The UK is truly facing a summer of discontent. With strikes, inflation, heatwaves, fires and a war in Eastern Europe, the next few years will prove a real test of the political class in this country.
The Urgent
As the Conservative Party chooses a new leader it almost couldn’t choose a more challenging time to do so. With rising inflation and the strikes that it is causing this is a terrible time to be in charge because options are so limited.
The inflation we are experiencing is caused by a decrease in output, from Chinese factories under lockdown, to ceasing supply chains but overall from an increase in energy costs caused by the war in Ukraine. The squeeze on the price of fuels hits not only petrol and gas but spikes in the price of fertiliser and diesel will also deeply disrupt food markets. All this before we factor in the severely limited harvest of Ukrainian wheat.
Unlike a recession which is usually caused by a lack of demand as consumers lose confidence, Government spending cannot reduce inflation. In fact, quite the opposite is the case. Cruelly, inflation hits those worse off the hardest but giving our extra money will only increase prices. While the market is already resetting demand via the mechanism of higher prices the tools to fight inflation are to either increase supply or decrease demand.
To increase supply, especially of fossil fuels, billions of pounds would have to be spent to build infrastructure which will likely need to be decommissioned soon anyway. To decrease demand beyond what price increases are already doing we’re looking at rationing. Whether that be lower speed limits, restrictions on certain industries or regulating how much hot water, heating and air conditioning we all use, none of these are going to win any popularity contests.
Were it not for inflation, the new PM would still be pulling their hair out about NHS waiting lists. These have yet to recover from the pandemic and although the death rate of Covid 19 has drastically reduced due to vaccination, new variants are still leading to spikes in hospitalisations and disrupting the running of the NHS.
Worse, since the pandemic the NHS has been left with an exhausted workforce with high turnover and low recruitment leading to staff shortages.
The Important
Sadly, the long term prospects for the UK are also looking decidedly dicey. Despite 12 years of Conservative government, six under David Cameron’s austerity regime the UK is now in as much debt as it was in the early 1960s when the Government was struggling to pay off bills incurred during the Second World War. While government debt approaching 100% of GDP may have looked sustainable with interest rates on the floor and peers such as Italy and Japan having a much higher burden and no debt crisis, they look a lot scarier now that interest rates are increasing and monthly interest payments are approaching £20bn (about half the annual defence budget).
The UK debt burden will fall to a generation which also has to look after more elderly people than ever before. The youngest baby boomer is now 57 years old and despite the “echo boom” of the 1980s, the average age of the population and therefore the dependency ratio will rise over the next decade and a half. This ageing will put further strain on the NHS, public finances and social care systems.
At the same time these next two decades will require enormous capital investment in an energy transition in which Britain should be aiming not only to reduce our own emissions to net zero, but to research new technologies to allow others to reach this goal and in many cases directly paying for poorer countries to make the transition.
All of these pressures on the public purse bring us to the central questions of the British economy. Where is the growth? Between 1997 and 2007, UK productivity growth averaged 1.9%, since 2009 the average has been 0.7%. Growth comes from several directions but only productivity growth makes the average person any wealthier.
Broadly, productivity growth comes from innovation, communication and specialisation. Innovation leads to better ways to deliver value, and communication spreads them throughout an economy, quickly ensuring that best practise is taken up and specialisation happens when that best practised is concentrated and operates at scale.
A good example is the City of London. This financial centre is innovative, with a tech cluster and close links to it’s regulators churning out fintech start-ups. It is competitive leading to the spread of best practise via employee poaching and close connections between competitors. It is also specialised as the largest finance hub serving Europe. To grow this cluster of excellence the UK Government could loosen regulation allowing for financial innovation, though we know from recent experience that this has significant downsides. They could also increase the openness of foreign markets to UK finance but as Brexit has just finished reducing that access to our most significant trade partner that seems unlikely.
These are the sorts of problems that face the next PM in many industries. Avenues to growth are constricted by vested interests or politically toxic downsides.
As the UK faces these many issues at home, the situation abroad continues to deteriorate. The inflationary effects of Russia’s invasion are a harbinger of downside risk from a world in democratic recession. Russia and China are resurgent challenging the post-war rules-based order traditionally guarded by the United States. While an imperfect hegemon, American influence on the world stage has often been stabilising and has allowed numerous small states to thrive which, in a more mercantilist world, dominated by great powers would have shrivelled.
With the waning of American power, borders are once again being contested by force, trade is being turned into a weapon and small nations must plan for their safety. Worst of all, once solid bastions of liberal democracy are starting to look worryingly authoritarian. Italy is flirting with putting the far right in power, Hungary’s Victor Orban is an authoritarian at the heart of Europe, Turkey’s once promising rise is now a spiralling nightmare and France’s far right party has finished second in presidential elections twice in a row.
Above all, the idea that an American election could be stolen or that right wing conspiracists could take and hold power in the United States should send a shiver down the spine of the entire British political class. Over the next decade the ‘special relationship’ could change from a massive asset to the riskiest liability.
New Prime Minister
So good luck, then, to all the candidates for Prime Minister. You are going to need it.
With luck these musings will age like milk, as forces unforeseen bring us to new sunlit uplands. If not, the challenge ahead is daunting and will require political skill, luck and a strong team to navigate.