The U.K. government under Prime Minister David Cameron and Chancellor of the Exchequer George Osborne has championed austerity, rather than Keynesian pump-priming, as the solution to the economic downturn. Now Britain’s own bruising experiment with austerity is starting to pay off.
Figures released on April 29 show the economy expanded 0.8 percent in the first quarter, up from 0.7 percent in the fourth. That performance puts Britain on track to have the fastest-expanding economy among the Group of 7 developed nations this year. The economy grew at an annual rate of 3.1 percent as of the end of the first quarter.
Public spending cuts, zero interest rates from the Bank of England, and the resigned acquiescence of ordinary Britons have contributed to the rebound, which has bolstered the ruling Conservative Party. A jobless rate of 6.9 percent compares with 11.9 percent across the euro zone.
Cameron and Osborne were derided for claiming that businesses would absorb the civil servants they were laying off. Yet while public-sector employment is down 13 percent from its September 2009 peak, the number of private-sector jobs has increased by almost 10 percent in the same period. According to its March budget figures, the government’s austerity program has cut spending by £64 billion ($108 billion), with total savings projected to reach £101 billion by fiscal year 2015-16.
The Bank of England has helped Cameron and Osborne by keeping interest rates at a record low of 0.5 percent since March 2009. Governor Mark Carney, who took over at the central bank in July, hasn’t hiked rates even after unemployment dropped below the 7 percent threshold he’d set as his trigger for considering an increase.
The recession hurt many Britons. Real incomes fell to their lowest in a decade as workers swallowed pay cuts to keep their jobs, even as food and energy costs climbed, according to the Institute for Fiscal Studies. The Trussell Trust, Britain’s biggest operator of food banks, says the number of people on low incomes and government benefits that it helped last year rose 163 percent.
Still, wages are finally growing for the first time in three years. For homeowners who haven’t lost their jobs, those low central bank rates have held down mortgage costs, while the 9.1 percent annual increase in U.K. house prices recorded by the Department for Communities and Local Government in February has boosted consumer confidence. Regional variations in house prices show that the recovery has disproportionately benefited southeast England, the richest part of Britain, with London at its center. Londoners have enjoyed a 57 percent jump in home values in the past five years, more than double the increase seen by the rest of the country.
“The economy has now chalked up five successive quarters of expansion,” says Ross Walker, an economist at Royal Bank of Scotland. He expects the first-quarter gross domestic product figures will “reinforce the case” for unchanged rates, “given the BoE’s innate caution and dovish bias.” That’s where the shoe might pinch. An acceleration in growth and renewed fears of higher inflation might yet force Carney to raise rates faster than investors are assuming. Higher rates would test the strength of the recovery as Britain heads for national elections in 2015.