Law firm CMS and the Fraser of Allander Institute has launched a new campaign aimed at bringing together Scotland’s business community, government and policy groups to maximise the nation’s economic growth potential.
The International Scotland initiative begins with the release of a new report highlighting some of the core opportunities for Scottish business, trade, and tourism to excel on the international stage.
The International Scotland report sets out how the nation punches above its weight in key sectors such as renewables, tourism and food & drink. It also recognises the strength of the Scottish university sector in supporting new, innovative companies and highlights how Scotland is an ideal location to attract international talent.
The report also focuses on some of the pros and cons of Brexit, suggesting that the UK’s exit from the EU could bring opportunities for the whisky market in nations like India and has also resulted in an upturn in international students at Scottish universities. It does, however, highlight the damaging impact Brexit has had on supply chains and many companies’ ability to do business, as well as its detrimental effect on foreign investment into Scotland.
A full copy of the International Scotland report can be found here
CMS and the Fraser of Allander Institute will now stage a series of events across Scotland involving direct engagement with the business community, Scottish Government ministers and other policy influencers.
Richard Lochhead MSP, Scottish Government Minister for Just Transition, Employment and Fair Work, will address the first event, focusing on Scotland’s transition to net-zero, in Aberdeen on 22 November.
Ivan McKee MSP, Scottish Government Minister for Business, Trade, Tourism and Enterprise, will then speak at an event focused on his ministerial remit in Edinburgh on 23 November. Mr McKee will also address the final ‘Invest in Scotland’ event, taking place in Glasgow on 7 December.
During the events, participants will discuss the key themes covered by the International Scotland report with a focus on developing policy proposals and recommendations aimed at reducing economic barriers and maximising global economic opportunities.
Companies and individuals wishing to apply to attend the events can register their interest here
Allan Wernham, Managing Director of CMS Scotland, said: “CMS is proud to join forces with Fraser of Allander Institute to launch the International Scotland campaign.
“Leveraging the knowledge and expertise within both organisations, we are focused on the core themes of business, trade and tourism; inward investment; and the transition to net zero and the key opportunities and challenges for Scotland in fulfilling its full economic potential.
“We now look forward to engaging in further discussions with the business community, government and policy groups to build consensus on the best way forward and develop innovative policy ideas that will help the Scottish economy to thrive.”
Professor Mairi Spowage, Director of the Fraser of Allander Institute, said: “We are excited to work with CMS on this new, internationally focused campaign.
“Using the evidence base highlighted in the International Scotland report, we will engage with a wider cross-section of stakeholders to explore the key barriers and enablers for the Scottish economy on the international stage.
“The forthcoming events taking place across Scotland will serve as the basis for feedback, input, further reflection and, ultimately, policy recommendation to drive economic growth.”
There’s been another busy week of economic and fiscal news to cover. The main headline is of course that the Bank of England Monetary Policy Committee (MPC) decided to raise interest rates for the eighth successive time, to 3%.
Also grabbing the headlines was the forecast that, if interest rates follow market expectations and go up to 5.25% by Q3 2023, the economy is likely to contract for 2 years, only returning to growth in Q3 2024.
The Governor of the Bank, Andrew Bailey, made clear that it was possible that the markets has over done the likely pathway for rates, implying that they may not end up getting above 5%.
But, as the chart below shows, their view is that the economy is in for a rough time over the next 2-3 years, whatever the specific pathway for rates. Whatever happens, their expectation is that we will not be above pre-pandemic levels of output by the end of 2025.
Chart: Outlook for UK GDP Growth, 2019 Q4=100
Source: BoE
On Wednesday, we published our latest Scottish Business Monitor, covering Q3 2022, which showed that business sentiment is now in negative territory for the first since the end of 2020.
Chart: Net balance (%) of firms expecting an increase in their volume of business over the next six months, Q1 1998 – Q3 2022
*Net balance of firms is defined as the share of firms reporting higher minus the share of firms reporting lower
With the price of goods, energy, and borrowing on the rise, the majority of Scottish firms that we surveyed are expecting to wind down their operations or pass on costs to their consumers over the next year.
However, there is some good news from our latest survey. Supply chain issues continue to ease, which may dampen inflationary pressures, and the ongoing energy crisis has motivated Scottish businesses to consider making energy-efficient improvements to their processes.
Additionally, In the most recent quarter, half of responding businesses reported that they had vacancies to hire new members of staff, down from 56% reported in the previous quarter.
Of those firms with vacancies, 90% were finding them difficult to fill – up 3 percentage points since the last survey. A lack of skills and applications continue to be the main barriers to filling job posts, and, increasingly, wage expectations are making it difficult for Scottish firms to hire the staff that they need.
Unsurprisingly, Scottish firms expect energy bills and wages to be their main cost pressures in the coming 6 months.
Scottish Economy contracts in August
Somewhat lost in the other news on Wednesday (see below) was new GDP data from the Scottish Government for August.
This showed that GDP fell by 0.3% in August, taking the Scottish economy below pre-pandemic levels of output – very consistent with the messages we saw from the Bank about a likely contraction overall in Q3.
