Bill Jamieson: Everyone's forced to hedge their bets in the paradox economy

Here is a tale of two economies. In the first, there's record numbers of people in work and unemployment is at a multi-year low.

Scotland has had economic growth of just 1.1 per cent a year for the past eight years. Picture: John Devlin
Scotland has had economic growth of just 1.1 per cent a year for the past eight years. Picture: John Devlin

It grew by better than most forecasts last year and in recent weeks analysts have been nudging up their growth predictions for 2018.

Business confidence is improving. Exports have been hitting record levels and business investment has also been holding up much better than feared. Inflation is falling, and households are now on course for a real-terms rise in incomes.

Sign up to our Opinion newsletter

As for the country’s finances, these have improved greatly, with government borrowing falling to just 2.2 per cent of GDP.

And on the foreign exchanges, its currency has recently been hitting three-year highs against the dollar.

What’s not to like?

Now for the other economy. Its growth rate is terrible, well below the long-term trend rate. And official forecasts point to little improvement over the next three years.

Not only is its growth rate lower than neighbouring economies’, but business investment has also been lagging competitors. Searching questions are also begged about productivity performance.

Consumer spending continues to be squeezed. In the high streets retail sales are dismal. Shops are closing at a worrying rate. And the governor of the central bank has warned business and households to prepare for a series of rises over the next two years.

All told, not a good place to be.

But here’s the thing. These are not separate economies. They are one and the same. Welcome to the UK in the spring of 2018.

You can see now why Bank of England governor Mark Carney has sent out confusing signals on the timing of interest rate rises. “Prepare for a few interest rate rises over the next few years,” he said last week. “I don’t want to get too focused on the precise timing,” he added, hedging his bets on the final outcome of Brexit negotiations, “it is more about the general path.”

But he also pointed to softer data for the first quarter of the year – on GDP, business confidence and consumer spending, much of this due to severe winter weather bringing work and travel disruption. These remarks caused analysts to cast doubt on whether the Bank would raise rates next month as widely expected. And this in turn caused the pound to fall.

Carney promised he would bring “forward guidance” on rates and monetary policy when he took office. But his predictions of pending rate rises in 2015 and 2016 and a pull-back on quantitative easing proved wrong. In fact, rates were cut to a historic low of 0.25 per cent in October 2016 and QE extended to mitigate the feared effects of a Brexit downturn.

But where, one might fairly ask, is it? Last week the IMF nudged up its forecast for UK growth this year to 1.6 per cent – feeble admittedly, but the direction of travel appears to be upward. There has been no big downturn, no house price crash, no unemployment surge. And judging by the pound’s recent strength – though off the top last week – it seems overseas investors don’t see a downturn coming.

In Scotland, of course, this paradox of two economies – the light side and dark, the clashing Yin and Yang of official data – seems much less balanced. Here unemployment was up 3,000 in the latest three-month period to 165,000 while numbers in work fell back by 17,000 to 75 per cent of the working age population to match the UK rate, having been higher in recent years.

Our growth rate last year was just 0.8 per cent. In fact Scotland has had growth of just 1.1 per cent a year for the past eight years, while the UK has grown by two per cent a year. And the Scottish Fiscal Commission offers little by way of cheer, predicting that our growth rate will not rise above 1 per cent for the next four years. What with that, and the Scottish government’s persistent warnings that Brexit will lower our growth rate by 0.9 per cent, misery abounds.

Yet here, too, there is paradox. The Scottish Chambers of Commerce reported last week that levels of investment are rising across Scottish businesses amid growing expectations of a strong year. The survey of 385 firms, produced in collaboration with Strathclyde University’s Fraser of Allander Institute, suggested that every sector expected to see sales revenues increase in the second quarter, with firms anticipating that investment will gain rapid returns.

I suspect the “paradox economy” will run for some time, for not only does it have to contend with continuing uncertainties over Brexit, but there are also signs that the world economy may not be as favourable as the IMF suggests. There are signs of a slowdown across the Eurozone, and in Germany in particular. Latest business surveys suggest Germany and France are seeing weakening growth.

Industrial output has fallen for three consecutive months in the Eurozone, and political troubles are not far from the surface. Italy has yet to form a government after last month’s hung parliament. Germany’s leadership is also dented after Angela Merkel took four months to form a government after a bruising general election. And France is suffering a wave of strikes and industrial disruption, most notably on its rail network.

While Eurozone GDP grew by 2.3 per cent in 2017, the highest rate in a decade, trend growth is more like 1.5 per cent – the trend is the rate at which an economy can grow over the longer term without generating excessive inflation.

Unemployment at 8.5 per cent is still far above the sub-5 per cent rates in the UK and the US, and wildly above Germany’s 3.5 per cent rate.

Growth in loans to firms has fallen, together with signs of a fall in business confidence and a weak showing in Purchasing Managers Index data. The Eurozone’s economic sentiment indicator also fell in March well below analyst expectations.

Faced with this divergence in economic data, fixing the timing of any change in the central bank’s main policy tool – interest rates – will keep businesses and households on tenterhooks this summer.