WHERE EXACTLY IS GROWTH GOING TO COME FROM?

Against the backdrop of UK fiscal policy being in lock down mode, monetary policy arguably not being particularly effective in stimulating growth and with consumer and business confidence and spending still in the doldrums, where exactly is growth going to come from? After all, the Bank of England expects zero growth for 2012 and – with the economy having lost around 15% of potential output over the past 4 years and having contracted more than it did during the entire 1930s – believes we are only midway through pulling ourselves from the mire.

The principal factor holding back the UK economy is a lack of demand. This is causing companies to shelve capital spending plans, hoard cash and put any hiring decisions on hold.  As a consequence, the consumer, who holds the key to two thirds of the demand in the UK economy, continues to deleverage.

When demand is needed to stimulate growth and the private sector is holding back, the public sector needs to step in and focus on that aspect of demand-inducing spending that is likely to give the economy the biggest bang for its buck. Just as in the 1930s, one needs look no further than the implementation of a comprehensive government-led construction and infrastructure spending programme.  After all, this (along with WW2 financing) is what pulled the world economy from the mire in that last great downturn.
 
Indeed, a mild fiscal stimulus devoted to construction and infrastructure spending is exactly what both the Confereration of British Industry (CBI) and the British Chamber of Commerce (BCC), which represent the interests of around 300.000 firms, have advocated, each having downgraded their 2012 GDP forecasts for the UK economy at the end of August, from growth of 0.6% and 0.1% respectively to a contraction of 0.3% and 0.4% for the calendar year.

Not that either is suggesting the government abandons its austerity measures, which would, of course, prove calamitous for the UK's coveted triple-A credit rating. What they are instead calling for is changed spending priorities that re-emphasises job creating capital spending, which has taken a considerable hit under the government's austerity measures, at the expense of less productive public consumption spending. Jobs would not only be created by the initial project spending but also through the so-called multiplier effect of this spending filtering down throughout the economy. One person's spending becomes another's income.

Although this would probably entail the government tapping the markets for a little extra cash – at a time when the Chancellor looks increasingly likely to miss his two fiscal rules of bringing down the debt-to-GDP ratio by 2015 and eliminating the cyclically adjusted budget deficit within 5 years – the chances are that the markets would see this moderate fiscal stimulus as being consistent with the Chancellor's commitment to a firm fiscal plan.

However, given that the government cannot single-handedly finance the capital spending needs of the housing, health, transport, utilities, energy and communications sectors, the Treasury has committed to guaranteeing £40bn of greenfield infrastructure projects against construction delays and cost overruns for those investors to whom infrastructure offers a valuable source of secure, long-term, inflation-linked cash flows. And this is where pension schemes with their deficit reducing and de-risking needs come in.

Of course, infrastructure investment demands considerable due diligence and monitoring but for those schemes that are able to sacrifice some of their liquidity and up their investment governance – unless of course, an indirect investment is made via an infrastructure fund – a well thought out allocation to infrastructure will not only prove to be a sensible de-risking asset but one that should also trump swaps and bonds in additionally providing a fillip to the asset side of the balance sheet.
 

[Please note that all opinions expressed in this blog are the author’s own and do not constitute investment advice.  Click here for full disclaimer]

 

Author: Chris Wagstaff

Chris has over 25 years experience in the finance and investment industry – training, presenting, lecturing and writing on many aspects of economics, investment, pensions and asset management. In addition to his role as Client Director, Executive Education at the Cass Business School, Chris is also a Visiting Fellow of the UK top-5 ranked business school, teaching on the Cass MSc programmes and researching pension issues for the Cass Pensions Institute. Chris is a Member Nominated Trustee Director of the DB and DC sections of the Aviva Staff Pension Scheme and a member of its Investment Committee as well being an Independent Trustee Director of the Merchant Navy Ratings Pension Scheme and Chair of its Investment Committee. Chris was voted Most Influential Trustee at the mallowstreet Awards 2012 and was highly commended as Trustee of the Year at the Engaged Investor Trustee Awards. He is also the co-author of The Trustee Guide to Investment. Chris has an economics degree from Cardiff University and is a graduate of the London Business School Investment Management Evening Programme. He also holds the Chartered Institute for Securities and Investment Diploma, CII Personal Finance Society Diploma and the UK SIP Investment Management Certificate.