The contraction was driven mainly by a fall in services output. In a sign of things to come, consumer facing services fell by 2.4%, chiming with what we are hearing from businesses.
Scottish Government cuts health funding to fund pay deals
On Wednesday, we had the Scottish Government’s Emergency Budget Review. We gave our initial reactions here, and the coverage since the publication on Wednesday has focussed very much on the cuts made to health spending to fund pay deals for health workers.
What is clear is that this may not be the end of the story for the 2022-23 budget. John Swinney in the Chamber made it clear that there could be further implications for the Scottish Budget from the UKG’s Autumn Budget on 17th November, perhaps even for 2022-23. And it is also clear that many pay deals are far from settled.
This week has seen the appointment of a new Prime Minister, but in terms of economic news it has been a far less tumultuous week than recent ones (writes EMMA CONGREVE, Deputy Director and Senior Knowledge Exchange Fellow at the Fraser of Allander Institute).
Both the UK and Scottish governments announced the postponement of planned budget events. The Scottish Government’s decision not to go ahead with its ‘Emergency Budget Review’ at this time was not surprising. However, there are questions around what budgetary changes will be made this financial year in response to inflation’s impact on public spending.
As highlighted in an article last week, that includes understanding the detail of employability cuts (announced back in September), and indeed the detail of where else the Scottish Government is eking out savings. We need better transparency over how these decisions have been made and the impact on people providing services and the people they support.
If/when the Emergency Budget Review goes ahead is unclear. It may well end up being rolled into the draft Scottish budget announcement for 2023/24, due on the 15th December.
The UK government’s decision to postpone its planned fiscal statement (now rebranded as the Autumn Statement) from the 31st October to the 17th November is justifiable given the prime ministerial change (and in light of the decisions of the incoming Chancellor Jeremy Hunt the previous week).
Delaying the fiscal statement should also mean that the outlook for borrowing costs should be slightly better than it would have been had the statement been published next week since it shifts the reference period for bond yields that the OBR will use in its forecasts.
The publication of the UK Autumn Statement on 17th November means there will be a window of four weeks between the UK Autumn Statement and the Scottish budget on 15th December.
Assuming the UK Autumn Statement is definitive about spending plans in 2023/24, this should provide adequate time for the Scottish government to prepare its 2023/24 by the 15th. There is little scope to push back the draft budget statement into January due to the timescales required to get the Budget Bill through the Scottish Parliament in time for the 2023/24 financial year.
With an expectation of further fiscal tightening by the UK government, the Scottish Government will be braced for more difficult decisions.
Until we see the UK Autumn Statement however, it remains very uncertain how the UK government will prioritise different tax and spending measures, and over what timescales, and hence the implications for the Scottish budget in 2023/24 and beyond.
As always, we will be looking for evidence-based rationales and transparency in how spend has been prioritised from both governments; a subject we will no doubt return to in the coming weeks.
More detail on the impact of the cost of living crisis
As we discussed last week, CPI inflation for September was estimated at 10.1%. This week, the ONS have published supplementary analysis on how rising prices are affecting adults across Great Britain.
9 in 10 people surveyed reported that their cost of living had increased compared to a year ago and the survey asked questions on the extent to which this had impacted their lives.
Around 45% of adults in both GB and Scotland reported finding energy bills somewhat or very difficult to pay and around 30% of GB and 25% of Scottish adults reported finding rent and mortgage payments difficult to afford.
Other breakdowns by protected characteristics showed different experiences. For example, 55% of disabled people, 69% of Black or Black British adults, 59% of Asian or Asian British adults and 60% of renters were finding it somewhat or very difficult to pay energy bills (compared to the population average of around 45%).
These differences are likely to be linked to socioeconomic status: around half of those with a personal income of less than £20,000 per year said they found it difficult to afford their energy bills which reduced to 23% for those with a personal income of more than £50,000.
This week, the ONS also published a ‘highly experimental’ (their words!) analysis of low-cost groceries. For half of the sampled items, the average lowest price goods increased at a faster rate than the official CPI inflation measure for food and non-alcoholic beverages over the past year.
The highest rising prices were for vegetable oil (65%); pasta (60%) and tea (46%). Bread and milk were among other items that rose by more than the CPI average.
The pressures are also of course affecting businesses. The latest Scottish Government analysis of the BICS survey found that 49.8% of businesses reported that the prices of materials, goods and services bought in September 2022 were higher than in August 2022. Around 60% of businesses reported absorbing these costs, and around 35% reported that at least some of the price increases were passed on to customers.
Going back to the previous survey of GB adults, the most significant behavioural changes reported were ‘spending less on non-essentials’ (62% of adults in GB and in Scotland) and ‘using less fuel such as gas and electricity in my home’ (52% of GB adults, 57% in Scotland). If the latter prevails into the colder season, there is of course a concern that this will have serious adverse impacts on health.
Upcoming webinar for your diary
On the subject of health impacts, the Fraser of Allander Institute, in collaboration with MRC/CSO Social and Public Health Sciences Unit at the University of Glasgow and the Health Foundation are holding a webinar on the 15th November (3 – 4.30pm) to discuss trends in health and the socioeconomic drivers of health in Scotland.
