A VERY BRITISH CRISIS
Foreword
Readers have not been slow to remind me of my stated intent to publish a SEEDS-based analysis of the British economy.
My hesitancy about doing so has reflected two considerations. The first is the compelling importance of some rapidly emerging global trends which are wholly consistent with the ending and reversal of economic growth.
The second is the truly disturbing condition and prospects of the United Kingdom.
Britain is far from alone amongst Western countries in experiencing the effects of economic deterioration. The average British person has gradually been getting materially poorer ever since 2004, but the accelerating pace of this impoverishment has been driving social discontent and political fragility just as surely in France, Germany and America as in the United Kingdom.
Britain does, though, stand out from the crowd in several significant respects. As we shall see, these include excessive indebtedness, and outsized exposure to rate and currency risk.
Even more seriously, the steps necessary for effective preparation for economic contraction may be hard to implement in Britain because they run contrary to long-established, cross-party support for the failed and divisive doctrine of extreme neoliberalism.
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As you may know, the essential context for the British economic challenge is that the global economy is in the process of inflecting from growth into contraction as the fossil fuel impetus on which the industrial economy was built fades away.
The critical marker for this process is the Energy Cost of Energy, a measure of the proportion of accessed energy which, being consumed in the energy access process, is not available for any other economic purpose.
Globally, trend ECoE has risen from 2.0% in 1980, and 4.2% in 2000, to 11% now, and is set to reach 13% by 2030, 18% by 2040 and 25% by 2050.
This relentless rise in ECoEs is ruinous for all industrial economies. In high-maintenance Western countries, prior growth in the material prosperity of the average person went into reverse at ECoEs of around 5%.
By this measure, the average British person was 11% poorer last year than he or she had been back in 2004, when prosperity per capita peaked at a national ECoE of 4.7%.
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None of this, of course, appears in official statistics anywhere in the World. Conventionally, economic performance is reported as GDP. But gross domestic product isn’t a measure of material economic output, but of monetarily-measured transactional activity, a number which can be, and routinely is, inflated artificially by rapid credit expansion.
As material economic growth has decelerated towards contraction, the illusion of ‘business as usual’ has been sustained through a combination of super-rapid debt growth and the under-reporting of systemic inflation.
Those who understand the critically-important concept of the two economies will recognize this process as a rapid divergence between the “real” economy (of material products and services) and the parallel “financial” economy (of money, transactions and credit).
We’re now very close to the point at which this self-deception ceases to convince. Globally, debt – and government debt in particular – is growing at rates so unsustainable as to lead inexorably to the monetization (“printing”) of debt, and a precipitate slump in the purchasing power of money.
The reality of higher-than-reported inflation has broken through as the “cost of living crisis” which continues to undermine political cohesion around the World.
This inflationary trend is weighted towards the costs of necessities, so has had a particularly adverse effect on people at the lower end of the income scale, who have to spend a large proportion of their incomes on staples.
At the same time, the ultra-low rates necessary to prop up the illusion of continuity have inflated asset prices dramatically, to the disproportionate benefit of an already-wealthy minority.
This wealth exists only in paper form, cannot be monetized in the aggregate, and will, in due course, be caught up in the bursting of the “everything bubble” in asset prices.
This, though, is scant comfort to a majority experiencing economic contraction, exacerbated by the apparent, and often very real, inequities of the system.
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This is the broad context within which the condition and prospects of the British economy must be assessed. What we would expect to find is that people have been getting poorer and less economically secure over a prolonged period, even as officialdom continues to report and promise “growth” in the economy.
This is demonstrably true in Britain, as it is in other Western advanced economies.
But there are specific reasons why the United Kingdom is at greater risk than most comparable countries.
First, Britain is disproportionately exposed to the credit-based global financial system. Broad financial assets – which are the liabilities of the household, government and non-financial corporate sectors of the economy – are getting on for twice as large in Britain, in proportion to the size of the economy, as the global average calculated on a ‘best available estimates’ basis.
Second, Britain has long run serious trade and current account deficits, financed by borrowing from foreign lenders and selling assets to overseas investors.
