38
LOOMING RECESSION
T
he Bank of England’s recent fore-
cast—a 15-month recession, 13
per cent inflation and worse, the
sharpest fall in living standards on re-
cord—shocked. It should not have done.
Russia’s weaponising of gas and food pric-
es as part of the war in Ukraine has caused
worldwide price hikes and economic
woe; these are turbulent times. But in
Britain it has exposed our extreme vulner-
ability caused by 40 years of wronghead-
ed economic policy—which has failed to
confront long-running weaknesses and
enfeebled those strengths we do possess.
The economic conjuncture is the
bleakest I have witnessed in 50 years
of observing and commenting on the
economy. Every dysfunction—whether
it’s poor productivity, our threadbare
welfare state, the menace of predatory
finance, inadequate human capital, a sys-
temic aversion to risk-taking or a paucity
of public investment—has emerged at
the same time to create a perfect storm.
One could add to these ills a carelessness
about who owns our national assets, a
lack of economic resilience in critical
sectors ranging from energy to water,
overheated property prices, exit from the
EU’s single market, impotent regulatory
agencies, weak business investment—the
list goes on.
Worse, the resulting analysis from our
political class is desperately inadequate.
On the right, the answer is seen as dou-
bling down on the commitment to small-
state economics, low taxes and minimal
intervention to “unshackle enterprise”
from imagined over-regulation—the
Thatcherite brew that is the proximate
cause of the crisis and in the ascend-
ant within the Conservative Party. And
the left is yet to offer a systemic, com-
prehensive response, notwithstanding
interventions like the popular proposal
for an energy price freeze this winter. It
is hesitating between the demands for
full-blooded, top-down “socialism” from
activists and feasible, practical reform
within a broader liberal-left tradition
(although the latter is plainly the direc-
tion Labour’s Keir Starmer wants to take
his party). Before an economic and social
emergency, dramatised by millions being
unable to pay fuel bills potentially as high
as £5,000 next year but whose roots go
PROSPECT  / OCTOBER 2022
very much deeper, the political response
is not good enough.
The facts are these. Inflation, set to
rise well into double digits before the
end of 2022, will only retreat little by lit-
tle in the years ahead. By 2024 the over-
all price level will be close to 15 per cent
THE
higher than was estimated in the autumn
of 2021, a forecast already quaintly out-
dated. The Bank of England is project-
ing five successive quarters of recession,
extending into the last three months of
2023. On both these indicators, Brit-
PERFECT
ain’s performance will be the weakest
in the G7. Britain thus confronts con-
tinuing “stagflation”—stagnant growth
and ongoing inflation—until at least
the mid-2020s, if not beyond. Business
investment is running below its dismal
STORM
long-term average as confidence drops
sharply, while hitherto buoyant inward
investment from overseas firms has stag-
nated—both impacted by Brexit. Exports
have been savagely hit by loss of access to
EU markets and not compensated for it
by growth elsewhere. In the first quarter
of 2022, the UK’s current account deficit
(which measures the country’s balance
of payments with the rest of the world)
was 8.3 per cent of GDP—a scale normally
only seen by emergent and basket case
economies.
Sterling has fallen by 10 per cent since
March. Bank of England officials have
hoped that interest rates will peak around
3 per cent after the recent rise to 1.75 per
cent, but that seems improbable as infla-
Britain has spent tion climbs above 13 per cent, simultane-
years in hock to a failed ously interacting with the weakness of the
currency. Further interest rate hikes over
economic orthodoxy. Now the next 12 to 18 months—beyond those
the consequences are coming currently anticipated by the markets—
seem certain, both to contain inflation
to a head—all at the and support sterling. As a result, a gener-
same time alised fall in house prices is increasingly
likely, with some anticipating a decline
of 30 per cent over the next three years.
