Oh to be a fly on the wall as the Office for Budget Responsibility (OBR) gets to work on its economic and fiscal forecasts for Philip Hammond’s first Autumn Statement later this year.
As is now abundantly clear, the immediate post referendum shock to the economy wasn’t nearly as bad as many forecasters, including the Treasury, the Bank of England and the great bulk of City economists, feared it might be.
Thanks in part to a sharp devaluation in the pound, even the manufacturing sector seems to have weathered the storm in much better shape than generally anticipated. The litmus test will be this week’s Markit/CIPS Purchasing Managers’ Index (PMI) for the much bigger services sector, but anecdotal evidence already suggests that this too will look reasonably encouraging. Only in construction can we be sure of a bad set of numbers.
The upshot is that despite the turmoil of the last several months, it is now eminently possible that Britain will show a higher rate of growth in the post-Brexit third quarter than the Eurozone. Few if any would have predicted such an outcome.
The British economy sails on as if nothing has happened, but the European one continues to stagnate. It is as if the Brexit shock has been more powerfully felt in Europe than in Britain. Both France and Italy showed no growth at all in the second quarter, and now even the data from Germany is starting to look poor.
That the Eurozone economy is still struggling after everything that has been thrown at it almost beggars belief. In terms of stimulus, it is hard to know how much more of a following wind the euro area could have had. It’s been positively gale force. Austerity has been effectively ended, interest rates have been cut below zero, the economy has been flooded with newly printed money, the euro was devalued and to cap it all, there has been the monumental boost to disposable incomes provided by the low oil price.
Yet still the European economy is struggling to raise itself from its sick bed. The danger is that the depression gripping large parts of Europe has gone on for so long now that they have lost the capacity to mend, a phenomenon known as hysteresis.
All this suggests that the problem with the European economy is not so much the European Union as such as its experiment in monetary union. Europe is stuck in an economic funk of its own making, where politically it can neither move forward with the sort of institutions and policies that might in the long run make the single currency work, nor backwards to the restoration of flexible exchange rates and sovereign monetary policy.
No-one can say how the Eurozone crisis might eventually resolve itself. Political will has kept the single currency alive for far longer than conventional economic analysis suggests should have been the case. What’s clear is that we are fast approaching some kind of tipping point which Brexit is very much a part of; the legitimacy of the entire European project is being questioned as never before, with every possibility that the EU will have changed fundamentally by the time the Article 50 negotiations on Britain’s exit conclude.
But a word of warning. The resilience of the UK economy has fuelled demands among some Leave campaigners for an immediate “hard” exit. This would be a hubristic mistake. Today’s relative calm owes little to any already emerging Brexit dividend, but rather is a mix of three related phenomena – that it will be some while before we actually leave and the meantime things won’t change much, that a strong centre right government rapidly emerged from the political rubble of the vote, and that the Bank of England took immediate stabilising actions.
Business will take a long time to adjust to whatever the reality of life outside the EU turns out to be. This points to the need for a prolonged period of transition after the terms of departure have been agreed. In the meantime, the OBR’s Robert Chote has quite a challenge ahead of him concocting anything remotely close to a credible forecast for the next several years. I wish him luck, but perhaps best not to be guided by whatever the Treasury had to say in the cut and thrust of the campaign.