Michael Heseltine's report: the good, the bad and the unlikely
In his report today, former UK Deputy Prime Minister Lord Heseltine makes 89 recommendations aimed at stimulating growth in the regions. Some of them are good. Most of them are bad. And some of them will never happen.
Some are even a mixture of all three. One of Heseltine's key aims, for example, is to move £49bn from central government to the regions to help local leaders and businesses. Well, yes, there should be more devolution of decision-making and spending to grassroots levels. Local people know better what is needed than do distant civil servants. Will it happen? I cannot see the big Whitehall departments parting with that sort of cash without a long fight that eventually wears out the other side. And would transferring that money do any good anyway? Probably not: it would just go on the sort of top-down grandiose projects and boards and committees that Heseltine is demanding.
Lord Heseltine says that 'growth funds' should be allocated through the new £1bn Local Enterprise Partnerships that are being set up in England. Growth funds? You tax businesses, then give them the money back and call it a growth fund? Is it not better to leave the money in the pockets of businesses and their customers, so that they can decide how to spend and invest it? Their judgement is likely to be far more tailored to the local circumstances than any official's – or even any committee made up of local officials and local businesspeople who happen to have time on their hands.
Lord Heseltine wants to see greater priority given to infrastructure projects like airports, rail and motorways. Well quite, we need more airport capacity: but the decisions are always political, and it can take decades to get such projects through the planning process, never mind build them. It's our planning system that's at fault, and which needs to be opened up to business-creating development, not just the priorities of the politicians. Even then, are politicians' priorities the right ones? Look at the billions we are wasting on HS2. Governments, and Lord Heseltine, like grandiose projects, even if their benefits do not cover their costs.
Another plan is to increase investment funds by, basically, telling pension funds how to allocate their investment funds. If you want to get people saving, a much surer way is to raise interest rates and make it worth people's while. Of course we do not do that because it would cause problems for overstretched homeowners and overstretched businesses. Some economists would argue that neither have really felt the pain that is needed to get out of our present problems. The capital misallocations of the boom years need to be liquidated and put to better use, but that won't happen as long as it is possible to keep going because of artificially low interest rates. First things first, Lord H.
The proposed public interest test for foreign companies wanting to buy UK businesses is hugely dangerous. One could see politicians blocking takeovers just because they might play badly in the media, especially if jobs or domestic businesses were threatened. One of the UK's assets as a place to do business is precisely that it is so open and so international. We need to preserve that, not open ourselves up to nationalist protectionism.
Tax credits for R&D? Research and Development sound like good things, but many firms just do not need them. No one-size-fits-all policy like that can steer resources to where they are best used. Business people can make their own decisions about whether to invest in these things or not.
So how do we stimulate growth in the regions?
Planning: yes, that has to be reformed, particularly so that major infrastructure projects become viable again. Education: it is already being reformed, and I think a much less monopolistic education system will contribute massively to future growth. But these things are long-term.
I would start by lower, simpler taxes. Particularly on business. If every small business took on one extra person, there would be no unemployment in this country (except maybe for the Business Department, who could all be sent home). It is not just the cost but the complexity of things like National Insurance and PAYE, not to mention VAT and the rest, that discourages people from hiring. I would also have a real assault on workplace regulation. The idea of workers getting a stake in their business by giving up certain protections seems promising. But why don't we just exempt all small businesses from many of the rules? The huge boost to employment that this would generate is real worker protection.
Rethinking the role of government
I post LearnLiberty videos on the blog a lot, but there's a reason for it: they're really good. The above video is no exception, and makes a mockery of the public debate around the US election, which has focused on trivial areas like PBS funding (0.012% of the federal budget; or three F-22 fighter jets). I'd love to do an equivalent for the UK, where the mandatory spending areas, particularly "entitlements" like health and pensions spending, are the vast majority of expenditure.
Prof Davies's point is critically important. Simple, straightforward cuts will not do -- we need a fundamental change in the government's role that removes it from provision of all but the most basic income support, and even then in the form of direct cash transfers, not government-run schools and hospitals. For this reason, I'm a little tired of the focus on specific, media-friendly spending cuts, which usually amount to a drop in the ocean but suit the nature of rolling, adversarial media coverage. I don't just want to get rid of the deficit, I want to cut nearly everything the government currently does.
Don't believe the austerity hype
UK Chancellor of the Exchequer George Osborne has been warned by the International Monetary Fund that he risks further damaging the economy unless he slows the pace of austerity and faces up to Britain's 'growth challenge.
