One tax cut free marketeers shouldn't support

Milton Friedman once said “I am in favor of cutting taxes under any circumstance and for any excuse, for any reason, whenever it’s possible."

Now I try not to make it habit of disagreeing with Milton, but, following Sam Bowman's post on good and bad ways to do redistribution, I want to explain why I think free marketeers should oppose Vote Leave's recent proposal to scrap the 5% VAT on Household Gas and Electricity.

Currently the EU restricts the ability of member states to vary rates of VAT on different products like tampons or fuel. This is done to promote trade across the EU. Without this power, there's a risk that nations will exempt products that can be made cheaply at home and raise VAT on products that tend to be imported, creating tariffs by proxy.

But, even putting free trade to one side, there are good reasons to oppose exempting certain goods and services from VAT. Free marketeers know that flatter, simpler taxes are vital to encouraging growth and reducing unemployment, but tinkering around the edges with VAT exemptions takes us even further away from that goal.

There are better ways to help the poorest. Vote Leave argue that the 5% tax on household energy bills is regressive because the poorest spend three times as big of a proportion of their income on energy costs compared to the well-off. But if you're aim is to help those on low incomes, VAT exemptions are a staggeringly inefficient way of doing it.

Sticking with fuel. Let's look at who'd benefits. Someone living in a small flat will typically pay about £26 a year in VAT on fuel, but someone on a larger income living in a large house will pay £76. So while that extra £26 will certainly mean a lot to the someone living hand to mouth, you have to spend an extra £74 in handouts to relatively wealthy people to that £26.

In fact, the IFS ran the numbers and found that if you scrapped every single VAT exemption and replaced them with tax cuts for low paid workers (e.g. raising the personal tax free allowance) and increased means-tested benefits (e.g. Working Tax Credits), you could preserve the existing progressivity of the system and still raise an extra £3bn to fund further tax cuts or pay down the deficit. (Note: This was calculated when VAT was 17.5% rather than the current 20%, so this change would probably raise more revenue now, even more once you factor in growth and inflation.)

Exemptions distort consumer choices. By taxing some goods less than others, the state nudges consumers to spend more on certain goods and less on others. In the case of fuel, it might encourage people to leave their heating on, when otherwise they would have instead put an extra layer of clothing on. While such a case might seem small or trivial, if you add up every single VAT exemption and add it up across the economy, you end up with very large distortions and inefficiencies. 

These distortions can also discourage innovation. Take the case of E-Cigarettes. They're taxed at the full whack of VAT while other highly regulated anti-smoking products like Nicotine patches and gum are taxed at 5%. At the margin, this gives less of an incentive for businesses to invest in e-cigs and more of an incentive for them to invest in nicotine gum.

They create unnecessary complexity, which encourages wasteful avoidance. Is a Jaffa Cake a biscuit or a cake? (Likewise is a burrito a sandwich?) A question that should have been left to philosophers, instead is brought into the courtroom. McVities fought a hard battle (and baked a massive Jaffa Cake) to prove that Jaffa Cakes are cakes and not biscuits, thus qualifying them for a lower rate of VAT. Again, the money wasted here might seem silly or trivial, but it adds up. 

This is bad for two reasons. First, it's a misallocation of resources. Every pound McVities spend on tax lawyers is a pound they're not spending on investing in new products (although in the case of Jaffa Cakes maybe that's a good thing.)

Second, it can actually lead to worse products. Take the case of Cornish Pasties. In theory, hot prepared food should be taxed at the standard rate of VAT. Straightforward enough, but according to tax law, products that are incidentally hot (e.g. freshly baked bread) are not taxed at the standard rate and instead taxed at the same rate as cold groceries (if this weren't the case, bakers would have to wait till their bread had cooled down to avoid tax). So whether or not you end up paying a Pasty Tax depends on whether it's incidentally hot (i.e. it's just come out of the oven) or deliberately hot (it's been kept in a heated cabinet). At the margin, this encourages bakers to sell cold pasties when they could be selling hot ones.

Indeed the deeper you get, the more maddening it becomes.

I'll leave you with a puzzle.

Do I have to pay VAT on these Heart Shaped Marshmallows?

According to VAT Notice 701/14, edible cake decorations are zero-rated but marshmallows aren't. So what is it?

We told you so, you fools

Back when the National Living Wage was announced we were just about the only people warning that it might hurt workers, saying that:

There is also evidence to suggest that higher minimum wages slow down the creation of new jobs, particularly in sectors that employ large numbers of low-skilled workers.