Our report on the trends in socioeconomic determinants of health over the past twenty years will be out in the coming weeks.
Click here to sign up to the webinar to hear all about it.
Monday morning seems like an age ago, and the political circus is likely to continue into next week (writes Fraser of Allander Institute’s MAIRI SPOWAGE).
On Monday, the new chancellor undid pretty much every tax measure in the ex-Chancellor and soon-to-be ex-PM’s “mini”-budget. Only those already legislated for will proceed (the scrapping of the health and social care levy and the stamp duty cuts in England will still happen).
Although the PM has resigned, it still looks like the Fiscal Plan will be presented on 31st October, which is an interesting political situation given that presumably means that Jeremy Hunt will remain as Chancellor whoever wins the leadership election over the next week. But perhaps the last wee while has taught us that presuming anything is foolish!
For Scotland, the extra funding that was going to be generated by these tax measures for the Scottish Budget has now largely disappeared, with only the stamp duty reductions generating additional funding for Scotland.
This presents significant challenges for the Deputy First Minister in managing an already very stretched budget.
Economic Case for Independence published
Somewhat overshadowed by events at Westminster, the Scottish Government published the third in their series of papers to set out a new case for independence on Monday. This paper, “A stronger economy with independence” was expected to set out the economic case, covering issues such as currency, trade, and public sector finances.
We published analysis of the paper on Monday – and look out for our Guide to the Economics of Independence which we’ll be publishing soon and updating as more information is released by the Scottish Government.
Inflation goes back above 10%
The Office for National Statistics (ONS) published September inflation data, which showed that CPI inflation had gone back into double digits, running at 10.1%.
Underneath the headline rate, food and non-alcoholic beverages inflation is now estimated to be 13.1%. There was a slight downward pressure from motor fuels, as the prices at the pumps fall back from the peaks they reached in July.
These data still do not capture the energy price rises households are now experiencing as of 1st October, so expect there to be further increases in the rate when that data is published next month.
Interestingly (well, if you are interested in economic statistics, come on!) it may be that the change in the way the government is supporting households on energy may change the outlook for inflation. If, as is expected, the help after April is more targeted as cash transfers to those households most in need, then this will not put downward pressure on the actual price of energy.
We’ll be looking out for the OBR and Bank of England’s (3rd November) view on the pathway for inflation given these changes.
New Public Sector Finance Data published this morning (Friday)
ONS have also put out the latest public sector finances release, which contains public finance statistics (including deficit and debt) up to September 2022.
These have the first statistics on revenue generated by the Energy Profits Levy, which shows that £2.7 billion was generated from this tax in the year to date. It will be interesting to get the OBR’s independent view of the likely take from this tax over the next few years – and obviously to see if the Chancellor chooses to extend this in some way in the Fiscal Statement.
More broadly, it contains up-to-date statistics on the size of the UK National Debt. Debt has reached £2.5 trillion, which is equivalent to 98% of GDP – levels not seen since the 1960s.
This reminds us of the challenging fiscal environment, which sets the backdrop for the statement by the Chancellor in 10 days time.
No confirmation on the Scottish Government’s Emergency Budget Review
As we write this, we have no confirmation whether the Scottish Government’s Emergency Budget Review (EBR) will go ahead next week, as previously indicated.
Remember, this review is to look at in-year (2022-23) spending to balance the budget in the face of higher than expected (at the time of the last budget) inflationary pressures, particularly in relation to the public sector pay bill.
We wrote yesterday about employability support, one of the areas that John Swinney has already indicated will be cut. A number of questions remain to be answered. and we hope the EBR will be clear in laying out the evidence considered when deciding where the axe will fall.
The response to whatever is set out by the UK Chancellor on the 31st October will come in the Scottish Government’s draft budget for 2023-24 on the 15th December. For fiscal fans, the fun is due to continue for some months yet!
On 5th September, the Conservative party elected a new prime minister of the United Kingdom. Scotland has not voted for a conservative government since 1955, and Liz Truss marks the twelfth prime minister in the last hundred years elected without majority support in Scotland (writes Fraser of Allander Institute’s ALLISON CATALANO).
The last time Scotland’s vote mirrored the majority was in 2005 – the last time that a general election resulted in a Labour majority.
The Brexit vote in 2016 is another good example of how far Scotland’s opinion differs from that of the UK majority – less than 40% of Scottish voters approved the referendum to leave the EU, compared to more than 50% from Wales and England.
Scotland’s status as a minority among the UK electorate isn’t so surprising from a population standpoint – Scotland only accounts for about 9% of the total UK electorate. England, by contrast, claims 84% of all voters.
The vast difference between Scotland’s opinion and UK electoral outcomes may result in worsened well-being for the Scottish population. People derive a sense of satisfaction from having the ability to participate in and impact politics and governmental structures. This satisfaction, termed “democratic well-being,” is weakened by perceived or structural inequalities.
Participatory inequality stems from any situation in which a particular group is unlikely to or discouraged from some form of civic participation, which includes behaviours like voting, interacting with political campaigns, activism, or volunteering.
