Friday, February 25, 2011

The UK economy is contracting: austerity measures to blame?

Well, you can't say that it was not predicted in advance. We now have confirmation that the British economy is contracting and getting worse --- and the heavy winter snowfall is not to blame. The data is out here covering the last three months of 2010. Such a contraction was not taking place when the coalition government made up of Conservative and Liberal Democrat parties took office in spring last year.

What is to blame? Don't blame oil -- although the current situation probably won't help. Oil prices have been rising through the roof, but this is all post-2010 and so does not bear on these statistics. That said, much higher oil prices will affect costs across the board as prices will be likely to rise --- making recovery and reversal of this contraction more difficult.

Don't blame VAT -- at least not yet. The VAT rise also is a post-2010 phenomenon. This is also highly unlikely to make economic recovery easier in 2011.

What we might blame are the austerity measures -- and, most especially, how these measures may have impacted on consumer confidence. Even if you have not had your job threatened, there is much insecurity to go around on job security moving forward into the summer as the austerity measures adopted by the present government begin to take effect. It has not helped hearing warnings from Kenneth Clarke (see here) that most of us won't know what hit us.

Some might say that the economy may be heading into reverse, but we are in the best of a bad situation. We cannot go on as we have and the credit cards are maxed out.

This is the wrong position. For one thing, governments are not households. Mom and dad can't print money; the government can. Mom and dad also lack the ability to acquire financing on terms that a state can. So the analogy may be "folksy" and may play well with parts of the electorate, but really a comparison of apples and oranges.

The main reason why we should oppose the coalition government's plans is because they are wrong. The United States did not do "austerity" and what has happened? The economy is recovering. The Republic of Ireland did do "austerity" and what happened there? Disaster and perhaps much worse to come.

We have a major VAT rise plus rapidly rising oil costs mixed with constant talk of the need to collectively "tighten our belts" and that things may be even more difficult in future than we might fear. This is hardly the cocktail to help us improve sales at the tills and get confidence restored (and the economy along with it).

My prediction? Expect the economy to further contract before improving. While things will get worse for many of us, expect the only smiles to be left on bankers....laughing all the way to the bank.

UPDATE: This post has been picked up recently here.

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