America is leaving the UK economy behind. How can we catch up?

This kind of figure, beloved of financial shock jocks on the internet and on X, is of course illusory, mainly reflecting movements in exchange rates. In 2007, the pound was very strong against the dollar, rising well above $2, so converting UK GDP per head in pounds to dollars gave a high number. Now it is a lot weaker, though recently rising, at $1.36 or so.

Misleading though the figure is, however, there is a grain of truth in it. The UK has been getting worse off relative to America, and that relative decline appears to have accelerated in recent years. That may be why we so welcomed announcements by America’s tech companies in recent days, bearing gifts in the form of investment pledges, particularly involving artificial intelligence (AI).

You see a truer picture if, instead of crude dollar per capita GDP figures, we use purchasing power parity (PPP) data, which adjusts for relative prices and gives better “fair value” exchange rates. On that basis, the UK has been the poor relation for many decades and, instead of being ahead of America in 2007, US GDP per capita was 25 per cent higher than ours. By 2019, the eve of the pandemic, that gap had widened to 31 per cent. This year, on that same basis, America’s GDP per capita is 40 per cent higher than the UK’s and, on IMF projections, set to be 44 per cent higher by 2030.

Some people, taking these figures, like to say that UK is now poorer than even the poorest US state, which is usually thought of as Mississippi. I would not do that because there are no reliable state-level PPP-adjusted GDP per capita figures and because comparing parts of countries with whole nations is an odd thing to do. If you took part of the UK — London and the southeast — it would be richer than many US states, however you cut it.

Leaving that aside, it is plainly the case that the UK is falling behind America. Why is this? There are two reasons, I think. The first is productivity. The Office for Budget Responsibility (OBR) is reported to have warned Rachel Reeves that it will be trimming its productivity assumption in assembling its economic and fiscal forecasts in the run-up to the November 26 budget.

This was inevitable. The OBR has been waiting at the bus stop for years for the productivity improvement it has assumed would turn up. Now it appears to have accepted that, if not cancelled, it is further delayed.

• How rich is the UK compared with the US? The growing gap, in charts

This matters, and creates additional pressure on the chancellor. As the OBR puts it: “Productivity growth is the single biggest source of potential output growth — and therefore GDP growth, too — so this is the key judgment in our economy forecast and the most important source of uncertainty around medium-term growth prospects.”

Productivity also explains why America has pulled away economically. If we take the period since 1997 — the start of the current UK series for the most common productivity measure — output per hour worked, there has been a cumulative rise of 32 per cent for the UK, but 80 per cent for America. The period since the start of 2008, when the UK’s productivity slowdown took hold, has seen a cumulative rise of just 5 per cent for this country, which is dwarfed by America’s 33 per cent rise.

The second reason is that the US economy has proved more resilient to the economic shocks of the past two decades than the UK. Britain emerged groggily from the global financial crisis, narrowly missing so-called double-dip and triple-dip recessions.

One of those shocks, the vote for Brexit, was not faced by America. It continues to benefit from a large single market while we decided to leave the EU, hitting growth and productivity.

More recently, US economic outperformance during and after the pandemic was not simply due to the fiscal stimulus under Joe Biden’s presidency. Some economists argue that the employment support provided by most European countries during the pandemic, including the UK’s furlough scheme, prevented an unemployment nightmare but was less successful in promoting a post-Covid recovery. In America, support was provided directly to households, and many people moved to new employers, including start-up businesses. This was the “creative destruction” that recessions are supposed to bring about.

Whatever the cause, the recovery of the US economy compared with pre-Covid levels, a cumulative GDP rise of 13 per cent since late 2019, is far stronger than the UK’s 4.5 per cent. On a per capita basis, the figures are even more striking: 9.4 per cent and 0.2 per cent, respectively.

The UK’s relative decline is not inevitable. Between the early 1990s and the mid-2000s the GDP per capita gap between America and Britain, properly measured, narrowed. While the OBR has become a little gloomier about productivity, some economists would argue that, after such a long period of relative stagnation, the UK is due a period of productivity catch-up.

Could AI be the cavalry arriving from over the hill to bring that about? Or will the country be able to move into a genuinely stable period, providing a better environment for business investment and improved consumer confidence than the lurches from shock to shock, crisis to crisis?

Perhaps above all, we need more successful and growing businesses to drive the economy forward. As well as disappointing overall economic performance, official figures show that the UK lost about half a million businesses during the Covid period and its aftermath, the number of active firms dropping from 6 million to 5.5 million. New figures will be released on this in a couple of weeks and show whether there have been further losses.

Of those 5.5 million businesses, all but 46,000 are small, with fewer than 50 employees. We have many excellent small and highly entrepreneurial firms, but more of those little acorns need to grow into giant oaks. Whether the economic and business climate can be made right for them to do so is the big question.

PS

The Bank of England, as expected, left the official interest rate at 4 per cent, though there were two votes for a quarter-point cut. It also trimmed the amount of quantitative tightening (QT) — reducing its holding of gilts — to £70 billion, from £100 billion, again in line with expectations, though there were votes two votes for smaller and larger amounts of QT.

Something else caught my eye, however. A few days ago, Bank of America reported its survey that found fund managers were dumping UK assets at the fastest pace for 20 years. Elyas Galou, senior investment strategist at Bank of America, said: “UK assets are the most unloved assets right now. Investors are now almost considering the UK as if it were an emerging economy.”

Certainly, there are worries about the UK economy ahead of the November budget, but plenty of other countries have their problems, too. Look at France. But an emerging economy?

My old friend Warwick Lightfoot, a former Tory candidate, councillor and special adviser, is an economist you would not expect to ride to the defence of a Labour government. In a post on his Substack, though, he takes issue with this suggestion. “Has the UK … turned into an emerging market?” he asks. “Answer: No.”

This not just assertion. One way of testing it is by reference to credit default swaps, which look at the likelihood of governments defaulting on their debt, and the cost of insuring against it. Five-year credit default swaps for the UK, according to Investing.com, are at just over a third of the level reached during the Liz Truss premiership three years ago, and are about half those for America, Italy and France. This is one measure where lower is better.

Compared with genuine emerging markets, such as Brazil, where the cost of insuring against default is seven times that in the UK, or Turkey, 13 times, or Egypt, 20 times, we are a very long way away from such status.

david.smith@sunday-times.co.uk