Rachel Reeves should ramp up public investment by tens of billions in order to break out of the UK’s low growth trap, a leading think tank has said.
In its latest set of forecasts, the National Institute for Economic and Social Research (NIESR) warned that the new government would fall well short of its growth target unless it lifted public investment.
Labour has set itself a target of securing the highest sustained growth rate in the G7, which would likely require annual GDP growth of around 2.5 per cent.
However, NIESR put the UK’s trend rate of growth a little over one per cent, due to sluggish productivity growth and a lack of investment. That compares to 2.3 per cent between 1973 and 2007.
Source: NIESR
To get closer to reaching the growth target, NIESR called on the government to lift public investment to around five per cent of GDP, up from its current level of around 2.5 per cent of GDP.
Investment should be directed to areas like housing, transport, education and skills, NIESR said. It argued that this would help crowd-in private sector investment, which is noticeably lower than the OECD average.
Total investment in the UK, which includes public and private sector investment, has been the lowest in the G7 for 24 of the last 30 years, according to IPPR.
Adrian Prabst, deputy director of public policy said “targeted” investment in certain areas would make a big difference for private sector firms looking to invest. “For every example of crowding-out, you can find five or ten examples of crowding-in,” he said.
Raising public investment to five per cent of GDP would cost an extra £50bn per year, the think tank said, requiring a major rethink of the fiscal rules.
The current set of fiscal rules requires debt to be on a downward trajectory in five years time. This effectively encourages governments to cut capital spending, the benefits of which are often only felt beyond the five-year forecast horizon.
In one of her first major decisions as Chancellor, Reeves confirmed that she would be scrapping some major infrastructure projects in order to help plug the £22bn blackhole she claims was left by the Conservatives.
She scrapped the £1.7bn tunnel under Stonehenge and the A27 Arundel bypass. She also paused Boris Johnson’s £500m Restoring Your Railway Fund, which sought to restore railway lines which had been shut down as part of the Beeching cuts in the 1960s.
Stephen Milliard, deputy director of macroeconomic modelling and forecasting, said the decision to cut capital spending was “quite concerning” while Prabst said it sent a “worrying signal”.
Despite the need to lift public investment, the think tank was under no illusions that it would be easy to lift the UK’s trend rate of growth.
In a foreword to their forecasts, Jagjit Chadha, NIESR’s director, asked whether the government had the “institutional ability” to manage major infrastructure projects or “the right methods of appraisal” for assessing whether public investment would go towards socially optimal spaces.
“Reluctantly, I think we probably do not,” he wrote.