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The UK is not the first country to stand on the brink of leaving the EU. It may enjoy a far bigger and more productive economy than that of Greece, but there are alarming structural similarities between the two economies that can’t be ignored. Just like the threat of Grexit, Brexit is predicted to hurt the UK economy. And now, after an indecisive election that weakened the government’s ability to govern, another similarity with troubled Greece is added. A critical one.
Chancellor Philip Hammond insists that the UK economy is “resilient”. But look closer and there are striking similarities with Greece, a country hit hard by the recession.
Both enjoyed debt-fuelled prosperity. UK government debt rose even more aggressively than its Greek counterpart. Successive governments in Greece ran deficits for many years. They were committed to public services such as free healthcare and free education. Both countries maintain an expensive army, a large civil service and have spent billions to host Olympic games. The Greek government recently managed to reign in its deficits and currently experiences a structural surplus in its budget. The UK is still waiting.
Industry and property
Both countries saw industry decline in the 1980s, sparking greater reliance on the service sector for employment and tax revenues. In Britain, the service sector now accounts for 78% of GDP; in Greece it is 85%. Central to the Greek economy is tourism, the financial sector and real estate. It’s pretty much the same for Britain but in a different order.
The UK and Greece also share a culture of home ownership, boosted by cheap money, which has made real estate critical for both countries. The sharp fluctuations around the financial crisis made clear the risk of asset price bubbles, but this culture also renders the workforce less mobile and less likely to retrain, contributing to the massive lack of skills in the UK.
Britain is in a precarious situation as it begins Brexit negotiations with the EU. Right now, Brexit means only uncertainty in the business world and uncertainty is a direct threat to the most lucrative industry in the country: the financial sector. The danger is that a significant part of this industry will be encouraged or even strong-armed by the UK’s former EU partners to migrate to competitor financial cities such as Dublin, Paris and Frankfurt. Also at risk is Britain’s role as a gateway for hundreds of billions of euros of foreign direct investment into the EU, a 500m-strong, and particularly affluent, economic area.
And just like the Greek governments at the beginning of the Greek drama, who were bound by the decisions of the European Central Bank, UK governments have their hands tied. Monetary policy has done pretty much all it can.
The falling pound and rising inflation that followed the Brexit referendum make a devaluation of the pound unproductive. A devaluation would further harm consumers’ disposable income and consumption, and would sound like a distress call to skittish investors. Interest rates are already at rock bottom levels and a further reduction now would have little effect.
And what about fiscal policy? After all, national debt in the UK stands at what seems like a paltry 88% of GDP compared to Greece’s 181%. Perhaps the UK could finance investments, boost consumption and buy its way out of the Brexit uncertainty and impending recession? Greece tried this from 2004-2009. Nearly a decade later, the mounting debts of that era keep Greece in an economic coma.
And there are more reasons why using fiscal policy would be dangerous for the UK. If the UK wanted to add to its total debt, currently at about £1.7 trillion, the international money markets would see the UK stumbling into Brexit talks at a time of political fragility while asking for very large amounts of money to refinance debts and run fiscal policies on top. To compensate for the increased risk, investors will seek higher interest rates. The debts would then become more costly to service, denting the impact of any exuberant fiscal policy and further justifying a sceptical view of the UK from financial markets. Greece will tell you how it ends up if you get the balance wrong.
Weak and wobbly
Underlying all of this is the final, and perhaps most crucial similarity. The UK elections on June 8 delivered a paralysed government. A slim majority and the heterogeneity of any coalition government will mean a government that cannot move left or right, forwards or backwards without losing precious support and likely collapsing.
Greek governments in the decade before crisis hit the country provided the perfect example of how the fear of political cost can lead to a disastrous lack of action on the economy. In addition to deep structural challenges, low productivity and a mountain of debt to repay, the UK now also faces the prospect of a bad deal with the EU, negative business expectations, exhausted monetary and fiscal policy options and grave threats to its lucrative financial sector.
Even an effective and decisive British government with a clear mandate would find it difficult to steer the economy out of harm’s way. For the paralysed and ineffective government that came out of the last UK elections that task may prove impossible: public trust will ebb away, market confidence will dip. Greece taught us not to sail into those headwinds if we can avoid it. The prospect of fresh elections may not be palatable, but it sure beats entrusting the futures of a generation or more to a government barely worth the name.