Missing in Action: The UK economy neglected by absence of fiscal policy
As featured in Edition 41, available here.
By FINLAY HEALY (3rd year - History and Politics - London, United Kingdom)
We are in an interregnum. The government’s self-assumed mandate in this period, while a new Conservative leader is selected, is to do as little as possible. Their vacation, sometimes literal, from policy-making, has only sown uncertainty and disillusionment in the efficacy of the political process. The lacuna of governance is evident in the Bank of England’s August forecasts, predicting five consecutive quarters of contraction from the last quarter of this year. The depth of the recession implied is likely to be alleviated at least in part by policy intervention: the government, the new one at least, will do something to solve the unbearable level of inflation. They will have to, right? Currently, the only active macroeconomic policy-making agent is the Bank of England.
In March this year, the Office for Budget Responsibility described, in orthodox terms, the task of the Bank of England as ‘bringing demand back to the economy’s supply potential.’ Inflation, an expression of excessive demand, currently rests at 10.1%. By returning supply and demand to a non-inflationary equilibrium, the full productive potential of the economy might be achieved. What does this actually mean? This innocuous statement really translates to a stern prescription: squeeze incomes and kneecap demand until this country can afford less than this country can make.
Thus, when it comes to taming inflation, the Bank is left with only the bluntest of tools: raise the cost of money precipitously so that businesses and individuals can no longer viably borrow, thereby sucking demand out of the economy.
This is the deliberate policy of inducing a recession. Accordingly, the major central banks are engineering a liquidity drought, and a deflationary credit crunch. Indeed, the amount raised in European corporate bond issuances is the lowest in 20 years, and funds raised in European equity markets are down 92%.
But hold on, what is the cause of this inflation? Inflation is a general macroeconomic phenomenon in experience, yes; but it is specific in origin. The surge in energy prices will account for 6.5% of the UK’s 13% total inflation forecast by the Bank in the fourth quarter of 2022. That, therefore, explains half of the UK’s inflation, itself discounting the second-round price increases that costly energy incites. Since 2000 the preponderant pricing mechanism for energy is through the financialised commodity markets, where much of the oil traded is really a financial instrument – derivatives hold a cumulative amount 25-50 times the real oil these instruments derive their value from.
In sum, energy bills are set to rocket. Cornwall Insight, an energy consultancy, suggests that by 1st April 2023 the energy price cap will reach £4,426. Auxilione, another energy consultancy, predicts it even higher at £5,038. The UK’s total energy bill will reach nearly £400bn, or 16% of GDP. This slice far exceeds the ‘stable range’ of national energy expenditure of about 8%. One report from York University finds that with energy bills in this range, fuel poverty – spending over 10% of one’s net income on fuel – will blight 54% of British households by October and two-thirds by January, rising to 71.7% in Northern Ireland. Already, bill-payers are in arrears to the tune of £1.3bn. The immediate effect, therefore, of energy price increases will be the contraction of the economy, as a result of the immiseration of the populace and the inability of the industry to turn the lights on. It is not hyperbole to call to attention the avoidable deaths that will ensue. Already, the U.K. economy has shrunk by 0.1% in the second quarter of this year.
Here is the crux of the UK’s current economic woes, to say nothing of its latent ills. The drivers of inflation will now likely tip the country into recession. The orthodox remedies for inflation, apart from activist fiscal policy – which would most likely alleviate energy cost pressures on households – deliberately commit violence to incomes to bring down demand. Thus, the illness and cure inflame. Both will likely bring about a recession. Liz Truss has seemed to delight in promising no further ‘handouts’ to people, whilst Rishi Sunak bragged about defunding deprived urban areas. Indeed, the government, in both June and July, is almost in primary surplus. This means that in a time when the economy is slowing or shrinking, the government – minus payments on the debt accrued to bondholders – is taking more out of the economy than it is investing into it via fiscal policy. The government is absent, and abetting contraction. The lack of timely fiscal intervention is tantamount to gross negligence. The victim is the UK economy.
Image: Flickr/ International Monetary Fund