We have seen the rare combination of a central bank furiously creating free money and exceptionally low inflation. Yet despite ten years of a growing economy accompanied by heavy cuts in government spending the UK government is still running a massive deficit on its income and expenditure and the UK is running an even more worrying deficit on what it buys and sells from abroad.
Now we have reached the stage where the main action that has fuelled growth in the economy can’t continue. Inflation in the UK is no longer close to zero. It stands at 2.6%. Not something that most people would worry about. But something that makes a very big difference to policy.
You can’t just print free money when inflation exists and is tending to rise. You can only do that during the very rare circumstances of an economy with a tendency towards contraction and no significant inflation. Those times have gone.
Labour is now in short supply. Even without the heavy drag effect of unequal employment legislation and exceptionally weak protection of workers’ rights it is now going to be very difficult to stop people from asking for and getting pay rises.
This can be seen in the public sector where the government is finally showing signs of figuring out that if you keep wage rises well below inflation for ten years then you start to find people leave their jobs and go and work somewhere that pays better. Faced with a crisis of losing too many experienced police officers, prison wardens, teachers, nurses and doctors the Conservatives have been reported to have finally decided to drop their 1% wage cap on public sector workers.
In the private sector some of the pay pressures are also strengthening by the day. The building industry doesn’t know where it is going to get much of its workforce from in 18 months because it is clear that any Brexit this government arranges won’t involve freedom of movement. The agricultural industry is in the same situation. As are a lot of knowledge economy companies that need scientists or computer programmers who they won’t be able to get from abroad. You can’t simply train up that kind of workforce in a few weeks. The companies are therefore going to have to bid against each other and against the public sector to attract workers by paying higher wages. Those wages are highly likely to result in price increases and further pay demands. Especially if the pound continues to decline and food prices rise.
Put together wage and price rises and you get inflation. It would be a brave central banker who would ignore the threat. That means that the central fuel which has kept the economy moving - £400 billion of quantitative easing plus negative interest rates – is highly likely to stop.
Right through all the worst of ten years of austerity the Bank of England has managed to keep the UK economy expanding quite rapidly via QE. Indeed we have had the strange sight of central government putting the breaks on via massive austerity whilst the central bankers created easy money. If they can no longer do that then the economy is highly likely to slow up. Not driven by a well thought out decision to plan for a low growth reduced consumption economy. Driven by chaotic failure to manage events.
The central bank isn’t going to be able to control the damage created by austerity politics. Nor is it in a position to deal with it if anything goes wrong with the credit bubble that has developed and the frightening level of personal debt that exists in the UK. It has used up all the tools in its bag and the problems still remain. The average household has unsecured debts of over £13,000. That doesn’t sound to me like an economy that it based on safe ground. It sounds like a repeat of uncontrolled lending to people who can’t afford to pay because many of them are on zero hours contracts and lurching from one pay day loan to the next.
We are therefore entering a period of extraordinary vulnerability. The economy is slowing – but the central bank has almost run out of ways of counteracting this. The government is weak and divided – yet it is facing Brexit, the biggest intellectual challenge any government has faced in decades. The public is increasingly fed up after a decade of austerity – yet the budget isn’t anywhere near to being balanced. Bad loans from banks took us to brink of collapse – yet many households have debts levels that they may never be able to pay.
Add that to a massive divergence between the economic experience of young people and the elderly and we have real problems. It is never wise to predict economic events as they are so complex and so much interacts. But one thing does look pretty safe to predict.
If any of this analysis is even remotely right then we are in for a hard time of it.
If all we had to worry about was the political consequences of change then all of this might provide some grounds for optimism. A government that has prided itself on claiming to provide us with a strong and stable economy trying to lead us through Brexit during a period of serious economic instability is going to become even more unpopular if the economy worsens and will struggle to survive. The Conservative Party has never been more vulnerable to splitting apart and gaining a reputation with young voters that it may never shake off.
Unfortunately we also have to deal with the economic consequences of failure. Living through times of economic difficulty is never a pleasant experience. After ten years of austerity most people were looking forward to bit of breathing space and some signs of serious recovery.
We are unlikely to get that until we kick out this crowd of incompetents and move beyond a reactionary approach to change and start the long hard job of proactive long term planning for a more positive and sustainable future.