Polly Toynbee really doesn't understand how markets work

We’re told that the only solution to Britain’s housing woes is more social housing. Because, as Polly Toynbee tells us:

The market will never build enough homes, and certainly not enough “affordable” homes, as scarcity drives up prices. Rather than treating housing as something for the market to rectify, the state should start building more social housing. It already owns land aplenty, and doing this would be a double win: it would both help to solve the housing crisis and deflate house prices by introducing more social rent properties on to the market.

It’s entirely true that scarcity drives up prices. But that’s the very thing, higher prices gained for producing a greater supply, which calls forth the new supply which then lowers prices again. The only time this doesn’t happen is when there’s a monopoly supplier. Only a monopolist can, that is, prevent the new supply which brings prices back down again.

We do not have a monopoly housebuilder. Therefore the market, unadorned, would be entirely capable of producing more houses to take advantage of these higher prices. As it did in the 1930s, back the last time we actually had something approaching a free market in house building.

For the problem is that we do have a monopolist in the marketplace, the state. Which decides, and decides alone, who may build what where. If we see results that are akin to those of a monopoly - supply not rising as price does - then we should really be ascribing that result to the monopoly we see within the system.

Free the market from those planning restrictions and watch housing become more affordable. As Polly does manage to grasp with social housing - more housing would reduce the price of housing. So, all we need to do is remove the monopolistic restrictions upon the housing market and we’re done.

That is, as we’ve pointed out before, abolish the Town and Country Planning Act 1947 and successors. We didn’t have this problem before that Act, we have done since, it is the Act itself causing the problem. The solution to housing is actually to have a free market in its provision.

Mired in archaic thinking

A useful point to grasp is that physical investment - investment in physical things - isn’t the way that a modern economy adds value. Or not the bulk of the value being added. It is, rather, investment in knowledge and intangibles that does add value.

For example, the value of Amazon doesn’t depend upon warehouses and the silicon in servers, although those obviously contribute, but in the software and brand that makes the whole thing work.

Companies paying corporation tax will be eligible for a new “super deduction” equal to 130pc of the value of qualifying plant and machinery investments.

Why, therefore, would we institute a subsidy for the unimportant part of investment and not one for the important part in this modern world? And yes, 130% allowances are, in part, a subsidy in a manner that 100% allowances are not.

Consider the one single product class of the past year with the greatest value to us all - vaccines. The reactor tanks to make it in are plant and machinery and so would gain this new allowance. The far larger and vastly more important research work, clinical testing and intellectual property would not. But we all know that the second group is the vast majority of both the costs and the value added - the reactor tanks really are just the reactor tanks and are of insignificant comparative value.

The modern economy adds value through knowledge, not physical plant. To subsidise the second and not the first is to be trapped in very archaic thinking.

Sure, tax cuts are nice, all tax cuts are good. But we do also need to be up to date with our analysis of how an economy works.

Do note that full expensing is still a great idea. It’s the restriction of it to just the one type of investment that is the error here.

Reasons for optimism - trade

Free trade had a good run with first GATT and then WTO, and has brought a very large part of humankind unparalleled prosperity, enabling people in poorer countries to sell their labour and its products on the world market. But there has recently been a return to a degree of protectionism, and some observers predict that economic nationalism will come to dominate, meaning that trade will be much less free than it has been, and that the prosperity that it brought might prove transient.

President Trump in the US renegotiated the North American Free Trade Agreement so that its replacement incorporated fairly onerous rules of origin and minimum wage requirements. Some critics have described it as “government managed trade policy,” and Edward Alden of the Council on Foreign Relations said, “if a new hybrid of Trumpian nationalism and Democratic progressivism is what it now takes to do trade deals with the United States, there may be very few takers.” Trump also imposed tariffs on China as part of his ongoing trade dispute with them, and China responded in kind. The same happened between the US and the European Union.

The election of President Biden looks set to see the reversal of at least some of Trump’s protectionism, and it is quite likely that the US will apply to join the free trading Comprehensive and Progressive Agreement for Trans-Pacific Partnership (CPTPP) that replaced the Trans Pacific Trade Partnership that Trump pulled out of. The UK has applied to join the CPTPP itself, now that it is no longer a member of the EU and is free to do so.

