Academic journal article National Institute Economic Review

The UK Economy

Academic journal article National Institute Economic Review

The UK Economy

Article excerpt

Despite the pause in economic growth in the early summer in the United States and in the third quarter in the United Kingdom, this year is likely to see a fast rate of growth for the world economy. We have, of course, also seen rising fuel and raw material prices, with governments in fuel-using countries urging oil producers to raise output so as to keep prices down and ensure that this rapid growth is not jeopardised by high oil prices. Much of the economic growth is taking place in the Far East. We expect China to contribute 1.1 percentage points to the increase in world output this year despite representing, at international prices, only about 13 per cent of the world economy. The total contribution to growth from India and the Far East is expected to be 2.2 percentage points; this is 1.3 percentage points more than the United States contribution. In terms of trade too, although Germany is now the world's largest exporter of goods, China is, on its own, likely to account for 14 per cent of the increase in trade (exports and imports added together).

The belief that it is possible for the current rate of expansion to be maintained for very long needs to be questioned. It is not clear that there is much spare capacity in the world economy. It is also not clear that rapid growth is desirable. Scientists draw attention to the need to limit global warming and point out that immediate action is needed. The logic behind the argument and the scientific basis for it is very much stronger than was the concern about running out of natural resources which surfaced in the 1970s. It is difficult to see that reductions in carbon dioxide emissions are going to be facilitated by increasing world oil output to keep prices down. (1)

It is possible that oil output may be increased, providing short-term relief. But in the long run the best way for consuming countries to keep world oil prices down is to impose substantial taxes on oil products. (2) High market prices for oil impose a burden on the consuming countries, with the oil revenue being transferred to the producers. But high taxes mean that consuming countries are, in effect, able to keep the oil revenue for themselves to spend as they think fit. At the same time they give important incentives to people to reduce their fuel use. Non-economists, however, often find it difficult to understand questions of tax incidence--that taxes may be paid by people different from those from whom they are collected. It is therefore hard to see consuming countries, and in particular the United States, adopting a policy of new taxes on oil so as simultaneously to drive down the world price of oil and reduce fuel use.

Our own estimates of output gaps, based on a standard time-series methodology for the world economy suggest that, in the past two years, output has grown faster than trend and we do not see any evidence that there is still a substantial output gap. This does not, of course, mean that China's growth rate will slow to American or European levels in the near future, but it does carry the implication that world growth is unlikely to be as fast in the near future as is expected for this year; the very observation that it is high makes it seem unlikely that world economic growth can be maintained at the current rate for more than two or three years.

Meanwhile the rise in oil and raw materials prices is quite good evidence that supply constraints are starting to bite. A view is gaining ground that oil price increases are deflationary rather than inflationary and we regard this as highly dangerous. A high oil price diverts income from wages to the profits of oil companies and the revenues of oil producing states and for this reason is thought to reduce demand, at least in the short term. But because it reduces real wages and, if it persists, makes some forms of capital equipment obsolete, it also reduces supply. In the mid-1970s attention was focussed on the effects of the high oil price on demand; interest rates were kept tow and fiscal deficits were expanded as oil prices rose. …

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