An observer's view of the UK economy: Don't despair. There are signs of growth | observer editorial

The downside of living in a country with an unusually one-sided media is that it becomes increasingly difficult not to be influenced by the Labor government's disparaging lens through which to view the world. The same goes for the economy. The story is told with endless passion that a prime minister with too much power has made a series of mistakes and is risking economic stagflation.

The pre-Christmas statistical revision showing no economic growth between July and September is evidence of the Rachel Reeves-induced economic stagnation, while the sudden acceleration of private sector wage inflation to 5.4% is clearly a harbinger of inflation to come. The Bank of England halted further interest rate cuts despite falling business and consumer confidence. Investments remain low. According to the agreed narrative, the Labor government is clearly the sole cause of this worrying change in circumstances. The Prime Minister has denigrated the economy, exaggerating the perniciousness of the Tory economic legacy. Moreover, Labor has unleashed the devil on public sector pay by handing out generous settlements to doctors, nurses and railway workers, recklessly increased national insurance premiums by $25 billion and unnecessarily empowered workers with its proposed work agenda, thereby harming business. increased the cost. Typical labor.

Fourteen years of public sector pay pressures have reached their limit. Morale, retention and recruitment were at rock bottom.

But as bad as Reeves may have been, it was baffling that he saved too little for the political costs by immediately abolishing the pensioners' winter fuel allowance at the urging of Treasury insiders, while refusing to increase excise duty on petrol and diesel. There is no doubt that the financial and economic legacy she inherited was truly bleak. Likewise, contrary to the almost universal despair about the UK's economic outlook for 2025, there are grounds for relative economic optimism that are rarely made public.

First, Reeves was right to make big budget demands by daring to raise taxes by 40 billion. Public services from the NHS to the courts system needed to be funded on that scale to avoid falling into disrepair. Fourteen years of public sector pay pressures have reached their limit. Morale, retention and recruitment were at rock bottom and needed to be addressed. Businesses may not like the 25 billion increase in employer NICs, but consumer spending would have been dampened if other options had not been ruled out by, for example, a manifesto to increase employee contributions, income tax or VAT. This means that the company may not have liked either one. . Correcting years of misrule or, realistically, anarchy was no easy task.

There are more hopeful signs. Private sector wages rising at twice the rate of inflation now mean disposable incomes are rising for the first time in four years and have a promising impact on consumer spending. In fact, there are reports that the sluggish housing market is finally shaking up. Likewise, an overly criticized budget means the government has enough resources to substantially increase spending. The government is spending the cash it raises rather than hoarding it, so there is a net fiscal stimulus and some prospects for improved public services. This general increase in demand is usually accompanied by incentives for companies to invest. Especially because every pound spent on investments can now be fully offset against corporation tax under Tory chancellor Jeremy Hunt's plan, which Reeves has wisely maintained.

Business investing is like a cork in water. The longer it stays below the surface, the more it has a natural tendency to bounce back up. Whether it's office IT or machine tools on a factory line, systems wear out. These replacements cannot be postponed indefinitely, especially in an environment where demand is likely to increase and interest rates fall. The pause in interest rate cuts until the inflation outlook becomes clearer is an international phenomenon. There are expectations that interest rate cuts will resume as oil prices fall and global inflation falls, especially if peace deals are reached in the Middle East and Ukraine. After a long period of underinvestment, the odds are on the balance that there will be an uptick in 2025 to help growth prospects.

UK shares show the market is hesitant to support an economic downturn despite a barrage of negative commentary. Stocks are certainly not heading for sunny highlands, but they aren't plunging into a sea of ​​despair either. They demonstrate fundamental resilience. This is not surprising. Compared to other places, the UK stock market values ​​companies well below the value of the assets they own and the future profit streams they are expected to earn. As the government-initiated process of pension fund consolidation progresses, these larger funds will begin to buy the UK stocks they have been overly cautiously avoiding, especially when growth reemerges. Some savvy investment managers, including overseas investors, are now buying UK shares in hopes of such a recovery. There are prospects that a virtuous cycle of increased investment, growth and stock markets is indeed possible.

Pension fund consolidation is not the only long-term measure proposed by the government. Rebalancing plans to avoid actively hindering economic growth is long overdue. The Green Paper on Modern Industrial Strategy opens up the possibility of creating an architecture for business-government partnerships that will foster growth in sectors from the creative industries to life sciences, after numerous attempts failed over the past 14 years. Some of the worst barriers to trade with the EU could be eased.

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There are many uncertainties and risks, especially internationally, with the inauguration of Donald Trump and the ambitions of China and Russia to reshape the international order to their advantage. But such risks will face any government. As his biographer Tom Baldwin notes, Keir Starmer had a shaky start to other things in his career, but he finished them well. Although it is fashionable to criticize the possibility of him serving as Prime Minister again, there are good reasons to assume he will do so.

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