A Recovering Britain?

The new Bank of England Governor, Mark Carney, has shown impeccable timing. He leaves Canada in the best shape of the G7 members, boasting GDP at least 5% higher since the crisis began  compared to Britain, where GDP has still yet to catch up to its previous peak.  But he also leaves the country with some long term problems that he won’t have to deal with. Canada is facing a rising debt problem as more and more consumers are borrowing money they don’t have. This is compounded by Mr Carneys low interest rates, which are needed to boost growth but are now encouraging reckless borrowing. Growth is also slowing this year, with the Canadian central bank now cutting projection for the next few years.

As this graph shows, Britain is experiencing a worryingly slow recovery compared to previous years, with GDP still somewhat below the 2008 peak.  

In contrast he arrives in the UK at a possible turning point.  After five years of a deep recession followed by a failed recovery, the statistics are now finally pointing to better times. Manufacturing and construction are growing, consumer confidence is improving and new schemes to help boost lending and property buying seem to be working. GDP is set to grow at around 1% this year if the economy stays on track and unemployment is staying low compared to the rest of Europe.

Yet there is an underlying problem in Britain’s economy that will prove hard to fix for the new Governor.

The average wage in the UK has declined by 5.5% since mid 2010 when adjusted for inflation, falling further than some of the worse off countries in the EU like Spain. This won’t surprise Britons, where the cost of living is squeezing the incomes of many households. As wages have remain restricted since the recession by companies that can either not afford the higher costs or are simply taking advantage of the desperate workforce, inflation has been increasing at between 2-4% a year. This can particularly be seen in the steep rises of energy bills, which have  more than doubled in the period from 2004 to 2011. More price rises are set to happen in the future too, with some energy companies suggesting bills will be £100 more than government projections state for 2020.

As this graph shows, Wages and inflation have diverged negatively since the recession, squeezing real incomes. Found at http://www.economicshelp.org/blog/6994/economics/uk-wage-growth/

Even the new positive growth numbers hide this problem. Instead of salary rises, people are turning to borrowing again to supplement their income. Personal debt has increased by £4 billion in the last year and is worryingly becoming a necessity for families to keep up current costs, along with benefits. If growth recorded in the first quarter at 0.3% had been based on wages, it would have fallen by more than 1% and pushed Britain into recession. A real recovery will need wage growth to create real growth. Otherwise a debt inspired recovery could see interest rates start to rise, leading to costlier interest payments on the debt held by consumers, leading to more defaults and another market crash.

A worrying trend is that of the zero hour contracts, where companies do not have to stipulate what hours an employee is working each week. Additionally, they don’t have to provide the employment benefits that full time employees receive like sick pay and maternity leave. Regulation is lighter in such work places and offers no real job protection, leaving the employees less likely to spend freely if they don’t have a consistent salary or job. This can only harm the economy’s recovery at a fragile time.

Yet there are some positives. Unemployment has stayed relatively low in the UK since the recession because of the countries flexible labour market. Instead of industry wide lay-offs, companies were able to lower salaries to keep people employed. This was healthy, as employees on low wages were better than the unemployed claiming benefits. But with the economy now trying to recover, there is no longer that fear of a market crash to hold companies back from increasing wages.

Unemployment has remained steady and relatively low compared to the rest of Europe, when unemployment is more than double in Britain’s in countries like Greece and Spain. Found at http://www.goldmadesimplenews.com/analysis/unemployment-in-the-uk-rises-to-7-8-as-real-wages-have-go-down-for-nearly-5-years-in-a-row-9951/

The problem is that while consumer have been able to borrow money freely, companies are finding it a much harder task, especially the smaller and medium sized firms that employ the majority of the population. Banks, the biggest lenders to businesses, are focusing on building up their capital for new regulations, meaning they are averse to lending money to companies that don’t have the size and market share to guarantee their loans. There is a lack of a genuine back up to the banks for smaller companies, in contrast to the bigger companies that can lend from the international markets for affordable rates. This is restricting both current companies struggling to grow and new ones trying to enter the market.

 

This affects the public, as investment improves productivity which tends to influence higher wages. Right now business investment is down by a third since the recession, productivity has declined despite more people being in work and real wages have therefore fallen. Astonishingly, the UK ranks 159^th in the world for its investment to GDP ratio.

The solution is therefore to improve the market for lending to small and medium businesses. This is easier said than done. Banks are still a long way off from their pre-recession lending rates; especially with two of the biggest banks still part owned by the government. People are wary to see banks go back to that sort of lending anyway, with bankers lending recklessly and risking too much money. But a middle ground must be found to provide capital to the rest of the market. Different lenders must be found as well; in America banks share a much a lower percentage of the lending market than in the UK and Europe, one example of why America has outperformed both since the recession. One such example is peer-to-peer leaning, where the two largest providers in the USA lent over $1.7 billion in the last five years. One recent improvement has been the “Funding for Lending” scheme which gives incentives to banks to lend by offering money that can only be used to lend to businesses.

Britain is further ahead than the rest of Europe in solving this problem and is thinking outside the box to improve the economies main weakness. If lending can pick up and even better without having to rely solely on the biggest banks, then investment can pick up and wages could start to grow.

It’s not the recession but how the country recovers that will come to define Britain.