State of the nation: a dismal record for the UK economy

Welcome to our State of the Nation series, which looks at the coalition government’s progress over the past five years, across a range of key policy areas.

The state of the economy has already proven to be a key battleground in the build up to the UK election. The problem is that the country’s economic performance can be spun in different ways. Positive signs of recovery can mask real underlying weaknesses that current policy is failing to address. And the rhetoric of recovery can prevent us from identifying different policies that are urgently needed to secure a more sustainable and fairer economy.

All the main political parties in the UK have bought into the idea of continued austerity. A narrative has been carefully cultivated by the coalition government – and subsequently supported by Labour – that the deficit must be quickly reduced and the books balanced. This narrative has crowded out alternative policy discussion around the merits and necessity of continued government spending in the UK.

The electorate is ultimately presented with a confusing and confused picture of the past, present, and future state of the UK economy. They are also presented with a limited and partial range of policy options – ultimately, continued austerity is the only option on the table. The need to present real alternatives to the pro-austerity agenda is more important now than ever before. But such alternatives remain sorely lacking at present.

So how has the UK economy been doing and how has it impacted the lives and living standards of the electorate? Here, is a whistlestop review of the coalition government’s economic record.

1. The recovery

Starting with the recovery, national income (GDP) is back to where it was before the 2007-08 crisis. But the recovery in GDP has been the slowest on record.

This is partly the product of policy mistakes. The commitment to extreme austerity in the early years of its term of office took demand out of the economy just at a time when a demand injection from the government was urgently needed. Targeting the deficit ultimately delayed the recovery in the economy.

GDP has returned to pre-crisis levels, but growth was stunted by austerity.Office for National Statistics, CC BY

Ironically, it was by not sticking to his targets for deficit reduction that George Osborne has helped to create more favourable conditions for recovery.

2. Living standards

But the recovery has done a poor job at raising living standards. The recent trumpeting of living standards returning to 2010 levels does not change the fact that the past five years have coincided with real hardship for many. The latest ONS figures show that household disposable incomes at the end of 2014 were up 0.2% on 2010’s numbers. This is an extremely modest increase and reflects the effects of lower inflation rather than higher money wages.

Other evidence suggests that the real wages of the typical (median) worker have declined by almost 10% since 2008 and real incomes for families of working age by nearly the same. This is a dismal record. It shows how talk of recovery has a hollow ring for many millions of people in the UK. This must be one of the first recoveries in living memory where hardship has multiplied in society.

3. Growth

The drivers of growth have also been unbalanced in nature. Recovery has been secured for the most part by the increase in household consumption. The same old model of consumer-led growth has restored the level of GDP. But, given the decline in real wages, consumption has increased only because of households spending beyond their means and borrowing more. This is hardly a recipe for sustainable recovery. Indeed, the latest OBR forecasts expect the gross household debt to income ratio to rise back to pre-crisis levels by 2019. We could be set to repeat the crisis all over again.

Other parts of the economy that might have contributed to growth have been constrained. First, austerity and the rhetoric about reducing the deficit have ruled out expansionary fiscal policy. Cuts in government spending have often been presented as eliminating waste and unnecessary bureaucracy. But in practice they have included retrenchment in important public services as well as in infrastructure projects that meet vital human needs.

Cuts to public services like the NHS have not necessarily helped the economy.Anthony Devlin/PA Wire

Growth has also been restricted by corporations holding back from investing in areas that would make them more productive. Lower real wages has increased the incentive to hire more labour as opposed to investing in new capital. The demands of shareholders for higher short-term profits have also tended to divert internal funds away from investment and towards higher dividend payments.

The trade deficit has widened. Higher consumption, as in the past, has fed through to higher imports. Although the focus has been on the budget deficit, arguably the bigger problem facing the UK economy is the trade deficit which acts as a major constraint on present and future growth prospects.

