Size of our pandemic savings explains a lot, says HAMISH MCRAE

Here’s a puzzle. Why is the UK economy so resilient? It has had a huge amount thrown at it, and it is still suffering from somewhat higher inflation than most other developed countries.

But contrary to forecasts from the IMF, it is managing to sustain some growth, unlike the eurozone, which is in recession. The fall in house prices seems to have stopped in June, according to Nationwide Building Society. Retail sales rose in both April and May. And Lloyds Bank’s survey of business confidence has just hit a 13-month high.

This may not be brilliant, and some sectors are still struggling, but it is a darn sight better than official forecasts predicted. Why?

Start with the general characteristic of Britons, that when we have a bit of money, we like to go out and spend it. Household consumption in the most recent ‘normal’ year, 2019, was 64 per cent of GDP. 

That is lower than in the US, where it was 67 per cent, but much higher than in France at 54 per cent, or Germany’s 52 per cent. So a high level of consumption acts as an anchor for an economy, in the sense that it helps to keep things going in tough times.

But we have to have the money. How is that, given the way that wages have fallen behind prices? The best answer is that we saved huge amounts during the pandemic and those funds are keeping families going now. 

So-called excess savings – those over and above the normal level that would have been expected had there been no lockdowns – are estimated at around £200 billion. To put that in context, GDP is around £2.2 trillion, so this unspent pot is not that far off 10 per cent of GDP.

Indeed it may be more, according to a study published a week ago by the US Federal Reserve. It looked at different countries and different ways of calculating what savings are really ‘excess’, and on one tally it reckoned the UK’s savings could be as high as 13 per cent of GDP. If that is right, it would be the largest savings pot, relative to the size of the economy, of any major developed country. Americans, by the way, have run down their excess savings so fast that they are just about gone.

Surprised? Well, as with all economic data, you have to be cautious. The pot of money is not at all evenly spread, and as higher mortgage payments bite, the impact of those families cutting back may offset the spending from the families still splashing out. Even a huge pile of spare cash will eventually run down, as seems to be happening in the US.

Consumers’ resilience may encourage the Bank of England to push up interest rates even further, though we have a right to resent the charge that inflation is our fault if we decide to spend the money we have been prudent enough to save. 

But the size of this pot does explain a great deal. It explains why the forecasts about the UK economy have been too gloomy. The economic models that forecasters rely on can’t take into account the effect of excess savings because a situation like this has never happened before. It explains why house prices have been reasonably resilient, at least so far. 

A lot of people can buy homes for cash. It explains why a lot of service industries are doing well. Some money saved can go on airfares and a foreign holiday. It explains why higher interest rates are, for sophisticated savers, a source of relief rather than misery. 

You can get 5.25 per cent on two-year gilts, encouraging a flood of money out of banks and into government securities. I hope the banks get the message soon, because it is simply not fair for canny savers with a lot of cash to benefit at everyone else’s expense.

And the investment implications of all this, aside from putting money into short-dated gilts, is beginning to make sense. A negative note is that we should be cautious about the current strength of the US economy, and hence US share prices. Apple, the most valuable company in the world, blitzed through the $3 trillion point on Friday, and there will be a rousing cheer from investors on this side of the Atlantic too. But if the Fed is right and US households have pretty much spent all their excess savings, then they won’t be able to keep up their spending in the coming months.

The positive note? It is that our economy will continue to surprise on the upside, which will benefit UK-oriented businesses, especially the ones that have been neglected and offer real value. Eventually, global investors will get the message. Meanwhile, there are bargains to be had.