Er…what austerity? This graph, compiled by Veronique de Rugy of the Mercatus Centre, shows that UK public expenditure has been growing at a pretty solid pace, even in real, inflation-adjusted terms. If you or I were in debt as deep as the government's, we would aim to cut our spending and reduce it. But the government continues to increase its spending, and continues to borrow and add to its debt to finance it. Indeed, the Treasury expects that UK government debt will increase three times, from around £581bn in 2008 when the present crisis hit, to £1,500bn in 2015/16 which is as far ahead as the Treasury forecasts.
Public expenditure is, of course, notoriously difficult to cut. It involves making politically difficult and unpopular decisions. And indeed, during difficult times there are more people drawing unemployment and other social benefits, which are a very large part of the UK government budget. George Osborne's hope was that he could finesse things by hoping that the growth of people's incomes would outpace the growth of public expenditure, so that the relative burden of public spending would diminish, and less borrowing would be required. But given the general economic malaise in Western economies, and the disarray in the euro area in particular, our customers are not buying much more, even at the cheaper prices made possible by the downward slide in the value of the pound.
There is little sign of this changing in the near future. The only way to boost our earnings further is with a growth agenda of deregulation and tax cuts on business (such as a National Insurance holiday for small businesses), which would stimulate employment and investment. In the long term, however, we still need some mechanism to prevent governments simply borrowing to spend – such that they get the benefit while in office, but future government or future generations get the bill to pay. And it needs to be a mechanism that, unlike the eurozone's borrowing rules (or former Chancellor Gordon Brown's), does not fall at the first hurdle when the going gets tough.
Whether governments are ever capable of such self-restraint, however, remains a moot point. So let us start right now by looking at the things that are preventing businesses, particularly small businesses, from hiring and investing and expanding – and get government and bureaucracy out of their hair.
Tax freedom for the poor!
Establishing a higher threshold for personal income tax was under much discussion last month — a precursor for conference season debate. Under the banner of ‘Fairer Tax in Tough Times’, the Liberal Democrats presented plans to increase the scheduled threshold of £9,205 to a suggested rise of £10,000.
Not slow to capitalise on this ‘leak’, the Spectator’s blog drew attention to a Centre for Policy Studies report published by Lord Maurice Saatchi and Peter Warburton in 2001, Poor People! Stop Paying Tax!, that itself recommended £10,000 at which the low-paid began to pay. For the think tank that Margaret Thatcher and Keith Joseph built, it is absurd that the State ‘even taxes people who can’t afford to pay tax at all.’ But insult is added to injury:
Governments put up tax, which reduces individual incomes and creates more dependence on the state. And citizens claim more state benefits to compensate. And so it goes on until the government is claiming billions of pounds a year in taxes from citizens who also claim billions of pounds a year in benefits from the government.
This political duel over who is truly the friend of the poor should set off a policy debate on taxes in general; namely, is it better for taxes to be wide and shallow — that is, paid by everyone, allowing for overall rates to be low — or narrow and deep — again, paid by the wealthy few who are considered able to pay them and, necessarily, rather high?
Laffer Curve spotted in the wild again
It always surprises me when people claim that there's no such thing as the Laffer Curve. For the existence of it is simply a mathematical truism, an identity. I'm a little less surprised when people say that OK, there is, but it's got nothing to do with our current tax rates. Surprises me less, but it's still wrong to say so:
This year's budget and increase in stamp duty to 7% above £2m is another example of the folly. Transactions in this price segment have plummeted 50% and the amount of stamp duty realised has actually fallen! Higher rates have produced less. Wealthy people have not been affected one iota. They have either stayed put or bought property outside of the UK. The real victims have been those who will now suffer less government spending because there is less revenue to go around. Where is the social justice in that?
The recent vast increase in cigarette taxes in New York City has also led to falling revenue: not because of falling smoking rates but because of smuggling from other States.
Just as it isn't true that a reduction in tax rates always increases revenue it also isn't true to state that an increase in rates always increases revenue. It really does depend where we are on that curve.
Which leads us to the question of where we are on that curve. The political pressure, that public choice theory thing about tax rates, is that we're always likely to be slightly over the peak of the curve. Politicians are, after all, by definition there so that they can take more of our stuff to do as they wish not as we wish. That's the point of standing for election. They'll continue to push up tax rates until they find that doing so any more doesn't produce any more revenue. Thus the likelihood is that in any mature political system we're going to be just over the peak of that curve: tax rates will have been pushed above that revenue maximising rate.