Well, lo and behold, this week the Guardian reports:

the national living wage, which pays £7.20 an hour to 25-year-olds and over, has prompted retailers to register the biggest fall in optimism about their hiring intentions since 2011. … 

About a third of employers in the retail sector intend to restrict the number of new jobs as higher pay packets for the lowest-paid staff eat into profit levels and cut dividend payouts.

Interesting.

We also warned that:

Firms may also respond to this by cutting back on non-monetary worker compensation like break times and sick leave, to offset their increased labour costs.

And what do you know? Yesterday the Guardian reported that left-wing pressure groups Citizens UK and ShareAction are protesting B&Q’s planned cut-backs in employee breaks and overtime pay:

B&Q announced in February it would be cutting Sunday pay and reducing bank holiday pay and bonuses for some staff. The DIY retailer raised basic pay to a minimum rate of £7.66 an hour from 1 April – 46p more than the new national living wage. Some staff had been on the previous statutory minimum wage of £6.70.

Today at PMQs Siobhan McDonagh questioned the Prime Minister about Marks and Spencer, which has:

announced changes to so-called premium payments for Sundays and unsociable hours, which will see it axe extra pay for Sunday shifts and introduce a flat rate for bank holidays.

It is of course far too early to tell what the full effects of the National Living Wage will be, and many other factors may be at play even if retailers blame the NLW. It may be quietly forgotten by whoever succeeds George Osborne as Chancellor later this month. But the early signs don't look good.

Linguistic redefinition happening in 3...2...1

Milton Friedman warned us that there's nothing so permanent as a temporary government program. Or we might cast it as old bureaucracies never die they just change the language. And we are privileged, privileged, to see this happening before our very eyes. It's entirely true that the correct meaning of malnutrition is badly nourished. But it's been used for decades to talk about people starving or being damaged by simple lack of food and nutrients.

So, we went and did something about that: we globalised, started buying things made by poor people in poor countries and global poverty, along with the malnourishment associated with it, is plummeting. Excellent news of course but perhaps not if you are a bureaucrats whose income depends upon there being malnourishment for you to monitor and berate people about. This this:

Malnutrition is sweeping the world, fuelled by obesity as well as starvation, new research has suggested.

The 2016 Global Nutrition Report said 44% of countries were now experiencing "very serious levels" of both under-nutrition and obesity.

It means one in three people suffers from malnutrition in some form, according to the study of 129 countries.

Being malnourished is "the new normal", the report's authors said.

Malnutrition has traditionally been associated with children who are starving, have stunted growth and are prone to infection.

These are still major problems, but progress has been made in this area.

The report's authors instead highlighted the "staggering global challenge" posed by rising obesity.

The increase is happening in every region of the world and in nearly every country, they said.

Hundreds of millions of people are malnourished because they are overweight, as well as having too much sugar, salt or cholesterol in their blood, the report said.

Professor Corinna Hawkes, who co-chaired the research, said the study was "redefining what the world thinks of as being malnourished".

"Malnutrition literally means bad nutrition - that's anyone who isn't adequately nourished.

"You have outcomes like you are too thin, you're not growing fast enough… or it could mean that you're overweight or you have high blood sugar, which leads to diabetes," she said.

Why, it's almost as if the purpose of it all is to provide a platform to berate us from rather than a call to arms to end the despicable existence of starving African babies.

Really, who would have thought that the people who spend our money might do such a thing? Change the language so as to make sure they still get to spend our money?

The end of the climate change scare

News just in which should stop people worrying so much about climate change. Of course, it's not going to but it should. That news being that the worst estimates of emissions and thus temperature changes just are never going to take place:

The way we get electricity is about to change dramatically, as the era of ever-expanding demand for fossil fuels comes to an end—in less than a decade. That's according to a new forecast by Bloomberg New Energy Finance that plots out global power markets for the next 25 years. 

Call it peak fossil fuels, a turnabout that's happening not because we're running out of coal and gas, but because we're finding cheaper alternatives. Demand is peaking ahead of schedule because electric cars and affordable battery storage for renewable power are arriving faster than expected, as are changes in China's energy mix. 

The most hair raising of estimates of future temperature rises come from a model of the future called RCP 8.5. No, don't worry about the details but this model assumes an ever rising use of fossil fuels off into the future. Not just that, it assumes that we use ever more coal, not just in total, but as a proportion of fossil fuel use.

The is also what almost everyone wrongly describes as "business as usual" or BAU. The truth is that all of the models created are BAUs. Even the ones which show that climate change will be trivial are BAUs. Simply because that's how the model making m process was done: what could possibly happen in the future without direct action to change behaviour? What possible interactions of population, technology and fuel use could lead to what emissions?

