The economic forecasts produced prior to the Brexit referendum on the consequences of a Leave vote not only represented an almost uniform consensus. They have also turned out – perhaps remarkably – to be broadly right. The UK economy over the past two and half years has suffered subdued growth, with output now some 2-3 per cent below where it would otherwise have been. No serious expert forecast either a boom or bust depending on the Vote outcome.
There’s an irony here. Even as economists agreed, and were right, they have been widely dismissed as “pseudo-scientists” who cannot model cause and effect – or worse still people whose views have been affected by their prior political or personal values. If this were not bad enough, the general public consensus is that the economists simply got it wrong because the economy did not suffer a recession after the Vote. This dominant rhetoric of incorrect or biased economic forecasts has been very helpful to those wishing to downplay the negative consequences for the economy of exit from the European Union, and has allowed more momentum to develop for a No Deal exit than would otherwise have been the case. The emergent rhetoric in this case actually matters.
Although the economic analysis has been clear and consistent, it does bear repeating. The negative impact on the economy prior to exit is almost entirely related to uncertainty, which takes a number of forms: in terms of the type of exit, when we exit and indeed whether we exit. We also do not know what how our trading relationships for goods and services, as well as capital and labour, will evolve with respect to the rest of the world on exit. So even if the first set of uncertainties are resolved in some manner in the first quarter of next year, the second set of uncertainties could still bear down on activity that depends on forward-looking plans. Such uncertainty has already depressed domestic investment and probably impacted on inward FDI, and so to some extent seems likely to continue to do so.
When we move to the actual exit, it will inevitably depress activity compared to the case in which the UK remains in the EU. The greater the disruption to the trade, the greater the negative long run impact; it also has a differential regional impact, and will be strongest will be strongest for regions producing goods that our European partners are also able provide, now at lower costs. The economy has already started to adjust to a lower level than it would otherwise have been at, and after Brexit will continue to do so.
The most likely exit is still one on terms that will introduce limited frictions, and so will continue to subdue economic activity below where it would otherwise be. And because the impact is likely to affect both the demand and supply side, it does not create a prima facie case for more accommodative monetary policy.
During the exit process, were the annual rate of increase in real wages were to remain at 1 per cent a year, it is not really sufficient to leave the average household feeling that much better off. The recent buoyancy in consumption has been accompanied by a dwindling savings ratio, and increase in unsecured debt. Overall household debt at some 125 per cent of GDP suggests that households have been maintaining consumption levels by borrowing from a richer future: even if that arrives, one should expect households to pay off some debt rather than increase consumption. As ever, the fundamental key to wealth and feeling significantly better off is a sustained improvement in labour productivity – but trade compression is unlikely to help improve productivity performance.
So what explains this disconnect between popular, perhaps even populist, narratives on the impact of EU exit from the central case presented by all serious-minded economic analysis? There are a number of possible answers. First, that the rhetoric on the pre-referendum analysis was dominated by extreme views on either side promising a famine or a feast: there simply may not be much room for careful and nuanced analysis in the middle of a political campaign.
Second, the forward-looking analysis of the exit consequences did not consider the actual effects of deepening trade in goods, services, capital and labour on the British economy. These may have been good on average – particularly prior to the financial crisis – but were particularly problematic for certain regions and sections of the population.
Thirdly, there has been insufficient explanation of the global, and in this case, European linkages that play a critical role in the production of goods and services but also form strategic beachheads for world-leading firms. It is quite possible that those linkages can be recast – but having set on a path of European-oriented production, arguably since 1961, some of these links have become hardwired into our drive for economic prosperity.
But I suspect there is an even deeper reason why economic rhetoric has failed. The privations of the public have not been adequately addressed by economic policy in the decade or so since the financial crisis. The loss of economic leadership, as our long term bets on the financial system have not quite paid off across the country, has meant that people have not managed to get the lives that they expected to have. There is a sense of a stalled generation.
Whether economists get it right or wrong, by luck or by judgement, the ultimate test of credibility depends on being able to deliver sustained increases in economic well-being for households. Until that is achieved, there will continue to be a large question-mark over economic science.
Jagjit S. Chadha is director of the National Institute of Economic and Social Research.