It is true that businesses dislike uncertainty when planning for medium and long term investment and that it will probably be at least two years before there is any clarity on the UK’s position over leaving the EU.
But how likely are the speculations of some economic commentators that the UK may be facing a period of stagflation, defined as a period of rapid interest rate rises coupled with a depression?
The last time the UK experienced stagflation was during the 1970s, when huge oil price rises precipitated an economic downturn in much of the Western world. In the UK a combination of climbing interest rates and government borrowing, high unemployment and a miners’ strike culminated in Edward Heath’s government declaring a state of emergency in January 1974 and imposing a three-day week on industry amid fears of power shortages.
So what likelihood of a repeat of such a perfect storm?
Plainly much has changed since then including tighter regulations on strike action and diminishing trades union powers, less reliance on coal-fired energy supply, control of interest rates being moved to the Bank of England, and, at the moment, relatively high levels of employment.
While it is true that the IMF (International Monetary Fund) has downgraded global growth since the referendum, its predictions for the UK are still sturdier than they are for Germany and France.
Interest rates have been at unprecedentedly low levels since the 2008 financial crash and it would seem that the Bank of England may yet provide further stimulus by reducing them below the current 0.5% figure as well as introducing more quantitative easing. This is uncharted territory and lending markets may reassert their authority by demanding higher interest rates given the greater perception of risk caused by Brexit.
Another factor is the devaluation in £Sterling which followed the referendum results. At the moment this translates into cheaper exports from the UK and very soon will lead to price inflation for consumers due to the increase in cost of commodities bought by UK companies in $US or in Euros.
In fact, commodity prices have been falling for some time thanks to lower demand from China and in the last week oil prices came down again by 20% after rising slightly for a short time. But when commodity prices rise, the impact will be felt by everyone.
Although uncertainty will lead to lower growth as some businesses hold off on investment there will need to be massive rises in commodity prices and interest rates, perhaps combined with a significant rise in Chinese consumption for the preconditions for stagflation to exist.
If, in addition future governments turn more protectionist by erecting barriers to trade and migration, while introducing measures to combat inequality by redistributing income (through taxation and regulation) then the situation could become more precarious.
While the referendum result has crystallised issues and opportunities in the UK and there will business winners and losers, in our view the more extreme predictions of imminent stagflation are decidedly premature, if not straying into the realms of fantasy.