BREXIT- more questions than answers

Over the next two months there will be increasing discussion about whether we will be better off in or out of the EU. Some of this will focus on the political aspects, for example the potential gains in sovereignty and our ability to gain greater control of our borders  versus our loss of influence were we to leave the EU. However the purpose of this article is to focus on the economic arguments.

In theory the case for and against leaving the EU should be an ideal opportunity to apply cost-benefit analysis, weighing up the monetary costs of leaving and comparing them with the monetary benefits and then seeing which are greater. However, in practice, this will not be easy to do. Even our contribution to the EU is not clear with the Leave Campaign focussing on the £18.3bn we paid in 2014/15 (which sounds a lot) while the Remain Campaign concentrate on the net contribution which is about £9bn, which, when divided by the population, works out at less than 40p per day (which sounds very little). There is little consensus on the overall cost or benefit of being a member. The National Institute for Economic & Social Research suggested, in 2004 that membership of the EU contributed about 2% to GDP, the CBI is suggesting that each household benefits by £3,000 per year while the  Institute of Directors thinks it costs us 1.75% of GDP to belong.

Even assuming that we could agree on the amount of our net contribution to the EU, we are not going to be able to quantify the costs and benefits we will face if we leave. Crucial to this figure will be the type of trade deal we are able to negotiate if we leave. Will the EU be keen to encourage trade with us and therefore allow us to negotiate a favourable deal or will they be keener to discourage others from leaving and therefore impose significant tariffs on UK goods entering the EU? Possibly a more important question, given that non-tariff barriers are of increasing importance,is whether or not we will be able to gain easy access for our services, particularly financial services, if we leave the EU? It is true that we run a deficit with the EU but we cannot infer from this that we will be able to negotiate  a favourable deal. Almost half our exports go to the EU while only about 7% of theirs come to us, therefore a favourable deal is far more important to us than them.

Furthermore,  the deal we eventually agree will involve us making a financial contribution to the EU as Norway and Switzerland do. How much will this be and how many of the regulations we currently have to meet will we need if we leave and how much will it cost us to do so?

Another key question is what sort of trade deals we will be able to agree with non-EU countries? We would have less influence negotiating individually than we would as part of the EU given that the EU market is almost five times as large as the Uk’s.

[An unbiased analysis of the various claims and a good source of data is thr Channel 4 Factcheck (

Economic Data

The collection of data about the economy is possibly not the most exciting element of economics however it is one of the most significant since, without accurate data, the Government and the Bank of England are unable to accurately assess the state of the economy and hence manage the economy.

Last week there were two interesting developments in the statistical world. The first was the announcement of two new measures of inflation which might shortly  replace the Consumer Price Index (CPI) which previously replaced the Retail Price Index (RPI). The new measures are CPIH – the consumer prices and housing index – and HHI – the household inflation index which aims to reflect the costs that households face so includes interest payments as well as the prices of goods and services. It is possible that CPIH might soon replace the CPI as the indicator used by the Bank of England. It is likely that CPIH will be slightly above CPI since housing costs tend to exceed the average rate of inflation. Therefore, if the measure is adopted, it is possible that the 2% target will change as well.

The other development involved an Old Brentwood, Sir Charlie Bean, who was interviewed on Radio 4 on Thursday. He was previously Deputy Governor of the Bank of England, and is now head of independent review of economic statistics, set up by the Chancellor of the Exchequer after problems with some government data, leading to many revisions.. His view is that economic data has not taken into account the changes which have taken into account the way the digital economy has changed we operate. For example,  a few years ago, when I booked a holiday, I would have gone to a travel agent and booked my holiday through them, paying them a commission which would have been counted in the UK’s GDP. Today I will go online and book my own flights and then go to Airbnb to book my accommodation. I might even avoid eating in restaurants and, instead, try one of the new schemes to eat in private homes. Similarly the way I obtain my home entertainment has changed – no longer do I buy CDs (or gramophone records!) but download music and, similarly, do not buy DVDs but use catch-up services for my TV viewing.  Not all of these transactions will be included in the GDP and Sir Charlie believes that the inclusion of such transactions might add as much as 0.66% per year to the UK’s GDP.



The UK Foreign Exchange Market

Too often in the study of economics, what is learnt in the classroom bears little resemblance to reality. Thus when learning about what determines a country’s foreign exchange market, one talks  about the demand and supply of currency and how these can be affected by confidence in the currency.This week’s movements in the foreign exchange market provide an example of this.  Following the EU negotiations and the announcements by Michael Gove and Boris Johnson that they were in favour of Brexit, thereby increasing its likelihood and the probability of increased uncertainty over the next few months, there was a significant fall in the value of sterling (from £1 = $1.44 to $1.41 once the markets opened over the weekend and a further fall this week to £1 = $1.38, the lowest rate against the dollar in 7 years.

The implications of the fall in the exchange rate for the economy are significant. Exporters will gain, particularly if they import relatively few components and raw materials. However consumers, particularly if planning a foreign holiday will lose out, as will retailers who sell imports and travel companies dealing in the overseas market.

Possibly most worrying should be the impact of the increased uncertainty and fall in the value of the pound on the financial account of the UK’s balance of payments (the section dealing with such things as lending, borrowing and the sale and purchase of financial assets). We have been able to run a current account deficit because foreigners have been happy to buy UK property, government bonds, shares, etc. If these flows start to diminish and the fall in the exchange rate is not enough to significantly reduce imports and increase exports, the impact on the exchange rate could be very interesting indeed.

The £:$ xchange rate over the last week


The Natural Rate of Unemployment

This is a concept which is sometimes not easy to relate to the real world and to the various categories of unemployment you have been taught.

According to Wikipedia  “The natural rate of unemployment is a combination of frictional and structural unemployment that persists in an efficient, expanding economy when labor and resource markets are in equilibrium.”

Alternatively you can regard it as  the rate of unemployment when the labour market is in equilibrium. Some people talk of  the difference between those who would like a job at the current wage rate and those who are  able to take a job. The key feature here is that there are some workers who would like a job but are NOT able to take it since they lack the right skills and are structurally unemployed. It is a supply side approach rather than a demand one.

The natural rate will be affected by skills and education since the quality of education and retraining schemes influences occupational mobility. Geographical mobility is also important. How flexible the labour market is will be significant as will loss of skills over time (hysteresis) and the availability of job information (influencing frictional unemployment).