You might well think that it is slightly early to be taking stock of the year. But would you really want to face a reckoning of the previous year’s economic performance on Boxing Day? That could mean a double dose of cold turkey. So here goes.
This is the usual time for economists to review how well their prognostications panned out. This is a sobering, and indeed often humbling, exercise. It is a useful backdrop to considering what may happen in the year ahead, which I will soon be doing.
Admittedly, there is an element here of marking one’s own homework but, given the remarkable developments over the last year, my forecasts were not too bad. Of course, I did not perfectly foresee the Russian invasion of Ukraine and its dire economic consequences for the world, but I did put the Russian/Ukrainian situation at the top of the geopolitical threats to the global economy.
I thought that the UK would probably outgrow its leading competitors in 2022. So it has proved. But this outperformance was made possible by an earlier bout of underperformance. Moreover, it seems unlikely that the UK will outperform in the year ahead.
I was also on the right side of the inflation/interest rate debate, arguing that both would go higher than the authorities and the markets were expecting. At the beginning of the year, the Bank of England thought that inflation would peak at about 6pc in the spring before falling back sharply later in the year. In the event, it reached 11.1pc, before falling back to 10.7pc in November, announced last week.
At the beginning of the year, when interest rates were at 0.25pc, the markets were expecting them to finish the year at just under 1pc. In the event they reached 3.5pc and looked set to go higher still.
Strange though it is to think of this now, at the beginning of the year the prime non-economic risk ahead seemed to be Covid. We had just had a lockdown-free Christmas – but only just. Under pressure from Sage “experts”, the then prime minister, Boris Johnson, had wanted to impose another lockdown but senior Cabinet members, including Rishi Sunak, rebelled.
It was evident even then that there was a severe political risk and indeed I suggested that there was a good chance of Johnson being ousted soon. But, naturally, I did not envisage the pantomime that followed. And I suggested, wrongly as it turned out, that a change at the top would produce a serious squeeze on public spending. If only!
Looking back, 2022 was a landmark year. On the world economic scene, there was a growing realisation that China’s sustainable growth rate was slowing considerably. More people started to come round to my view that China would never surpass the United States as top dog.
It also marked the definitive end of the era of low inflation and low interest rates that had lasted for a quarter century. And there were distinct echoes of the 1970s as supply-side shocks interacted with strong aggregate demand and monetary laxity.
Here in the UK we underwent a severe lesson in the eternal verities of financial economics. Years of fiscal largesse had been absorbed by the bond markets without even a hair being turned. The fact that the Bank of England hoovered up the extra gilts sold into the market was, of course, largely responsible. Yet at some point this policy would have to be halted and even sent into reverse. What then?
When Jeremy Corbyn was leader of the Labour Party, the doctrines of modern monetary theory (MMT), otherwise known as the Magic Money Tree, were accepted by senior Labour figures who believed that this took the financial pressure off a future Labour Government.
In the event, the Conservative Government appeared to swallow MMT whole and was then found out by the markets. It became clear that they would not meekly absorb whatever amount of bonds the Treasury spewed out. One consequence is that if we do get a Labour government, it will surely not be under any illusions about the seductive visions offered by MMT.
This episode also revealed the existence of serious financial risks lying half-submerged in the financial system. Before the Kwarteng/Truss debacle, which saw gilt yields rise by 1.5pc in three working days, scarcely anyone had heard of liability-driven investments (LDIs) used by pension funds. This was an extremely risky strategy to adopt. A sharp rise in bond yields for whatever reason would have seen funds in trouble as they were forced to realise assets to meet their margin calls, thereby causing a vicious circle of rising yields. This experience left me wondering what other risks are lurking in the financial system.
During the Kwarteng/Truss debacle, the pound reached a record low of 1.03 against the dollar, lower even than the rate it reached in 1985 when Margaret Thatcher was unnerved by the prospect of the pound falling to parity with the dollar, or even below it. Who would have thought that the pound would be ending this year some 20pc higher than this recent low?
Another of this year’s great surprises was our disappearing workforce. Since the pandemic, some 500,000 workers have left, thereby causing a marked shortage of labour and contributing to the upward pressure on pay. Along with difficult weather, the appalling quality of current TV and heaven knows what else, this was widely blamed on Brexit.
In fact, Brexit had next to nothing to do with it. True, large number of workers returned to eastern Europe. Yet the overall number of immigrants to this country actually rose. The real reason behind the exodus from work is a mixture of earlier retirement and the effects of Covid, interacting with the operation of the benefits system.
But it is time to be thankful. You have survived three prime ministers, three Budgets and four chancellors of the Exchequer. What a year!
Roger Bootle is chairman of Capital Economics
Goodbye to an astonishing year economists could not have foreseen
Looking back, 2022 was a landmark year