Although some within the European Union and some outside it have loosely called it a free trade area, in reality it bears more of the characteristics of a Zollverein, a protectionist customs union that uses external tariffs to give advantage to its domestic producers at the expense of outside producers and its own consumers.

Outside the EU, the UK has made agreements to continue trading with 60 countries that had EU trade arrangements with. It has also signed deals with Canada and Mexico, and has more trade deals still being negotiated. When the UK joins the CPTPP, it will enter the Pacific stage and become a global free trader in a way that the European Union is not, and will enjoy the benefits of lower import prices as well as access to more markets for its exports.

It is thus the case that the defeat of President Trump, and the UK’s departure from the EU, both herald a brighter future for international free trade and a retreat from the protectionism that threatened to replace it. Far from a pessimistic outlook that suggests an increase in nationalist and protectionist trade polices with tariffs and import barriers, the future looks set to offer more free trade agreements, wider free trade, and the increased trade that comes about when good can cross borders unimpeded. It offers grounds for optimism, rather than pessimism.

Just to test David Sainsbury's ideas

Lord Sainsbury tells us how we can achieve the much desired levelling up:

If, however, the Government is going to grow high value-added businesses outside London, some important changes need to be made.

The first change is to give the metro mayors the clear responsibility for spatial planning and transport policies in their cities, bringing their powers in line with those already held by the Mayor of London. This would be a significant change, but granting mayors these powers would improve the management of our cities and create a more favourable business environment.

The second change would be to give mayors the power to align the courses run by FE colleges within their boundaries with the needs of industry. Currently, FE funding rules mean that, to survive financially, many colleges must spend a great deal of time competing to attract students to courses that are cheap to run. By giving mayors the authority to co-ordinate the courses put on by FE, and by incentivising collaboration between colleges rather than competition, this could be stopped, and the courses delivered could be brought in line with the needs of industry.

These being ideas that should be put to some sort of test.

So, are we sure that putting Sadiq Khan (or Boris Johnson, Ken Livingstone or Shaun Bailey) in charge of business and industrial planning has been wholly and wondrously beneficial to the economy of London? Do we think that their detailing the curricula of the capital’s educational establishments would further boost growth?

Do we then think that putting Andy Burnham (or Derek Hatton, or Joe Anderson or T Dan Smith) in charge of such things elsewhere is going to similarly boost the economy?

Our answers to those are no and hell no. We agree that others will differ on one or possibly even both of those. But that is still the correct test to put the assertions to. Have they actually worked where they already exist? If not then we’d best not expand the policy, had we?

Postponing tax rises doesn’t help

There is a scene in Yes Minister where Sir Humphrey, goaded by Hacker into giving a straight answer for once, blurts out:

“If you’re going to do this damn silly thing, don’t do it this damn silly way.”

The Chancellor could have done with that sort of straight talking before today’s Budget speech - it might have stopped the announcement that corporation tax will be increased from 19% to 25%, but only from April 2023.  It fits perfectly – not only the wrong thing to do, but done in the wrong way, making it even worse

I wrote just before the Budget about what a bad idea tax rises would be and that applies especially to business taxes.  

Taxing companies sounds like a free ride for the government - more money for the Treasury without taking it from voters. But it is voters – especially people looking for work – who actually bear the burden of corporation tax.

A company is just a legal structure, so whenever a company pays tax, the cost has to fall on real people:

• either the company has less money, so the shareholders become less wealthy;

• or the company puts up its prices to maintain its after-tax income, meaning its customers have to pay more;

• or the company cuts its staff costs, perhaps freezing wages, hiring fewer staff or automating more, so that the workforce suffers.

The bad news for the Chancellor is that most of the pain of corporation tax rises falls on workers. This is one of the things about tax economics that we are fairly certain about. A huge study by Oxford University found that, for each extra £100 that the Chancellor taxes from business, the workforce will lose £75.  Few economists think that estimate is excessive; many would put it even higher.

This does not usually mean direct wage cuts – those are rare. More likely is a hiring freeze – not replacing staff when they leave. But most damaging are the jobs that are lost because they were never created – the new businesses that were not formed, the expansion plans that were shelved, because the higher taxes meant that investment plans were no longer viable.

