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<\/p>\nDavid Smith has been economics editor of The Sunday Times since 1989. His books include <\/b>Free Lunch: Easily Digestible Economics<\/b><\/p>\n
Economics and the economy affect us all. As the great British economist Alfred Marshall (1842-1924) put it, economics is about people engaged in \u201cthe ordinary business of life\u201d. It is not just for investors, or businesses, or governments. It defines whether we feel better off or not, whether we can have fulfilling jobs and whether we can enjoy good public services without paying too much in tax to fund them. Let me dig into some key terms.<\/p>\n
This is measured by the rise over a given period in gross domestic product (GDP), the broadest measure of economic activity, adjusted for inflation. If GDP in cash terms rises by 5 per cent at a time of 5 per cent inflation, there is no \u201creal\u201d growth. The UK has suffered weak growth for years. The average GDP growth between 1945 and 2008, when the financial crisis struck, was a healthy 2.8 per cent; average annual growth since then has been 1 per cent.<\/p>\n
Many think GDP is a better measure of prosperity if also adjusted for population growth. The period 2019-24 saw GDP per head fall, which is unusual. But GDP per head has for some time been subject to weakness. A series of shocks, including Brexit, Covid and the war in Ukraine, has held down growth. In July to September, the latest quarter for which figures are available, GDP per head stalled after six consecutive increases. <\/p>\n
Recession <\/p>\n
Many economists dislike the definition of a recession as two consecutive quarters of falling GDP. On that basis, two consecutive GDP falls of 0.1 per cent would constitute a recession, while a fall of 5 per cent followed by a rise of 0.1 per cent \u2014 a more serious downturn \u2014 would not. A more robust definition is when GDP falls from one year to the next. Using that definition, the UK avoided meaningful recessions in the 1950s and 1960s but has suffered five since, most recently in 2008-09 and 2020-21. However poor you might be feeling now, we\u2019re not officially in recession.<\/p>\n
Productivity<\/p>\n
This key economic concept reflects how much we produce, or \u201cadd value\u201d, for what we put in. It is measured by GDP per worker, or per hour worked. The American economist Paul Krugman, now 72, wrote in 1990 that \u201cproductivity isn\u2019t everything, but in the long run it is almost everything\u201d. He was right. Many of the UK\u2019s current problems can be put down to the fact that, after growing by 2 per cent a year for many decades, productivity has stalled for more than a decade and a half. If it had continued on its previous path, every one of us would be thousands of pounds a year better off. <\/p>\n
Inflation<\/p>\n
Inflation is the rate of change of prices, and is perhaps the figure that now has greatest significance for the public. If you look at the period from 2019 to 2024, for most of which Joe Biden was US president, America\u2019s economic growth rate eclipsed that of other G7 countries. On that basis alone you\u2019d have expected success for the Democrats in the November 2024 US elections. But they lost badly and the economic explanation was that high inflation more than offset any political benefit from stronger growth, with voters unhappy about high prices for gasoline, eggs and rent. In the UK poor economic growth and high inflation helped the Tories to a landslide defeat in July 2024.<\/p>\n
Because inflation measures the rate of change of prices, rather than the prices themselves, some people confuse the two. A drop in inflation from 4 to 2 per cent just means that prices are rising at a slower rate. Two per cent is the inflation target that the Bank of England is required to meet, which it controls by varying interest rates. <\/p>\n
<\/p>\n
A rise in interest rates means households with mortgages have less to spend on other things, while businesses cut back on investment and employment. This slows growth and eases the upward pressure on prices. The opposite happens when interest rates are cut. It used to be the case that most homeowners had mortgages, so the pain from higher rates was spread across much of the population. Now, however, more people own their homes outright. They tend to be older households, which lose out when interest rates are cut because it reduces the income on their savings. <\/p>\n
It was only 1997 when the Bank of England was made operationally independent from government and responsible for interest-rate changes. For the first 25 years inflation averaged 2 per cent, before giving way to a substantial post-Covid rise, with high energy and food prices pushing the rate to 11 per cent. High inflation for regular-purchase items such as food is more damaging for people and the economy than for other categories of spending, not least because it cannot be avoided. If inflation in food prices is 5 per cent, as it has been recently, people tend to think all prices are rising at that rate.<\/p>\n
Unemployment<\/p>\n
