Balance of payments of the United Kingdom

ERM-110 INTERNILTIOI1AL BAUIK FOR RECOi'7STRfUCTION APID DEVELOPI Mi7T ECOiPOiiIC DEP ITT1Y;1' BAL..iTC.; Or_P.-Y. TS OF TT7 U I-ITD TUIiTGDOMI General Studies Antonin Basch Alexander Stevenson July 23, 1948  Table of Contents Page Summary Summary of Chapter I 1 Introduction - I. General Economic Concitions in the United Kingdom 2 Summary of Chapter II 13 II. The British Balance of Payments in the Inter-Wdar Period 14 Summnar-y of Chapter III 20 III. The Over-All Balance in the Immediate Postwzar Period 21 Summary of Chapter IV 32 IV. The Commodity Structure of United Kingdom Trade 33 Summary of Chapter V 38 V. The Outlook for the Over-All Balance of Payments in 1948 39 Summary of Chapter VI 44 VI. The 1948 Dalance of Pan ents WTith i4ajor [lireas 45 Suwntaay of Chapter VII 51 VII. Gold a-d Dollar Resources 52 Swmnary of Chapter VIII 56 VIII. Long Range Prospects 57 Ta;le I - Progress Towards Export Targets Table II - Direction of British Trade Table III - Index iJumbers of Volume of Exports o'f United Kingdom Produce Table IV - Index iTumbers of Volume of Imports Retained: United Kingdom Table V - Exports of Produce and ieianufactures of the United Kingdom Table VI - ImDorts of the United KIingdom  i 1. Since the winter of 1947 the British economy has shown definite signs of improvement. Industrial production has been steadily increasing and in this year might reach a level 10-15 per cent over 1947. Coal and steel production wrill also be higher than the 1948 targets. In the first quarter of 1948 the government budget showed a small over-all surplus and the 1948-49 budget is expected to end wJith an over-all surplus of 1.319 mil- lion. This amount, increased by the surplus of other public authorities to an expected total of L400 million, is intended to be used to reduce the government debt and thus strengthen the anti-inflationary drive. Hovrever various unexpected expenditures will probably reduce the surplus below, the estimate. The price and wage stop agreed upon will also assist in checking the latent inflationary pressure. Wages and prices have still been going up moderately in 1948, which to some extent can be explained by the rising prices of imported goods. It is expected that the real capital formation estimated at O1800 million in 1948 wrill be financed wJithout inflationaiy effects on the British economy. 2. The Economic Survey 8, wrhich was based on the government's policy started in the fall of 1947 and aimed at increasing production and reducing the balance of payments deficit, included various production and export targets and also an over-all estimate of the balance of payments and the dollar deficit. The actual volume of exports in the first six months of the year surpassed the target, while the volute of imports remained sub- stantially writhin the estimate. However, prices continued to rise and the British terms of trade to deteriorate so that the trade deficit in the  ii. first six months of the year, although lowier than the deficit in the first half of 1947, wras substantially higher than anticipated, mainly because of the unfavorable development of trade with the sterling area and other coun- tries outside tu-he 17estern Hemisphere. It thus seems likely that the deficit in the 1948 balance of payments wJill reach L400 million instead of the expected L250 million. The deficit w.ith the dollar area, however, w-ill probably come close to the forecast of L350 million. This may be compared writh a total currenat account deficit of b675 million and a deficit of L677 million writh the dollar area in 1947. The United Kingdom gold and dollar resources also constitute the central reserve of the sterling area. In addition to its owm current dollar deficit the United Kingdom must make payments on behalf of other countries of the sterling area. The total drain on thle reserves in the first half of 194.8 wras about 18O million heavier than the anticipated L222 million, thus representing a total of about ~.1200 million. li'ainly because substan- tial gold and dollar resources becatie available which wiere not allowred for in the estimate, however, the dollar anid gold holdings at the end of June 1948 of ;473 million were only L39 million lowzer than at the end of December 1947. The expected E.C.A. aid should provide the United Kingdom with the dollars needed to meet its own deficit for the rest of 1948 so that no further reduction in gold and in dollar holdings wrould be necessary except through releases of convertible sterling; by the United Kingdom to provide dollars for the members of the sterling area and other countries having a claim on the sterling area dollar pool.  iii. 3. While no detadled forecast for the United Kingdom balance of payments in 1949 or later years is attempted, it is assumed here that E.C.A. assistance wrill contiume until 1951 and that this *rhole period will give the necessary breathirny spafe for the required adjustmnent in the Eritish balance of tayments. As is alreaety apparent the basic change will be that contrary to the pre-wax period the United Kingdom wrill not be able to expect a net income from. current invisible items. It will be able to achieve an equilibrium on this account only by a sizeable reduction of government expenditure overseas and a great improvement inl the net earn- ings of shipping and net incoaie from investrmnent. In the early 'fifties the service of the loans received from the United States and Canada will r.)q.ire around ;50 million annually not included in the above calculation. In addition the United Kingdom wrill heve to settle the problem. of the accumulated sterling balances. If it is assumed--nerhaps optimistical13j--that L2000 million of these wrill remain in 1951 and will be refunded over a forty-year period writhout payment of interest, this would require a y.rrly payment of L50 million. In the early 'fifties these two items wrould then amount to about l100 million yearly without allow ing for any service on E.C.A. loans. This, taken together with the fact that the British netj income from investmnent has already been substantially reduced by liouida-XIons and losses during and even since the war, shows clearly that it will not be easy to achieve on eeuilibrium on the invisible current account in the balance of payments.  