THE BLOG

The UK Really Is Living Beyond Its Means - In the Global Economy

01/04/2015 15:35 BST | Updated 31/05/2015 10:59 BST

When politicians and economists talk about the government's budget deficit, they often say that the UK is 'living beyond its means'. That is debateable, and will doubtless be subject to fierce argument as the election approaches. What is indisputable, though, is that in the global economy the UK is really living beyond its means. The Office for National Statistics has today released its first estimate of the UK's current account balance in 2014. This shows a deficit of £97.9 billion in 2014, up from a deficit of £76.7 billion in 2013. The deficit in 2014 was equal to 5.5 per cent of GDP, the largest annual deficit as a percentage of GDP since annual records began in 1948.

Back in November last year, the OECD forecast that the UK would have a current account deficit of 4.8 per cent of GDP in 2014. Of the 34 OECD countries, only Turkey, with a forecast deficit of 5.4 per cent was expected to have a worse outcome. After today's figures, it is quite possible that the UK has the largest current account deficit of any advanced economy.

The reason for this truly awful performance is that the economic recovery has not led to a better balanced economy. It was hoped that, as the economy grew, a reduced contribution from government spending would be offset by strength in exports and business investment (rather than consumer spending). What has actually happened is that although business investment has grown at a reasonable pace, the recovery has been reliant on consumers. Exports have undershot expectations.

In his 2012 budget, the Chancellor set a target for UK exports to double by the end of the decade, from £499 billion in 2011 to £1 trillion by 2020. In 2014, exports totalled £500 million, virtually unchanged from their level in 2011.

This poor performance cannot all be blamed on the problems of the Eurozone. Since 2011, UK exports of goods (regional data on exports of services are not yet available) to the rest of the world, other than the EU-28 countries, have increased by just 0.2 per cent. Exports to China are up 31 per cent over the last three years - but that is a reflection of the strength of demand in the Chinese economy. Other countries have done even better. Meanwhile, the UK's gains in China have been offset by falls in exports to other non-EU markets.

It is not just a matter of how we have performed since the recession, however. Our export problem is deeper than that. IPPR analysis of the UK's trade performance shows that, barring a small number of successful industries, such as finance, aerospace and automobiles, the UK lacks the capacity to produce significantly more goods and services for export. This is the result of a hollowing-out of the UK's industrial capacity that has been going on for the last 35 years.

An improvement in export performance, and a narrowing of the current account deficit, requires the UK to develop a competitive advantage in a broader range of goods and services. This will only happen if the next government adopts an explicitly pro-export industrial strategy.

We have argued that one way to broaden out the UK's export capabilities is to back existing and emerging industrial clusters. Clusters are proven areas of competitive advantage and so well placed to develop new goods and services that will improve the UK's industrial capacity and export potential. Three factors are crucial to the success of a cluster: strong networks, a high level of innovation and a skilled workforce. The government should provide help on all three fronts.

Unless the next government is prepared to focus on clusters and other potential new areas of competitive strength, the UK's export performance will remain poor and the current account deficit wide. For now, the rest of the world seems happy to let us live beyond our means in the global economy. But no one knows how long this will last. Better to have an industrial strategy designed to boost exports and reduce the deficit than to find out.