It's been claimed by very serious people who actually know these things that the current CGT rate of 28% is at that curve peak. Further, that the 45% income tax rate is. I'm not insisting that they are, only that we would expect them to be above it given the incentives to politicians
Which leads us to the really interesting question. For those who say that we should just raise more tax revenue to solve all our problems. Umm, where from? If we're at the Laffer peak then there isn't anywhere we can get more tax revenue from. It's simply not possible. If we're over it then we need to cut tax rates to increase revenue.
Which leads us to the real point. There's some limit to the amount of tax revenue that you can suck out of any given population. When you've got to that point, as I suspect we have, then calling for more tax is not just the usual political silliness, it's actually impossible. Which rather changes the political convsersation, doesn't it?
The wrong question
The Liberal Democrats are the latest ones to come up with the wrong answer by asking the wrong question. They announce (but are unlikely to get) a mansion tax, taxes on wealth, and an additional 100 tax inspectors to scrutinize the returns of "the rich." They think the question is "How do we get well-off people to pay more taxes?"
Others have tried to blur in the public mind the important distinction between ordering one's affairs to minimize tax liability, using the provisions the state has allowed for doing so, and not declaring one's income honestly in order to escape paying taxes on it. The former is tax avoidance and is legal, the latter is tax evasion and is not.
The aim of the people who advocate these things is to raise taxation by having high earners pay more. Rather than simply raising the rates, as some argue for, the additional aim seems to be one of having HMRC aggressively re-interpret the rules so as to gain more revenue from the existing rates.
The whole question is misconceived. Instead of asking, "How do we get well-off people to pay more taxes?" we should be asking, "How do we get talented and creative people to generate more business, more growth, and more jobs?" If they do that, they will broaden the tax base and generate more revenue for the Exchequer, although it will be a smaller proportion of the total economy.
Several studies have shown that government wastes billions of pounds every year on things it does badly and things it should not be doing at all. Instead of trying to extract more money from successful people to fund this wastage, they should be trying to prevent it happening in the first place.
New attacks on successful people are likely to drive some of them abroad, and to prevent others like them from setting up business in the UK. We should not be trying to squeeze more revenue from them for government spending, we should be lowering the taxes and regulations that act as disincentives for business development and expansion. It comes as no surprise that when people ask the wrong question they end up with the wrong answer.
No more truckin'
The Department for Transport has announced plans to implement a new charge of up to £10 a day on foreign lorry operators using British roads, a move it is claimed will increase UK competitiveness, boost growth and create a ‘level playing field’ for British lorry drivers. Hurrah! No more Johnny Foreigners coming over here congesting our roads and stealing British jobs!
But I think I may have noticed a flaw: how does making it more expensive for overseas businesses to trade here increase UK competitiveness and boost growth? The last I checked, protectionist policies don’t work. It is not only the foreign lorry companies that will suffer, but the businesses that use them to transport their goods to the UK, who will just move their trade elsewhere. At the very least, the bulk of the losses will be transferred on to the imported products and services. As a result, competitiveness between UK and foreign businesses and haulage companies will decrease and the price of goods and lorry services will rise.
Geoff Dunning of the Road Haulage Association has celebrated the move, which he says ‘will lessen the financial advantage currently enjoyed by our European neighbours.’ Reducing the competition both for haulier companies and the goods brought over by them will probably help the UK haulage industry by reducing transport options for businesses and allowing them to charge more for their services, but it certainly won’t do anything good for the rest of us. The ‘advantage’ referred to is that foreign lorry companies can operate cheaply here, while UK companies have to pay road charges and tolls when abroad. However, making it more expensive for foreign drivers to operate here does not make it cheaper for domestic drivers to operate abroad. Indeed, it risks sparking reactionary policies discriminately charging British lorry companies working overseas.
Of course, we always have that nice little figure of £20m in expected tax revenues to look forward to each year from the move. Except for the fact that foreign lorry companies will move their services out of the country due to the combination of the new charge and the vehicle excise duty, which is much higher than its equivalent in most EU countries. Even if we were to raise something close to that amount, it is unlikely to be spent efficiently on things such as road maintenance.
Instead of this, why not significantly reduce the vehicle excise duty and allow private investors the freedom to build more tolled roads, similar to many systems in continental Europe? This would boost economic growth, maintain UK competitiveness, keep prices down and improve road conditions. This is not a new idea, but one that is failing to attract serious attention from policymakers. It is certainly better than driving away foreign business and increasing prices because British hauliers aren’t efficient enough to compete.
