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Mr. Forth: Does my hon. Friend agree that the existence of a regulatory mechanism between economies—such as a variable exchange rate—has always been the mechanism by which, over the long term, trade imbalances can be corrected? He will know that that was the case for historic variations between the pound sterling and the dollar, or the yen or the continental currencies. Has he given any thought to the significance of the possibility that we will join the euro and our possible inability then to correct the trade imbalance that he is discussing?

Mr. Letwin: My right hon. Friend is right that one of the ways in which the trade imbalance traditionally corrects itself is through an improvement in the terms of trade—through exchange rate differentials. If the hon. Member for Kingston and Surbiton were right, and his party could achieve a reduction in the exchange rate, through a miracle of some sort, followed by a locking-in at a lower exchange rate, that would help to cure the imbalance. However, if we were forced to lock in at a higher exchange rate, as I suspect would happen, we would lock in the imbalance for some time.

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The trade imbalance that we face is not likely to be cured by a shift in the exchange rate in the near future. It might be, but I doubt that the Economic Secretary would claim that that will happen. When the hon. Member for Kingston and Surbiton asked a genuine question in the middle of her brilliant but old-fashioned speech, she was unwilling to engage in debate with him about the right level of exchange rate. That was, I suspect, because the Government have eschewed the idea of targeting a specific exchange rate. The hon. Gentleman will no doubt raise that subject later, if he catches your eye, Mr. Deputy Speaker, and we may yet hear that fascinating debate. However, I suspect that the Government are probably wary, as they have been for the past four years, of trying to set an exchange rate, which, as my right hon. Friend says, makes it odd that they are nevertheless talking about trying to join the euro.

Mr. Edward Davey: When does the hon. Gentleman think that the floating exchange rate that we now have in the UK will start to address those imbalances, and when does he expect the depreciation before the automatic adjustment on which the right hon. Member for Bromley and Chislehurst (Mr. Forth) is so keen?

Mr. Letwin: The answer is that I, like the hon. Gentleman, do not know. I suspect that there will have to be a restraint of domestic demand, which I will come to shortly, rather than a change in the exchange rate. We will see. Nevertheless, I hope that the hon. Gentleman agrees with me, because it is true and a matter of fact, that there is a major trade imbalance, which has persisted for an extraordinarily long period. Trade imbalances can last for extraordinarily long periods if they are financeable and, at present, ours is. I am not seeking to make any apocalyptic statement—that would be quite false. Our trade imbalance is being happily financed, but markets are fickle and moods change. Whether one can continue to finance that kind of trade imbalance for very much longer is open to question.

If we merely had a regional and a trade imbalance, the situation would be noteworthy but not as serious as the real one. We face another kind of imbalance, more serious in many ways than either of those. We have a two-speed economy. Production industries grew in the last quarter, the first quarter of the year, by 0.7 per cent., at a time when, as the Economic Secretary made clear, the economy as a whole is growing at more than 2 per cent. and the service sector—so-called—at more than 3.7 per cent. There is a huge imbalance between two major parts of our economy.

I am making my case stronger by making it weaker in the sense of not taking into account the exceptional cases, such as those that affect my constituency. A recession is going on in agriculture; the industry has seen negative growth for a very long time. There has been a minor recession in the construction industry for a rather shorter period.

There is a massive imbalance between various sectors of the economy. In fact, I suspect that it is understated by the figures that are typically used. The term "service", as the Economic Secretary will be aware from her previous work with the Bank of England, which has done some noteworthy work in this field, is widely abused in the sense that it covers a multitude of things. Some are really other forms of industrial production such as telecoms

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software manufacture, while some are pure services in the sense of human beings looking after one another. I suspect, although I do not know, that disentangling the one from the other would show a further imbalance that accentuates the nature of the imbalances across the economy as a whole. I suspect that the pure services sector is growing even faster than 3.7 per cent., because some things classed as services, such as software, are, if not in positive decline, nevertheless growing very slowly.

The Economic Secretary painted a picture of continuous and unalloyed bliss across the economy. Instead, the economy suffers from marked and continuing regional imbalances, from a growing, prolonged and unprecedented trade imbalance and from significant discrepancies between various sectors of the economy in their rate of growth or decline.

If that were all, the situation would be bad enough, but it is not all. The economy is afflicted by another very serious imbalance—that between the corporate and domestic sectors. It is quite a striking imbalance. Over the past five years, output has risen by 14.7 per cent.; domestic demand has risen by 20 per cent. We have a major problem with profits. It is affecting, and previously prospectively affected, the stock market. James Hall, the managing partner of Accenture, the strangely named management accountancy firm, says:

At the same time, figures from Experian, an information service company, show that the United Kingdom is experiencing its longest period of falling profitability since the early 1990s.

