Last month, the White House Council of Economic Advisers released a take note comparing inflation rates between the Group of 7 — the main advanced economies. This is more difficult than it seems, because different countries measure consumer prices in different ways. Notably, the US Consumer Price Index treats housing differently than the corresponding official measures of European nations, in ways that have made US inflation seem more persistent than in some ways it really is. When the CEA produced comparable numbers, they looked like this:
America is now a clear outlier, with inflation falling well below rates in other major economies. And this chart does not include the most recent consumer price report, which showed a further decline in inflation and likely widened the gap.
But while the US appeared as an inflation outlier in a good way, the UK appeared as an outlier in a bad way. UK inflation is still running hot, with few clear signs of progress. And Britain also had a particularly weak recovery from the pandemic recession. Here is a diagram of Simon Wren-Lewis:
So what happens to Britain?
Warning: I will be more leery than usual in today’s newsletter, somewhat raising questions rather than giving definitive answers. There are two reasons for my distrust. One is that I don’t know the UK data and institutions as well as the US ones. The other is that Britain’s recent poor economic record is in some ways really puzzling. British economists whose judgment I generally trust, such as Wren-Lewis, also seem a little confused by how badly things are going. Recent reports from the International Monetary Fund, which normally project an air of certainty, use words like “confusing” to describe British developments.
In particular, single-cause explanations like “It’s all about Brexit” or “It’s all about right-wing ideology”, as much as I’d like to accept them, seem to be lacking.
So what can we say about Britain? Overall, the political response to Covid and the initial effects of that response were similar across the advanced world. The pandemic temporarily disrupted economies: Lockdowns and general fear of infection kept many people from working, a shift in demand away from personal services to goods (for example, buying exercise equipment instead of going to the gym) overstretched supply chains, etc. on. The Russian invasion of Ukraine, which raised food and energy prices worldwide, also temporarily impoverished economies.
Governments, however, intervened to limit the economic difficulty by helping the unemployed, subsidies to companies to maintain their payrolls, etc. What this meant was that purchasing power was sustained even when economies’ abilities to supply goods and services temporarily fell. A burst of inflation was the natural consequence, and probably a good thing, given the alternatives.
But at this point the initial shock of the pandemic has largely faded — and economic outcomes have begun to diverge. In the eyes of an American economist who has been following the data since Covid struck, UK post-pandemic developments look remarkably like what we feared would happen here, but didn’t. We worried that the Great Recession would persist, reducing long-term labor supply; America instead exceeded pre-pandemic projections for employment, but Britain did experience what looks like a permanent reduction in labor force participation. We were concerned about a wage-price spiral that hasn’t happened here but might be happening there. We worried about “scarring” that would leave the economy on a permanently lower growth path, which, again, hasn’t happened here but might be happening there.
Why this divergence? Was it Brexit? Most economists, myself included, expected Britain to leave the European Union impose efficiency losses amounting to a few percent of the gross domestic product. Although the UK has fallen around 5 per cent behind comparable countries since Brexit, some of that is likely reflects other factors (see below), so those early estimates still look defensible. And this hit to efficiency is certainly part of Britain’s problem.
That said, one widely predicted result of Brexit – a reduction in UK labor supply as a result of reduced immigration – did not happen, or at least it did not happen as many had predicted. The latest IMF country report on Britain, published just last week, contains a remarkable chart about foreign-born workers in the workforce:
Britain receives fewer European workers, but seems to have more than made up for the difference by letting in more workers from other parts of the world. Now, these workers may not have the same set of skills, and a shortage of certain types of immigrant labor may be a factor in inflation. For example, the Office of National Statistics of Great Britain suggests that one reason food prices have risen so much is a labor shortage, “which has left some crops unharvested.”
However, while Brexit is likely to have been a factor in UK inflation, it is clearly not the whole story. Nor is it the most distinctive aspect of the British divergence. That honor goes to a sharp fall in the percentage of hard-working Britons participating in the workforce, which the usually cautious IMF calls “spike” in inactivity. Here’s what the numbers look like for the UK:
There has been a large increase in the percentage of British adults neither working nor looking for work, particularly, though not only, among those over 50. Here, by contrast, are comparable numbers for the United States:
There was only a small increase in inactivity among older adults, none at all for other groups, and, thanks to lower unemployment, the percentage of older Americans actually working did not decline at all.
One caveat: These charts show changes, not levels. Even now, adults in the UK are more likely to be in the workforce than their US counterparts:
The truth is that America has big, long-term problems providing jobs, especially in backward regions. But these problems have not gotten worse since the pandemic, while Britain’s problems have. Why? According to surveys, the UK, unique among major advanced countries, has seen an increase in older adults leaving the workforce due to long-term illness – again, something we feared would happen here but didn’t.
Which brings me to the crisis in Britain’s National Health Service, a national icon that appears to be suffering from both inadequate funding and poor management. Why have things gone so wrong for the NHS?
Well, that’s a big topic in itself — and one that I feel like I need a lot more research into before factoring in.
So let me come back to that topic another day, and end this newsletter with a kind of meta-lesson from Britain’s problems: Managing an economy in the face of severe shocks is difficult. Britain seems to have done this job badly; America, whatever critics of the current administration may say, seems to have handled Covid and its aftermath relatively well.