In the earlier set of models there was even one called A1T which just assumed proper business as usual. Population changes as we've been seeing them, technological advance as we've seen it and economic growth as we've seen it: climate change was not a major problem. So too with B1 from that same set of models.

The one that had all panicking was A1FI. And that's roughly the same as RCP 8.5 in this newer set of models. And if what Bloomberg is reporting there is true then neither of those models will ever come true.

Assume that the entire problem over climate change has been properly identified for a moment. No, leave aside the idea that it's all lies. By the very things that the research tells us will cause problems in the future we've already largely done the things needed to avert that danger. Anything beyond a mild warming is predicated upon the idea of ever more fossil fuel use. If that's not true because of what we've already done then anything beyond a mild warming is not true either. 

Redistribution: Not if, but how

Many people assume that classical liberals are ardently opposed to redistribution of income in principle, and that this usually overrides other concerns. It is certainly true that we are sceptical of it, but many of us are actually very relaxed about it in principle, and reserve most of our scepticism for the way it’s done.

Consider three different education systems. 

In system one, the government spends £6,500 per year per child through a centrally-managed school system where many aspects of the curriculum are decided by the Secretary of State for Education. In system two, the government gives parents a voucher for £6,500 per child to pay for their education in any school they like. In system three, parents are legally required to send their children to school but they do not receive any money from the state to help them do so.

Or three different healthcare systems. 

In one, we have an government-run and -provided National Health Service. In two, the government pays for health insurance for people too poor to afford it, but the private sector provides the care. In three, you’re on your own.

In both examples, system one is what we’ve got at the moment. System two is what I would characterise as a moderate classical liberal stance. System three is what I would characterise as a hardcore libertarian stance. 

People like Milton Friedman and FA Hayek spent most of their lives advocating system two-like policies, and these are generally the sorts of policies that the Adam Smith Institute and Institute of Economic Affairs advocate for too. 

If the state ended up spending less money under these policies, this is incidental to changing the way money is spent. The real goal is decentralising decision making to the level of the individual, and allowing firms to profit by satisfying people’s individual needs efficiently, and fail when they do not do so. 

I think a similar approach makes sense for welfare. The system we have at the moment is highly complex and relies on the people who run the system being near-omniscient about what’s best for people on benefits. That’s why I’m in favour of radical simplification of the welfare system along the lines of straightforward cash payments to the poor. Even if that means not cutting the welfare bill.

Redistribution isn’t costless, especially when it’s done badly. Taxes on the incomes and savings of the rich depress investment, and hence economic growth – making the pie smaller overall. On the other hand, taxes on consumption seem much less economically harmful. Again, the focus for me is on making the state cause less harm in the redistribution it does.

Does this mean I don’t want a ‘small state’? I’d say no.

The scope of the state is much more important than the simple amount it redistributes by. A government could raise very little tax, but still prohibit alcohol, tobacco, cannabis and any sex outside of the missionary position. This would be a much bigger state than a very liberal one that nevertheless had a £10k basic income – at least in the sense that it matters. 

Thatcher’s reforms revolutionised Britain not because they cut state spending as a percentage of GDP, but because they got the state out of key industries and opened them up to competition. It was rolling back the scope of the state that mattered.

So I don’t think it’s incoherent to say that you’re a pro-redistribution classical liberal. In principle, I don’t mind redistribution. The problem is how bad the state is at it.

Sorting out the bank holiday mess

British public holidays do not fall evenly.  We have far too many in the Spring when the weather is unreliable, and none at all in the Autumn when it tends to be more pleasant.  Good Friday, Easter Monday, the early May holiday and the late May holiday come thick and fast.  Then there is nothing until the late August holiday, and then a complete desert until Christmas Day.  And we have fewer holidays than many other countries.

We could rectify both problems by a simple measure.  We should abandon the early May holiday, a Socialist workers' day that celebrates the promise of Spring planting, unlike the capitalist American Labor Day which celebrates when the harvest is in.  In return for its loss, we could trade it for two new holidays.  One could fill the Autumn desert as Trafalgar Day, October 21st, which could for convenience be the third or fourth Monday in October.

The other new holiday could be June 24th, with chance of better weather than early May.  And we could make it a UK Thanksgiving Day to celebrate our independence as a nation.

Six reasons why Civitas and Peter Saunders are wrong about housing

Civitas has a new paper (pdf, reports in The Observer) on housing out today by sociologist Peter Saunders, with some surprising conclusions. Saunders argues that demand stimulus—open credit markets, foreign investment, immigration and increased housing wealth itself—has driven house prices up, breaking their historic link with prevailing wages.

