Wednesday, 4 January 2017

My predictions for 2017 (from the FT Economists' survey)

The Financial Times annual survey of leading British economists' predictions, views and forecasts for the year ahead was published on January 3. Last year (that is, in January 2016) this is what I said about Brexit: 
Q2: Brexit: If the British electorate vote to leave the EU in 2016, how would that: a) change your views about prospects for next year? b) Change your views about medium-term prospects?
I'd divide this into three:
a) short-term: relatively little visible impact. No doubt there would be some turbulence in financial markets, but I doubt we'd see much impact on the real economy in the very short-term (ie next year).
b) medium-term (ie the period of the negotiation over terms of exit and post-exit relationship between the EU and the UK, lasting at least 2 years). Significantly negative. These negotiations would be protracted, complex and probably acrimonious, leading to considerable uncertainty for both UK companies trading with the EU and international investors (not to mention EU citizens resident in the UK and vice versa). All this would be likely to have a substantial and negative impact on business confidence, business investment, FDI, and possibly trade and migration.
c) longer-term (post the negotiations and any transition) — impossible to forecast with any precision at this point, given we have very little idea of what the outcome of the negotiations in b) would be. The UK could undoubtedly survive and prosper outside the EU, and in some respects (flexibility on some aspects of trade and migration policy and regulation, reduced contributions to the EU budget) might benefit; but there are obvious and serious risks, in particular to trade in services (including financial services) which are vital to the UK economy and will become even more so in the next few decades.
Below are my detailed predictions from this year.  I'm not a forecaster (and we have seen this year just how unreliable short-term forecasts can be) but they represent my best effort at providing some meaningful analysis of what we can expect over the next year.  Come back next January...
1. Economic prospects
How much, if at all, do you expect UK economic growth to slow in 2017? Please explain your answer.
I would expect it to slow somewhat in the first half of the year. What happens in the second half depends very much on developments with the Brexit negotiations (as well as events in the US and elsewhere in Europe). We could see reasonable if not spectacular growth, but downside risks are large

2. Brexit
Compared to what you thought 12 months ago about the UK's long-term economic prospects outside the EU, are you now more optimistic or more pessimistic than you were?

Please explain your answer.
The strong consensus amongst economists is that Brexit will make the UK significantly worse off in the medium to long term - not disastrously so, but significantly. This is backed up by a considerable body of theoretical and empirical evidence. Of course, this evidence is based on historical data, and past is not necessarily prologue; there is a high degree of uncertainty. But the probability must be that Brexit will make us worse off. It is also important to note that while economic developments since the referendum have certainly not borne out the pessimistic forecasts of some institutions, that really tells us almost nothing about long-term impacts - short-term forecasts are made using very different methodologies to those used to estimate long-term impacts, and (paradoxically) are much less reliable.

3. Inflation
Inflation has started to increase in recent months. To what extent do you expect inflation to rise in 2017?
If the exchange rate stays where it is to about 3%. However, if it falls a lot farther inflation could rise more (or conversely)

4. Monetary policy
In December, the Monetary Policy Committee said the next interest rate move could as easily be up as down. Will there be a shift in this monetary policy stance by the end of 2017? Please explain your answer.
It is difficult at the moment to see the next move being down , even if the economy worsens. Barring negative shocks (which are quite possible) I'd expect the next move to be up.

5. Immigration
Immigration is likely to be central to the Brexit negotiations in 2017. How much do you think immigration will change and what effect do you think this will have on the UK economy?
My recent research suggested that EU migration to the UK could fall by well over half over the period from now to 2020, resulting in net EU migration falling by more than 100,000. Both the state of the economy and the existence of free movement of workers are significant determinants of migration flows. In particular, free movement with the UK results in an increase of almost 500% - that is, by a factor of six. It follows any significant restrictions on free movement will reduce those flows. I also used the existing empirical research on the impact of migration on productivity, growth and wages to estimate the broader economic impacts of such a reduction. Over the period to 2020, the resulting reduction in GDP would be about 0.7 to 1.3%, with a GDP per capita reduction of 0.3 to 0.8%. By contrast, the increase in low-skilled wages resulting from reduced migration is expected to be relatively modest.

6. Fiscal policy
Philip Hammond is expecting government borrowing to fall in 2017. His new fiscal rules provide headroom for more borrowing than currently forecast. To what extent will he need to use it and why?
The OBR's fiscal forecasts look relatively pessimistic; however the economic ones may be too optimistic. Moreover, current spending plans for health and social care (and perhaps education) look unrealistic. The NHS is clearly significantly underfunded (it is basic economics that a richer, older society should, from the point of view of overall welfare or wellbeing, spend a greater proportion of GDP on health over time - the reverse has been the case over the past few years.) It is not clear that such spending increases should be financed by borrowing, but the government is unfortunately committed to a set of tax cuts that have little economic rationale and will mostly benefit the relatively better off. Some discretionary increase therefore seems likely.

7. Donald Trump
How do you think Donald Trump's presidency will affect the UK economy in 2017?
This is exceptionally uncertain, for obvious reasons. However, it does look likely that US interest rates may now begin to rise steadily. This will put some downward pressure on the pound and upward pressure on UK long-term rates, which may well be unwelcome.

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