Examining voting in particular, Scottish voters may feel disenfranchised from the political sphere in the UK because of the perceived lack of political power on a national level, and may be less likely to choose to vote or express an interest in politics.
Certain groups in Scotland may also be more or less inclined to participate in national or local elections.
Income levels, health, and educational attainment may all result in different levels of participation both within Scotland and when comparing Scottish participation to the rest of the UK. In this sense, there may be participatory inequalities within the Scottish population and when comparing Scotland to the UK as a whole.
Using Understanding Society: the UK Longitudinal Household Survey, we determined that age, income, health, education, and employment statuses are correlated with an individual’s level of interest in politics, and the likelihood that they voted or volunteered recently. Understanding Society is a yearly panel survey, with yearly data available from 2009 to 2021.
Does participation differ in Scotland compared to the rest of the UK?
Scotland has a high level of average engagement across all survey years relative to Northern Ireland and Wales, but a lower level than England.
Scottish residents are more likelyto have volunteered in the past year than residents of Northern Ireland or Wales, but less likely to have volunteered than English residents.
Scottish voting habits vary. Scotland had the lowest turnout in 2001 and 2005, and the highest turnout in 2015 and 2019. Scotland generally has higher turnout than Northern Ireland but lower turnout than England or Wales (Figure 1).
Scottish residents are more likely to express aninterest in politics than in Wales and Northern Ireland. Scotland’s responses are roughly similar to England. Interest in politics across the UK increased in 2016 following the EU referendum vote, particularly in Northern Ireland, and peaked in Scotland in 2018 (Figure 2).
Figure 1: General election voter participation by constituent country
Figure 2: Interest in politics by constituent country
Despite Scottish residents being relatively politically engaged, Scotland experiences substantial gaps in participation based on health, income, education, and employment.
Scotland has the largest gap in participation between individuals that considered themselves in good health and individuals that considered themselves in poor health in the United Kingdom (Figure 3).
The lowest income quintile in Scotland is more engaged than the lowest income quintile in Wales or Northern Ireland. However, Scotland experiences larger gaps between the highest and lowest income quintile than the national average in political interest. Notably, the bottom income quintile in Scotland was more likely to have voted than in any other part of the UK. Political interest was also higher than the national average for the lowest earners.
Individuals with no qualifications in Scotland are less likely to volunteer than anywhere else in the UK, although they are more likely to have voted in a general election than the UK average. Unqualified individuals in Scotland are less likely to express an interest in politics than in England or Wales.
Scotland experiences a greater gap in participation based on work-related benefits compared to the rest of the UK. Individuals receiving in-work income or unemployment benefits are less likely to have voted, volunteer, or express a political interest in Scotland than anywhere else in Great Britain.
Figure 3: The gap in civic participation between self-reported good health and bad health is wider for each behaviour in Scotland compared to the rest of the UK
How do inequalities impact civic engagement in Scotland?
Health and income inequality are consistent predictors of voter turnout in Scotland. Scotland’s wide range of participatory behaviour based on health is particularly interesting.
Scotland has a unique relationship with health inequalities, and a history of unusually poor health outcomes based on region, education, and income. Although health inequality takes many forms, life expectancies provide a good frame of reference.
In general, higher incomes beget longer lives. Scotland is a complete anomaly in this regard – despite having the highest average income in the United Kingdom, Scottish people have the shortest life expectancy.
Life expectancies also vary widely within Scotland, and even within cities and neighbourhoods. For instance, a male born in Glasgow between 2018-2020 has a life expectancy that is 7.5 years shorter than one born in the Shetland Islands.
Within Glasgow neighbourhoods, the difference in life expectancies is striking – males born in the least deprived areas can expect to live 15 years longer than males born in the most deprived areas.
I examined the health impacts on voting, volunteering, and political interest based on individual’s self-perceived general health, mental health, long-term illness or disability, and receipt of any illness or disability benefits.
Individuals that consider themselves in poor health are less likely to engage in civic behaviour compared to those that considered themselves in generally good health (Figure 4). Overall, self-perceived general health was the most significant health predictor of civic behaviour.
Figure 4: Inequalities in civic participation by self-reported health status
Surprisingly, claiming a long-term illness or disability did not impact an individual’s ability to participate. This is largely because of the broadness of the term “disability” – a person can be disabled in a way that limits their ability to vote, but many disabilities are easier to manage and would have no impact on someone’s ability to understand politics or volunteer. Receiving disability benefits, however, indicates that a person’s circumstance is difficult enough that it interferes with regular work and income.
The Understanding Society Survey has 41 different benefit classifications. Using their descriptions as illness or disability benefits, I looked into people who received at least one of the following benefits: severe disablement allowance, industrial industry disablement allowance, disability living allowance, war disablement pension, incapacity benefit, received working tax credit (including disabled person’s tax credit), and any other disability benefit or payment.
