AS/A2 The national economy The UK Economy: a Health Check How well has the economy been performing, and whats round the corner? The UK Economy: a Health Check How well has the economy been performing, and whats round the corner?

The UK Economy Main macroeconomic objectives –Long-term economic growth –Stability –Low inflation –Low unemployment –(Reduction in poverty and inequality) Important indicators –Productivity –Interest rates –Exchange rates –Balance of trade –Public borrowing Main macroeconomic objectives –Long-term economic growth –Stability –Low inflation –Low unemployment –(Reduction in poverty and inequality) Important indicators –Productivity –Interest rates –Exchange rates –Balance of trade –Public borrowing

Macroeconomic Performance Economic Growth and Fluctuations

Annual economic growth rate (%) UK Growth rates in the UK Source: based on data in OECD Economic Outlook (OECD)

Annual economic growth rate (%) UK EU15 Japan USA Growth rates in selected industrial economies Source: based on data in OECD Economic Outlook (OECD)

Source: based on data in Economic Outlook (OECD, various years) Output gaps in the UK: 1980–2007

Source: based on data in Economic Outlook (OECD, various years) Output gaps in selected countries: 1980–2007

Macroeconomic Performance Long-term Economic Growth

UK GDP at market prices (2001 = 100) Source: National Statistics time series data

Average annual growth rates 1997 to 2006

Y2Y2 O Price level National output (real GDP) AS AD P1P1 Aggregate demand and aggregate supply AD 2 AS 2 P2P2 Y1Y1

Y3Y3 O Price level AS AD P1P1 Aggregate demand and aggregate supply AD 2 AS 2 P2P2 National output (real GDP) Y1Y1 Y2Y2

The UK Economy How to increase aggregate supply? –More resources Investment Natural resources (e.g. oil) Labour (e.g. from migration or higher retirement age) Greater use of resources (e.g. longer working week) –Greater productivity of resources Investment in R&D Greater incentives for efficiency How to increase aggregate supply? –More resources Investment Natural resources (e.g. oil) Labour (e.g. from migration or higher retirement age) Greater use of resources (e.g. longer working week) –Greater productivity of resources Investment in R&D Greater incentives for efficiency

Productivity in selected countries (UK = 100) Source: Pre-Budget Report 2005 and 2006, Box 3.1, (H.M. Treasury)

Gross fixed capital formation as a percentage of GDP: 1960–2005 Gross fixed capital formation as a percentage of GDP: 1960–2005 Source: based on data in OECD Economic Outlook (OECD)

Macroeconomic Performance Inflation

UK inflation Source: based on data in OECD Economic Outlook (OECD)

UK EU15 Japan USA Inflation rates in selected industrial countries Source: based on data in OECD Economic Outlook (OECD)

Average (CPI) inflation rates 1997 to 2006 Source: based on data in OECD Economic Outlook (OECD)

Macroeconomic Performance Unemployment

UK UK unemployment rates Source: based on data in OECD Economic Outlook (OECD)

UK EU15 USA Japan Unemployment rates in selected industrial economies Source: based on data in OECD Economic Outlook (OECD)

Average LFS unemployment rates 1997 to 2006 Source: based on data in OECD Economic Outlook (OECD)

Macroeconomic Performance Balance of Payments

Source: Pre-Budget Report 2006, The Economy - Supplementary Charts and Tables, Chart 14 (H. M. Treasury) Balance of payments on current account

Macroeconomic Performance Policy rules

Fiscal policy –the Golden Rule over the economic cycle, the Government will borrow only to invest and not to fund current spending –the sustainable investment rule: net debt kept below 40 per cent of GDP over the economic cycle Fiscal policy –the Golden Rule over the economic cycle, the Government will borrow only to invest and not to fund current spending –the sustainable investment rule: net debt kept below 40 per cent of GDP over the economic cycle

Meeting the Golden Rule? Source: Pre-Budget Report 2006, Chart 2.4 (H. M. Treasury)

Meeting the sustainable investment rule? Source: Public-sector Finances Databank, Table A6 (H. M. Treasury) Percentage of GDP Public-Sector Net Debt as % of GDP

Policy rules Fiscal policy –the Golden Rule over the economic cycle, the Government will borrow only to invest and not to fund current spending –the Sustainable Investment Rule: net debt kept below 40 per cent of GDP over the economic cycle Fiscal policy –the Golden Rule over the economic cycle, the Government will borrow only to invest and not to fund current spending –the Sustainable Investment Rule: net debt kept below 40 per cent of GDP over the economic cycle Monetary policy –Bank of England independence –Inflation target: 2% CPI inflation ( 1%) in 24 months time Monetary policy –Bank of England independence –Inflation target: 2% CPI inflation ( 1%) in 24 months time

UK inflation

Current CPI inflation projection based on market interest rate expectations Source: Inflation Report November 2006, Chart 5.3 (Bank of England)

Issues But are we getting happier?

Issues Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work? Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work?

Index of Sustainable Economic Welfare (ISEW) 1950–96 (max = 100) USA Netherlands UK Source: New Economics Foundation/Friends of the Earth

Issues Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work? Poverty and inequality Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work? Poverty and inequality

Bottom 20% Next 20% Middle 20% Next 20% Top 20% 16% 23% 43% 11% 7% Size distribution of UK income after taxes and benefits by quintile group of households 1996/7 Source: The effects of taxes and benefits on household income. 2004/05 Economic Trends, May 2006, Table 26 (National Statistics)

Bottom 20% Next 20% Middle 20% Next 20% Top 20% 16% 23% 43% 11% 7% Bottom 20% Next 20% Middle 20% Next 20% Top 20% 12% 16% 22% 43% 7% Size distribution of UK income after taxes and benefits by quintile group of households 1996/72004/5 Source: The effects of taxes and benefits on household income. 2004/05 Economic Trends, May 2006, Table 26 (National Statistics)

Issues Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work? Poverty and inequality Social cohesion The environment Is GDP a good measure? –Does material gain = happiness? –What about bads? e.g. commuting costs –What about defensive expenditure e.g. security –What about hours worked and stress at work? Poverty and inequality Social cohesion The environment