We will be heading for a brighter future after Covid-19

One of the more interesting books on my reading list at university was S. B. Saul’s The Myth of the Great Depression. By “Great Depression”, Saul meant not 1929-1933, but 1873-1896, a period of sustained price deflation that caused real hardship in the UK. Positive supply shocks and revolutionary technologies drove down prices. For instance, the opening up of the prairies, the pampas and Australia to farming, combined with falling freight rates by land and sea, lowered the cost of food.

In Black Diamonds, Catherine Bailey points out that in 1870, Britain produced half the world’s coal. But by the mid-1920s, it produced barely a fifth as new producers in Africa, China and India dug coal at one-third of the British cost. The distress among coal miners, agricultural workers and the landed gentry who had built their fortunes on coal and farming was widely evident. Rural areas, such as East Anglia, depopulated and emigration soared. In the economy as a whole, however, nominal wages were at least stable and real (inflation-adjusted) wages rose as prices fell. Output in real terms rose as most of the economy prospered. So why was this period widely thought of as a depression? The distress of the losers was much more visible than the content of the winners and that drove perceptions.

Similarly, the 1920s were a difficult time for the UK, especially for traditional industries such as iron and steel, shipbuilding and coal mining, exacerbated by the austerity caused by Britain’s rejoining of the gold standard in 1925. But in 1931, Britain abandoned the gold standard and the economy enjoyed a boom, driven by what were then new industries such as cars, electrical goods and aircraft. Unlike France, which only devalued in 1935, Britain declared war in 1939 from a position of sustained economic strength. Yet the popular narrative, driven by pictures of the Jarrow marchers and tales of the suffering of the miners, is that this was a period of unemployment and deprivation. In a period of structural economic change, the losers were again more visible than the winners.

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And so to another period of economic upheaval, the early 1980s. A sclerotic economy was upended by tight monetary and fiscal policy together with the consequent appreciation of sterling. Unemployment soared to over three million. But while industrial output fell, services continued to grow. When all the data revisions were in, it became clear that the recession was shorter and shallower than thought at the time; output fell by less than 3% in 1980-1981 and grew strongly thereafter.

Another leap forward?

Is economic history repeating itself? Gloom about the economic outlook is pervasive as businesses close down and job losses are totted up daily. But maybe a shake-out and a technological leap forward is just what the economy needed. As is normal in recessions, companies have had to cut costs, improve efficiency and change their business practices. A slow migration to online shopping has been massively accelerated by lockdown and many struggling businesses have closed down, but it’s not obvious that the productive capacity of the economy has suffered. A shift from consumption to savings and investment may actually improve stability. Employers have found that working from home raises productivity and new business opportunities have opened up.

Growth should accelerate in the next decade

Anatole Kaletsky of Gavekal Research thinks that markets are signalling a capital-intensive improvement in the structural and technological drivers of growth. While others assume that massive fiscal stimuli around the world financed by money printing will lead to inflation, Kaletsky says that “in a world of excess capacity and mass unemployment, the present combination of vast government borrowing with monetary expansion will not fuel inflation until most of the excess capacity is exhausted”.

With China continuing to develop and the EU no longer constrained by its members from fiscal and monetary expansion, “there are both macroeconomic and structural reasons to expect stronger growth in the coming decade than in the past ten or 20 years”. Consequently, “Covid-19 does turn out to be a blessing in disguise for economic policy and asset prices”.

Kaletsky, though, is writing about the world, not the UK. Here, equities are not signalling great optimism about the future. The opportunity for a far better outcome than conventional wisdom expects is there, but the risk of government bungling is ever present. Driven to panic by the budget deficit, the government could crush enterprise by hiking taxes. Extravagant expenditure on pointless vanity projects, such as HS2, is official policy and there has been plenty of reckless spending in its Covid-19 response. Bungled trade negotiations, misguided policies and overconfidence in a centralised state look more likely than not.

For now, there should be no need to worry about markets, the global economy, inflation or the euro. Another “myth of the Great Depression” is playing out. But whether Britain will outperform, as it did in previous periods of structural change, or underperform with dire consequences, as France did in the 1930s, is far from clear.