United Kingdom

   

Economic Policies

#15
Key Findings
With uncertainty created by 2016’s Brexit vote persisting, the United Kingdom falls into the upper-middle ranks (rank 15) in the area of economic policy. Its score on this measure has improved by 0.5 points relative to 2014.

The prospect of Brexit has shifted the country’s economic calculus. The economic response to the referendum was delayed, but GDP growth slowed substantially in 2017, to 1.8%. The export sector remains weak, and uncertainty about future UK-EU relations are weighing on the economy. The government has postponed its goal of reaching budget surplus until the year 2020.

Unemployment rates remain very low, to the point that full employment has become an official objective. However, this has come at the cost of weakness in real wages and weak productivity growth. Real wages only recently reached their pre-crisis levels.

Debt has peaked at a relatively high 86.5% of GDP, with net borrowing still at moderate but declining levels. Low interest rates have kept debt-service payments manageable. Financial regulation is expected to remain closely aligned with EU standards, but the European Banking Agency is moving to Paris. Researchers fear new barriers to collaboration with EU counterparts.

Economy

#14

How successful has economic policy been in providing a reliable economic framework and in fostering international competitiveness?

10
 9

Economic policy fully succeeds in providing a coherent set-up of different institutional spheres and regimes, thus stabilizing the economic environment. It largely contributes to the objectives of fostering a country’s competitive capabilities and attractiveness as an economic location.
 8
 7
 6


Economic policy largely provides a reliable economic environment and supports the objectives of fostering a country’s competitive capabilities and attractiveness as an economic location.
 5
 4
 3


Economic policy somewhat contributes to providing a reliable economic environment and helps to a certain degree in fostering a country’s competitive capabilities and attractiveness as an economic location.
 2
 1

Economic policy mainly acts in discretionary ways essentially destabilizing the economic environment. There is little coordination in the set-up of economic policy institutions. Economic policy generally fails in fostering a country’s competitive capabilities and attractiveness as an economic location.
Economic Policy
8
The UK economic framework was substantially reformed after 1979 in a market-friendly direction and most of these reforms were maintained after the election of the Labour government in 1997, albeit with some rebalancing toward labor interests – notably through the introduction of a minimum wage. The UK economy grew steadily from the early 1990s up to 2007, but then endured a deep recession during the financial crisis before recovering from 2013 onwards, despite weak demand from the euro zone, the United Kingdom’s largest export market. There are concerns that the economy is too reliant on consumers’ expenditure, fueled by overly high household debt and sustained by very loose monetary policy.

The change in government in 2010 led to the adoption of an economic policy framework ostensibly focused on budgetary consolidation, but there has been a substantial watering down of the fiscal rules put in place by previous governments; targets for returning to fiscal balance have repeatedly been pushed to later dates. This has meant the squeeze on public spending has been less than is often claimed because the government also chose to protect key areas of public services, such as health care spending. The corollary, especially as service charges on government debt increased, was that cuts in other areas of public spending had to be even deeper. Insufficient public investment is reflected in creaking infrastructure and skills shortages.

The economy initially appeared to shake off the political shock of the “leave” vote in the June 2016 EU referendum, with the fall in the exchange rate helping to absorb the shock. In 2017, however, economic growth slowed such that the United Kingdom shifted from being one of the most rapidly growing mature western economies to one of the slowest. The labor market has remained buoyant, with the number of people in work reaching another all-time high at 32.08 million toward the end of 2017. This labor-market performance partly reflects a job-friendly economic policy, but nominal wages have not kept pace with inflation, leading to falling real incomes. Moreover, disappointing productivity figures have led the independent Office of Budget Responsibility to reduce its estimate for the long-term growth potential of the economy. The current account deficit decreased to 4.6% of the GDP in the second quarter of 2017 somewhat lower than in previous years, up however by 0.2% compared to the first quarter of 2017. This is indicative of the continuing export weakness of the UK economy. Uncertainty about future UK-EU relations and threats to the future access of UK financial services to the continental market are weighing on the economy.

Citations:
http://obr.uk/efo/economic-fiscal-outlook-november-2017/

Labor Markets

#7

How effectively does labor market policy address unemployment?

10
 9

Successful strategies ensure unemployment is not a serious threat.
 8
 7
 6


Labor market policies have been more or less successful.
 5
 4
 3


Strategies against unemployment have shown little or no significant success.
 2
 1

Labor market policies have been unsuccessful and rather effected a rise in unemployment.
Labor Market Policy
8
After a period of remarkably good and stable labor-market performance in which the rate of unemployment was below that of the euro zone and the OECD average, conditions in the United Kingdom deteriorated in the wake of the 2008 crisis and the ensuing economic downturn. Underlying weaknesses (such as the comparatively high degree of working-age inactivity linked to the high number of claimants of disability-related benefits) came to the fore, and the unemployment rate rose to its highest rate since the mid-1990s. But after labor-market flexibility was increased through deregulation and the lowering of secondary-wage costs, the unemployment rate fell significantly from 8.3% at the end of 2012 to now 4.3% in October 2017. In fact, recent labor-market performance has been so robust that the new government has declared full employment an official government objective. The UK labor market continues to attract substantial numbers of economic migrants.

