Wednesday, August 10

Boris Johnson’s Departure Has Left The World’s Fifth Biggest Economy In Crisis.

Boris Johnson will resign as UK prime minister Thursday after dozens of members of his party quit the government. But his popularity outside parliament has also been badly dented by surging inflation and stagnation in the British economy, a cost-of-living crisis that threatens to impoverish millions more people this winter, and the risk of a damaging trade war with the European Union.

UK stocks surged, and the pound gained 0.75% to trade at $1.20 — recovering slightly from two-year lows hit earlier this week. “Make no mistake however, the [pound] remains severely weak due to the dire state of the UK economy which is underperforming its peers, [and] likely to enter into a recession,” wrote Walid Koudmani, chief market analyst at broker XTB, in a note to clients. Whoever emerges from the rubble of his administration as new leader of the Conservative Party and the country will face extraordinary economic and financial challenges.”

 

The UK has the highest inflation in the G7…

Every major economy has been affected by the pandemic’s lingering effects on supply chains, and Russia’s invasion of Ukraine in February. But the United Kingdom has suffered more than most of its peers. Inflation hit a 40-year high in May—the highest among the G7 leading economies—and is expected to climb above 11% later this year despite a series of interest rate hikes. The United Kingdom’s departure from the European Union — Prime Minister Johnson’s signature achievement in government — has exacerbated crippling labor shortages and increased operating costs for businesses. The cost of imports has also been driven higher by a sharp fall in value of currency this year.

Rising food and fuel prices have created the worst cost-of-living crisis in decades. Anti-poverty campaigners are demanding more government support for lower-income households, who choose between “heating and eating” as they struggle to pay their energy bills. Prime Minister Johnson’s government promised £400 ($502) in grants per family to help out those millions of people struggling to pay their energy bills. It also bowed to pressure last month and unveiled a £5 billion ($6.3 billion) tax on the windfall profits of oil and gas companies.

The decline of disposable finances is the backdrop for the second-greatest fall in history, according to the Bank of England, caused by inflation due to the flourishing costs of energy and food. And these big-ticket items are only likely hop up in the future.

Household energy bills could rise by about 50% to £3,000 ($3,600) this winter as a price cap on the maximum amount suppliers can charge customers is revised in the fall. The regulator already raised the cap by a whopping 54% in April. British households have been left particularly exposed by a persistent decline in living standards. Typical wages are no higher today than they were before the 2008 financial crisis, according to a report released Monday by the Resolution Foundation, a London-based research group that focuses on living standards and inequality issues. “Britain’s poor recent record on living standards—notably the complete collapse of income growth for poor households over the past 20 years—must be turned around in the decade ahead,” said Adam Corlett, principal economist at the foundation.

 

And is heading for the lowest growth…

Without stronger growth, that slump will not be reversed. Additionally, there is very little likelihood of that changing anytime soon. Around the world, once robust recoveries are being dragged down. But the United Kingdom is in a particularly bad spot, with a recession right around the corner.

The economy ground to a halt in February and started shrinking in March. The decline accelerated in April, when GDP is estimated to have fallen by 0.3%, with all three major sectors of the economy — services, manufacturing and construction — going backwards. Retail sales fell in May for the second consecutive month. The Bank of England said that the outlook for the UK economy had “deteriorated materially.” The Paris-based Organisation for Economic Co-operation and Development forecast last month that the UK economy was heading to stagnation, with zero growth in GDP forecast for 2023. That would be the worst performance in the G7 next year.

Reduced growth is bad news for the public debt, which has risen to over 90 percent of GDP as a result of actions taken by government agencies and private companies to cope with the outbreak of the coronavirus and the need to worry about energy dependence.

The UK’s public debt is on “an unsustainable path and projected to surpass 250% of GDP over the long term,” the government’s fiscal watchdog—the Office for Budget Responsibility (OBR)—said on Friday. This means there’s little room for the next prime minister to make big tax cuts or spending pledges. “This all adds up to a challenging outlook for this and future governments as they steer the UK economy and public finances in the years ahead,” the OBR added.

 

… while Brexit hasn’t delivered

The White House conducted negotiations with the United Kingdom where Theresa May did not succeed. But the break with the European Union has not delivered what Johnson and other advocates of Brexit had promised. The UK has lost out significantly on the recovery of global commerce since the outbreak of the COVID-19 pandemic, the Office for Budget Responsibility (OBR) concluded in March.

For many businesses, the tariff-free trade deal Johnson signed with EU leaders less than two years ago has caused a huge increase in customs paperwork, making it harder for them to sell to their biggest export market and increasing the cost of imports. And deals signed with other countries barely move the needle. The Office for Budget Responsibility stated that “while additional trade with other countries could offset some of the decline in trade with the EU, none of the agreements concluded to date are of a sufficient scale to have a material impact on our forecast.” Data released last week showed that Britain’s balance of payments deficit soared to 8.3% of GDP in the first quarter of 2022, meaning that country is having to rely ever more heavily on foreign investment to make up for the fact that it is importing far more than it exports.

Given this background, the pound’s value has been hurt throughout this year, not helped by accusations by Johnson in regards to the potential to ruin the withdrawal treaty he signed. This has upset how the European Union views itself, causing between the EU and Great Britain talk that could potentially be a return to the trade dispute that ultimately does the UK the most damage.

“Judging by the early line-up of potential successors to Johnson,” noted Kallum Pickering at Berenberg, “the balance of potential outcomes would tilt towards less strained relations with the EU. Even the ardent Brexiteer candidates—such as Dominic Raab and Jacob Rees-Mogg—are less of the populist variety than Johnson. This suggests that while it is unclear whether UK-EU relations would improve a bit or a lot, the overall situation stands to be much calmer.”

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