As the UK government unveils an ambitious budget focused on boosting public investment, a growing number of economists are questioning the validity of the gloomy forecasts put forth by the Office for Budget Responsibility (OBR). The OBR’s projections, which suggest only modest long-term economic benefits from the £66 billion in additional public spending over the next five years, stand in stark contrast to historical evidence and international norms.
The Power of Public Investment
Numerous studies have demonstrated the transformative potential of public investment in driving economic growth. From the post-war boom in Europe and Japan to the rapid development of the Asian Tigers, strategic government spending on infrastructure, education, and research and development has consistently catalyzed private sector investment and productivity gains.
In the UK context, the £66 billion increase in public investment over the next five years represents a significant opportunity to address longstanding deficiencies in the nation’s infrastructure and human capital. By improving transportation networks, upgrading public facilities, and investing in cutting-edge technologies, the government can create a more efficient and competitive economy.
Multiplier Effects and Crowding In
Central to the debate surrounding the OBR’s forecasts is the concept of multiplier effects. When the government spends money on infrastructure projects or research initiatives, it creates demand for goods and services, which in turn stimulates private sector activity. This “crowding in” effect can lead to a virtuous cycle of investment and growth, as businesses expand their capacity to meet rising demand.
Research by Professor Valerie Ramey of the University of California suggests that in an economy like the UK’s, which has suffered from chronic underinvestment, the multiplier effect of public spending could be twice as large as the OBR’s estimates. This implies that the additional growth at the end of the current parliament could be closer to 2% rather than the 1.5% projected by the OBR.
International Comparisons
The OBR’s conservative approach to assessing the impact of public investment places it at odds with many of its international counterparts. A recent paper from the New Economics Foundation highlights the fact that the OBR’s methodology is an outlier, with most other forecasting bodies recognizing the potential for larger and more enduring economic benefits from government spending.
Even the UK government’s own wealth fund operates under the assumption of stronger multiplier effects than those used by the OBR. This discrepancy raises questions about the reliability of the OBR’s projections and the potential for undue pessimism to constrain policymaking.
The Path Forward
While the 2% growth that many economists believe is achievable through the current budget plans would represent a significant improvement over recent performance, there is still more work to be done to unlock the UK’s full economic potential. Two key areas for further progress are:
- Strengthening trade ties with the European Union: Estimates suggest that the UK could regain some of the 10% output loss associated with Brexit by re-engaging with the EU single market and customs union.
- Encouraging pension funds and insurance companies to invest more of their £5 trillion in assets in British businesses: Currently, only a small fraction of this risk capital is deployed domestically, representing a missed opportunity for growth.
As the UK navigates the challenges and opportunities of the post-pandemic, post-Brexit era, bold public investment has the potential to serve as a catalyst for a new chapter of inclusive and sustainable growth. By challenging overly pessimistic forecasts and embracing a more ambitious vision for the future, policymakers can lay the foundation for a more prosperous and resilient economy.
