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Does the state of the UK economy inspire confidence? An expert crunches the numbers

The most recent UK inflation figures, released towards the end of May 2024, saw a drop in the official rate of price rises to 2.3%, not that far off the Bank of England’s target level of 2%. Jeremy Hunt, the chancellor of the exchequer, said the figures were encouraging.

Later that day, the prime minister was apparently so encouraged that he announced the date of the next general election. Rishi Sunak claimed that the British economy was “growing faster than anyone predicted” and that his plan was working.

So just how encouraged should UK residents be about the state of the economy? According to the figures, it depends on their level of income.

When it comes to inflation, for example, there is good news for the poorest households, with falls in the price of energy (down 27%) and transport (down 0.1%) compared to a year ago. There are also smaller rises in the price of food and drink (down from 4% to 2.9%), residential rental costs (3.1% to 2% ) and communication, including mobile phones (7.6% to 4.1%).

On earnings, the combination of the April 2024 rise in the “national living wage” and the recent fall in the rate of national insurance means that a person working 35 hours a week at minimum wage is now taking home 9.4% more than they were in April last year.

Most price rises are lower than this increase – some significantly – meaning that people on the lowest incomes are better off in real terms than a year ago.

For higher income households the picture is less positive. People who own their homes face larger price rises (6.6%) for mortgage payments, home insurance and maintenance costs.

There were also bigger increases in the cost of eating out or staying in a hotel (6.1% v 5.9% in March), as well as in the price of health services, including private healthcare, nursing home fees, prescription costs and everyday medicines (6.8% v 6.7% ). Inflation in recreational and cultural activities remains high at 4.6%.

Persistently high inflation for services, which did not fall as much as the Bank of England expected, also reduced the likelihood of a fall in interest rates in June 2024. This means that reductions in mortgage rates will come much more slowly, given how closely those two rates are linked in the UK.

In the short term, this pattern of greater optimism for poorer households and less optimism for richer households is likely to remain. Increased labour costs brought about by the higher living wage will lead to further rises in the cost of services, which form a much larger part of consumption by richer households.

Longer term, there is perhaps more cause for optimism for richer households, with the IMF predicting up to three interest rate cuts this year.

But the UK economy is yet to deal with the effects of the attacks on cargo ships in the Red Sea, with some shipping costs up 150% since December 2023. This will feed through into inflation over the coming months.

Work pressure

Current job vacancies in the UK are concentrated in retail, hospitality and health and social care work, all of which are heavily reliant on workers on lower incomesResearch suggests that the large number of vacancies should translate into increasing wages.

The opposite is true for higher income households with large falls in the last year in vacancies in the financial (-14.1%), communication (-25.2%) and science (-19.6%) sectors. Given the decreasing vacancies, wages in these sectors are likely to fall.

Longer term, for both lower and higher income households, sustained wage growth can only be achieved by improving labour productivity. But UK productivity growth remains persistently low across the board.

Investment in the UK also remains sluggish, and was 0.6% lower at the start of 2024 than it was at the start of 2023.

Addressing this productivity and investment stagnation will be key to driving longer term increases in wages and living standards for everyone.

Optimism for some

A cause for more optimism for higher income households (and pessimism for those on lower incomes) could be the longer term impact of AI. The boom in information and communications technology (the so-called “ICT revolution”) resulted in dramatic rises in productivity in certain sectors, contributing to a fifth of UK GDP growth from 1989 to 1998.

The AI revolution, which the UK is embracing, is predicted to have similar effects, but the benefits of these are expected to be concentrated in higher wage jobs, at the expense of lower wage sectors, where jobs are more likely to be replaced by AI and automation – especially in retail and recreation.

Overall, short term optimism – and some encouragement – for lower income households is warranted, with rising wages and falling inflation, and the potential for more wage rises on the horizon. But this may be reversed, as the benefits of automation and AI accrue increasingly to those who are already better off.

By Assistant Professor in Economics, Durham University

Famagusta Gazette