Poor productivity stifling UK growth even without Brexit anxieties

20 September 2018 Consultancy.uk

A coming Brexit reckoning has left the UK economy facing slow growth at best, as negotiations struggle to progress between Britain and the European Union. However, a new report suggests the UK economy also has significant issues to resolve domestically, with stagnant wages seeing the nation failing to move beyond a productivity gap which is holding growth back even before the UK has completed its divorce procedings.

With six months left to broker a deal, while the UK Government and negotiators from Brussels remain at an impasse, the one thing that can be said with any confidence about Brexit is that nobody can be sure what the future holds for the project. In recent months, reports have suggested that small businesses in Britain remain bullish about their post-EU prospects, while studies on its impact on the civilian populace found Brexit will cost households an additional average of £134–758 every year, even if the UK strike free trade deals with non-EU countries, while that figure could rise by 20-45% without the deals, at £245–961.

With regards to that, at time of writing, the UK and the EU still seem no closer to resolving disputes over a hard border in Ireland, or a number of other factors obstructing progress in negotiations, over 18 months into the UK’s secession from the union of 28 countries. To that end, top consulting firms have been warning their clients for months that while they might still hope for the best, they should prepare for the worst. Hard Brexit, or a no deal scenario, increasingly looks like the most likely outcome, presenting a number of issues which could hamper economic growth in the UK, especially if businesses do not prepare now.

In the latest report from Big Four firm KPMG, the firm remains ambiguous about exactly what Brexit could mean for the British market, but one thing is clear, without dealing with the nation’s continued productivity crisis, growth will remain sluggish. According to the Economic Outlook Report, the UK economy is set for modest growth if a positive Brexit deal can indeed still be reached with the EU, KPMG predicts that UK GDP will grow by 1.3% in 2018 and 1.4% in 2019. While this might seem positive, it would mark the lowest rate of growth since 2008 and 2009, during the global financial crisis, and suggesting the UK may be facing an on-coming storm.

Poor productivity growth will limit UK future growth

As mentioned, that estimation is are based on the assumption that the UK government will achieve a relatively friction-free Brexit and transition deal. If, as seems very possible, a disorderly Brexit were to occur – especially after Prime Minister Theresa May warned Members of Parliament to accept her Chequers plan, or face crashing out of the European Union – KPMG’s analysts predict that the UK will see a rapid slowing of growth to 0.6% in 2019 and 0.4% in 2020.

Commenting on the report, Yael Selfin, Chief Economist at KPMG UK, said, “If negotiations between the EU and UK result in a relatively friction-free agreement, then growth is likely to remain around 1.4% in the medium term as a result of relatively weak productivity. If we see a disorderly Brexit, growth will obviously slow more dramatically. If negotiations end well, the MPC are likely to raise interest rates to 1% at the tail end of 2019. If no deal is reached, the MPC will need to use interest rates to soften the economic impact.”

Productivity gap

At the same time, as mentioned, Brexit uncertainty is not the be all and end all of growth in the UK. KPMG also highlighted that poor productivity continues to blight Britain’s economy, as businesses struggle to recruit because of dwindling spare capacity. High employment rates are traditionally seen as a boost for the economy, however, as wages of the average worker have not risen to even match levels of inflation, the boon to the economy which high employment can provide has been hamstrung.

Vulnerability of UK goods exports could put pressure on pound

Meanwhile, the manufacturing sector is still seeing low export levels despite the weakness of the pound. Economic growth had to an extent been buoyed by the lower value of the pound, incentivising global investors to buy British products at bargain prices – however that activity has cooled dramatically in 2018. As the prospect of a cliff-edge withdrawal from the EU threatens to impact on the ease by which UK-based supply chains can sell goods to mainland Europe, manufacturer exports have been hampered by the continuing haze of confusion surrounding what 2019 holds.

At the same time, KPMG expects workers will likely see pay growth of around 3%. At the same time, inflation will fall, but only to 2.2%, minimising the benefits this could yield in terms of disposable income, particularly as many employees remain saddled with large debt burdens thanks to their stagnant wages, with eight in 10 currently unable to make ends meet without credit between paycheques. This has majorly impacted upon the retail sector in particular, and post-Brexit a further failure to address this matter will see retail continue to face a challenging environment.  

