David Smith sets out five things that could plausibly happen over the next 12 months but suggests that, given the economy's uneven past record, each would represent a minor miracle.
This is the time of the year when the crystal balls become cloudy with overuse, and prediction overload numbs the brain. This, together with the fact that economic forecasting is often the implausible in pursuit of the unknowable, means that I don't intend to waste this space debating whether the economy will grow by 2.5, 2.7 or 3% this year.
Rather I will set out five things that could plausibly happen over the next 12 months. Taken separately, given the economy's uneven past record, each one would represent a minor miracle. If all five were achieved, even a doubting Thomas like me would be convinced that something rather special is stirring in Britain's economy. All are perfectly possible. Some are more probable than others. But don't blame me if they don't happen.
The first is the nature of the recovery itself. Everyone is prepared to applaud a recovery that is sustained by exports and investment, rather than consumer spending. The problem is, we are not used to such recoveries. Investment did not really start to pick up until last spring, two years into the economic upturn as measured by official statistics. But recent survey evidence on investment intentions has been encouraging.
Exports have been a longer-term source of strength, per-forming well since getting a competitive boost from sterling's abrupt departure from the ERM in September 1992, and now benefiting from recovery in European markets. Consumers, meanwhile, who spent surprisingly strongly during the early stages of recovery are now reining back under the influence of higher taxes. Of the three big components of growth - consumption, investment and exports - the consumer should be the weakest this year.
This is all very good. Unplanned it may have been but it seems to be an ideal growth combination. The difficulty, particularly for a government obsessed with the return of the infamous feelgood factor, is that recovery in which consumer spending is either flat or very slow-growing does not reap many political dividends. This may lead to unwise decisions and produce a climate of gloom about the economy, as commentators dwell too much on the relative weakness of one sector of the economy. Such gloom could all too easily rebound and start inhibiting investment, upsetting our ideal growth mix.
Assuming it does not, this brings me on to my second minor miracle, the prospect in 1995 of the first genuine current account surplus in Britain for more than 20 years. As the chart shows, Britain's external payments were in the black for much of the first half of the 1980s. However this was due, in large part, to the sudden emergence of a massive surplus in Britain's trade in oil. North Sea oil is booming again, as I noted in last month's column. But its contribution to the balance of payments is quite small. Other factors explain why the current account is looking rather healthy. These include the fact that consumer spending is being restrained by higher taxation, and the competitive boost to exports arising from devaluation, both described above. But there also appears to have been an underlying shift, both in the true competitiveness of British industry and the appetite of the British consumer for imported products. Import penetration, which has been on a rising long-term trend, may have levelled off.
Third, I have described the prospect of muted growth in consumer spending. It is also the case that, in spite of a puzzling discrepancy between weak official employment figures and the jobless data, unem-ployment has been falling steadily for almost two years. Some firms are reporting skill shortages. The danger is that all these factors will lead to a big upward push in wages. Some rise in pay settlements is inevitable as recovery continues. But as long as it is no more than the 1% boost to average earnings growth regarded by the Bank of England as acceptable at a time when strong productivity growth is pushing down labour costs, we need not worry too much. There are reasons for hope on this front. There is a new mood of realism among wage bargainers although there were one or two biggish-looking pay settlements in the autumn of 1994 (such as Rover's 10.7% two-year deal).
Fourth, I mentioned the Government's anxiety about the missing feelgood factor. This will come to a head towards the end of 1995, with the November Budget. Tory backbenchers have made it clear that fiscal policy needs to focus on reducing the basic rate of income tax, currently 25%. I am not so sure. Is a 40% top rate and a 25% basic rate really too high? I would like to see any spare resources devoted, first, to further improving incentives for the lower-paid and unemployed, killing the `why work?' syndrome once and for all. Second, urgent action is needed to restore the incentives for enterprise in Britain. By this I mean allowing the creators of businesses to retain and pass on more of the benefits of their success. This would require radical changes in the capital gains tax framework. On both counts short-term political expediency could all too easily dominate.
Finally, could this be the year when industry's revival establishes itself? The London Business School suggests that manufacturing can grow by nearly 4.5% a year over the 1994-98 period, reflecting not just the competitive effects of a lower exchange rate but `changes in the supply-side of the economy which means that the prob-lems associated with the British disease - low productivity growth, poor industrial relations and a declining share of world trade - are a thing of the past.'
We have all been guilty of being over-optimistic about manufacturing in the past, most recently in the late 1980s. If it is right to be optimistic now, after so many uncertainties, that would represent the most significant of my five minor miracles.