British consumers’ willingness to spend
is closely correlated with buoyancy in the
housing market: a decline in house prices,
although much needed by first-time buy-
by ers, will have the unwelcome side effect
W I L L H U T TO N of adding momentum to the coming
recession. Beware: if economic policy
is mishandled by the incoming admin-
© XXX
istration with inflationary tax cuts and
OCTOBER 2022 /  PROSPECT
ill-conceived, unproven deregulation to
“unshackle” enterprise as its principal
policies, the recession could be much
deeper and more protracted than even
the Bank’s recent gloomy forecast.
The British economy’s vulnerabilities
are being cruelly exposed. Where can-
these vulnerabilities be found and what
can be done to remedy them?
P
oor productivity, long the bane of
the UK economy, has now become
acute. Ever since the financial cri-
sis between 2008 and 2009 the rate of
productivity growth has slumped, leav-
ing little scope for wages to grow in re-
al terms. Indeed, over the last 14 years
they have broadly stagnated, after ris-
ing by around a third on average for eve-
ry decade since 1970—a trend now made
starker by prices rising faster even than
nominal wages. The 3 per drop in the re-
al value of regular pay between April and
June this year compared to the same pe-
riod last year was the sharpest on record.
The pain is manifesting itself in the wave
of industrial unrest this summer and au-
tumn. One in five households are predict-
ed to have exhausted their savings by the
end of 2024, and this is happening as the
basic level of benefits has dropped to £77
per week—the lowest in relation to aver-
age pay on record.
Both the Resolution Foundation think
tank and the National Institute for Eco-
nomic and Social Research warn that
the combination of falling living stand-
ards and desperately weak income sup-
port could push well over a million fam-
ilies into destitution by the next elec-
tion. The number could rise even higher
depending on the scale of support the
new government offers households fac-
ing dramatic hikes in energy bills. Voices
as various as popular money expert Mar-
tin Lewis and Tory Teesside mayor Ben
Houchen are right to warn that our lead-
ers have not begun to grasp the avalanche
of social distress about to overwhelm so
many—with families having to choose
between shivering or starving, as graphi-
cally spelled out by former prime minis-
ter Gordon Brown recently.
Yet the deep-rooted deficiencies of
the British economy go unaddressed.
Take the skills deficit in the British work-
force, which is as immune to successive
efforts to encourage training as ever, exac-
erbated by weak middle management.
illustration here
The government recently reclaimed over
£3bn of unspent Apprenticeship Levy
funds. Colleges, the locus of reskilling
and training, report that they are unable
to recruit teachers or lecturers at prevail-
ing public sector wages, and so are una-
ble to meet demand for courses in fast-
growing industries like robotics or AI.
The average number of days an employee
spends on training each year fell by 18 per
cent between 2011 and 2017.
Public services generally have been
weakened by the austerity of the former
coalition government, and the tardiness
of its successors in loosening the purse
strings. Education spending in real terms
is projected only to recover to 2010 levels
in 2024—and then only if the government
is prepared to ratchet up money spend-
ing in line with the sharp new rise in infla-
tion since the 2021 plans were signed off.
The NHS, with a record backlog of 6.7m,
including those waiting for treatment for
39
acute and chronic illness, is reeling. Peo-
ple are fearful about the consequences of
falling ill as news spreads about waiting
lists and the difficulty of even getting an
appointment with a GP. From the Pass-
port Office to the criminal justice system,
public provision is failing. This is not an
act of God or a belt-tightening that was
required by underlying economic cir-
cumstances. It represents an active
choice by Conservative politicians who
value tax cuts and limited public borrow-
ing over high-quality public services: the
cash for which is literally a residual once
those higher priorities have been met.
The results are there for all to see.
