Those who are confident that the UK economy is sustainably on the mend — encouraged, no doubt, by the Bank of England forecast of as much as 3.4 per cent growth in 2014 — might like to ponder two aspects of our economic performance. The first is that net investment in the UK economy, measured per head of the population, has ground to a halt. The second is that the proportion of UK national income derived nowadays from manufacturing is barely 10 per cent. As we depend on manufactures to a large extent for our export revenues, our weak manufacturing base means that we cannot pay our way in the world.
There are two ways to measure how much of our GDP is accounted for by investment for the future. One is gross and the other is net of depreciation of existing capital assets. Measured gross, the UK now has one of the lowest ratios in the world. A recent CIA report showed the UK with 14.2 per cent in 2012, ranking us 142nd — equal with El Salvador — out of the 156 economies in the survey. The world average was 23.8 per cent. The figure for China was 46.4 per cent.
This gross figure is bad enough, but the net position is even worse. Depreciation of existing capital assets — otherwise known as capital consumption — is running in the UK at just over 11 per cent of GDP. This means that our net investment as a percentage of GDP is about 2.3 per cent. If our population was static, this low percentage would at least show some improvement, however small. Unfortunately, it does not account for population growth, which is around 350,000 per annum.
The figure for average UK historically accumulated capital assets per head is about £120,000. Just to keep up this stock per head involves capital expenditure of £42 billion per annum. This is nearly equal to 2.3 per cent of our national income. The end result is effectively no net investment per capita. All the advances in living standards since the Industrial Revolution have been achieved on the back of capital accumulation. It is very difficult to see how any sustainable increase in productivity and living standards can be achieved if we have stopped investing in our future.
Part of the reason why our investment rate is so low is that manufacturing as a percentage of national income which has fallen. In 1970 it was 32 per cent of national income. In 1980 it was 24 per cent. By 1997 it was 14.5 per cent. It is now barely 10 per cent. About 60 per cent of our exports (and more than three-quarters of our imports) are goods rather than services and about 75 per cent of those goods are manufactures. Until the early 1980s we used to export far more manufactured goods than we imported. Indeed, this is how the UK accumulated much of its internationally owned wealth in the 19th century. This, however, has not been the case for some time. We have had a deficit every year since 1983 and as a result an overall payments deficiency every year since 1984. In 2012, our deficit on manufactures alone was about £85 billion.
It is the combination of these two factors — no net investment and the erosion of our manufacturing industry — that make sustained growth in the UK economy so unlikely. With no net investment, the only way the economy can be made to grow is by increasing demand to bring more people into the labour force. This is achieved by loose money policies and the consequent increase in consumer confidence that asset inflation brings. This is not, however, a sustainable policy. Because of our very weak export capacity, the inevitable result of the increase in consumer confidence, given the pound’s rising value, is that our balance of payments position — already one of the weakest in the developed world — will deteriorate further. The likely response of the Bank of England will then be to raise interest rates and growth will come to a halt.
Surely, in these circumstances, the solution might appear to be increased investment? There are, however, three problems. First, to justify investment projects, businesses must be convinced that the economy really is going to grow in the future. There is still little sign that this is the case. Second, even if the will is there, increasing investment is bound to have a negative impact on the balance of payments. Third, the increasing proportion of GDP being invested has to be matched exactly by a corresponding fall in consumer expenditure; you cannot spend the same resources twice. In the middle of a standard-of-living crisis, are consumers really going to put up with another squeeze on their incomes?
The root problem with the British economy is that neither investment generally nor manufacturing in particular are profitable. This is why they are not happening. It is difficult to make any money in manufacturing in the UK because the exchange rate is far too high, making it much more expensive to produce almost anything in the UK than it is elsewhere. As long as this is the case, our economy will be constrained by a weak balance of payments and confidence in the merit of all forms of investment will be lacking. This is the bind in which the UK now finds itself.
Will the sudden improvement in our economic performance be sustainable when the price of the pound creeps up from $1.50 to $1.65? Time will tell, but all our economic history and our current investment and manufacturing performance make it look extremely unlikely. Maybe today’s mini-boom will last up to the next general election, but whatever government is elected in 2015 is likely to be faced with daunting problems in the five years that follow.