Economic Growth/Implications of Brexit

What is economic growth?

Economic growth is an increase in the capacity of an economy to produce goods and services, compared from one period of time to another.

How is Economic growth measured?

Economic growth is the increase in the inflation-adjusted market value of the goods and services produced by an economy over time. It is conventionally measured as the percent rate of increase in real gross domestic product, or real GDP, usually in per capita terms.


Real GDP in the UK has typically increased every year, although there have been three downturns in the economy since 1980. After the downturn in the early 1990s, the UK economy experienced sixteen consecutive years of growth before output fell in 2008 and 2009. From 2010, output has been growing again — regaining pre-downturn levels in the third quarter of 2013. Over the period 1980 to 2014, real GDP growth has averaged 2.2% per year.


· Economic growth means an increase in Real GDP. Economic growth means there is an increase in national output and national income.

· Economic growth is caused by two main factors:

1. an increase in demand

2. an increase in supply

· A short term, economic growth is caused by an increase in demand. If there is spare capacity in the economy then an increase in D will cause a higher level of real GDP.

· Lower interest rates — Lower interest rates reduce the cost of borrowing and so encourages spending and investment. Increased wages. Higher real wages increase disposable income and encourages consumer spending = Larger consumer activity

· Increased government spending (G).

· Fall in value of sterling which makes exports cheaper and increases quantity of exports(X).

· Increased consumer confidence, which encourages spending ©.

· Lower income tax which increases disposable income of consumers and increases consumer spending ©.

· Rising house prices, which create a positive wealth effect and encourages homeowners to spend more.

Potential growth can increase for the following reasons:

  • Increased capital. e.g. investment in new factories or investment in infrastructure, such as roads and telephones.
  • Increase in working population, e.g. through immigration, higher birth rate.
  • Increase in Labour productivity, through better education and training or improved technology.
  • Discovering new raw materials.
  • Technological improvements to improve the productivity of capital and labour e.g. Microcomputers and the internet have both contributed to increased economic grow

What is a good rate of growth?

  • The ideal GDP growth rate is one that is sustainable so that the economy stays in the expansion phase
  • In a healthy economy, unemployment and inflation will be in balance. The natural rate of unemployment will be between 4.7% and 5.8%. The target inflation rate will be 2.0%.
  • If the economy grows too slowly, or even contracts, it’s obviously not healthy But, if it grows too fast, that’s not ideal, either. In fact, if GDP growth starts spiking above 4% for several quarters, it usually means there is an asset bubble of some kind. In the business cycle, the phase that follows expansion is the peak.
  • The economy goes into recession if nothing is done. That’s because when the economy grows too fast, it overheats. There’s too much money chasing too few real growth opportunities. Investors start putting good money into not-so-good investments. When those investments start losing money


2. It depends on inflation in other countries. If inflation in the UK is higher than elsewhere, then UK goods will become uncompetitive leading to a fall in demand for UK exports. If there is a fall in demand for Exports then there may be a deficit on the current account Balance of Payments. If inflation is high there will be a devaluation of the exchange rate, this is something the government wishes to avoid as it creates uncertainty amongst business and lower purchasing power of Sterling abroad.

3. Higher rates of inflation may cause menu costs, which means firms have to change price lists quite often. However, this is not that significant when inflation is only 5%.

We don’t want deflation, Deflation can cause problems for the economy. It means that those who have debts will see the real value of debts increase, this will lead to lower consumer confidence and possibly lower AD and economic growth.

4. Deflation makes monetary policy ineffective. This is because interest rates cannot be reduced below 0%.

5. Companies cannot alter real wages easily because workers are very resistant to any cut in nominal wage wages. Therefore, real wages may rise.

6. It is more difficult to set prices when there is deflation

Brexit? And the Future?

· Annual net migration from Europe has more than doubled since 2012, reaching 183,000 in March 2015. Immigration from the European Union is currently boosting the workforce by around 0.5% a year. This has helped support the economy’s ability to grow without pushing up wage growth and inflation, keeping interest rates lower for longer.

· To gain full access to the single market, the UK will have to allow free movement into the UK. However this is still unlikely, this would be a potential headache for low-wage sectors heavily dependent on migrant labour, such as agriculture, but could benefit other sectors with a shortage of highly skilled labour. Overall, policy would shift to be more specifically designed for Britain’s migration requirements.

· Therefore less companies are likely to invest money or place Britain as the UK would no longer have easy access to the single market. This would lower economic growth.

· Concerns about a drying up of foreign direct investment if Britain votes to leave the European Union are somewhat overblown. Access to the single market is not the only reason that firms invest in Britain. There are other advantages to investing here. It is likely Britain would remain a haven for foreign direct investment flows even if it was outside of the European Union. Of course, we could see a period of weak foreign direct investment inflows as the United Kingdom’s new relationship is renegotiated. However, if Britain is able to obtain favourable terms, then foreign direct investment would probably recoup this lost ground.