Green Shoots Emerge From an Economic Train Wreck: Matthew Lynn

Looking for a country you can invest in that is both politically stable and likely to grow a lot faster than the global average in the next five years?

Forget the emerging economies of Asia and South America: They score fine on the second point, but not so well on the first. And you can rule out most of Europe: The euro crisis will snuff out growth for years. The U.S. won’t be much better with its budget and trade deficits.

The country you should be looking at is the U.K.

Its economy has been a mess for the past few years. The nation had an extravagant Labour government that was constantly raising taxes. There was an over-reliance on financial services. The trade and budget deficits kept getting bigger.

Now there are signs the U.K. is turning the corner. Britain’s currency, the pound, has weakened faster than those of most other major nations, allowing exports to become more competitive. Its new coalition government under Prime Minister David Cameron is proving to be skilled at getting the budget deficit under control. Except for a few rioting students, the British are getting used to belt-tightening measures. And the country can only benefit from the financial chaos that is emerging in the euro area.

It wasn’t a coincidence the U.K. economy crashed so badly in the past two years. In reality, Britain’s relative position had been declining for years. For the second half of the last decade, it was only a property and borrowing boom that kept the economy growing. The U.K. was a train wreck waiting to happen.

Good Numbers

Yet this year something striking has happened. The economy has expanded at a decent rate -- 0.8 percent in the third quarter, and 1.2 percent in the three months before that. Some credit should go to Gordon Brown’s Labour government, but whichever way you look at it, those are good numbers for a country hit hard by the credit crunch.

It looks set to continue. The Office for Budget Responsibility, the government’s fiscal watchdog, now predicts the economy will grow 2.1 percent next year, and by 2.6 percent in 2012. Again, those are very respectable numbers for an economy emerging from a financial crisis.

But the interesting question is whether the U.K. can outperform those expectations and grow much faster than most other economies. Here are four reasons why it may well do so.

Weaker Pound

One, the pound depreciated early, slumping against the euro as soon as the banking crisis hit. Go back to 2007 and the pound was trading at close to 1.50 euros. By the end of 2008, it dropped as low as 1.02 euros. It has recovered since then, mainly because the euro is so weak. The result, as the textbooks would say, has been that the U.K. is exporting again. September figures showed manufacturing expanding, and the trade deficit shrinking, as the U.K. sells more products to other countries.

It is, of course, just a start. But once a trend gets established, it tends to acquire momentum. And, as any German will tell you, there is no better way for an economy to dig its way out of trouble than to export more.

Two, the budget deficit is being taken seriously for a change. The general election this year looked messy, with no party securing an overall majority. But the coalition put together by Cameron is proving a lot stronger than most people expected. It has set out a five-year program of cuts to public spending that should bring the deficit down to manageable levels. The coalition is finding it a lot easier to make tough decisions than a Conservative government with a small majority would have been able to.

Lower Living Standards

Three, the U.K. is becoming more competitive. Average weekly earnings are rising at an annual rate of 2.2 percent. Inflation is running at 3.2 percent. So, in real terms, the British are accepting a cut in living standards. That’s painful when taxes are being raised. But there is no better way to make your economy more competitive than to reduce wages. It means the country becomes more attractive to global companies.

Four, the U.K. is outside the euro. Britain declined the opportunity to sign up for the single currency when it was introduced. As the euro lurches from crisis to crisis, that looks like a smart call. The U.K. is contributing to the Irish bailout but isn’t on the hook to rescue Spain or Portugal in the way that Germany and France might be.

That will make Britain a great base for global investors. Where’s that Indian or Brazilian company going to set up its European office? In Spain, where it has no idea what the currency will be in a decade’s time? Or Britain? It’s not really a very tough choice.

Royal Wedding

And if that wasn’t enough, there is a royal wedding to look forward to next spring. Last time, a young, photogenic and stylish princess did plenty for the tourist trade. There’s no reason to think Kate Middleton won’t be just as good.

Of course, there are risks. Cuts in government spending still have to bite, and may send the economy back into a slump. A struggling euro area may stop that export recovery in its tracks. Inflation is accelerating, and it may require big increases in interest rates to control it.

Nobody should start talking about an English Tiger -- or perhaps Bulldog -- just yet. But the U.K. is growing, and doing so without the easy stimulants of government spending and soaring property prices. If those forces gather strength, Britain might be one of the stars of the coming decade.

(Matthew Lynn is a Bloomberg News columnist and the author of “Bust,” a forthcoming book on the Greek debt crisis. The opinions expressed are his own.)

To contact the writer of this column: Matthew Lynn in London at matthewlynn@bloomberg.net

To contact the editor responsible for this column: James Greiff at jgreiff@bloomberg.net

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