Scottish residents receiving some form of disability benefit were:
10% less likely to have voted in the most recent election than Scottish residents that did not receive disability benefits
19% less likely to report an interest in politics
41% less likely to have volunteered in the past year
Receiving work or income benefits is another way of looking into the degree to which income inequality affects participation. I considered the following benefit classifications to be low income or unemployment benefits: income support, job seeker’s allowance, national insurance credit, housing benefit, rent rebate, universal credit.
Receiving work or income benefits affected participation more substantially than those receiving disability benefits (Table 1).
Table 1: Proportion of each population which participated in the following civic behaviours
Voted in a recent election
Interested in politics
Volunteered in the past year
Receiving unemployment or income benefits
66%
20%
8%
Receiving illness or disability benefits
72%
26%
10%
Total Scottish population
80%
32%
17%
Income inequality is also closely related to civic participation. By dividing household income into five quartiles of the population, we found that the highest-earning 20% of the Scottish population was significantly more likely to participate in civic behaviours (Figure 5). This is a clear example of participatory inequalities based on income.
Figure 5: Civic participation inequalities based on income quintile
Education also has a significant impact on all aspects of civic participation. Volunteering is the most notably impacted behaviour by education; only 4.4% of Scottish residents without educational qualifications reported volunteering in the past year, compared to over 27% of Scots with university degrees.
Table 2: Percentage of each population which participated in the following civic behaviours
Voted in a recent election
Interested in politics
Volunteered in the past year
No educational qualifications
73.5%
21.3%
4.4%
Scottish average
80%
32%
17%
Has a university degree
87.6%
38.4%
27.1%
Scotland suffers from unequal participation across a number of metrics, most notably education, income, health, and benefit receipt status. Poorer, less educated, and less healthy Scottish residents are less likely to have participated in voting and volunteering. The differences in participation are also larger within Scotland than any other constituent country in the United Kingdom.
Civic participation – whether by voting or by selecting causes to volunteer for – ultimately shapes political agendas. Values that are important to low-income, unqualified, or unhealthy members of society may be overlooked on a national scale due to disproportionately low levels of participation among these individuals.
The more equality in participation among all levels of society, the more that any particular group is able to better their circumstances.
Scotland’s economy is likely to contract in the second half of 2022, according to researchers at the Fraser of Allander Institute. The Institute’s quarterly Economic Commentary, which includes an assessment of all the key latest data on the UK and Scottish economies, was published last week.
In the Deloitte-sponsored Economic Commentary, the Strathclyde researchers have set out their new forecasts for the Scottish Economy.
The economists are forecasting growth of 3.6% in 2022, followed by a contraction of -0.6% in 2023, before returning to growth in 2024 of 0.8%. This is a significant revision down from the Institute’s previous set of forecasts in June.
The forecasts assume that the last two quarters of the year, and the first quarter of 2023, will show contractions in the economy due to wider economic challenges. This means that Scotland is likely to be entering into a recession (defined as two quarters of negative growth in the economy).
With inflation at a 40-year high, this quarter’s Commentary also includes extensive analysis of the likely impact of price rises on different types of households in the economy.
Professor Mairi Spowage, Director of the Institute, said “The data we analyse in the Commentary today points to weakening demand in the economy as inflationary pressures pervade every aspect of our lives.
“Consumer confidence is starting to weaken with attitudes on the outlook looking pessimistic. This has led us to reduce our forecasts for 2023 and 2024. Our assumption is that there will likely be contractions in the economy during the second half of 2022 and into 2023 given wider economic conditions.
“In practice, this means Scotland is likely to enter a recession.”
Angela Mitchell, senior partner for Deloitte in Scotland, said “There is no doubt that businesses in Scotland face significant challenges over the next few years. Many business leaders have never navigated their business, and its people, through a period of such high inflation and weakening economic activity.
“Charities and public bodies, unable to pass on costs or pivot plans like businesses, are also facing immense pressure. The dual blows of the pandemic and cost-of-living crisis are having a profound impact on the public sector’s spend power, while simultaneously driving huge demand for public services.
“Unlike during the pandemic, however, there is an opportunity to plan and prepare now for the months ahead. Business leaders will naturally want to focus on responding to the most immediate challenges, but they should also consider what they want their business to look like beyond the current challenges. Longer-term thinking, building in resilience and working towards creating an organisation that is fit for the future, will help businesses not only to recover, but to thrive.”
Also in the Commentary in this edition, the researchers have published an analysis of what the UK Government’s fiscal event on Friday 23rd September could mean for Scotland.
The Deputy First Minister has committed to setting out an emergency budget soon after the UK Government’s fiscal event. The announcements made by the UK Government on tax mean that there are resources available to the Scottish Government to either follow suit – or to invest the additional funding in services.
David Eiser, the institute’s Deputy Director, said “The UK Government’s “mini-budget” was anything but mini – the measures announced were very significant.
“The scale of fiscal changes – without any analysis of the sustainability of such measures – has created significant concern in the financial markets.
“The real surprises were on income tax, with significant changes announced for next financial year – albeit some subsequently reversed. Of course, these changes do not apply in Scotland, so it will be up to the Scottish Government to set out its proposed income tax policy for 2023/24 in due course.
