How strong an economy will the next government inherit?

The value of the pound shot up after news that the UK’s rate of inflation had eased in May to the Bank of England’s target of 2%, for the first time in three years.

The Office for National Statistics (ONS) revealed that Consumer Price Index (CPI) growth fell from 2.3% in April, “delivering a fillip” to Rishi Sunak as he tries to “turn around his struggling election campaign”, said the Financial Times. “The figure marks a milestone for the UK economy after the worst inflationary upsurge in a generation.”

However, sterling “eased back slightly” after it emerged that, despite easing in CPI, services inflation was “stickier than expected”, said Sky News. That fell to just 5.7% in May – higher than forecast, which reduced the chance that the Bank of England (BoE) would cut interest rates in June. The Monetary Policy Committee is now expected to keep interest rates at a 16-year high of 5.25%.  

What did the commentators say?

The figures are a “rare nugget of good news” for the prime minister, who called the general election on the day the April figures were published, said Politico‘s London Playbook. Inflation is “back to target“, said Sunak, “and that means people will start to feel the benefits and ease some of the burdens on the cost of living”. 

Taking credit for that was “a piece of chutzpah” from Sunak, said Sky News business presenter Ian King. But unless there is a “major global shock”, nothing like the peak inflation of 11.1% in October 2022 is expected again “any time soon”, said business reporter Daniel Binns. The housing market is also continuing to “show signs of recovery from the slowdown in late 2022 and 2023”. 

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But rents – which recently hit a record high – are continuing to increase, according to the ONS. The economy has also not yet dealt with the effects of attacks by Yemen’s Houthi rebels on cargo ships in the Red Sea, said assistant economics professor at Durham University, Michael Nower, in The Conversation. Shipping costs are up 150% since December 2023 – which will continue to “feed through into inflation”. Domestically, “productivity growth remains persistently low”.

In terms of business, “the economic lifeblood of the UK is actually strong”, said Michael McLintock, the chairman of city investor group The Investor Forum. The UK has the most unicorns (start-ups with a value of at least $1 billion) in Europe. 

But “three decades of regulatory creep” has “diluted Britain’s risk appetite and fuelled a vicious cycle of lower returns and lower growth”, said The Telegraph‘s economics editor Szu Ping Chan. 

The 2008 recession “reinforced a growing culture of risk aversion that leading figures in the City warn will be hard to unpick”. A lack of capital and investment has also left the UK “increasingly dependent on immigration to grow the economy”.

Britain is actually “starving” for public investment, wrote academic Adrian Pabst in The New Statesman – with some of the “lowest levels” in the West”. A new IPPR report this week, titled “Rock Bottom”, placed the UK 35th in the 38-country OECD. 

But the fiscal target of limiting the annual budget to 3% of GDP, and reducing it over five years, “acts as a further brake” on investment. But this “stale fiscal orthodoxy” discourages the very thing on which “higher economic growth, higher productivity and higher living standards depend”. And judging by both parties’ manifestos, it looks set to continue. “At a time when Britain needs to revive an active state, this is a self-imposed straitjacket.” 

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What next?

The BoE expects inflation to “tick up again later this year”, which could contribute to “caution” in cutting interest rates, said Binns. Most predict the BoE may delay cutting interest rates until September.

But at the end of the day, wrote John Stepek in Bloomberg UK’s Money Distilled newsletter, “whether there’s a rate cut in August, September or even as late as November (gasp!) will make very little difference to the personal finances of anyone who isn’t a City trader.” The chances of rates returning to levels typical in the 2010s are “extremely low”. Neither Starmer nor Sunak will get them down to sub-1% rates – “a good thing, by the way”, to avoid another financial crisis.

The longer-term impact of artificial intelligence should not be discounted, said Nower in The Conversation. “The AI revolution, which the UK is embracing” is predicted to have a similar impact to the so-called “ICT revolution”, which contributed to a fifth of UK GDP growth from 1989 to 1998.  

But whichever party becomes the next government, it “needs to put forward a credible 10-year plan of public investment to the tune of 5% of GDP a year”, said Pabst. “Only then is there hope for a genuine decade of national renewal.”

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