Jeremy Hunt needs to heed importance of investment for a stronger economy
Next week sees the first UK Autumn Statement since 2015 that has not had the backdrop of either a global pandemic, Brexit negotiations, or the market fall-out from a botched Mini Budget. Simply reeling off that list of events gives a sense of the turbulence that businesses have had to contend with as they have considered making long-term investment decisions. With two wars of global significance now raging, and flatlining European economic growth, 2023 has been little easier. This is why – to the Chancellor, Jeremy Hunt’s credit – he is trying to ignore the siren voices of sugar rush economics. Tax cuts to support consumer spending may be electorally popular, but it also risks reigniting domestic inflation as real income growth returns to the UK. A far smarter use of any limited financial headroom presented to him next Wednesday would be to encourage business investment – the most durable route to stronger UK growth.
Three stark data points illustrate the scale of the problem of getting investment coursing into the veins of the UK economy. First, since 1993 the UK has allocated just 18% of its economic activity to public and private investment. Across the rest of the G7 this has averaged 21%. Three per cent a year may not sound like much of a difference, but compounded over three decades it has left the UK with a creaking capital stock, and at a competitive disadvantage. Second, since 2016 private sector investment has grown by just 7.6% in the UK, compared to 18.4% in the Eurozone, and 21.3% in the US. When appraising the impact of Brexit this is one of the more persuasive data points for identifying a large and persistent scar. Third, the cost of raising investment capital on UK stock markets has moved out to a level last seen in the late 1980s. This valuation discount to global equity – that I estimate at around 23% – is stopping existing public companies raising new investment capital in the UK and growing private companies from evolving into the public companies of the future.
The impact of these three dispiriting data points is felt by all Britons. From the infrastructure we utilise, to sluggish productivity and real wage growth, through to the performance of our savings and pensions. This is why at the Autumn Statement there is growing speculation that the Mr Hunt will extend a policy of full expensing for tangible investment beyond the three years he initially announced back in the March Budget. Full Expensing – the offsetting of investment spending on plant and machinery against Corporation Tax liabilities – is what businesses have long-asked for. Its introduction earlier this year was widely welcomed as an antidote to a higher Corporation Tax rate. However, there was a sense that by limiting it to just three years the Chancellor was being both cute with his own financial rules, and rather blind to the nature of business investment. This form of spending typically has a longer horizon than just three years. If Hunt and his boss, the Prime Minister Rishi Sunak, want to be true to their Conference slogan of “long-term decisions for a brighter future” then a rolling extension where businesses hang on each fiscal event is not the way to do it. Moving to an open-ended policy for full expensing shows an awareness by government of how to support growth in the economy, not just how to game their accounting rules.
Full expensing at this juncture also provides a lubricant to the huge rotation going on, in the aftermath of the COVID-19 pandemic, in the UK economy. One of the reasons that the economy has been so hard to forecast in recent years is that seismic shifts in the patterns of behaviour have taken place from greater adoption of remote working, changing patterns of retailing and immersive leisure experiences, to leveraging AI capability in professional services, education and healthcare. The challenge for a mature economy is to allow its capital stock to sunset in areas of declining demand and rise in these new areas. Full expensing is the oil in the engine of that adjustment. Full expensing also has two further advantages at this juncture. Primarily as businesses are adjusting to a higher interest rate environment there will be a natural caution of what the new hurdle rate for investment is – the rate of return needed to justify any investment. It is rational to believe that with businesses now borrowing at 7%-8% – compared to the 3%-4% they could just two years ago – this will have a chilling effect on investment. Open-ended full expensing helps soften that adjustment. Second, it is difficult for the Treasury to know right now whether the recent spike in company insolvencies to their highest level since 2009 are pent-up insolvencies from the pandemic, or an early sign of a hard economic landing ahead. Full expensing provides something of an insurance policy against that more worrying outcome.
But the ultimate prize here is bigger and one that MPs – from all parties – can support. The UK economy has become too reliant on consumption and the consumer over the last four decades. This has diluted the quality and durability of economic growth as low productivity and stagnant wages have made imported low inflation from developing economies an essential backdrop for growing the economy. But the geopolitical backdrop has altered. China no longer can be assured to provide goods disinflation; Russia no longer can be relied on for cheap energy; the US is heavily subsiding its business investment through the Inflation Reduction and Chips Acts – as well as actively courting UK companies to relocate. This month’s Global Investment Summit in London implicitly recognises this global competition for capital has moved up a couple of notches and the UK must be active in the fight. At this event the UK government will be laying on all the soft power influences to make its case. Ahead of that set-piece, the Autumn Statement shouldn’t lose sight of investment decisions made rather closer to home.
Published on The Times 13/11/2023