In response to overwhelming public demand (not really!) here is my take on the impact that the incoming Labour government has had on the UK economy. Clearly, it’s early days and there is still all to play for, but the initial signs are not encouraging.
The obvious place to start is the health of the economy when Labour took power in July. Back in February, Rachel Reeves had warned that Labour faced “the worst inheritance any incoming government will have had since the Second World War”. And to be fair there was some substance to this, even if the language was over the top.
It may be helpful here to distinguish between two ways of looking at the economy – where it happens to be in the growth cycle, and the underlying fundamentals.
On the first measure, Labour inherited an economy that was already heading in the right direction. Quarterly GDP growth averaged 0.6% in the first two quarters of the year, business and consumer confidence were improving, inflation and borrowing costs were coming down, and unemployment was at multi-decade lows.
But on the second measure, Labour inherited an economy with lots of structural problems. Back In February Rachel Reeves cited “debt interest payments, growth, living standards and taxation”. At other times, she has talked about the poor quality of many public services and high levels of economic inactivity.
The fiscal position is certainly poor: debt interest payments topped £100 billion (on an accruals basis) in both 2022 and 2023, public sector net debt was approaching 100% of GDP, and the tax burden at a historic high. (See the OBR databank for the details).
GDP growth in the first half of the year has turned out to be much better than had been expected at the time she spoke. But, crucially, this was from a low starting point. Don’t forget that the UK economy was in recession in the second half of 2023, while GDP per head fell in every quarter of last year.
As for “living standards”, these can be defined in many different ways. Some measures (notably real household disposable incomes, which have continued to grow) look better than others (notably real wages, which have stagnated).
However, growth in labour productivity – the key to sustainable improvements in living standards – has been relatively sluggish ever since the Global Financial Crisis of 2008. So, while it would be wrong to claim that ‘living standards have fallen under the Tories’, it is fair to say that they have risen more slowly than usual.
The big question is whether Labour has any solutions to these problems. A period of just 100 days is, of course, far too short to judge. But I will make three sweeping generalisations.
First, the economy has continued to perform reasonably well. Admittedly, monthly GDP was flat in both June and July, before growing by just 0.2% in August. As a result, the 3-month on 3-month growth rate has slowed to 0.2%. Barring any major new shocks, growth in the second half of the year is likely to be roughly half the pace in the first.
Nonetheless, that first half pace was never likely to be sustained. More positively, a wide range of private sector business surveys, covering manufacturing, services, retail, construction and the housing market, suggest that the recovery from last year’s downturn still has plenty of positive momentum, and that it is increasingly broad-based too.
Moreover, the UK economy has continued to perform relatively well compared both to expectations and to its peers, especially in the euro area.
But my second point is that this is no thanks to Labour. Initially, there was a wave of optimism that the election of a new government with a large majority would lead to better policymaking, or at least to greater political stability. That optimism has now evaporated – as opinion polls on the first 100 days show.
Indeed, the communications on the economy have been terrible. Banging on about the ‘worst inheritance since WW2’ – and the need for ‘tough decisions’ to correct the mistakes of the previous government – may have been good politics. But this has had a chilling effect on sentiment and, and, in some cases, is already impact activity. The rushed decision to restrict winter fuel payments has only added to the sense of foreboding.
For example, consumer confidence fell sharply last month, due mainly to worries about what might be in the Budget. These fears, along with broader concerns about policies in areas like energy markets and employment regulations, have also held back recruitment.
As CBI economist Ben Jones put it, “anecdotally it’s clear that some firms have paused hiring and investment decisions pending more clarity over the direction of the new government’s economic policies”.
The financial markets are starting to feel uneasy, too. The recent rise in UK government’s cost of borrowing (and soon in mortgage rates) is still small and can largely be explained by the relatively strong economic data both here and in the US. But some investors are also beginning to worry about the large amount of new bonds that may have to be issued to pay for a surge in investment spending, and about the impacts of this surge on inflation and interest rates.
My third point is the lack of any real ‘achievements’ on economic policy. Again, the Budget could be a turning point – for good as well as ill. But in the meantime, what has Labour actually done?
The new government has settled some pay disputes in the public sector – but at significant cost to the taxpayer – with more deals to come, and no conditions attached (the productivity problem is particularly acute in the public sector). This may also make the Bank of England more nervous about cutting interest rates.
Labour’s earlier proposals on ‘workers rights’ have at least been watered down, but the new Employment Bill still fails to recognise all the trade offs here. In particular, increased rights for workers also create increased obligations for employers. This will deter some firms from taking on new workers, particularly from groups that they think might now be riskier to employ. Making it harder to fire underperforming staff will also undermine productivity and increase the burden on others.
Labour has tried to make a lot of the launch of the ‘National Wealth Fund’, but this does not actually amount to much. Essentially, it is just a remodelling of the existing UK Infrastructure Bank and the British Business Bank. The NWF will receive an additional £7.3bn of funding, but this is only about ¼% of one year’s GDP and tiny compared to other sovereign wealth funds.
And don’t even start me on ‘Great British Energy’!
The upshot is that the UK economy has performed relatively well despite what the new government has said and done, not because of it. The 100-day report card has to conclude that there is ‘significant room for improvement’.
Plain-speaking Economics 