These vulnerabilities, already uncomfortable, are set to be exacerbated by the unfolding global trend towards protectionism, a trend driven by efforts to insulate national economies from the worst effects of global economic shrinkage.
The single greatest economic risk for the United Kingdom is a sharp fall in the value of GBP. Attempting to shore up the currency by raising rates could collapse the asset price bubble against which a huge proportion of liabilities is collateralized.
Third, few countries have been as resolute as Britain in their adherence to the failed and divisive doctrine of extreme neoliberalism. This stance closes off many of the avenues to greater resilience in a contracting economy.
These are issues to which this analysis will return.
Our first task, though, is to use SEEDS – the Surplus Energy Economics Data System – to identify the process of economic impoverishment hidden behind increasingly unconvincing orthodox statistics.
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According to official data, British real GDP has increased by 31% over the past twenty years. Population numbers rose by 14% in that period, but the average person should still have been 15% better off in 2023 than he or she had been back in 2003.
National wealth, too, is supposedly much larger now than it was back then, because the prices of assets – principally property – have out-grown rising debt. In 2021, the most recent year for which official statistics are available, Britain’s net worth scored “the largest annual increase on record”.
This, though, isn’t remotely how things look to an objective observer.
Public services are severely over-stretched. Waiting-lists for treatment by the National Health Service are at extraordinarily high levels, and offenders have been given early release because Britain’s prisons are crammed to the rafters.
The country’s rivers and seas are polluted by shocking amounts of untreated sewage. Potholed roads and an expensive and unreliable rail network attest to a severely degraded infrastructure.
Perhaps worst of all, millions are homeless, and record numbers now rely on food-banks. The “cost of living crisis” has exacerbated already-widespread hardship and insecurity.
There’s been an ongoing debate about fiscal policy, especially since incoming chancellor (finance minister) Rachel Reeves implemented tax increases even though taxation was already at record levels.
But strains on British public finances are by no means a new issue. Stated at constant 2023 values, government has borrowed almost £2 trillion over the past twenty years whilst, net of recent reversals, the Bank of England has backed up this borrowing by conjuring £1tn of new money out of the ether since 2008.
Yet government never seems to have enough resources to meet the expectations of an increasingly impatient electorate.
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As remarked earlier, GDP, as a measure of transactional activity in the economy, is very far from a calibration of prosperity in the only terms that really matter, which are the supply of material products and services to the public.
This supply process involves the use of energy to convert non-energy raw materials into goods, and into those physical artefacts without which no service can be provided. Money is then used for the allocation and exchange of the products and services thus supplied.
Conventional economic interpretation fails to measure the quantum of material prosperity in two main ways. First, it conflates transactions with value, and ignores the reality that, in a credit-based monetary system, transactional activity can be inflated artificially by rapid credit expansion.
Second, in its promise of ‘infinite economic growth on a finite planet’, the economics orthodoxy disregards the material in general, and the Energy Cost of Energy in particular.
This, incidentally, is why conventional economics can’t help us to understand and act on environmental deterioration.
Our search, then, is for material economic output undistorted by credit effects, and for the prosperity which remains after ECoE has been deducted from this output.
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As can be seen in the first set of charts – in which all financial amounts are stated at constant 2023 values – growth of £645bn (31%) between 2003 and 2023 was made possible by a £2.6tn (65%) increase in the aggregate of private and public debt.
This means that each £1 of reported “growth” was bought with £4 of net new debt, a trajectory which is inherently unsustainable (Fig. 1A). Another way to put this is that annual average “growth” (of 1.4%) between these years was a function of borrowing at an annual average rate of 5.5% of GDP (Fig. 1B).
SEEDS identifies underlying growth by backing out this credit effect, a process which reduces average growth to 0.5% from the reported 1.4% (Fig. 1C). This, in turn, enables the calculation of underlying or “clean” economic output, known in SEEDS terminology as C-GDP.
As can be seen in Fig. 1D, this revises growth between 2003 and 2023 down to an underlying 9% from the reported 31%. Since this revised number is lower than the rate at which the British population increased between those years (+14%), we can already begin to see why reported “growth” has left the average person feeling poorer.
Furthermore, identification of the trend in underlying C-GDP highlights a very clear forward decline curve in this critical metric.
