By Michelle McGagh of Citywire
The heart of this week’s Autumn Statement was how to boost low productivity, which, with higher inflation and stagnating earnings, will will cost households an average £1,000 each.
Productivity problems, stagnating earnings and higher cost of living will cost every household £1,000 next year, according to the Institute of Fiscal Studies (IFS) following its scrutiny of the chancellor’s Autumn Statement.
The independent research organisation said the downgrade in the economic forecasts from the Office of Budget Responsibility (OBR), which accompanied Philip Hammond’s statement to the House of Commons, would have a knock-on effect to living standards.
The OBR predicted national income in 2020/21 would be £30 billion lower than it projected in the Budget in March. However, its economic forecasts are still more upbeat than the Bank of England, which earlier this month projected growth of 1.4%, 1.5% and 1.6% in 2017, 2018, and 2019 respectively. This compares with the OBR’s forecasts of 1.4%, 1.7% and 2.1% over the same periods.
‘Overall the Bank forecast GDP would grow by 4.9% from 2016 Q3 to 2019 Q4,’ said Paul Johnson, director of the IFS. ‘In the OBR forecast, GDP grows by 5.8% over the same period – a 20% difference in growth.
‘Further out, OBR forecasts remain relatively robust in the two years after 2019, though as they put it, when looking for information about government policy on exiting the EU in 2019 they were left ‘little the wiser as regards the choices and trade-offs the government might make’.
Whatever these trade-offs turn out to be, the IFS is convinced that next year households will face a tougher time due to low earnings and higher prices, that have been driven by declining productivity.
Living standards to drop
Andrew Hood, research economist at the IFS, said that slower growth would mean lower future living standards. ‘The OBR forecasts for real national income is £30 billion lower and equal to a fall of £1,000 per household, that is how much lower GDP will be than expected,’ he said.
‘That is not a direct measure of cash in people’s pocket but an indicator of resources they will have to spend to support their living standards.’
At the time wages are stagnating, Hood said consumers would also have to deal with higher import prices thanks to the fall in the pound since the Brexit vote in June.
Both the problems with earnings and inflation have deeper roots than just the EU referendum, namely a lack of productivity. ‘The OBR expects, in cash terms, for average earnings to be 2% to 2.5% lower than in March [predictions] due to lower productivity,’ said Hood.
‘The uncertainty created by Brexit will reduce the amount firms invest and that will lead through to lower productivity. Living standards will be hit by a combination of higher prices and lower earnings relative to what they thought in March.’
Hammond addressed the lack of productivity, stating he wanted to ‘prioritise additional high-value investment, specifically in infrastructure and innovation’. He earmarked additional spending for roads, housing and research and development (R&D) to support the economy in the long run.
Rebecca Reading, a corporate tax partner at accountants RSM, said the chancellor was hoping to create fiscal stimulus through infrastructure spending with the announcement of its ‘flagship national productivity investment fund’, which will invest £23 billion in housing, transport, digital communications and development.
This was good news for the manufacturing industry, which is seen as a ‘poor relation to the services sector when considering the UK economy as a whole’, she said.
‘The government’s infrastructure spending plans are set to run for the life of the parliament and will be funded by additional borrowing,’ said Reading.
‘While all major infrastructure projects have a positive impact on the supply chain, manufacturers will be particularly heartened that the government is making new money available for R&D, with an additional £2 billion per year commitment for the life of the parliament.’
Gary Simmons, partner at consultancy Mercer, was less optimistic about the government’s plans to boost productivity. ‘That Britain’s productivity levels have to improve dramatically is not a new issue, but an increasingly essential one to solve in order to become competitive in a post-Brexit world,’ he said.
‘While the chancellor’s announcements focus on supporting key enablers such as roads, rail, housing and R&D, there is little directly to help companies invest in the training and skills they need.’
Although employees need to be supported in the push for productivity, Simmons said the government had taken away incentives by abolishing salary sacrifice for work perks outside of pensions, cycle to work and childcare.
While Hammond may believe borrowing to invest in infrastructure, a plan which Johnson said had been borrowed from from Labour shadow chancellor Ed Balls, the key to driving productivity and growing the UK economy would be to change corporate behaviour.
Paras Anand, head of European equities at Fidelity International, said improving corporate confidence would be the biggest rabbit the chancellor could put from his hat. ‘The last few years have seen the corporate sector favouring a conservative approach to investment, retaining earnings within the business or distributing to shareholders via dividends or share repurchases,’ said Anand.
‘While it is true that corporate activity has been robust, it is hard to argue that these have been driven by elevated animal spirits – in fact, it is the lack of certainty in the demand outlook that has driven companies to drive returns to shareholders through scale and efficiency.
‘The truly positive case for the UK economy is one where this change in economic strategy does, in time, lead to a shift in the perception of risk that has constrained the corporate sector over recent years and we see the direction of private sector investment following that of the public sector.’