Economic recovery should be driven by investment rather than consumption by better off households
Written in a personal capacity by Dan Corry, former Treasury and Downing Street economic adviser and Peter Kenway, Director of the New Policy Institute.
Is our economy really a ‘coiled spring’, with £250bn of unspent savings waiting to fuel a recovery to remember in the year ahead? This idea, kicked off last week by the Bank of England’s Chief Economist Andy Haldane, has now moved centre-stage with Keir Starmer’s proposal for a British Recovery Bond to use those savings in a more productive way. What a bond signifies here is a shift to an investment-led recovery rather than one driven by consumer spending from the better off segment of our society.
Haldane’s estimate of pent-up spending power is based on the Bank of England’s finding in its latest Monetary Policy Report that households had built up an extra £125bn in savings deposits between March and November 2020.
Based on an analysis of household spending during the first lockdown, we suggested the top fifth of households may have reduced their expenditure by £23bn over a three months period. Across all households, suppressed spending totalled £57bn. Household savings would be less than suppressed spending because household also lost income, though to a smaller extent. Something less than £57bn over three months of lockdown, and £125bn over eight months, half of which were locked down, are broadly consistent.
The graph shows how the estimated £57bn is spread both across the household income distribution (the bar on the right being the £23bn for the top fifth) and between spending categories. The biggest of these are holidays and accommodation, travel, transport and vehicles, and eating and drinking out.
Total estimated suppressed spending by UK households during a three-month long lockdown
Source: authors’ analysis of the Living Costs and Food Survey, 2018-19.
One question is how much of the pent-up saving will actually be spent. The Bank’s Monetary Policy Committee’s central estimate was that just 5% would be spent. The MPC also noted that only 10% of households had told Ipsos-Mori that their spending would be higher than before the pandemic.
Looking at the suppressed spending estimates shown in the graph, the biggest numbers are to do with holidays, accommodation, travel and transport. It is hard to see how this spending on these items can jump up much above what was happening pre-pandemic, at least in the short term.
But even if the number is smaller than optimists like Haldane think, what’s wrong with letting it happen?
The immediate answer is that a consumer-led recovery fuelled by pandemic savings will be unequal and unfair. As the graph shows, most of the spending will be made by households with above average incomes. It would also be very unevenly spread across the country, with spending per household in the South East of England (outside of London) being almost 50% higher than in the West Midlands and Northern Ireland. Letting it rip will do nothing for levelling up.
The deeper answer is that a recovery like this is not what is needed and is a missed opportunity. As country, we now need to face up to three connected challenges. The first is to reinforce and refresh our weary health service and to rebuild our chronically under-funded care services.
The second is to move as swiftly as possible towards a zero-carbon economy. Besides the industrial and transportation revolutions that this requires, we also a need a revolution in the energy efficiency of our housing and buildings.
The third is to allow economic sectors of the economy that have taken the hardest hit during the lockdown to recover within limits and possibilities of the new world of working at home and living locally ushered in during the lockdowns.
This requires a change of direction. An economic recovery driven by ‘old’ savings won’t make that change. Instead, the money needs to be deliberately channelled to uses which serve that end. Put this another way: we cannot reshape the supply side of the economy without reshaping its demand side too.
There are tax options for trying to get at these 'surplus savings' – although now would be the wrong time to implement them. But another way of doing this is to encourage some of these savings into bonds that are dedicated to helping rebuild soundly and fairly. We believe that the Government should now to launch a Covid Recovery Bond, aimed at UK residents with money to spare, who want to put that money to good use without actually losing it.
From an economic point of view, a recovery bond is not a device to help the government raise money – financial markets impose no constraints on that at least for now – but one that helps direct savings to productive uses. Instead of relying on an unbalanced consumer-led spending boom, the bond represents a switch to an investment-led recovery.
From a political point of view, the bond promotes the idea that this reshaping needs to be done and can be speeded on its way if those with unexpected savings devote them to this purpose. The challenge is to craft a message capable of persuading households to put their savings into such a bond rather than use them in other ways.
To do that, the Government would need a clear explanation of what activities the bond will help finance and a compelling explanation of why those activities should be a priority. It would also need clear arrangements so that investing households are confident they will be able to see how the money is being used.
Instead of sitting back and waiting for the uncoiled spring of consumer spending to drive the economy, the Government should use pandemic’s savings windfall not only to direct the economy along a new path but also to explain to the public where that path leads and why it is taking it.