When the public and corporate sectors are net savers and the country is a net importer, the government must spend and run a deficit or the economy will shrink. Rapid deficit reduction therefore requires a corresponding drop in net imports and increases in private spending relative to savings if the economy is not to falter. This basic truth has been missed under the coalition.

A consumption driven recovery is unsustainable.Dominic Lipinski/PA Wire

At present the main reason why the economy is growing is because of consumers spending beyond their means. The likelihood of growth being sustained very much depends on a recovery in real wages. The deeper issue for the UK is to find a more sustainable route to prosperity that does not rely – again – on debt-fuelled consumption growth.

4. Employment

The employment situation in the UK presents a mixed picture. On the one hand, the employment rate has reached a record level. Unemployment has also fallen to pre-crisis levels. On the other hand, employment has tended to be created in low paid sectors, including an increase in zero-hours contracts and self-employment.

Plus, the growth in self-employment seems to reflect the lack of alternative well-paid employment opportunities rather than a new spirit of entrepreneurship. Generally, workers have had to accept lower real wages in return for higher employment.

5. Productivity

Another bleak spot is productivity. Historically, productivity in the UK has lagged behind other nations. But this gap has tended to become more pronounced in recent years. This reflects in part weak investment as well as changes in the composition of jobs in the economy (particularly the rise of low productivity jobs in the service sector). The persistence of low productivity means that real wages are unlikely to rise any time soon – a fact that is likely to make the recovery even more uncertain.

Job centres aren’t going out of business yet.Martin Rickett/PA Wire

6. Inflation

The rate of inflation is now at 0%. This has been heralded as “good news” by the Coalition government. Yet, in truth, it marks a sign of policy failure.

The inflation target is 2% – not 0% – and for good reason. The target of 2% allows room for price rises that help to stimulate demand and if below-target inflation turns into prolonged deflation then demand could be curtailed through a combination of delayed consumer spending and a rise in the real value of debt. Low inflation also provides an excuse for firms not to pay higher wages and in that sense it may prevent the required increase in real wages from materialising.

The dismal state of the UK economy exists and persists because of current policies. Five years of austerity, in short, have resulted in an economy that is just as unbalanced and unsustainable as immediately prior to the 2007-08 crisis.

Promoting real alternatives

The problems that beset the UK economy, in truth, are deep-rooted. They reflect the broader political economy of the UK – the dominance of financial interests (particularly the City of London), the relative weakness of industry and organised labour, and the hostility of the main political parties to any kind of interventionist policy agenda based on government spending. Yet, these problems need to be tackled if the UK is to achieve prosperity in ways that benefit all in society.

For a start, there needs to be a clear recognition that the state has an active and positive role to play in the economy not just as a provider of first aid when the economy is in a slump but also as a driver of long-term prosperity via its capacity to tackle deep-seated weaknesses in the economy – from low investment to high inequality. The issue of creating an active state that challenges the power of finance and instead looks to promote a more inclusive and fairer route to prosperity remains more urgent now than ever before.

Unfortunately, none of the main political parties in the UK are offering anything other than continued austerity. But the government’s finances are not like those of a household. The budget deficit has propped up the UK economy – without it, the UK would still be mired in recession.

The state’s role

The state has a positive role to play in creating and sustaining an economy that meets the needs of all, not just an elite few. The state can also help tackle the so-called “productivity puzzle”, in part by addressing the entrenched power of shareholders that has blocked long-term investment.

The general election ideally should be a time to debate real alternatives to the way the economy is currently governed. Sadly, it mostly offers more stale debate over the amount of austerity that the UK economy (allegedly) needs to bear. The thirst for alternatives persists nonetheless – including the growth in support for the Green party and the positive reception to the SNP’s own anti-austerity agenda.

But real change that promotes real alternatives requires a radical change in the terms and content of debate about the state of the UK economy. Given the present situation, it may be some years before we obtain the radical change that is needed.

David Spencer receives funding from the EU FP7, EPSRC, and ESRC, but this article reflects the author's personal views.