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Can it be done? For the first time Sir Keir Starmer has put a figure on his target for growth. It is 2.5 per cent. He told ITV that “under the last Labour government, we grew by about two per cent”.
“So you’re looking for that kind of growth – two and a half per cent?” he was asked. “Certainly, yes,” he replied.
As you can see from the interchange, there is some ambiguity between the two and two-and-a-half number, and there is a further twist in that it is not clear whether Starmer was thinking about total growth or growth per head. But the big point is clear. The aim of the next government will be to find ways of pushing growth back up to what was the norm before the financial crash of 2008, somewhere between 2 per cent and 2.5 per cent. Is that a credible target?
Most economists would suggest that while there will be some pick-up of growth, this is over-optimistic. The Office for Budget Responsibility’s most recent forecast last March suggested that while growth this year would be only 0.8 per cent, it would climb to around 2 per cent by 2026 as interest rates fell and spare capacity was used up, then settle at the economy’s potential long-term growth rate of 1.8 per cent for 2027 and 2028. That assumes continuing immigration, though at a lower level than last year, so the growth in GDP per head would be lower.
While these forecasts may well turn out to be wrong, the idea that the natural rate of growth of the UK is somewhat below 2 per cent a year is a good basis to start. So the challenge for Labour is to increase that natural rate of growth. How?
Productivity must rise
The short answer is that it has to boost productivity – which of course leads to questions as to how a government might do that, and whether the plans so far announced would have that effect. There are some clues in the Mais Lecture given by shadow Chancellor Rachel Reeves in March. There were two themes: that the government would reduce blockages to growth, and it would take positive steps to increase it.
On the first, the most important single issue was reducing planning restrictions, and there is certainly a huge need for building more homes and improving infrastructure, both of which face serious planning delays.
Were Labour able to persuade the EU to ease trade restrictions, that would help too. There is a huge amount of speculation about what can be done about this, but it does seem likely that general relations will improve. Chatham House recently called for the UK to have more active foreign policies and improving the relationship with Europe would be part of that.
But we should not expect too much from greater trade with Europe. It is a slow-growing region and, in any case, since 2020 we’ve exported services, which have not been affected by Brexit, much more than goods. A study by the London School of Economics noted that goods exports of small firms to Europe had been severely hit by Brexit, but that large companies had coped well, and total exports by the UK had grown at a similar rate as other major European economies since 2016.
On the active policies, Reeves noted that the Labour government of 1997 had founded an Enterprise and Growth Unit in the Treasury and that they would reform and develop that. There would also be a “Green Prosperity Plan, driven by new institutions: a National Wealth Fund and Great British Energy”.
Pension funds would be encouraged to invest more in UK enterprises. And she argued that giving working people greater protection when they changed jobs would encourage them to move more readily.
She also committed the government to greater stability in policymaking: a strengthened Office of Budget Responsibilty (OBR), no changes in the main taxes including corporation tax, a single annual budget, keeping the 2 per cent inflation target, and so on.
Reality check
All this is really important. You could almost say that reaching Starmer’s 2.5 per cent growth target depends more on Rachel Reeves than it does on him. So is it credible?
There is a positive view and a negative one. The positive is that already there are signs that international opinion is comfortable with the prospect of a Labour government. You can see that in the rise in the FTSE100 share index this year, in the climb in the pound vis-à-vis the euro, and in continued investment in UK companies by foreign investors. The fact that the UK now has lower inflation than the eurozone – 2 per cent in May against 2.6 per cent – probably helps too. Reeves has gone out of her way to reassure the business community and she has largely succeeded in doing so.
The negative perspective is that the detail of Labour’s plans, insofar as we know them, runs counter to her ambitions. For example the labour market reforms, by making it harder to dismiss workers, may make employers more cautious about hiring in the first place. Increases in capital gains tax, if these do come in, may hit investment.
The fear of higher taxes in general will encourage people to be cautious about their spending plans. And as for changes to the status of non-doms, however strong the social argument for making foreigners pay the same taxes as Britons, some entrepreneurs will leave the country and start their businesses elsewhere.
But let’s give a welcome to Starmer’s growth target. The ambition is clear, and we have a simple yardstick to judge the performance of government more generally. Does it boost growth or crush it?
Need to know
Anyone talking about growth – as Starmer did in the ITV interview – has to acknowledge that some people feel that GDP doesn’t matter to them, and indeed that economic growth carries costs. How should economists respond to that?
The first thing, surely, is to accept that growth is not the be-all and end-all of everything, and that it does indeed carry costs. Those costs include environmental damage and social tensions. The environmental case is increasingly being made and rightly so.
An economist’s answer to this is to point out that environmental costs should be included in the price of products and services, so that if a company pollutes water or air, it has to pay to clean that up. Carbon taxation is a further example of the way the tax system can be used to stop environmental costs being externalised.
But of course the system is imperfect and we have to admit that, and that if one country imposes environmental levies the business may simply shift somewhere else. The UK looks relatively good on several environmental measures, but that is partly because we import a lot of goods. If we make steel here, that shows up as increasing our carbon emissions; if we import it from China, it doesn’t.
The social costs of growth are often less debated, but they are very real. For example, tourism may increase the GDP of a town or a country, but it may make life less pleasant for many of the people there. You can see that in Tenerife now, with a tension between people there who want to push against excessive numbers of tourists and those whose livelihoods depend on them. Immigration is a contentious issue, for while it generally increases economic growth, it can also create social tensions. That is too huge an issue to debate here, but it is worth noting the divergence between growth in GDP and growth in GDP her head that has occurred in the UK.
Then there is planning and housing: building more homes is desperately needed, but creates social and environmental tensions, as we see all the time.
My point here is simply that growth has to be managed. If our next government is successful in generating more of it, and I hope it will be, then it has to look very carefully at the costs of its policies, and make sure that any losers are properly compensated in appropriate ways. Not easy, but has to be done.
This is Armchair Economics with Hamish McRae, a subscriber-only newsletter from i. If you’d like to get this direct to your inbox, every single week, you can sign up here.