Profitability measured by the average return on capital has fallen for seven successive quarters. In the business sector, therefore, and the business-to-business sector, which depends on business, there are major problems with profitability, whereas domestic household demand remains high. To be tedious about the matter and to remind you, Mr. Deputy Speaker—I am sure that, by now, you are the only one awake—we have regional imbalances, trade imbalances, an imbalance of services versus industrial production and a significant and sustained imbalance of the corporate sector versus the domestic sector.

I regret that the tale does not end there, because we also have a serious imbalance in domestic savings, which is the flip side of the coin of strong domestic demand. I fear that we have made that point on numerous occasions, but it remains true. In the first quarter of this year, the savings ratio in this country dropped to 4.1 per cent. Last year, in the previous Red Book, the Treasury correctly noted that there were problems ahead if the savings ratio remained low; it has remained extremely low by historical standards and today is less than half what it was in 1997. We therefore have regional imbalances and trade imbalances; we have imbalances between production and service industries, between the corporate and domestic sector, and between saving and household expenditure.

That is not a balanced development of economic activities. When one thinks about it, it is astonishing that the Economic Secretary—one of the few people to occupy such a post who understands these matters—made a speech about the 2001 Red Book and the governance of

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the United Kingdom economy without mentioning those five vital and worrying features of our current economic circumstances. That worries me because, if she and her colleagues are not attending to those imbalances, they may become more, rather than less, worrying.

The situation is worse than being merely imbalanced. The next item on which we, the Government and all right-thinking people agree is that, in the words of article 2 of the treaty on European Union, we wish to achieve and maintain

We have a high level of employment; we have had rising employment and falling unemployment—worthy things of which the Economic Secretary was proud and made much. Alas, when one looks behind the current statistics and tries to get a sense of what is going on in the real economy, again, there are worrying signs.

The average earnings index in the first four months of this year for the whole economy showed year-on-year percentage changes starting at 4.5 per cent. in January and rising to 5.2 per cent by April; the Economic Secretary may well have more up-to-date figures at her command. Over the whole of 2000, annualised average rates of 4 to 5 per cent. were in evidence. To a moderate degree, wage inflation is with us. However, the marginal utility of labour, which will critically affect the long-term propensity of the economy to generate employment or otherwise is not just affected by wage rates. As the Economic Secretary is clearly aware, it is also affected by on-costs, the social costs of labour, the effects of productivity—which, alas, has not risen nearly as fast as we had hoped—and the ability of firms to be more productive in their use of labour and to find ways of making more from their labour. It is in that last respect that the biggest worries arise, and I shall come to them in a moment.

The particular employment problems that we see over the horizon are more likely to arise in small and medium firms than in large firms. Our economy is out of balance in another respect: the effects of Government action, which I shall describe in a moment, on the largest firms have almost certainly been less accentuated than on the small and medium firms, and it is in the small and medium-firm sector that we would expect to find sustained growth of employment.

In fact, over the past few years, the rate of increase in employment and the rate of decrease in unemployment have not been as sparkling as we might have hoped, given the overall growth in demand. They have not been as sparkling as they had been in the previous few years under the previous Administration at an earlier point in the economic cycle and not as sparkling as in many other countries.

Not only is our economy imbalanced in many ways, but it is not showing the growth of employment and the reduction of unemployment that we would have hoped for under such apparently benign economic circumstances. We must now ask ourselves whether the Government are doing something about all this. Does the Red Book, which does not describe any of what I have just described, or the Economic Secretary, who did not describe any of what I have just described, have a strategy to deal with those matters?

Is there something in the Red Book or was there something in the Economic Secretary's speech to address those imbalances? I have to say that I may have gone to

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sleep—that is unlikely because the Economic Secretary's mellifluous tones are always sufficient to keep me awake—but I did not notice anything in her speech about a strategy to deal with those problems. It is not surprising, as she did not mention the problems, that she did not mention the solutions, but the fact is that there was no such strategy. Search as I might, with however much leisure the Chief Secretary may have been able to give during the election, I was unable to find in the Red Book any strategy for solving those problems there either.

The fact is that we have a Government of elegant ostriches; they are hiding their head in the sand of their own achievements; hence they do not see the problems to which I have alluded and, as a consequence, they do not even begin to have developed a strategy to deal with them. They are officially unproblems, thus there are unsolutions for them. However, the situation is worse than that because, at least in respect of the level of employment, the Government are taking active, well formulated, strategically designed steps to accentuate the problem.

The comments of external observers are extremely instructive. In March this year, Herr Bernd Atenstaedt of the German Industry Association in the United Kingdom said:

He means, of course, as a location for investment, hence for the generation of jobs.

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