He argues that the solution to this problem is rolling back Help to Buy and other demand-side subsidies, as well as a change to monetary policy requiring the Bank of England to target house prices, and a new round of Right To Buy, but this time applying to private properties as well as council houses. Help to Buy is a bad policy, and demand for housing has risen, but outside of these, Saunders is deeply wrong about practically every claim in his monograph, and his proposed policies would be disastrous, a bizarre proposal to centrally control the pricing mechanism in a key industry, coupled with legalised theft.

Here's why Saunders is wrong:

1. Throughout, Saunders compares house prices to wages. But house prices are more like human capital—an asset that produces a steady stream of some desirable output; shelter or labour. Since it's hard to put a number on the value of someone's human capital, he'd be better off comparing the cost of servicing a typical mortgage to wages, since this is what you actually need to afford with your wages. By this measure, things look very different; mortgage payments are where they typically have been, at around 20% of income.
2. Saunders thinks that these homeowners will get a big shock when interest rates rise and their mortgage payments jerk up. For one thing, many mortgagors have fixed rate mortgages, which will stay stuck. But for another, expectations of low future interest rates are precisely why house prices have risen so much—markets and home buyers are pricing in a (reasonable) guess that market interest rates are not just low now, but will be for a long time. Indeed, this is why the situation for those on tracker mortgages (those linked to the Bank's base rate) is not as different as many people think. The payment rates are tied to the BoE rate because lenders and borrowers both (reasonably) believe that market rates and the Bank rate are driven by the same factors. Both the Bank and market lenders push their rates up when prospects improve, and down when they worsen, more or less.
3. Saunders claims that wide homeownership is a particularly good way to encourage wealth-accumulation across society. But there is good evidence that homes are no better than any other assets—holding shares in a FTSE100 tracker, for example, is just as good.
4. Giving the Bank of England a secondary goal, targeting the ratio of house prices to wages would be utterly bonkers, requiring them to crash the rest of the economy to meet an arbitrary aim they have very little direct control of. As we saw at the beginning of the crisis, the prevalence of tracker mortgages is contingent on Bank of England rates being set for other reasons. If the Bank tried to target the price of housing through the link between many market interest rates and its own base rate the link would be severed—a classic example of Goodhart's Law. But even if it could have a major influence on either side of the equation, it would be crazy to set interest rates and QE too high or too low for the rest of the economy, and risk a dangerous boom or costly bust overall, to try and centrally plan the prices in one particular market.
5. Saunders is wrong that supply is irrelevant to high rents, mortgage repayment costs, and the related high house prices. Usually high prices drive firms to open up shop, increase supply, and drive down prices through competition to gobble up the profits. This is why we have pricing! Markets are about demand and supply. But in the housing market incredibly strict regulations stop this. And we have high quality econometric evidence backing this up: house prices would be 35% lower if there had been no regulatory constraints on housebuilding 1974-2008.
6. A right to buy council housing and right to buy private rental housing are completely different things. One is a privatisation scheme, very generous to its beneficiaries. One is legalised theft. I have a house, you rent it and want to buy it for a price a bureaucrat deems appropriate; I value it more than that price and would not like to sell it. On Saunders scheme I have no say over my own property. Yes, this would drive down the price of housing—by trampling over hundreds of years of established property law—but it would only drive it down because it makes housing genuinely less good of a thing. Not everyone wants to own right now. Moving house when you own is vastly more costly and not everyone wants to stay where they are now forever. Landlords provide a valuable service, and smashing that market to bits would drastically worsen the UK housing situation.

There are real solutions to our housing problems. We need to liberalise planning, both in scale and scope. That's pretty much it. Nothing but building more houses will work.

Norway, José?

Some commentators have argued that, should voters choose to leave the EU, they will mostly be motivated by an objection to immigration. This would make the EEA Option, which we have argued for, a non-starter, since in order to be a member of the EEA the UK would have to keep freedom of movement. 

Others, like Jonathan Portes, have argued that even if a majority chooses to leave the EU, a majority may also wish to remain in the single market. The vote is on whether we leave the EU or not, and even if many leave voters are motivated by an opposition to freedom of movement, they may not be a majority of the country as a whole.

A new YouGov poll, commissioned by the Adam Smith Institute, asked 1,751 people three questions: whether they wanted immigration or trade to be a post-Brexit government's first priority; whether they thought the government should consider a Norway-style deal (i.e., whether it would be democratically legitimate for a government to do so); and whether they themselves would support such a deal.