Equally as worrying is the lack of eco-
nomic dynamism. The UK stock mar-
ket now rarely raises new risk money for
start-ups, scale-ups or flotations. There
is one high-tech company in the FTSE
100. Enduring weaknesses in investor
and bank support for businesses, espe-
cially small- and medium-sized busi-
nesses, persist. Loans are largely still
made against the collateral of bricks and
mortar rather than ideas, new technolo-
gies and business plans. Yet the rewards
for those at the top remain lush, while
incomes at the bottom are under intense
pressure. If inequality can correlate with
growth—as the necessary consequence
of offering generous rewards to risk-tak-
ing wealth creators—then the UK, with
the highest inequality in Europe, is a
poor advertisement for the hypothesis.
Rather, inequality casts a toxic pall over
the economy, trapping poorly paid work-
ers in low-growth regions and firms that
they cannot afford to leave—with the
number daring to switch jobs declining
25 per cent over the last 20 years. The
risks are too high: the level of income
support if things go wrong is not enough.
An important source of dynamism in the
labour markets has been closed off.
This helps to explain why interna-
tional investors now regard the UK as a
legacy economy, with very few compa-
nies boasting business models based on
21st-century technologies. Instead, our
economy is characterised by business
behemoths (or small groups of behe-
moths) that dominate their market sec-
tor and so push prices up beyond what
they would be if market structures were
functioning properly—what economists
call economic rent. Even the Competi-
tion and Markets Authority, charged
40
with preventing anti-competitive prac-
tices, observes that ever-higher monop-
olisation is the rule, corporate mark-ups
are elevated and poorer households are
the most likely to suffer.
As a consumer, you will experience
unfair market power in a multitude of
ways: direct debits for goods and ser-
vices at fixed or rising prices that can-
not be cancelled until the contract ends;
extraordinary charges by professional
advisers for essential advice; interest
rates for savers that do not rise as fast as
rates charged to borrowers, and so on.
From the great digital platforms to the
utilities, the practice is the same. It guar-
antees profits but locks out new entrants
and limits any incentive to innovate or
invest. Many culpable firms are foreign-
owned and view the UK as little more
than a useful cash cow.
Given all this, it should be no surprise
that the sharp fall in the pound has pro-
voked little export response: there just
aren’t sufficient companies to exploit the
trading opportunities typically offered
by a weaker currency. Of course, in a £2.3
trillion economy there are corners of
excellence—pharmaceuticals, aerospace,
financial and business services, parts of
the creative industries, beverages like
Scotch whisky. Around our leading uni-
versities there is a boom in tech-driven
start-ups. Needy of an infrastructure that
supports the growth of small businesses,
but with leaderships typically progres-
sive and forward-looking in their out-
look, these firms do not conform to any
conservative image of entrepreneurship.
These firms represent an enterprise revo-
lution waiting to be unleashed—but the
opportunity is ignored by the right-wing
media that supports the governing party.
In the City, companies like Legal & Gen-
eral and NatWest, driven by a new sense
of social purpose, are re-inventing them-
selves, investing in British enterprise in
a way that would have been unthinkable
a generation ago.
In terms of state action there are
plans for significant—if belated—public
investment in infrastructure. There are
shards of light showing the way to what
we might do better. But how to scale it all
up to get there? And how to manage the
risks in the meantime?
Here the overriding problem is a Con-
servative Party dominated by the Brexit
right and fixated with policies that have a
track record of not moving the economic
dial, ranging from an obsession with tax
cuts to “free-market” solutions involving
hostility to regulations in principle, what-
ever their economic value. There is no
prospect of developing halfsway decent
public policy without an honest analy-
sis of the situation to be managed, along
with a rational relationship with eco-
nomic reality. In 2022 that is impossible.
In this respect, Brexit has been ruinous,
not just economically but in its impact on
the Conservative Party—which now sees
any criticism of Brexit as thinly-veiled
Remainer sabotage. Adverse news cannot,
a priori, be true. The British public con-
versation over this crucial issue is framed
by the government’s ongoing denial of
reality, which spills over across the gamut
of policy. Faith, not rationality, rules.