“John Swinney has committed to producing an Emergency Budget in late October – although we should probably expect that the decision on income tax will not be set out until the Scottish Draft Budget is published. We now expect the UK Government to present their Medium Term Fiscal Plan and OBR forecasts also in late October, with the Scottish Budget likely to follow before the end of the year.”
Not all households are equally affected by rising prices. New ONS data for the UK released in August divides price indices, expenditure shares, and inflation by income quintile, retirement status, whether or not households have children, and residence type.
As many have anticipated, the households that earn the least are feeling the effects of rising prices most keenly, Chart 1.
Chart 1: Relative CPIH price indices by income quintile, 2005-2022
* Indices are differenced from the index for households in the third quintile (the reference group). Source: ONS
The first quintile (the lowest-earning 20% of households) faced an effective annual inflation rate of 9.8% in June, compared to 9.0% for the middle quintile and 7.9% for the highest.
Resolution Foundation’s forecast estimates that households in the lowest income decile will face inflation of 15% by October, while inflation will be 11% for those in the highest decile. The difference in price indices across the income distribution are not new, but they have spiked this year. From 2013 to early 2022, the price index for the first quintile was about 2 points higher than for the third quintile. By June 2022, that difference had grown to 3.5 points.
In comparison, the cost-of-living crisis has impacted the highest earners least.
Household spending patterns drive different effective inflation rates across the income distribution. Food, fuel, and housing make up a larger proportion of spending for lower-income households than for higher-income households.
The largest contributors to rising inflation are housing and household services, transport, and food and (non-alcoholic) beverages. The share of expenditures on these categories falls as income increases, Chart 2.
Chart 2: Expenditure shares on selected categories by income quintile, Feb-Dec 2022
Source: ONS
This year, fuel, food, and transport comprised 64% of the expenditure of the lowest-earning quintile. The highest quintile spends 55% of expenditures on the same categories. Lower-income households are also more likely to use pre-payment meters, and cannot spread costs across the year. High energy prices are more likely to result in reduced consumption during the winter for these households.
How does inflation affect real incomes?
Price inflation erodes real disposable incomes. In August 2022, the Bank of England estimated that real post-tax incomes will fall by 1.5% in 2022 and by 2.25% in 2023. In a recent report, the Resolution Foundation concluded that rising inflation will wipe out twenty years of real earnings growth.
These effects are not evenly felt across the earnings distribution.
In addition to facing higher inflation, the lowest-earning households have seen a drop in year-on-year nominal earnings growth this year compared to higher-earning households. This slower wage growth will compound the effects of higher experienced inflation.
Cost-of-living for retired households and households with children
Household composition may also change how households experience changes in the cost of living, also due to differences in the composition of expenditures.
Retired households typically face higher inflation than non-retired households, Chart 3. The inflation rate for retired households has been about 0.4 percentage points (pp) higher than for non-retired households since March. This trend highlights concerns about pensioners rationing fuel this winter.
Chart 3: Inflation by household composition
Source: ONS
Unlike retirement status, whether or not a household has children does not materially change the inflation rate they face.
Cost-of-living for renters and homeowners
Housing costs contribute to rising inflation, but the rates faced differ by residency type, Chart 4.
Chart 4: Relative CPIH price indices by resident type
* Indices are differenced from the index for owner-occupier households (the reference group). CPIH indices include housing costs. Source: ONS
Similarly to price indices across the income distribution, the price index for social rented sector tenants has spiked in 2022 compared to private rented sector tenants and owner-occupiers.
In June 2022, inflation for social rented sector tenants was 11.2%, compared to 8.2% and 8.6% for other renters and owner-occupiers respectively.
The most likely driver of this difference in experienced inflation is food costs rather than housing; social rented sector tenants spend 16.3% of expenditures on food and non-alcoholic beverages. The same share is about 10% for other renters and owner-occupiers.
Subsidised renters spend a smaller share of their expenditures on housing, fuels, and transport, so these are not likely sources of the difference in inflation rates. Regardless, subsidised renters are likely to be relatively low-income, and concerns about reduced food and fuel consumption, particularly in winter, are still salient.
Rising rent and mortgage rates are also likely to exacerbate pressure on household budgets, particularly for new homeowners.
Do proposed policies to combat the cost of living address distributional inequalities?
Both the UK and Scottish governments have announced policies to tackle the cost-of-living crisis, but it remains to be seen if these policies will effectively target those most impacted by inflation.
The £2,500 price cap announced by the UK government in September is guaranteed for two years and applies to all households equally. A £400 discount on energy bills starting in October and the cancellation of green levies on fuel are also universal.
A £15 billion support package announced in May provides one-off payments of £650 to low-income households on certain types of benefits, £300 to pensioner households, and £150 to individuals on disability benefits.
Scottish Government has also recently announced policies that target the most vulnerable households. Initiatives include a rent freeze and a hold on increases to ScotRail fares. The rent freeze in particular may help some in the short-term, but is likely to reduce rental property supply and quality if not carefully implemented.
Some previously-planned policies, such as increasing the Scottish Child Payment from £20 to £25 per week, per child and extending the benefit to under-16s, will also help households with children to manage rising costs.