Fig. 1
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Output, though, is by no means the same thing as prosperity, because we have yet to deduct the first call made by ECoE on top-line economic resources.
The logic here is straightforward. Without the energy delivery infrastructure represented by ECoE, there can be no energy – and without energy there is no economy. This is why ECoE makes the “first call” on the material resources available to the economy.
Globally, trend ECoEs have long been on a relentless upwards trajectory (Fig. 2A). They are being driven higher primarily by the effects of depletion on the material costs of supplying oil, natural gas and coal. Whilst we’re nowhere near “running out of” these energy sources, depletion – the practice of using lowest-cost resources first, and setting aside costlier alternatives for later – has been pushing the material costs of fossil fuel supply steadily upwards.
Contrary to widespread misunderstanding, a transition to renewables can’t even stem the rise in ECoEs, let alone start pushing them back downwards. Renewables such as wind and solar power have inferior material characteristics to fossil fuels, most notably in their lesser energy densities. Their proportionately larger infrastructure requirement can’t be built, operated, maintained or replaced without the use of raw materials which only legacy fossil energy can supply.
The need for energy transition is indisputable, on economic as well as environmental grounds, making “sustainability” a wholly worthy objective.
But the promise of “sustainable growth” is a myth, the reality being that an economy powered by renewables will be smaller than the current version powered by carbon fuels.
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For so long as international trade in energy continues, most national ECoEs are comparatively narrow variations around the global trend, being somewhat lower in energy-rich countries, and rather higher in economies that are heavily dependent on imports for their supply of energy.
When we deduct local ECoE from clean economic output measured as C-GDP (Fig. 2B), what emerges is a rapidly inflecting trend in British material prosperity. Though really big falls in aggregate prosperity are only now becoming a reality, population growth (Fig. 2C) has already pushed average prosperity per person onto a painful downwards trajectory.
SEEDS identifies 2004 as the zenith of British prosperity per capita, since when this measure had, as of 2023, declined by 11.2%.
Over that same period, the estimated real cost of essentials rose by 27% per capita, or by 45% across the economy as a whole. The resulting compression of discretionary affordably – loosely, the SEEDS equivalent of ‘disposable incomes’ – is illustrated in Fig. 2D.
Fig. 2
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The next set of charts illustrates how conditions in the British economy can be expected to unfold. As we’ve seen, the trend of ‘sluggish growth’ conveyed in reported GDP disguises a long history of decelerating growth, now inflecting into contraction, in aggregate material prosperity (Fig. 3A). Debt expansion looks even less sustainable when measured against prosperity than it does when compared with GDP (Fig. 3B).
For the individual, the effects of deteriorating prosperity are being compounded by an accelerating rise in the estimated real costs of essentials, which, for our purposes, combine spending on public services with the costs of household necessities (Fig. 3C).
When these trends are set out as functional segments, as shown in Fig. 3D, it becomes abundantly clear that the affordability of discretionaries – those non-essential products and services which range from travel and hospitality to leisure, media and the gadgetry of “tech” – is on a relentlessly downwards trajectory.
Over the coming decade, British real aggregate national prosperity is projected to decrease by 6.5%, which doesn’t sound all that dramatic. Further (though decelerating) anticipated increases in population numbers translate this into a fall of 10% at the level of average prosperity per capita.
Meanwhile, though, the average person is likely to be spending about 24% more on essentials in 2033 than he or she did in 2023. On a per capita basis, the affordability of discretionaries is projected to fall by a further 29%. In aggregate terms, discretionary affordability is likely to decrease by £280bn, or 21%, over the next ten years.
Fig. 3
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Shrinking discretionary affordability was the generally-unnoticed subtext in the recent budget.
Government identified a need to spend more on public services which, in the SEEDS analytical model, rank as essentials, because the individual has no choice (discretion) about paying for them.
A large part of this increased spending is to be funded by sharp increases in taxes levied on employers’ payrolls. This will fall most heavily on businesses which employ large numbers of people on comparatively low wages. A large proportion of these firms supply discretionary products and services to consumers.
The effect is thus to divert resources from discretionaries to essentials. This is wholly consistent with the trend mapped, in the British instance, in Fig. 3D.