Thus the Brexit faithful cannot rec-
ognise that sterling’s weakness, a cause
of inflation, might in any way be linked
illustration here
PROSPECT  / OCTOBER 2022
to Brexit weakening investor sentiment.
Nor can they recognise that the weakness
in Britain’s trade performance might be
caused in part by our having erected new
barriers with our largest export partner.
It simply cannot be true, they argue, that
Brexit has created external constraints
on policy that our former EU member-
ship averted. The new trade deals that
Britain has signed are the future, and
compensate for the loss of full access to
the EU market. Notwithstanding that
Brexit is done, the EU remains a sinister
bogeyman to be confronted. The EU may
respond to this confrontation with trade
war—but for the Brexit Tories, that is a
price worth paying.
Any level-headed attempts to pro-
mote sensible co-operation are stillborn.
For example, the UK chemical industry
is united in its view that abandoning
the EU’s Reach programme of certifica-
tion for chemical safety is wasteful and
economically stupid. We are inexpli-
cably replacing it with a £2bn UK-only
scheme, which at best can only shadow
the EU programme: by comparison,
Reach saw us pay only £500m a year for
access to the markets of 27 other coun-
tries. Be sure that our new prime minis-
ter will press on with it, and other self-
defeating ideas. Rescuing British mem-
bership of the Horizon programme of
collaborative, pan-EU scientific research
will be impossible without a civil rela-
tionship with the EU.
What needs to happen is a hard-
headed recognition of the external con-
straints and economic reality. The UK is
the second-largest exporter of services
in the world—a foundational economic
strength. Amazingly, the Brexit treaty is
built on zero tariffs for trade in goods—in
which the EU is strong—while ignoring
British service exports. This is arguably
one of the most lopsided and self-harm-
ing trade treaties ever signed by a leading
economic power. Every muscle should
be strained to restore as much access to
EU service markets as possible, which
means, if not rejoining the single mar-
ket, then at least negotiating a plethora
of sectoral deals to the same end.
T
he economic risks are raised high-
er by the obsession with tax cuts as
economically and morally good.
They reward enterprise and aspiration,
goes the free-market mantra, and keep
OCTOBER 2022 /  PROSPECT
the state’s hands off privately earned re-
wards—a principle stated repeatedly by
Liz Truss in her leadership campaign.
That means that, out of necessity, public
spending on everything from education
to justice is kept on short rations—the val-
ue of taxation as supporting vital public
interests consistently underplayed and
even flatly denied. This faction of the To-
ries is right to identify that there is up to
£30bn of fiscal headroom available to be
spent in 2023 rather than 2024 under
existing spending plans, and that, giv-
en recession, it would be right to spend
it sooner rather than later. Indeed, with
inflation increasing above former expec-
tations and given the planned freeze of
personal income tax allowances, tax rev-
enues could rise by up to another £37bn
over the next two years—offering still
more fiscal headroom, although the gov-
ernment will need to protect departmen-
tal budgets against inflation, while pen-
sions and welfare benefits are automati-
cally linked to it, swallowing up much of
the fiscal margin.
Such constraints demand that the gov-
ernment be especially savvy in how it exer-
cises its fiscal choices. But the Tory right
has signalled its priority: tax cuts now in
the quest for growth. Wrong. The eco-
nomic and social priority is to alleviate
the cost-of-living crisis and address dam-
aging shortfalls in public and social invest-
ment—on health and social care, educa-
tion, training, research, levelling up, the
electricity network and other infrastruc-
ture. This will offset recession, build
much-needed resilience into key systems
and networks, suck in fewer imports
and minimise the risk of exacerbating
inflation. This is the smart way to boost
demand, along with business confidence.
Tax cuts loaded towards the rich and
corporations—neither of whom need
the money—would reinforce the signal
to foreign and domestic investors to sell
the British market. The reduction in cor-
poration tax from 28 per cent in 2010 to
19 per cent in recent years did nothing to
raise investment levels, which remained
at the bottom of the G7 league table—as
the markets know full well.
