Britain has a new headache
When countries came asking for Dutch gas in the 1970s, the Dutch government thought it was a godsend.
The Netherlands produced more natural gas than it needed and exporting its excess supply provided a nice boost to the economy.
It was a win-win, or so it seemed. Not much later the negative effects of this arrangement became apparent.
Gas exports made the Dutch currency, the guilder, much stronger. This meant Dutch exporters were less competitive in global markets.
The strong guilder hurt Dutch industries, people were laid off, and so the gains from gas extraction had to be spent on rising unemployment benefits.
The Economist was the first to coin the term “Dutch disease” – a situation where natural resource exports create a strong currency and harm exports from other industries.
Britain suffered a form of this disease because the pound has been strong against other currencies like the euro and dollar. But as sterling weakened following last year’s EU referendum, this effect was expected to wear off.
Britain may indeed no longer have the Dutch disease, but that doesn’t mean its problems are over. Far from it – the British government already has a new headache.
The Brexit “cure”
In the case of Britain it wasn’t the export of a natural resource that made it contract the Dutch disease.
Rather than a commodity, as was the case with the Netherlands, it was Britain’s booming property market and its finance sector that sent the pound higher.
“The pound had been driven up to nose-bleed levels from 2011 to 2015 by global property speculators and the banking elites acting in destructive synergy, causing serious damage to Britain’s manufacturing base and long-term competitiveness,” economist Ashoka Mody told the Telegraph last October.
“It was essentially a bank-property nexus, and the rest of the economy was left to suffer. It is stunning that just 1.4pc of all loans were going to the manufacturing sector.”
In a way, Brexit seemed to be the “cure”.
The pound has fallen 11% against the dollar and 15% against the euro since last year’s EU referendum.
If a strong pound made British exports less competitive, you’d expect a weaker pound to bolster trade.
Yet the positive impact of a weaker pound on UK exports has been underwhelming.
Growth figures fell to 0.2% in the three months to July, while exports fell and manufacturing output stayed the same in June compared to previous months.
The trade deficit also grew bigger even though this figure was predicted to fall considerably.
Britain may have shaken off the Dutch disease, but its economy still looks under the weather.
The British economy still shows signs of low productivity and a poor manufacturing performance, the “British disease” if you will.
The weaker pound hasn’t caused the government’s headache to go away. But sterling’s depreciation may have a silver lining after all.
A rebalancing act
Even if Britain’s recovery from the Dutch disease doesn’t lead to immediate improvements, it could make its economy healthier in the long run.
“If what’s good for the City is good for London but not necessarily for the rest of Britain, there’s a reasonable argument to be made that a loss of financial services could result in a healthy rebalancing,” Izabella Kaminska wrote in the FT.
Britain has relied too heavily on its financial service sector. A rebalancing of its economy is certainly welcome if the country doesn’t want to be exceedingly vulnerable to a new financial crisis.
But Britain’s economy won’t profit much from this rebalancing if it only means its best performing sector gets weaker. The argument rests on other parts of the economy getting stronger too.
A decreasing reliance on the City will have to go hand in hand with increased investment in other industries and regions.
Sky’s Economics editor Ed Conway noted an “accidental rebalancing of the UK economy” in April as data showed manufacturing and construction did comparatively better while services did comparatively worse.
But this rebalancing will need further encouragement through investments.
The Northern Powerhouse project, which looks to have been shelved by Theresa May’s government, would be one such project that merits attention.
Infrastructure spending in the north, like the development of fast rail lines across major cities, could make a big difference to the northern economy.
An economic review by Transport for the North says it could add £100bn to Britain’s GDP and create 850,000 jobs.
With a weaker pound Britain has got rid of the Dutch disease, but it might still take some time before its economy can finally be thought of as healthy.