Oxford Professor Simon Wren-Lewis blogs here that UK households are set to lose out from the effects of the vote for Brexit over the next few years due to slowing growth in overall income. This is according to recent Bank of England forecasts for the UK economy.
While overall growth in GDP is forecast to be relatively strong compared to other rich nations, average growth in household income may be zero or even negative during this period.
This is due to the sharp fall in the value of the pound, which makes imports more expensive, and is already contributing to a rise in inflation.
Higher inflation means that a typical consumption basket is more expensive than otherwise, and this reduces real household incomes, other things being equal.
But the fall in the pound should have other effects on the economy. It should boost exports, tourism and in general make consumers more likely to buy goods and services produced domestically rather than abroad in the form of imports.
As exports grow more rapidly than imports this will shrink the UK’s gaping current account deficit, which will be reflected in a rise in domestic saving relative to investment. The BoE’s forecast, shown in the table in Wren-Lewis’s post, is for GDP to grow faster than household income. This means that while households will lose out initially, other sectors will gain. UK exporters and those who supply them will gain in the form of higher profits as demand for their output rises. So the devaluation will redistribute income from households to firms. If the improvement in exports is sustained, these firms should at some point invest in new capacity and create new jobs. The new investment will boost productivity growth, which has been very weak in recent years. This will create the space for wages to rise alongside profits, potentially boosting household incomes and consumption. This should in turn boost the government’s tax receipts, helping to shrink the budget deficit. Thus a virtuous circle could be set in train over the next decade.
All this ignores the potential costs of Brexit as trading arrangements for the UK change. However, if the current weaker level of the pound is sustained, there could be some significant positive benefits for the economy overall as it rebalances, despite the initial squeeze on household incomes.