More London growth won’t rebalance Welsh economy

Eurfyl ap Gwilym assesses George Osborne’s record ahead of today’s Autumn Statement

When the Chancellor of the Exchequer rises to give his Autumn Statement later today he will need to strike a careful balance between optimism and caution. On the positive side the independent Office for Budget Responsibility is likely to raise its growth forecast for the UK economy from 0.6 per cent to 1.4 per cent for this year and upgrade next year’s figure from 1.8 per cent to 2.3 per cent or more.

Across the UK employment is growing and the projected deficit this year is expected to be closer to £100 billion compared with £120 billion at the time of the 2013 budget. However, the Chancellor will be painfully aware that back in 2010 he was forecasting a deficit of £60 billion for the current year and while employment is increasing many of the jobs are either part time or people are under-employed compared with their educational and skill levels.

The Chancellor will also be aware that to achieve his deficit reduction plans additional cuts in public spending will have to take place up to at least 2018-19. In its recent report to the Welsh Local Government Association the Institute for Fiscal Studies spelt out what this meant for local authority budgets in Wales.

No doubt there will continue to be a vigorous debate as to whether the strategy of the Chancellor has been vindicated. Back in 2010 two of his key objectives were maintaining the UK’s triple A credit rating and dealing with the deficit. He failed with respect to the credit rating, although in practice that has had little deleterious effect either on the economy or on the cost of public borrowing.

Reducing the deficit is way behind plan, which many critics expected, due to the impact of austerity both on the tax take and on increased public spending on benefits for the unemployed. As Laurence Summers of Harvard has pointed out the Chancellor’s plans have exacted a terrible price in terms of unemployment and loss of productive capacity.

A key domestic concern is how much productive capacity has been lost permanently as a result of the recession. In the normal economic cycle negative growth for a year to eighteen months is followed by a bounce back resulting in above trend growth. Such higher growth is easily achieved, because those on short time working can revert to full time working and because the short term unemployed have retained their skills and can rapidly resume employment.

The length of the current recession may well mean that many of these skills have been lost for ever, production lines have been scrapped and a rapid bounce back will not be possible. There are already reports of manufacturing industry being held back by skills shortages. This is one of the reasons that the Ofice of Budget Responsiubility has overridden its economic model forecasts and has been very cautious in estimating future growth. It fears that skills and manufacturing capacity may have been permanently lost.

Other domestic concerns that have not been satisfactorily addressed include risks in the banking sector and private indebtedness. The current government has been slow to tackle these issues and the City of London appears to have reverted to business as usual notwithstanding recent scandals including the fixing of Libor and alleged malpractice in the foreign exchange markets. It has taken amendments tabled in the House of Lords to oblige the UK Government to introduce leverage limits on banks and the licensing of bankers.

At the same time the new Governor of the Bank of England has pressed the case for expanding the financial services sector in the UK. Will they never learn? Expansion of financial services which is concentrated in London will do little to rebalance the economy either sectorally or geographically. Instead, it will expose the UK to considerable risk in the event of another banking crisis.

Household debt in the UK is approaching £2 trillion and a return to more normal levels of interest rates will push many households into difficulties. I expect the Chancellor to say little regarding these strategic issues in his Autumn Statement today or to detail measures for rebalancing the economy.

One measure that is expected to help SMEs is a reduction in the planned increase in non-domestic rates next year. In the case of Wales this is a matter for the Welsh Government and it is to be hoped that they will overcome their traditional antipathy to business and reduce non-domestic rates.

In fairness to the Chancellor there are factors determining the performance of the UK economy which are outside his control. The Eurozone remains in a fragile state with many of the underlying issues yet to be addressed. The financial strength of many Eurozone banks remains questionable and it would only take a relatively minor banking problem to undermine confidence in the sector. In the meantime the Eurozone is not expected to show strong growth over the coming years and this will weaken the UK’s export markets.

It is noteworthy that while sterling has weakened by over 20 per cent compared with other currencies UK exports remain depressed. Looking farther afield growth in many emerging markets is slowing and this again will impact exports.

The Chancellor will be all too aware of these issues and it is to be expected that he will temper optimism with caution. It so happens that from the viewpoint of the UK Government this will sit well with the electoral cycle. There will be a tension between the desire of many of his Conservative colleagues to give some hand outs now and the Chancellor’s approach which is likely to want to hold back until nearer the UK general election in 2015.

What specific measures can we expect to be announced today? The success of Labour in shifting the focus of debate from economic strategy and deficit reduction to the cost of living in general and energy prices in particular may well blow the Chancellor off course. To respond to Labour’s challenge we can expect some tactical measures on the cost of energy front. There may also be announcements with respect to water price increases and even rail fares. Such measures will merely be tactical responses to Labour’s challenge and will not be of strategic significance from an economic viewpoint.

More material announcements can be expected with respect to investment in infrastructure. On assuming office in 2010 the current government followed the plans of Labour in slashing capital investment. Labour had planned in its 2010 budget a real terms cut of 40 per cent. In the case of Wales capital spending has been cut in real terms from £2.1 billion in 2009-10 to £1.3 billion this year.

It appears that at long last the UK Government accepts that slashing capital investment was a mistake and will announce a series of plans for major investment in infrastructure. Many observers will react with a note of scepticism given the recent history of announcements in the budget not being followed by effective implementation. In 2011 the UK Government announced 40 ‘priority’ schemes in the fields of energy, roads and telecoms but, according to the Financial Times this week, few have been completed.

The CBI is highly critical of the Government’s practice of announcing large investment plans but failing to follow through. It has been widely trailed that some big insurance companies will commit to investing £25 billion in infrastructure including the new nuclear power facility at Wylfa on Anglesey. A key issue is how quickly some of the proposed investments will start to take place and have an impact first on employment in the construction industry and then on raised productivity across the economy.

In the case of Wales will the UK and Welsh Governments be able to come to agreement on limited borrowing powers to fund an M4 relief road as mentioned in the UK Government’s response to the Silk Commission report? Longer term borrowing powers, as advocated by the Silk Commission in its first report and as accepted by the UK Government appear to be predicated on the outcome of the income tax referendum. If the Welsh Government drags its heels on the referendum then it is unlikely to gain the borrowing powers it so desires.

Thanks to devolution many measures that could help the Welsh economy are now in the powers of the Welsh Government. Following the Dylan Jones-Evans report it would be encouraging to see rapid steps being taken to establish a bank in Wales aimed at assisting medium sized businesses. The bank being proposed by the UK Government is welcome but Wales is unlikely to feature prominently in its priorities.

One expected measure that could have a significant impact on Wales is changes to feed in tariffs. It is expected that the feed in tariffs on solar energy and on-shore wind farms will be cut while feed-in tariffs for off-shore wind farms will be raised. If these measures are to be cost neutral then on-shore tariffs will have to be slashed given the much larger scale of off-shore wind farms. If these changes take place then these measures may have a greater impact on Wales and our landscape than any of the other tactical changes expected to be announced today

Eurfyl ap Gwilym is Plaid Cymru’s economics spokesman and its nominee on the Silk Commission.

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