Yael Selfin further remarked, “Brexit will have a lasting effect on the UK, but economically it isn’t the only game in town. Issues such as improving productivity, reducing regional economic disparity, and ensuring that UK workers have the skills to meet employers’ needs should also be at the forefront of the Chancellor’s mind. Bringing productivity growth back to pre-2008 levels alone could see the British economy grow by more than 2%.”

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Brexit will have major impact on UK-EU electricity flows

22 April 2019 Consultancy.uk

Brexit could have a major impact on the consumer price of electricity in the UK, according to an analysis by Sia Partners. The total costs for UK society could swell to €600 million annually due to less efficient flows of electricity.

As the Brexit process has perpetually stalled, with no realistic end in sight now until Halloween, underprepared businesses have been handed a lifeline. The scramble to prepare for a No Deal scenario can now continue for another half-a-year, and one of the key factors which companies will need to consider when drawing up these plans is the cost of accessing utilities post-Brexit. In the digital age, virtually no business can survive without a ready supply of electricity – while the pay-cheques of staff will also need to inflate to accommodate future rises in bills.

With significant cross-border flows of electricity between continental Europe and the UK, Brexit is destined to have a major impact on individuals and companies in this manner, according to new analysis by consulting firm Sia Partners. These flows of electricity are governed by common European rules, but when the UK leaves EU, Britain’s electricity markets will no longer be integrated into Europe’s ‘Internal Energy Market’.

European model

Historically, electricity grids and markets were developed on a national level. However, years ago the EU set out to achieve integration in electricity grids, on the premise that coupling grids and markets can lead to significant benefits. By making electricity flows possible, price arbitrage can be faded out by allowing buyers to access cheaper prices offered beyond the country’s own borders, driving up competition and lowering average prices.

Brexit will have major impact on UK-EU electricity flows

An analysis of electricity flows between the UK and Ireland demonstrates this. Before Ireland was coupled to the UK, commercial electricity exchanges on the UK - Ireland border flowed 40% of the time against the natural direction, i.e. from the higher to the lower price market. After more effective cooperation and regulation was put into place ('After the I-SEM' went live), the picture changed drastically, with commercial flows now following the price differential 96% of the time. Quantifying this welfare benefit is not easy: according to one estimate by ACER, the economic added value of having market coupling with implicit capacity allocation on the GB-Ireland border (1GW) amounts to around €110 million annually.

Europe’s aim is to achieve interconnection of at least 10% of their installed electricity production capacity by 2020. As it stands, seventeen countries are on track to reach that target by 2020, or have already reached it.

On the UK side, the region currently has a total capacity of around 5GW connected with mainland Europe (France, the Netherlands, Ireland, Belgium), corresponding to roughly 5% of UK’s installed capacity. In comparison with other EU countries, this ratio is on the low end; however, the UK is playing catch-up and has 10 interconnections scheduled for commissioning in the next four years.

Brexit

It's clear that the UK’s withdrawal from the EU will have an impact on electricity markets co-operation. The question which remains is how large will the impact will be? To provide a forecast for this, analysts at Sia Partners ran a modelling exercise with two scenarios in mind. After leaving the European bloc, the UK will have to make agreements with European countries, similar to how Switzerland and Norway currently operate. Norway has a deal with a relatively high level of integration with the EU’s internal energy market, while Switzerland stands at the other end of the spectrum, with the country excluded from several market coupling initiatives (e.g. MRC, XBID) and from implicit capacity allocation with any other EU member state.

“If Brexit leads to a construction which is similar to the Swiss deal, where UK’s electricity borders are uncoupled from its neighbouring countries, then there will be a major loss of welfare.”
– Sia Partners

If the UK follows in the footsteps of Norway, then the consequences of Brexit could be muted. According to Sia Partners’ calculations, the economic loss would be minimised in the mid-term, with only operational challenges expected. For example, the implementation of pan-European projects, such as XBID, could run into delays in the UK. The EU currently has 7 of such interconnection projects scheduled for completion before 2022.

“In case a Norwegian style deal is struck, the UK will lose its decision power related to EU energy policy but it would allow keeping the benefits linked to the internal energy market not only for itself but also for Ireland and continental Europe,” the researchers state.

If, however, a Swiss deal is struck, then the projected costs could range between €500 million to €1 billion. An expected 60% of this loss will be borne by the UK, 16% by France, and 8% by Belgium, the isle of Ireland and the Netherlands. The researchers concluded that if Brexit leads to a construction which is similar to the Swiss deal, where UK’s electricity borders are uncoupled from its neighbouring countries, “then there will be a major loss of welfare.”