The full distributional effects of the the cost-of-living crisis and the UK and Scottish governments’ response remain to be seen.
For some in Westminster, a week in politics will never have seemed longer. Financial markets are still reeling from the announcement of the £40bn of deficit-financed income tax cuts announced last week.
The ramifications through the financial system are myriad but stem from the decisions of UKG heaping more uncertainty onto markets that were already bracing themselves for a difficult few months.
Our budget response last week referred to the decisions made by UKG as being a gamble. Tax cuts do not necessarily lead to growth, and the additional tax revenues and lower debt/deficit:GDP ratios that would come with that growth. The absence of an OBR forecast, which may have helped reassure the markets that the plans were credible, did not help (and of course, the OBR could have been less supportive of the plans than the Chancellor would have hoped for).
The upshot is that the risk that the UKG will have permanently higher borrowing has increased, leading to a fall in the value of government bonds. Inflation has become even harder to predict and with that the future path for interest rates. All this has real implications for markets that we all come into contact with, including most notably pensions and mortgages.
The tax cuts announced last week were part of a plan for growth that the Chancellor and the PM are holding firm on. The hope is that it will boost the labour supply by incentivising people to work more.
By abolishing the additional rate, it is hoped more high earners people will want to work in the UK. Whether or not it works depends on whether people change their behaviour in light of the tax cuts, or whether other factors override the increased financial incentive.
For example, for basic rate tax payers, there may be structural barriers that constrain their ability to work – the availability of childcare being an obvious example. Additional rate tax payers may not see the tax cut as being substantial enough to make them relocate, or they may not be able to due to visa restrictions.
There are promises of further supply side reforms in the coming months, including on childcare and visas, that may increase confidence that the plan is credible, but at the moment, only a notable few appear to believe it is guaranteed to succeed.
Some of the trailed reforms will apply UK wide, and changes to rules around immigration will be keenly anticipated by many businesses in Scotland.
Others, such as reform in childcare, may not apply in Scotland as provision of publicly funded childcare falls under devolved competence. Increased spending on childcare by Westminster could lead to additional consequentials to Scotland.
However, in terms of the Scottish budget, there is always the risk that additional consequentials from one area are offset by decisions to cut spending in other departments.
That appears increasingly likely. This week, UKG departments have been asked to look for savings in departmental spending, which looks like an attempt to sure up fiscal credibility from the other side of the ledger.
This leaves the Scottish Government, along with everyone else, dealing with more uncertainty than they expected just over a week ago. The Emergency Budget Response from John Swinney has been pushed back to late October, but it will be difficult for the Scottish Government to act decisively until more is known about what the UKG will do next. For that we may have to wait until late November, when we also expect to see OBR’s assessment of the UKG’s plans.
Next week, we will be publishing our quarterly Economic Commentary which will provide insight and analysis on the pressures that were already facing the Scottish Economy.
The events of the last week are having ramifications on the real economy, but there were of course multiple issues that businesses and households were already trying to deal with. Look out for our report on Tuesday 4th October.
The week’s economic news has again been dominated by the implications of inflation, and in particular of huge increases in household energy bills.
Projections for the energy price cap have again been revised up. The latest projections indicate that the price cap could reach around £3,500 in October, and increase further to around £4,400 in April. It is incredible to think that the cap was £1,277 earlier this year (having now increased to £1,971).
Such levels of increases will have severe impacts on households. In Scotland, a quarter of households were already in fuel poverty in 2019, the year in which the Fuel Poverty (Targets, Definition, Strategy) (Scotland) Act received Royal Assent.
That Act determines that a household is in fuel poverty if two conditions hold:
First, that in order to heat the home to a satisfactory level, the household would need to spend more than 10 per cent of its net income on fuel; and
Second, if, after deducting those fuel costs, and other essential costs associated with disability, care needs or childcare, the household’s income is below 90% of the UK Minimum Income Standard.
The definition therefore is not based on what a household actually spends on fuel, but on what they need to spend to heat their home to an acceptable level.
The daunting projections for energy bills will undoubtedly lead to a substantial increase in fuel poverty throughout 2022 and 2023. Quite how many households will be in fuel poverty according to the official definition will depend in part on what further action the government decides to take. But it is clear that a broad swathe of low and middle income households will be placed under severe financial strain.
The political debates this week have again focussed both on the level and targeting of further support the government should provide.
There is a clear case for targeting. In Scotland, almost all households (96%) with incomes below £200 per week were already in fuel poverty in 2019; but amongst households whose incomes were above £500 per week, fuel poverty rates were negligible. Further targeting via the social security system therefore seems appropriate.
But it should also be remembered that the financial distress caused by the energy price crisis will extend well beyond the poorest, and further broader-based support would also be justified. This is where the delivery mechanism becomes more challenging. Government could subsidise bills universally, although this would be expensive, providing support to some households whose need for support is relatively less.
But trying to provide support to low and middle income households only is tricky. Using the council tax system is far from ideal given the weak links between council tax band and income.
Households in bands A and B are relatively more likely to be in fuel poverty, but over 14% of Scottish households in bands F, G and H were in fuel poverty in 2019. On this basis, using council tax band as a way to limit the breadth of financial support provided has clear disadvantages.