This site is avowedly non-partisan, and has no stance on the internal political debate over the public finances.
But the structural point – the rise in the costs of essentials squeezing out the affordability of discretionaries – is critically important. This trend would be outside the control of any occupant of the British Treasury (finance ministry)
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Contracting discretionary affordability doesn’t just mean that the individual has to spend a rising proportion of his or her income on necessities, and can afford progressively less non-essential purchases.
It also puts increasing pressure on the ability of the household sector to carry a greatly enlarged burden of debts and quasi-debts.
And this takes us into an area where British exposure is extreme.
Ever since the United Kingdom ceased to be a net exporter of oil and natural gas in 2004, the country has run perennial trade and current account deficits. These have been financed by borrowing from overseas, and selling assets to foreign investors.
The first problem with this behaviour is that each additional foreign debt creates a new outflow of interest payments, whilst every asset sold diverts profit and dividend flows overseas.
There has always been a risk implicit in this excessive reliance on international finance. Hitherto, the main risk has been that Britain might run out of saleable assets, or that foreign lenders might tire of paying for the country to consume more than its economy produces.
Now, though, two new risks need to be considered. The first is the rise of economic nationalism, and the retreat of globalization, as nations seek to insulate their national economies against the cold winds of contraction.
The second is the increasingly unstable state of the global financial system as a whole.
Relying on “the kindness of strangers” takes on new dangers when those “strangers” are increasingly inclined to channel investment into their own economies, and to adopt tariffs and other trade barriers in defence of their domestic industries.
The specific risk where Britain is concerned is that Sterling might slump on the FX markets. In order to stave off a potential currency collapse – which would import dramatic amounts of inflation whilst making the servicing of foreign debt unaffordable – the authorities might be compelled to raise rates dramatically.
At home, this would have the effect of bursting the over-inflated asset bubble, destroying much of the collateral against which a great deal of Britain’s excessive debt is secured.
The public were treated to a small but significant trailer for such a crisis during the turmoil triggered by the Truss-Kwarteng “mini-budget” in September 2022.
Politics aside, the main consequences of surging bond yields were the withdrawal of about 40% of mortgage products from the market, and the emerging risk of the collapse of pension funds using LDI (liability driven investment) strategies.
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These issues are made still more serious by the sheer scale of British financial exposure. This is best measured by reference to “financial assets”, which are the liabilities of the household, government and non-financial corporate sectors of the economy. These principally comprise the assets of commercial banks, the central bank and NBFIs (non-bank financial intermediaries, colloquially known as “shadow banks”), together with PFIs (public financial institutions) in countries where these exist.
As of the most recent reporting date at the end of 2022, Britain’s aggregate financial assets totalled 11.1X GDP, far higher than in the United States (5.0X) or Germany (5.2X).
Global equivalents can only be estimated, because significant jurisdictions do not report this data to the FSB (the Financial Stability Board), but it’s likely that British exposure is getting on for twice a World average of about 5.8X GDP (Fig. 4).
Fig. 4
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We are by no means devoid of potentially effective responses to the problems posed by irreversible economic contraction. Neither is this process wholly without positive side-effects. The decline in discretionary consumption can help us manage environmental deterioration. The collapse of over-inflated asset prices can do much to address excessive inequalities in society.
But hard decisions will nevertheless have to be made, not least in deciding not to mount futile and damaging rearguard actions in defence of the status quo against the inevitable.
One looming trend is the failure of over-centralized, top-down systems and institutions, and their replacement by bottom-up, decentralized alternatives. Economies will, of necessity, have to adjust to the loss of discretionaries if the provision of essentials to everyone is to be maintained.
The final set of charts is designed to shed some light on this by illustrating the unsustainable nature of British public finances. Fig. 5A divides government spending into public services, transfers (such as pensions and benefits) and interest on debt.
Unsustainability is laid bare when, as in Figs. 5B and 5C, public spending is compared with prosperity, and with the inter-relationships between prosperity, necessities and the costs of public services and interest on government debt. Finally, an effort is made in Fig. 5D to use the Gini coefficient to draw some distinction between average and median per capita experience.
Fig. 5
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However we look at this, it’s clear that significant changes will need to be made in the allocation and prioritization of dwindling economic resources.