We found that 54% would support the Norway option, compared to just 25% opposed, and 57% would like the government to at least consider such an option. Voters were split evenly on whether immigration or trade was a bigger priority, though there was not majority support for either.

Our results:

The full results are here.

It's important to understand what's gone wrong in Venezuela

That Venezuela was a middle income country that is now descending into chaos and penury is true. But the important thing to note is why this is happening. We're now seeing food riots in those parts of the country which were supposed to be benefited by the policies being followed:

“There have been 37 presidents of this country and none of them led us to this,” an elderly woman yelled at a policeman. The officer replied: “We are suffering too. But there’s no food here. Go home.”

Veronica Gonzales, 46, a computer technician, said that police and the colectivoswere in league with black marketeers known as bachaqueros, or leaf-cutter ants, who queue at shops and then sell the produce at inflated prices. “They are all a mafia,” she said.

What is striking is that the riots — sometimes half a dozen a day in the capital — are in working-class slums far from the middle-class areas where support for the opposition has traditionally been strongest. The opposition, which controls congress, is trying to push through a referendum to remove Mr Maduro but that will take time and hungry people are more concerned about procuring food.

To put an end to the vast queues and black marketeers the government recently started distributing food directly to local community councils.

It is not socialism that has caused this. And no, we don't mean in the sense that true socialism has never been tried so we can't say that it is at fault. Socialism is where it is not the capitalists but some more communal group which owns the productive assets. Both the Co Op and Waitrose in our own food market are socialist enterprises. One is owned by the customers, the other by the workers in it. They both seem to work just fine within the strictures of market competition and the price system.

And it is that which Venezuela has got wrong: that market and prices thing. As Mises pointed out and Hayek developed we simply do not have any method of coordinating anything as complex as an economy without making use of those prices and the market. Actually, as the only Soviet economist, Kantorovich, to win the Nobel concluded himself, we have to start with market prices before we can do anything else.

This disaster is because people think that prices are just arbitrary numbers we can assign near at random. Not so: they are the vital information about who wants what and which resources and where should be devoted to producing those things.

This has obvious implications for us in our rather better position. We're not in favour of more council housing for example, thinking that private ownership produces a better result. But that is a minor point compared to the important one, that whatever we do with housing or rents we must let the price system work: that means no rent control. Similarly we're not worried whether people prefer to work in a socialist workers' cooperative or a more capitalist firm. But we must run our welfare system by redistributing income rather than ruining the price system with a minimum wage.

The end result here, the thing we must all remember, is that there are indeed variations among various parts of the spectrum between capitalism red in tooth and claw and yes, even workable socialisms. Those working socialisms must be voluntary, of course, but we can see them working right here at home. How collective action is organised is very much less important than the insistence that all must be subject to the strictures of the market. Which is what Mises and Hayek were saying: markets not planning indifferent to prices.

For the truth is that non-market systems simply do not work as economic systems. And working, being able to sate at least some human wants and desires, is the main thing we want from an economic system. Thus, whatever else we do we must be market based.

We know that richer people live longer: but is it because they are richer?

A standard part of the story here in this sceptered isle is that there is a causal relationship between economic inequality and health and lifespan inequality. Michael Marmot has been telling us this for decades now. That there is a correlation between wealth and lifespan is obviously true: but what's the causality? 

What we'd really like to do is look at people who have randomly gained wealth and see whether it has changed either health or lifespan. And just to be inclusive about this we'd like to look at the children of those this happens to. Fortunately the spread of lottery systems around the world gives us some number of people who have randomly become wealthy.

Via Marginal Revolution, the result? 

We use administrative data on Swedish lottery players to estimate the causal impact of substantial wealth shocks on players’ own health and their children’s health and developmental outcomes. Our estimation sample is large, virtually free of attrition, and allows us to control for the factors conditional on which the prizes were randomly assigned. In adults, we find no evidence that wealth impacts mortality or health care utilization, with the possible exception of a small reduction in the consumption of mental health drugs. Our estimates allow us to rule out effects on 10-year mortality one sixth as large as the cross-sectional wealth-mortality gradient. In our intergenerational analyses, we find that wealth increases children’s health care utilization in the years following the lottery and may also reduce obesity risk. The effects on most other child outcomes, including drug consumption, scholastic performance, and skills, can usually be bounded to a tight interval around zero. Overall, our findings suggest that in affluent countries with extensive social safety nets, causal effects of wealth are not a major source of the wealth-mortality gradients, nor of the observed relationships between child developmental outcomes and household income.

Doesn't seem to be the money itself, does it? And thus is won't be economic redistribution which solves the point either, will it?