexit vote happened in 2016, many businesses delayed investment while they waited for the instability and uncertainty to pass.
Rather than the uncertainty passing, a two-year pandemic and a mini-Budget that destroyed market confidence, increasing government interest payments to the tune of billions added to the chaos. “The mini-Budget was a completely unnecessary mistake,” says Stoja. “There was no need to add pressure in that way.”
The concept that uncertainty reduces investment is not new. In 1980 Ben Bernanke, who was chairman of the US Federal Reserve from 2006 to 2014 (and won the Nobel Prize for economics this year), studied the effect of uncertainty on investment, and concluded that during periods of unpredictability, businesses may gain more by watching and waiting, rather than making big financial commitments. “Uncertainty, because it increases the value of waiting for new information, retards the current rate of investment,” he wrote.
The question is, when does “watching and waiting” become “not investing at all”? After six years of volatility, and faced with another two of negative growth, businesses and investors could be forgiven for losing faith in the British economy. The pressure is on the Chancellor to stave off the worst-case, two-year recession the Bank of England has warned about by producing an Autumn Statement that finally shows businesses that they can rely on the British economy.