In recent decades unemployment was of greater concern than inflation, and for good reason. In the 1980s a savage manufacturing downturn under Margaret Thatcher meant the unemployment rate reached nearly 12 per cent, with more than three million people unemployed for years. It rose above that level in the early 1990s. <\/p>\n
Unemployment is still a hot political and economic issue, but these days the rise in economic inactivity worries governments almost as much. People who are unemployed are available for work, while the economically inactive \u2014 the long-term sick, early retirees, carers, those in full-time education \u2014 are not. The unemployment rate is 5.1 per cent but the inactivity rate 21 per cent; 1.79 million versus 9.1 million, which has risen sharply since the pandemic. <\/p>\n
Trade deficit<\/p>\n
Traditionally, the deficit that mattered for the UK was in trade: the difference between export and imports. Trade deficits cannot be ignored, not least since the advent of Donald Trump\u2019s import tariffs, but exports and imports of goods and services have lost importance since the movement of capital \u2014 money \u2014 has come to dominate flows between countries. In October the UK trade deficit stood at \u00a37.2 billion.<\/p>\n
Budget deficit<\/p>\n
This deficit \u2014 the difference between government spending and revenues; our national outgoings and income \u2014 does matter more. In the UK it is known as the public sector borrowing requirement and it hit an all-time peacetime high in Covid, reaching \u00a3311 billion, or 14.7 per cent of GDP, in 2020-21. Rachel Reeves is committed to eliminating one part of the deficit, the so-called current budget deficit, by the end of the decade. This would still enable the government to borrow for public investment, such as spending on roads, schools and hospitals.<\/p>\n
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Government debt<\/p>\n
UK government debt \u2014 the accumulated value of budget deficits \u2014 is currently \u00a32.9 trillion (\u00a32,900 billion), equivalent to more than 95 per cent of GDP, the highest it has been since the 1960s. It was 252 per cent of GDP in 1945 but by the early 1990s was just 22 per cent. It is now of concern because it has risen more sharply than in other advanced economies over the past 20 years and because of the interest that\u2019s paid on it.<\/p>\n
Bonds and gilts<\/p>\n
The government has a debt-interest bill of more than \u00a3100 billion because of the way debt is funded, by issuing government bonds, usually known as \u201cgilts\u201d, on which interest is paid to investors. The rate of interest, or yield, on gilts depends on market confidence in the government\u2019s ability to manage the public finances and control inflation. Gilt yields rose sharply after the Liz Truss budget in September 2022 and remain among the highest of the advanced economies.<\/p>\n
Quantitative easing<\/p>\n
Gilts are issued by the Debt Management Office on behalf of the Treasury, but the Bank has once again been involved in the purchase and sale of gilts via quantitative easing (QE) and its counterpart, quantitative tightening (QT). QE, first used in the UK in 2009, in the financial crisis, was aimed at boosting the economy when it was believed official interest rates, then 0.5 per cent, could not be cut any more. It was last used in 2021, when the rate was even lower, 0.1 per cent. The Bank \u201cprinted money\u201d \u2014 it created bank reserves \u2014 and used them to buy gilts from investors. The idea was that those investors would use the money to buy productive assets, thus boosting the economy. Before it began selling the gilts back (QT), the Bank had bought nearly \u00a3900 billion. Economists believe that the initial phase of QE worked to boost the economy, but the second big operation, in response to Covid, may only have boosted inflation.<\/p>\n","protected":false},"excerpt":{"rendered":"David Smith has been economics editor of The Sunday Times since 1989. His books include Free Lunch: Easily…\n","protected":false},"author":2,"featured_media":672897,"comment_status":"","ping_status":"","sticky":false,"template":"","format":"standard","meta":{"footnotes":""},"categories":[3090],"tags":[51,1700,16,15],"class_list":{"0":"post-672896","1":"post","2":"type-post","3":"status-publish","4":"format-standard","5":"has-post-thumbnail","7":"category-economy","8":"tag-business","9":"tag-economy","10":"tag-uk","11":"tag-united-kingdom"},"share_on_mastodon":{"url":"https:\/\/pubeurope.com\/@uk\/115835838576236613","error":""},"_links":{"self":[{"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/posts\/672896","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/users\/2"}],"replies":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/comments?post=672896"}],"version-history":[{"count":0,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/posts\/672896\/revisions"}],"wp:featuredmedia":[{"embeddable":true,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/media\/672897"}],"wp:attachment":[{"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/media?parent=672896"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/categories?post=672896"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/www.europesays.com\/uk\/wp-json\/wp\/v2\/tags?post=672896"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}