The strong economy: how Brexit dishonesty began

The first quarter growth figures for the UK are terrible, with GDP per head falling slightly, and they are consistent with an underlying economy which is very weak. As you can see from the chart below, quarter on previous year’s quarter growth in GDP per head was reasonable in 2014, but has been falling since. The economy has been suffering from Brexit uncertainty and the Brexit induced falls in real wages, and as I guessed immediately after the referendum the temporary boost to competitiveness has not been enough to offset this. (More discussion here.) [1]

UK GDP per head quarter on previous year’s quarter growth: source ONS

As Will Hutton says, in any other world there would be national soul searching. But the reaction of the Chancellor to the latest data is that it "reflects some impact from the exceptional weather that we experienced last month, but our economy is strong and we have made significant progress". The Chancellor says the economy is strong when GDP per head, the best measure of average prosperity we have, is falling. And the ONS said the weather had a relatively small impact.

This kind of Orwellian description of the economy (weak is strong) is something that I first noticed in the run up to the 2015 election. The first three years of the Coalition government were terrible in economic terms, and the government did not try to pretend otherwise. Everyone was expecting a recovery and it didn’t come. But that opened the way for dishonesty to emerge from 2013, as the economy began growing again.

UK growth in 2013 and 2014 was really no more than a return to normal growth, but it was enough for both the government and journalists to talk about a recovery, even though there are strong reasons for reserving the term recovery for growth that returns us to a pre-recession trend level of output. The idea that 2013 vindicated austerity was truely Orwellian: no economics student anywhere would get away with such a statement. The government started talking about a strong economy during that period.

The strong economy line became the Conservative’s key claim in the 2015 general election. The economy was pretty well their only strong point among voters, but that did not make the claim true. In reality we had the worst ‘recovery’ in centuries: it was not really a recovery at all because we did not move any closer to pre-crisis trends. Yet parts of the media - what I called mediamacro - accepted the strong economy line, and largely ignored an unprecedented fall in real wages and the associated decline in productivity growth the likes of which we have never seen before. For that reason I argued that the Conservatives won the election because of mediamacro.

When we see Brexiters repeat nonsense about borders between the EU and Switzerland, tell lies about how the EU stops trade with Africa and how they will spend the Brexit dividend they are simply continuing where Cameron and Osborne left off in describing the economy as strong. What Conservative politicians have learned is that the BBC in particular does not have either the expertise or the will to call Conservative politicians out on doublespeak. The more unscrupulous the politician the more they have exploited that weakness in our democracy.

[1] The response of Brexiters is to keep saying its not as bad as the government’s pre-referendum short term forecast. For some reason its a line that reminds me of this.

International GDP per capita comparisons

As I have noted before, it is one of the great ironies of UK politics that recent growth only looks respectable because of immigration. Because mediamacro does not connect dots, politicians can get away with talking about a solid UK recovery, even though it is only half respectable because of the immigration they say must be reduced. But large migration flows are not just a UK experience.

The focus on GDP rather than GDP/capita distorts international comparisons as well. I conducted a small twitter poll (something over 500 votes) asking which of these 4 countries had grown most rapidly from 2006 to 2015: Germany, Japan, UK and US. Now those who voted are by self-selection well informed about economics, but over half chose the wrong answer in a comparison where the winner is ahead by a mile. Here is a chart (using IMF data).

I suspect the main reason why less than 50% chose Germany is that we are so used to GDP comparisons, and both the UK and the US experienced large scale immigration over this period. Using GDP the US wins (with 12% growth), closely followed by Germany (10.5%) and the UK (9.5%) with Japan way behind at 3.5%. But both the US and UK numbers are hugely flattered by immigration.

Why did Germany do so well in terms of the average living standards of its people? We need to talk about demand and supply. As readers should know, Germany suffered from austerity just as the US and UK did. But as you should also know, this was compensated for by a large competitive advantage it had gained over its fellow Eurozone members because of slow wage growth from 2000 to 2006. Strong growth in net trade made up for austerity, leading to a comparatively strong output per head performance (and, going with that, a huge current account surplus).

How was this demand boost met in terms of increased supply? Not through more rapid productivity growth (measured in terms of output per employed person), which hardly increased over this period. Instead it was through an amazing decrease in unemployment. In 2006 the unemployment rate in Germany was 10%, whereas by 2015 it was less than 5%. This in turn reflects the Hartz reforms, discussed by Tom Krebs and Martin Scheffel here. As they point out, this reform created losers (in terms of risk, particularly) as well as winners in terms of average income per head.

All this emphasises the point that GDP figures can be a poor guide to growth in average incomes. It also puts into perspective claims by Conservative politicians, widely repeated by the media, that the UK has been doing better than everyone else. Over this reasonably long period (you can always cherry pick short horizons), Germany has clearly been doing better than anyone else among the major countries, with growth from 2006 to 2015 of over 11%. Next come a group of countries at around 4% growth, including the USA and Japan as well as Sweden and Switzerland. Below them is another group of around 2% growth, including the UK, Ireland and the Netherlands. Just behind at 1% is France and Belgium.