This means that corporation tax rises are very unfair, because the burden of the tax falls in an uneven, random manner.  Increasing income tax might cause problems, but at least we have a rough idea of who will pay what. But as corporation tax causes staff to be laid off, or new staff not to be hired, its effect is random. Worse, it tends to hit hardest those who are looking for work – the unemployed, or young people looking for their first job – or those in marginal jobs.

That is not a sensible or equitable tax policy, especially as we try to recover from the already unequal effects of lockdown.

Neither does it help to postpone the tax rise. Does the Chancellor really think that businesses only do their planning based on today’s tax rates? Of course they don’t. Potential investments are judged by looking at the future returns that they will generate — the after-tax profits — and any significant investment will be looking years into the future to judge whether it is worthwhile. Of course those projections will take account of planned tax rises – it would be negligent not to.

So the announced 2023 tax rise is already going to cause its damage, because any business considering investment will already be factoring it in.

The Chancellor has chosen the worst of all worlds – damaging jobs now and putting the post-lockdown recovery at risk - doing so in a way that harms the young and the unemployed, those least able to bear the burden - but not even collecting any money from his tax rise for over two years.  

Don’t do this damn silly thing.  But if you must, don’t do it this damn silly way.

The boss of Uber might well be right here

The boss of Uber claims that the people who work for the company as drivers prefer the flexibility or independence of the manner of working to the possibly benefits of being classified as either workers or employees. He might be right too:

The chief executive of Uber has insisted that its drivers want flexibility above the benefits of employment in the wake of a landmark UK court ruling that classified them as workers.

Dara Khosrowshahi, who has run the taxi-hailing app since 2017, said its 3.9m drivers across the world "overwhelmingly" value changeable hours as their first priority, without addressing the UK case directly.

There are jobs out there which do not offer the flexibility. There are jobs out there that do offer those benefits of other employment statuses (statii?).

That people - entirely voluntarily - take the jobs which offer the flexibility among the employment benefits and not the, say, holiday pay, shows that those workers value the flexibility above the holiday pay. And so on through any and every of the varied different combinations of employment benefits, including pay, hours and so on.

That people do the job, as is, shows that for those making the decision the deal is as good as is on offer, at least, elsewhere.

Now, whether people should be allowed to make their own decisions in this manner - we insist yes, of course, this is what liberty means - is another question. But given the number of people who volunteer to become Uber drivers they must be at least satisfied with the mixture of employment benefits on offer.

Budget tax hikes would bring disaster

Just when we can finally see the end of lockdown and life possibly returning to some sort of normal, we have a flurry of rumours that the Chancellor is about to shoot the recovering economy in the foot with all sorts of tax rises.

This would be a disaster, and the people it would hit worst would not be ‘the wealthy’ or ‘big corporations’, but young people looking for their first jobs.

Before coronavirus, the government was taking over 37% of the economy in tax, and even if the Chancellor does nothing in the Budget, that is expected to rise to around 39% (because although tax revenues are dropping, the economy is dropping faster).

That is dangerously close to the top level that an economy can bear without suffering badly. Yes, other European countries have higher levels of tax (although overall not by much - the average was just over 40% in 2019), and 39% would have still left 11 European countries with higher taxes than us.  But they are not a good example to follow because they generally have shamefully high levels of youth unemployment.  

Even in 2019 (before coronavirus and well after the banking crisis) France had a youth unemployment rate of 20%; Sweden was similar; Italy’s rate was 30% and Spain’s even higher – is that really something we want to copy?

There is a clear link between tax levels and the economy’s ability to create jobs, as the graph below shows – as overall tax levels rise (towards the right of the graph), the number of new jobs created falls.  More importantly, it falls off a cliff once levels go over about 42%.  In the period examined, every EU country with long-term tax levels below 42% of GDP created at least 10% net new jobs, but none of those above 42% were able to do so (the graph does show one, Italy, that just creeps over the line, but its subsequent performance suggests that was unreliable statistics rather than an economic miracle).

Failing to create new jobs is not so much of a problem for those already in work (although with many losing their jobs due to lockdown, it will increasingly be so for them as well), but it is a huge problem for young people looking for their first job – hence those shockingly high youth unemployment rates in Europe’s big high-tax countries.  That is what we are risking if the Chancellor pushes up taxes in the Budget.