The results are in: Spending cuts, not tax hikes, are the road to recovery
Vuk Vukovic draws on new academic research to argue that the historical evidence around recessions is clear: cutting government spending, not Keynesian stimulus, is the way to create a recovery.
A new research paper by Alesina, Favero and Giavazzi focuses on measuring the output effect of fiscal consolidations. The idea is that fiscal consolidations tend to have much more favourable effects on the economy if they are done via spending cuts alone, not via increased taxation (see the graph below), which is actually what austerity is supposed to be.
Here's the abstract:
"This paper studies whether fiscal corrections cause large output losses. We find that it matters crucially how the fiscal correction occurs. Adjustments based upon spending cuts are much less costly in terms of output losses than tax-based ones. Spending-based adjustments have been associated with mild and short-lived recessions, in many cases with no recession at all. Tax-based adjustments have been associated with prolonged and deep recessions.” (Alesina, Favero, Giavazzi (2012) "The output effect of fiscal consolidations" Figure 3, pg. 40.)
No, Brendan Barber, the economy is not a sporting event
TUC leader Brendan Barber has jumped on the back of Olympic glory to make a strange analogy about the Games and how we should run the economy. He criticises the notion that private is better than public spending and that the market will deliver better than government by pointing at the success of the publicly funded and organised Olympic and Paralympic games, just ahead of the TUC’s annual Congress.
Of course, the function of the Olympic Games was to provide entertainment. Some may argue that it will boost tourism and (temporary) employment but, essentially, it is a sporting event. If we were to run the country like the Olympics, we would produce a society in which wage values would be polarised between very high achievers (the Usain Bolts and Jessica Ennises) and the very low earners (the many, many amateur athletes that do not manage to make it to the Olympics). This is precisely the wage differentiation that the TUC campaign against.
Barber ridicules the fact that government claim they "can’t pick winners" when helping companies adding, ‘Tell that to Bradley [Wiggins], Jessica [Ennis] and Mo [Farah], all supported by targeted funding.’ What he is missing in this comparison is the essential difference between athletes and companies, which is one of function. An athlete can certainly be targeted by funding, as they have only one function, easily and objectively measured. For example, the target of funding for a 100 metre runner would be whoever can run 100 metres in the fastest time, while the target of funding for a high jumper would be whoever can jump the highest and so on. Simple.
When governments target spending towards companies however, they are essentially saying: the products and services this company provides are what people will want and all alternative products and services are inferior. By ‘picking winners’, companies compete for government investment as opposed to consumer spending. The great thing about letting the markets decide is that it is, in a sense, democratic; it lets people vote with their money, creating a fluid and representative selection of what the entirety of society actually want and allowing those areas to develop and become more accessible.
Barber goes on: ‘Markets always trump planning, they say. Well look at the Olympic Park, the result of years of careful planning and public investment.’ He says look at the Olympic Park, well I say look at Concorde, British Leyland, the Millennium Dome, the Channel Tunnel, and so on. All government investments that overshot costs and timescales and were grossly inefficient. The taxpayer underwrites the risk of government investment and it is they that have to foot the bill when things go wrong.
Economic activity and investment in certain industries in London and the surrounding areas have been boosted (at least temporarily) by the Games, but to the detriment of those living everywhere else whose income was diverted through taxation to fund it. This may be regarded as an acceptable loss by many because of the entertainment value provided, but is it right that even those who have no interest in the events should be made to pay? Central planning means that your income is diverted towards things that may not be in your best interest and often in a way that is too inefficient to justify the collective good rationale.
Finally: ‘Private is always better than public, they argue. Not true, as we saw all too clearly when it came to Olympic security.’ G4S remember was the choice of government with the backing of the public purse; it should have been up to them as investors to ensure that the security company was up to the task, something a well run private organisation would have been sure to do. Even if we disregard this fact, the Olympic games took place over a matter of weeks, while the market has been in existence for thousands of years.
Markets learn and adapt to needs and preferences, removing underperforming businesses and rewarding those that provide the desired service at the cheapest cost (unless of course there is government interference). Unlike the targets of government spending, companies within a free market system that do not provide the products and services desired of it better than their competitors can are allowed to fail, while better and more efficient ones take the lead. Competition induces progress, forced monopoly results in stagnation.
Perhaps Brendan Barber realises the fallacies of the arguments he is making, but think they can win him favour simply by allying him to the ‘Olympic spirit’, implicitly setting his opponents against it. However, the economy is not a sporting event, it cannot be run like the Olympic Games and nor should it.
