Wednesday, 28 January 2009

Comparative growth and shrinkage

The IMF thinks that the UK economy will shrink by 2.8% in 2009 - the worst performance among "advanced nations". Quite an amusing locution, that. But, bad as it sounds, what does this performance actually mean?

We could look at it in one of two ways:
  • A reversal of most of 2007's growth. Real growth in 2007 was approximately 3%, so this contraction would cancel most of it out. Not good, but if we had had just 0.1% growth for a couple of years rather than +3 and -2.8, would we feel differently about it?
  • Cancelling out a quarter of the 'excess growth' of the last eight years. Long-run estimates of UK productivity growth are around 2%. GDP growth has averaged 2.7% between 1992 and 2008. Thus, we have benefited from an economy about 12% larger than it would have been under long-run conditions. If the price of this is to lose a quarter of this growth while the economy retrenches, then it was worth it.
Naturally there are plenty of variables. Is long-run productivity growth the right measure to use? Would we still have achieved (some) above-trend growth if we had regulated away some of the financial instabilities that have contributed to the recession? Is the IMF's forecast correct?

But in context, this recession may not be so bad, and may well be a price worth paying for the higher growth and standard of living that we have achieved in the last two decades.

That's not to say we shouldn't mitigate the recession in any way we can. Just because a price is worth paying doesn't mean you don't try to get it cheaper.

GDP data taken from Office of National Statistics.

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