It now seems unlikely that the UK government will announce its next round of support for households until the Conservative leadership contest has concluded. Depending on the mechanisms it chooses for delivering that support, the Scottish government may be allocated additional resources of its own which it can prioritise as it deems fit, or the support may be delivered at UK level (via energy bills or the social security system).
This year has not seen the return to normality that many businesses hoped for. Supply chain disruption, rising prices, hiring difficulties, interest rate increases, and lack of confidence are taking their toll (writes Fraser of Allander Fellow JAMES BLACK).
Many economic organisations are now forecasting potential slowdowns in the UK and globally, but significant uncertainty remains around forecast business conditions.
One of the challenges in predicting slowdowns is the timing. Robust data often takes months to collect, so we often do not know if the economy has started slowing until months after it begins.
It’s helpful to step back and look at the significant economic drivers in times of such uncertainty. Survey snapshots, such as our recently published Scottish Business Monitor sponsored by Addleshaw Goddard, can provide some hints. So, what are businesses saying about their current performance and expectations for the coming year?
Starting with the positives, more businesses reported an increase in sales volume in the year’s second quarter than a fall, resulting in a net balance of +15%. This net figure is reasonably high, and this level hasn’t been seen in our survey since 2014. Employment, new business, and capital investment indicators also remained positive for the second quarter.
On the face of it, businesses have been remarkably resilient. Few people predicted emerging from one of the greatest human health crises in over a century with unemployment rates near record lows. Scottish onshore GDP grew by 0.6% in May, now 1.1% above February 2020 levels of output.
But concerns are now starting to emerge in the data. The net balance of the sales volume is still positive but has weakened since the start of the year. Looking ahead to expectations over the next six months, the positive but weakening finding is consistent across many indicators such as business volume, new business, and employment.
This weakening is mirrored across several other surveys. The June RBS Purchasing Managers’ Index showed the weakest expansion in Scotland’s business activity since January. Only 13% of UK businesses in the ONS’ Business Insights and Conditions Survey reported an increase in turnover in June compared to 24% reporting a decrease, and expectations for August are negative.
The most commonly reported challenge impacting these turnover figures is the cost of materials. Our survey has been asking Scottish businesses to report on their business costs since 1998 and provides a useful reference for the scale of this challenge.
The past four quarters have shown cost increases across the board. Costs for energy, employees, inputs, imported goods and services, distribution, and credit are all increasing or already very high. Compared to the 23 years of surveyed total business costs between 1998 and 2020, each of the past four quarters is a record breaker.
The knock-on impact of these price rises continues to filter through to the economy. An ONS survey states that 44% of UK firms have reported absorbing costs, while 26% passed on price increases to consumers. Two in five Scottish firms we surveyed said they expect to reduce their operations due to energy prices.
Concerns exist around how these supply-side issues could lead to significant demand-side impacts and contribute to a slowdown. So, what does the evidence show on how the major drivers of demand – consumer spending, export demand, government spending, and investment – have been affected?
Household spending accounts for almost two-thirds of Scotland’s GDP, but many people have seen their costs increase while their wages have failed to keep up. The likely impact is people dipping into savings, borrowing, buying fewer goods and services, or substituting for cheaper goods and services.
On savings, aggregate data up to May on net household deposits to UK banks has so far remained relatively stable over the year. If consumers, as an aggregate, start dipping into savings, this would be worrying not just for living standards but also for a potential reckoning down the road as these savings eventually run out. Credit card borrowing does appear to have increased, but total borrowing is still moderate compared to the past decade.
However, UK Retail Sales data up to June shows rising sales values and falling sales volumes. Inflation has driven what is now a significant wedge between these trends. Sales volumes have fallen close to levels seen in June 2019. Perhaps not yet concerningly low, but the trend is worrying both in terms of living standards and the consequential impact on businesses and their supply chains.
For now, the data primarily points to reductions in delayable purchases such as furniture. Mostly anecdotal evidence suggests that consumers are opting for cheaper options in supermarkets and switching to budget retailers.
If domestic demand appears to be showing initial signs of slowing, will exporting come to the rescue? Most Scottish businesses in our survey say no. Pessimism exists about export performance over the next six months, and a global slowdown in 2023 appears increasingly likely.
Government spending in Scotland was projected to barely increase in real terms between 2022/23 and 2025/26, and inflation expectations have since worsened. The cost-of-living payment and £400 energy rebate will likely partially offset but not reverse expected negative consumer trends. However, it remains to be seen how UK policy may change under new leadership.
According to the Bank of England, investment intentions are still positive, and firms are increasingly looking toward energy-saving investments. But some firms are reassessing investment plans as the economic outlook worsens.
The challenges this year result from a perfect storm of supply chain issues. This included several surprises on the downside. An optimist may hope for the possibility of surprises on the upside too. Any signs of improved energy supply and production levels in China deserve attention over the coming months.
For now, the message for businesses is don’t panic but do worry. But for many people, there is increasing evidence that we are leaving a health crisis only to enter a crisis of living standards.