However, the increase in employment has come at the cost of weakness in real wages and weak productivity growth. Real wages only recently returned to their pre-crisis levels, partly because of a moderating effect of immigration. An increase in the national minimum wage to the level of the so-called living wage was announced (£7.20 since 1 April 2016 for people over 25 and scheduled to rise more rapidly than average wages over the coming years). This is expected to reduce sharply the de facto subsidy to employers provided by tax credits. There has also been criticism of other facets of labor-market flexibility. For example, the topic of zero-hour contracts gained substantial attention during the general election of 2015 but has not been effectively addressed yet, as Brexit continues to dominate the political agenda. Although the rate of youth unemployment had further fallen to 12% in October 2017 compared to 13% a year before, it is still almost thrice that of the overall unemployment rate of 4.3% and almost double that of Germany’s 6.7% youth unemployment rate. At the same time, it is still much lower than the other major economies in Europe. However, the United Kingdom does well in retaining older workers in the labor market, with an employment rate for those aged 55-64 of 64.1% in the second quarter of 2017, compared with an EU average of 57.0%.

Citations:
Brinkley, I. (2013) “Flexibility or insecurity? Exploring the rise of zero-hours contracts” London: The Work Foundation

https://www.theguardian.com/uk-news/zero-hours-contracts

Taxes

#16

To what extent does taxation policy realize goals of equity, competitiveness and the generation of sufficient public revenues?

10
 9

Taxation policy fully achieves the objectives.
 8
 7
 6


Taxation policy largely achieves the objectives.
 5
 4
 3


Taxation policy partially achieves the objectives.
 2
 1

Taxation policy does not achieve the objectives at all.
Tax Policy
7
The United Kingdom has a progressive income-tax system. The balance between direct and indirect taxes is reasonably fair, as measured in terms of horizontal equity. The system is, however, very complex. In relation to vertical equity, there are too many opportunities for tax avoidance, with the results bordering on evasion for the rich. Property taxes are high and have been increased for purchases of high value houses, but labor taxes are low compared with many other EU countries. The financial crisis and the ensuing economic downturn sharply reduced tax revenue with the squeeze on wages contributing to a lower yield from income tax. However, overall tax revenue has risen in the past years and is projected to be sufficient to continue to narrow the public deficit over the course of the current parliament. A risk factor is, though, that the potential costs of leaving the European Union are still unclear and therefore not calculable yet.

The Autumn Budget 2017 included some reduction of stamp duties imposed on sales of lower priced houses, but critics have argued that this will not improve the housing shortage and may even increase market prices for flats and houses – especially since at the same time the government has also postponed its investment in loan support for home builders and small-building companies.

Citations:
World Economic Forum 2017: The Global Competitiveness Report 2017-2018.

Budgets

#30

To what extent does budgetary policy realize the goal of fiscal sustainability?

10
 9

Budgetary policy is fiscally sustainable.
 8
 7
 6


Budgetary policy achieves most standards of fiscal sustainability.
 5
 4
 3


Budgetary policy achieves some standards of fiscal sustainability.
 2
 1

Budgetary policy is fiscally unsustainable.
Budgetary Policy
7
The United Kingdom is fiscally a highly centralized state. As such, central government has considerable control over budgetary policy. Most public spending is directly or indirectly controlled by the central government, with few other influences compared to, for example, federal countries. This also means, however, that the central government has to shoulder the blame if things go wrong.

Under previous Labour governments, the “golden rule” of UK fiscal policy was to limit deficit spending to investment over the business cycle. However, public spending as a proportion of GDP increased during the 2000s and, in hindsight, was too pro-cyclical. In 2009, adherence to fiscal rules was abandoned to cope with the consequences of the crisis. There is now a fiscal council, the Office for Budget Responsibility, and fiscal rules, including provision for surpluses in “good times,” are being in a new Charter for Budget Responsibility.

Due to uncertainty about the economic consequences of leaving the European Union (“Brexit”), the government has postponed its goal of achieving a budget surplus in the fiscal year 2019 to 2020. With the economy growing less than expected (1.8% in 2017 with a declining trend), government debt will peak at 86.5% of GDP this year but is projected to fall to 86.4% in 2018 on its way to reach the goal of 79.1% in 2022 – 2023. To achieve this aim, public sector net borrowing has been reduced from 3.8% of GDP in 2016 to a forecast of 2.4% in 2017 and is gradually to be reduced to 1.1% in 2022 – 2023.