Tax cuts may increase demand but
the timing in spring 2023 will only serve
to keep inflation pegged higher—raising
inflation forecasts for 2023 from some
9.5 per cent back into double digits, and
making the prospect of a rapid fall in
The next two
years promise
to cap the failure
of the last 12
2024 improbable. A vicious circle would
become ever-more likely—protracted
high inflation, downward movement
of sterling, upward movement of inter-
est rates over and above those already
anticipated, a more intense squeeze on
living standards, downward movement
in house prices, further worries about
ongoing recession, further loss of busi-
ness confidence, and deferral of invest-
ment. Stagflation will become even more
entrenched—as will inequality. All the
baleful phenomena described earlier will
remain firmly unaddressed.
What is going to relieve this stark pic-
ture of wrongheaded policy reinforcing
British vulnerabilities and an impending
recession? A rise in personal consump-
tion? Unlikely, given the squeeze on liv-
ing standards and the run-down of sav-
ings. An increase in private and foreign
direct investment? But in what sectors
and for what markets—and why, given
the wider economic outlook? A jump in
public investment? Hardly, given the pri-
oritisation of tax cuts. An export boom?
But to whom, given our reliance on ser-
vice exports? A virtuous circle built on
the green revolution? Implausible, given
Tory dismissal of green issues as “woke.”
A start-up revolution? Don’t count on it,
given the lack of access to EU markets
and the absence of a strong system to sup-
port fast-growing companies.
The next two years promise to cap the
failure of the last 12: a lost decade extend-
ing into a lost decade and a half. The sit-
uation requires a complete reset of pol-
icy—a reversal of almost everything pro-
posed by the Thatcherite tribute acts at
the top of the Conservative Party. There
must be the marshalling of resources
into thought-through national missions.
These include levelling up, the drive to
net zero, and building key systems that
41
deal with risks to energy security and
food supply, as well as pandemics. The
watchword must be public investment,
alongside the creation of new mecha-
nisms to unlock the trillions of pounds
stewarded by the City to support this
national effort. There is, for example,
£3 trillion of investment funding under
management that is earmarked for envi-
ronmental and societal improvement
and better corporate governance—so-
called ESG. This could be invested in
new levelling-up and net-zero bonds
to supplement the government’s own
investments. The infant UK Infrastruc-
ture Bank could be allocated the neces-
sary billions of capital not only to replace
what has been lost with the withdrawal of
the European Investment Bank from UK
lending, but more on top—a proto-typical
new form of public-private collaboration.
The priority of business should be
delivering on a social objective from
which it seeks to make profit—rather
than just profit itself. This should be
enshrined in a new Companies Act. In
parallel, the regulation, governance and
licensing of our privatised utilities needs
to be recast so they serve the public inter-
est. We must reinvigorate genuine com-
petition to attack monopolistic behav-
iour and protect consumers. A scale-up
system needs to be put in place to sup-
port the maturity of tens of thousands of
tech start-ups into tomorrow’s great com-
panies. A huge national effort to upskill
our workforce should be launched. If, in
the 1940s—an era of shortages—a Labour
government could launch a system offer-
ing vital welfare and social security for
all in the wake of the Beveridge report,
a recasting of the welfare system in the
2020s is no less vital. The sixth-largest
economy in the world cannot tolerate
millions of its citizens facing destitution.
And the list goes on. Authoring all this
will not be a small state but an agile state,
one prepared to take risks and which
rewards its servants properly, whether
they are nurses, teachers or officials in
central government. Good and agile gov-
ernment is not a priori bad; rather it is the
core pillar of a good economy and soci-
ety. It is a vision wholly at odds with the
instincts and priorities of this Conserva-
tive Party—wrestling with a deep-set cri-
sis that is the consequence of all the deci-
sions its Tory predecessors have taken.
It really is time for wholesale change. ♦