And this is where Britain’s commitment to extreme neoliberal doctrines is such a handicap to adaptation.
To be absolutely clear about this, Surplus Energy Economics is avowedly non-partisan in politics, but does mistrust economic extremes, and interprets the evidence as favouring the mixed economy model which seeks to optimise the different strengths of private and public provision. This was the post-war Keynesian consensus which, in Britain, was abandoned in 1979.
In any case, neoliberalism has long ceased to be a matter of party contention in British politics. Since 1995, when Labour symbolically abandoned its historic Clause Four commitment to the “common ownership of the means of production, distribution and exchange”, both main parties have been signed up to the same neoliberal agenda.
This is an ideology with an unedifying and divisive past and, if adhered to, a short and unpleasant future.
Back in the 1970s, most Western countries experienced economic crises characterized by runaway inflation and labour disruption. The clear and obvious cause of these crises was the rapid quadrupling of oil prices following the petroleum export embargo imposed by OAPEC in October 1973.
In Britain, a group of opportunists sought to craft a wholly different narrative, effectively re-writing history even as it was still being made. Their assertion was that the travails of the 1970s weren’t caused by the 1973-74 and 1978-79 oil crises, but by left-wing government and over-powerful organized labour. The solutions were to roll back the state, and destroy the power of the unions.
They embarked on an orgy of privatization, selling off to private investors everything from the supply of water, gas and electricity to telecommunications, railways, steel-making and car manufacturing. Various “watchdogs” were set up to try to limit abuse of the many natural monopolies included in this programme.
The proceeds of this privatization exercise, boosted by a temporary revenue bonanza from North Sea oil and gas, were used for two purposes, both of which a reasonable person might well regard as nefarious.
The first was the financing of enough unemployment to break the power of organized labour. The second was the granting of tax cuts to anyone who didn’t actually need them.
For a time, these policies seemed to be working, though the real causes of the 1980s economic revival were tumbling world oil prices and, in Britain, the process described by some contemporaries as “selling off the family silver”.
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Economic extremism almost always comes at a price. In Britain, the price for ideological neoliberalism was paid, in the first instance, in the destruction of manufacturing industry, the loss of control over many nationally important assets, and the conversion of much of the former ‘working class’ into a precariat with scant resources and very limited protections.
Beyond its shaky economic contentions, neoliberalism has always been as much a state of mind as a set of policies. The ideals of neoliberalism are based on the creed of short-term self-gratification and a belittling of almost anything that smacks of collective social endeavour. Excessive dependence on foreign investors and lenders, and extreme vulnerability to adverse currency and credit market movements, can be traced directly to the adoption of this creed.
The strange thing about this is how far the tenets of neoliberalism seem to have been accepted even by its victims. Helped, perhaps, by a predominantly right-leaning media, a large proportion of the British public seems to have bought in to the false narrative of past crises being caused by “the left”.
Accordingly, the electorate tends to oppose any supposedly “left-wing” extremist (as Jeremy Corbyn was portrayed) but is happy to endorse right-of-centre extremists like Boris Johnson and Liz Truss. The concept of “the loony left” versus the “reliable right” has entered the collective psyche, despite everything that has happened in recent times.
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The situation now is that economic contraction is going to compel the abandonment of extreme neoliberalism. But this won’t be easy in a country so heavily committed to it.
Elon Musk was a long way wide of the mark when he said that civil war in Britain was “inevitable”. The UK is no more politically unstable than Germany, France, Italy or a starkly-polarized United States.
Much likelier is a more insidious process whereby Britain becomes ungovernable, in the sense that no government, irrespective of party, can meet the demands of an increasingly impatient and discontented electorate.
This has been reflected in the very short honeymoon enjoyed by the Labour government elected with a big parliamentary majority in July. The right-wing Reform UK party, led by Nigel Farage, won a remarkable 14.3% of the popular vote in the July election, on a platform of lower immigration, reduced taxation and opposition to the Net Zero environmental agenda.
Beyond the gyrations of national politics, the problem here is that the global economy isn’t going to sit around waiting while the British debate the respective merits of social cohesion and a mantra of individual self-gratification.