One of the few tactically savvy moves made by the coalition recently has been its muted response to UK economy’s return to growth. This article examines what the return to growth means for the wider economy.
The first point to make is that, just as the double-dip phase of the recession was caused by international events, the return to growth has similarly been caused by external factors. The coalition deserves neither blame for the double-dip, nor credit for its ending.
Many of those who oppose the coalition’s economic policies on political rather than economic grounds question the validity of the statistics. This is a mendacious argument as those same people were content to rely on the same stats to justify their criticism of the government when the stats endorsed their world view.
The second argument, used by Labour, is that the ‘fundamentals’ of the economy remain weak.
A major economic fundamental is the level of employment, which is at a record high. And while a substantial number of these jobs are part time, they are providing enough hours and income to make it worthwhile for the person to work rather than be on benefits. The employment numbers should also been seen in the context of the government’s policy of reassessing people who have been registered as unable to work due to illness. Many of these people have been moved to Job Seekers Allowance, yet even then the numbers claiming has fallen.
A second fundamental is inflation. This continues to be above target, indicating that demand is constant as inflation cannot rise if demand maintains a persistent long term fall. Others argue that this is the result of a temporary stimulus caused by the Olympics. But all stimuli are temporary by definition, and stimulus is exactly what critics of the coalition have been calling for, ignoring the stimulus which Gordon Brown oversaw and that the Olympics was a scheduled stimulus.
While the Olympics undoubtedly played its part on the demand side of the economy, events in the Eurozone played just as significant a role on the supply side.
ECB President Mario Draghi’s announcement in July that the central bank were prepared to buy eurozone debt in ‘unlimited quantities’ in order to preserve the single currency put a floor on the euro crisis. This allowed the markets to ‘price in’ the risk of a default and stimulated more economic activity, the overspill of which has benefitted Britain .
To maximise the positive impact of a stimulus, the initial spurt of demand must feed through the rest of the economy to create further demand. This is called the multiplier.
If inflation is too high the multiplier will be lower because the value of the original increased demand will be eroded as costs rise.
The demand side priority must be to maintain the current fiscal policy, and be more concerned about inflation than growth, as long as the latter remains in positive territory. The medium term outlook is for inflation to rise, as outlined here.
But Liberal Democrats must be firm in fighting the biggest threat - Tory hardliners repeating the mistakes of Thatcherism in treating a return to growth as the chance to pursue reckless tax cuts and vanity spending.
That may be the toughest challenge of all.
* David Thorpe is a member of the Liberal Democrats in Newham, and works for an economics publication.