iv. 4. This basic change on the current account for service items will automatically require a change in the British balance of trade. The pre- war deficit of about :300 million (nearly $1500 million) will have to disappear, an adjustment wrhich will impose a heavy burden on the United Kingdom economy and may require continued restriction in the level of British imports. It will also have powerful repercussions on the trade of other countries. The swing to be achieved in the British balance of trade is probably eouivalent to more than one fifth of that amount of foreign trade which was settled multilaterally before the war (i.e. around 30 per cent of total world trade). Moreover Continental Europe, Latin America, Canada, Australia and New Zealand will lose the dollars which they formerly obtained from their trade surpluses with the United Kingdom. An over-all trade adjustment is necessary which eventually will also affect the U.S. trade and the U.S. economy. 5. If the present trend of British exports continues, it might be assumed--perhaps optimistically--that an over-all balance of trade could be reached in the near future. But in view of the structure of British trade a deficit with the dollar area and especially with the United States and Canada would still remain. In order to reduce this deficit to a manageable proportion it will be necessary to attempt not only to increase exports to the dollar area, but also to reduce imports ao compared uith the present and even the pre-war level. This might be done by substituting some British-made for imported goods especially in industrial lines, by switching British purchases to other areas for example in Europe and by developing new sources of supplies of various materials previously  V. imported from the Western Hemisphere. Furthermore the United Kingdom might achieve export surpluses writh countries which wrould be able to pay for them in gold (South Africa) or in dollars through their surpluses with the United States. - 6. The increase in comnodity prices has been an extremely important factor in the deficit of the United Kingdom balance of trade. A fall in rorld market prices wrould ease the British position if it did not at the same time reduce too much the export chances of British goods. It wroulcl perhaps make possible an increase in the volume of imports and a slight improvement in the standard of livinig. It is still too early to evaluate the British prospects on wrorld markets. Only when international markets have become more regular, can the British competitive position (cost of production ard prices) be ap- praised. iNot only the internat onal price development, however; but also the domestic economic and financial situation, will finally detemiine the e;change rate of the poLnd. To examine thoroughly the British position and prospects further studies are necessary which would cover especially the followingr fields: The balance of trade and paymients of the various parts of the sterl ing area.. The size, composition and geographical distribution of British foreign investment. The market prospects for British products in various countries. The need of investment in British industries and its expected effects on procluctive capacity and cost of production. The effect of the newr distribution of national income and full employment on British imports and exports.  tumnary of Chanter _. Since wrinter 1947, the British economic situation has shown signs of improvement. Industrial production in 1948 is expected to be 15 per cent higher than the 1947 average. Since the first three months of 1948 the Government budget shows a genuine surplus. However, various unforeseen expenditures will probably reduce the expected T400 million surplus of all public authorities. The increase of prices, although continuing, has been less than the previous period. The Government has reduced the program of real capital formation for 1948 in order to restrain inflation. It is lilcely that the carrying out of this program ill be possible iwithout cre- ating any further inflationary pressure.  -2- INTRODUCTION I. General Economid Cdonridiions in the United Kingdom The London and Cambridge Economic Service leads off its May 1948 Bulletin writh the following statement: "During the first quarter of 1948 industrial production has been running at about 10 per cent above the average for 1947. Coal production and employment in the coal mines are rising, though more slowrly than has been hoped. The output of steel is again higher and production of textiles is im- proving gradually. The signs of abatement of inflationary pressure in some directions have been on the whole confirmed, and there is reason to hope that the checked inflation will be strengthened by the surplus of government revenue provided for in the 1948/49 budget which is large even on the strictest definition of income. It seems likely that the respective savings of public authorities, together with business and private savings, would be sufficient to provide for the amount of net investment planned for 1948, even without any adverse balance of payments," This statement correctly characterized the economic situation in the United Kingdom during that period. The serious nature of the British economic difficulties in general--and of the balance of payments position in particular--was realized in the second half of 1947, after the experience with the short-lived convertibility of the pound. The U.K. Government therefore reconsidered its policy and took measures aimed at improving the situation wJithin the shortest period of time. Efforts had to be concentrated on (a) increasing industrial production, (b) stopping the inflationary pres- sure, and (c) improving the balance of trade and the balance of payments. The heavy strain on total resources is demonstrated by the fi&ures in the folloving table:  National Resources and Expenditures (Current prices: in millions of pounds) IM38 !2 .9- !224_ 1938 194 National income : National cost of the : of personal United Kingdom 4,707 8,100 8,770 : consumption 3,713 5,573 6,161 Provision for de- preciation and maintenance 450 725 775 Gross national production 5,157 8,825 9,545 : Goverinment 767 2,411 _L1 Borrowing from abroad and sale : Gross capital of assets to : formiation foreigners 70 380 675 : at home 747 1,221 1,944 Total resQuroes: available for uso at home 5;227 9,205 10,220 5,227 9i2O5 10,220 Source: National Income anad i3xenditure of thie United Iingdorp,1947,Cmd.7371. Pe