The UK is certainly not at the bottom of the league, with a number of countries with GDP per capita in 2015 still below 2006 levels. These include Spain, Portugal, Finland and Denmark, with really poor performances from Italy and Troika run Greece. But growth of even 4% over 9 years is nothing to be proud of. Among all these countries, only Germany can claim to have actually recovered from the recession. [1]

[1] Outside this established group, we have seen strong growth from Australia, Israel, and the Czech and Slovak republics, as well as some smaller countries.

Why it’s your bloody GDP, not ours

Why does the recovery mediamacro constantly talk about seem not to apply to most people? Aditya Chakrabortty tells the story behind my title better than I did here, and picks up the important regional angle. But there is more to it than that.

First, there is the abuse of language I talked about here. I make a strong case that recovery should only be used when GDP is catching up with a past trend. Instead mediamacro use it for any non-negligible increase in GDP. They are egged on, of course, by the politicians who are partly responsible for our failure to actually recover from the Great Recession.

Second is an old favourite. Mediamacro constantly uses GDP rather than GDP per capita. This makes a big difference when an economy experiences a large increase in immigration. This chart from an article in the FT recently attracted attention, showing that the UK was the only major economy over the period 2007 to 2015 to combine growth in GDP with a fall in real wages. (I assume below the chart means growth between 2007 and 2015, rather than between 2006 and 2015.)

If we use the latest ONS data, UK GDP did indeed grow by 7% between those years (0.85% average annual growth), but GDP per head increased by only 0.8% (0.1% annual growth). It is one of the great ironies of this period, and a largely untold mediamacro secret (because mediamacro hardly ever connects dots), that the government has relied on claims about GDP growth that were in large part a consequence of the immigration which they were at the same time complaining about.

GDP per capita is of course the relevant comparison for real wages. But the claim in the FT article remains true: the UK does combine growth in GDP/capita (albeit small) with falls in real wages. The chart below uses ONS data on average earnings deflated by the consumer expenditure deflator. [1] That is the relevant deflator to use, if you want to look at the purchasing power of wages. However if instead you use as a deflator the price of GDP as a whole, the GDP deflator, then you get a very different story. As the chart below shows, that measure of real wages has increased by a similar amount to GDP per capita between 2007 and 2015.

So what has caused the price of consumer goods to increase more rapidly than the price of total output? There are a number of factors, but I emphasised two in a similar analysis I did two years ago: the depreciation in sterling in 2008, and the increase in VAT in 2011. The impact of the later is clearly evident in the chart, but so is the depreciation if you recall that there was a temporary cut in VAT in 2010, which led to a short term fall in consumer prices. The depreciation raises after a lag the price of imported goods and therefore consumer prices, relative to the price of domestic output. [2]

The disparity between GDP growth and real wages is therefore due to a combination of three factors: immigration, which boosted GDP, a rise in indirect taxes and a depreciation which both raised consumer prices. If we focus on GDP per head, as we should, then very weak GDP growth caused by the global financial crisis and austerity was translated into negative real wage growth, because of the global financial crisis (the depreciation) and austerity (the rise in indirect taxes). We are not seeing a shift from wages to profits. [3]

If there is one overall message here, it is that since the global financial crisis overall GDP growth in the UK has been terrible, and austerity plus an exchange rate depreciation has made it even worse for real earnings. That the media have not presented it that way is an important reason why it seems like your GDP, not ours. 

This disconnect in mediamacro between GDP and real wages has been very evident more recently as well. On the one hand Brexiteers have made great play about the fact that GDP in 2016 has been much stronger than some had expected. The media has also noted how inflation is increasing, and earnings growth is flat, implying a squeeze on real wages. Yet the two facts are hardly ever brought together. If they were, they might note that the 1.8% growth that the Brexiteers are so proud of in 2016 falls to 1.1% if you take out population growth (immigration). And they might also note that any growth in GDP in 2017 is likely to seem like ‘your bloody GDP’ if real earnings fall because of the Brexit depreciation. (No wonder they are in such a hurry to start negotiations.) Another message of this discussion is that the media could try a little harder to relate GDP growth to average earnings, rather than treat them as disconnected events just because the statistics are published on different dates.

[1] The fall in real wages shown in this chart is a lot less than in the FT chart, but without knowing their exact source it is difficult to know why.

[2] If you are wondering how real wages managed to ride out the recession, there are two main factors involved. The recession reduced the share of profits in national income (as recessions generally do), and in addition there was a large increase in unemployment.

[3] The labour share (of GDP at market prices) did fall by over 1% over this period, but the profit share also fell. The share that increased was taxes, reflecting the VAT increase already noted.