25 Jan 2011

George Osborne runs the risk of a double-dip recession

Chancellor George Osborne (Reuters)I received this morning’s appalling GDP figures in Frankfurt. Take that as a measure of what a shock they are.

Many had predicted that Britain was in for a sensitive quarter, in this quarter. But last quarter? Retailers should have been boosted by displaced trade caused by the VAT rise. The coldest bites of Coalition austerity are yet to be seen in public sector spending.

So there is clearly a lot of snow in that unexpected contraction in the economy. And yes, recent history shows that first estimates tend to be revised, containing as they do a first pass – only about 40 per cent of the data. Also the bad reading on construction responsible for 0.2 percentage points of the fall, should be put in the context of a still slightly sketchy new survey.

After past recessions, the numbers have bounced around in the subsequent year. The experience of last January’s cold snap was that some of the growth shifted into the next quarter.

But the caveats should not obscure the thumpingly bad nature of this number. Even had there been no snow, flat growth would have been very poor indeed.

I write from Germany, where it was snowing a minute ago. The economy is booming. A 20 year high in growth last year, with unemployment falling.

If the government approach to this is: “Move along now, nothing to see here”, then it sounds staggeringly complacent. On the pace and timing of deficit reduction, there surely is a debate beyond the moronism of: “We were going bankrupt in May” and “There is no alternative”.

The Government is trying to present its judgement as a necessity. The only necessity on cutting early and fast is a political one: the need to blame the previous Government for the pain, and to be in a position to offer tax cuts in 2014 – before the election. Necessity negates the need for a mandate, it seems, particularly for the Lib Dem Cabinet mindbenders.

Reasonable people – including the Cabinet Secretary – feel preparing a Plan B would be a sensible strategy. (As it happens that work was, I understand, done in response to a possible Eurozone collapse.)

It isn’t plausible to say the eradication of growth had nothing to do with the cuts, even if one does acknowledge that the steep decline clearly is weather-related.

Ask Chris Williams at Markit, who compiles the landmark PMI survey of business confidence. From August to October he was seeing that fall sharply. Businesses make decisions in advance to meet expected demand, and they were spooked  by the public sector recession.

The VAT rise might also prevent some of the lost growth from reappearing in this quarter, as occurred between Q1 and Q2 of last year.

The easiest way to see this is for me to convey an analogy from Ajai Chopra of the IMF (currently referred to in Dublin as the “overlord of Ireland”).

Last year George Osborne took out an insurance policy against a sovereign crisis in Britain. Undoubtedly he staved off that possibility, and that was reflected by the effective uprating in Britain’s credit rating. However the IMF man calculated that the price of the policy was 0.3 per cent off UK growth.

Even if that price is an underestimate, it still could be good value if the risk insured against is especially dangerous or particularly likely.

But one man’s insurance policy is another man’s gamble. Today’s number – for a Chancellor who inherited an economy growing at a quarterly rate of 1.1 per cent to launch tax rises and spending cuts as the economy contracts – markedly increases that gamble. It weakens the glue of necessity that has enabled Lib Dems to change their minds on many policies. And with prices and taxes rising too, it means that double dip recession is on the cards.