Nevertheless, low interest rates and the extensive purchases of public debt by the Bank of England through its quantitative easing program has saved the United Kingdom from paying a high price for the period of high debt, with debt service payments only marginally higher than during the 2000s. Among the economies of the larger EU countries, public debt in the United Kingdom in the second quarter of 2017 was 13 points below that of France and Spain and also well below that of Italy, but 20 points above that of Germany. As the interest rate rose from 0.25% to 0.5% (the first rise since 2007) due to uncertainty caused by Brexit, which led to the Sterling falling by 1%, it is unclear whether the United Kingdom’s fiscal policy is financially sustainable.

Citations:
Autumn Statement 2017: https://www.gov.uk/government/topical-events/autumn-budget-2017

Research and Innovation

#13

To what extent does research and innovation policy support technological innovations that foster the creation and introduction of new products?

10
 9

Research and innovation policy effectively supports innovations that foster the creation of new products and enhance productivity.
 8
 7
 6


Research and innovation policy largely supports innovations that foster the creation of new products and enhance productivity.
 5
 4
 3


Research and innovation policy partly supports innovations that foster the creation of new products and enhance productivity.
 2
 1

Research and innovation policy has largely failed to support innovations that foster the creation of new products and enhance productivity.
R&I Policy
7
The United Kingdom’s tradition of being an active player in research and innovation dates back to the Industrial Revolution. The country’s clusters of pre-eminent universities have for a long time played an important role in linking cutting-edge academic research with industries such as biotechnology or information and communications technology (ICT). Performance has been weaker in terms of overall R&D spending, which continues to fall well short of EU targets, as well as in the conversion of innovation into sustainable, large-scale production, which holds the potential for long-term profitability. However, it is important to emphasize that the UK economy does not have the industrial base to support a large-scale R&D effort, so it is necessary to look at other indicators, such as ICT spending (which matters more for service industries), to better understand trends in innovation in the United Kingdom.

Over the decades, attempts have been made by successive governments to improve this situation, for example, by targeting weaknesses in technical education on various levels. Recent government initiatives have focused on extending tax credits for R&D, setting up regional Technology and Innovation Centers (TICs), investing in digital infrastructure and new university research facilities, as well as establishing Innovate UK to promote economic growth through science and technology.

There is uncertainty about whether the United Kingdom will remain part of EU research programs after Brexit and the status of researchers who are EU nationals working in the United Kingdom. This could have an adverse effect on UK universities, although they are lobbying intensively to prevent a negative outcome. While the potential loss of EU funds is not huge, and it has to be recalled that the United Kingdom has always been a net contributor to the EU budget, researchers are more apprehensive about barriers to collaboration with counterparts in the European Union.

This all comes only a year after a debate about how best to attract highly skilled immigrants to the British science sector. For the moment, the divide in British academia over how to react to these developments reflects the nation’s general divide over Brexit. But as long as the British government does not provide a firm and plausible perspective for a post-Brexit Britain, only guesses are possible about the true impact of the secession from the European Union on Britain’s research policy.

Global Financial System

#12

To what extent does the government actively contribute to the effective regulation and supervision of the international financial architecture?

10
 9

The government (pro-)actively promotes the regulation and supervision of financial markets. It demonstrates initiative and responsibility in such endeavors and often acts as an international agenda-setter.
 8
 7
 6


The government contributes to improving the regulation and supervision of financial markets. In some cases, it demonstrates initiative and responsibility in such endeavors.
 5
 4
 3


The government rarely contributes to improving the regulation and supervision of financial markets. It seldom demonstrates initiative or responsibility in such endeavors.
 2
 1

The government does not contribute to improving the regulation and supervision of financial markets.
Stabilizing Global Financial Markets
7
The City of London is home to one of the world’s main financial hubs. Consequently, governments in the United Kingdom have traditionally tried to protect the interests of the City of London against more intrusive regulation whether national, European or global. Governments have often argued that the special characteristics of London as a financial center are not given sufficient attention by Brussels in particular. The Libor scandal of 2012 over the fixing of market interest rates, as well as other instances of market abuse, contributed to a reduction in public support for the financial sector and increased public pressure for tighter financial regulation.

At the international level, successive governments have taken a prominent role in attempts to improve the international regulatory framework through international bodies, such as the Financial Stability Board (chaired by the governor of the Bank of England) and the Bank for International Settlements, as well as through the prominent role of the Bank Governor in the European Systemic Risk Board. The United Kingdom has had substantial influence on EU financial reforms, both through government action and in the form of initiatives from the City of London.
Continued uncertainty about future relations between the United Kingdom and the European Union could affect the United Kingdom’s stance on global financial regulation, but the expectation is that UK financial regulation will remain closely aligned with EU and international standards.

The European Banking Agency will move from London to Paris.
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