Tax levels in the UK were getting into the danger zone even before the virus hit us, and even if the Chancellor does nothing, the drop in the economy over lockdown will mean that the government is already taking nearly 40% of the nation’s income in tax.  Any tax rises risk pushing us off that job-creation cliff.

Not only would that cause the huge personal problems of unemployment, it would also be counterproductive as, with fewer jobs, those tax rises would bring in less and less extra revenue.

I would not normally advocate increasing government borrowing, but in this case the money has already been spent, and whether or not it was spent wisely, it was in response to an emergency.  We can do nothing about that.  But what we must not do is stamp out the post-virus recovery before it even gets underway by raising taxes now.

Yes, in the medium term we need to get government finances back into line, but that needs to be done through economic growth and long-term spending restraint, not crippling tax rises.

There is a good argument that the people hit hardest by the lockdown are those in their late teens and early 20s.  They have seen their education sacrificed – schools and universities closed, training and apprenticeships reduced, workplaces closed so that, even if they have a job, they cannot pick up that vital early practical experience that the rest of us benefited from.  Not to mention the isolation and the lack of social activity that is so important at that age – the experiences lost, the relationships never formed.

After suffering from lockdown, is it fair that the country’s youth also bear the brunt of the cost of the recovery?

By Richard Teather

We're in for decades of austerity

It doesn’t matter who runs the place, which side or tribe wins any elections, the country is in for austerity over decades to come.

That is, if we use the currently fashionable definition of austerity.

For that definition is “government spending less this year than last”. That is what has been shouted over this past decade after all.

We have various possible definitions of spending of course, real terms, nominal cash, but the most obvious one to use is percentage of GDP. That is, how much of everything does government get to direct and how much fructifies in our own pockets?

Public spending has been declining over this past decade by this measure, this is most certainly true. We can see it here. From 40.8% of GDP in 2010/11 to 35.6% in 2017/18. That is what all that screaming about austerity is.

The bit that always gets missed in this is that government spending was 35.6% of GDP in 2006/7 as well. That is, as a nation, we did that Keynesian thing. We’ve a recession - quite a recession in fact - therefore government spending will rise. Whether or not we particularly believe in specifically raising spending in order to boost demand or we just observe that spending will automatically increase on welfare doesn’t particularly matter. Nor does that idea that more should have been spent, or less.

Spending did rise, considerably, as a result of the recession. It’s not all that terrible that it then declines to its former level as the recession ends. Indeed, to fail to do this would mean that every recession just ratchets up the portion of the economy that flows through politics and reduces that which fructifies.

We’re about to go through all of this again too. Spending did rather blow out this past year. Quite possibly righteously and all that but that’s not the point being made here. Rather, public spending off into the future is going to decline as a percentage of GDP. For we can’t keep printing hundreds of billions of new money every year, can’t run QE at that level forever.

But, given our definition of austerity in current common use this means that public expenditure falling each year, from last year’s massive bolus, will be defined as austerity. Which, of course, it isn’t, it’s at least an attempt to return to normality.

Yes, obviously, this is all about political rhetoric and this is just a warning, a placeholder even, over what is going to be the staple of many an opinion piece.

Government spending will fall from the levels of 2020/21. There will be screams that this austerity will eviscerate all that is good and holy from the British state. The correct observation will be that it is just a return to normality after Covid has passed.

Rawlsian ignorance

The centenary of the birth of philosopher John Rawls has prompted the usual claims that his best known philosophical tool, the veil of ignorance, is an argument in favour of redistributive taxation aiming at a much more equal income society.

In his thought experiment, Rawls imagined people meeting to design the society they would then live in, but without knowing anything about themselves that might help determine their position in that society (intelligence, skills, gender, age, etc.).  Rawls and his disciples argue that, if we do not know where we are going to end up on the income spectrum, we will want to create a much more equal society so that our position does not matter.

My friend Hannes Gissurarson rightly points out that, if the sages made this decision, they would make themselves (and everyone else) worse off, since even poor people in free-market capitalist countries tend to have higher incomes than even rich people in socialist ones.  But my objection to Rawls is more fundamental – if Rawls’ thought experiment were possible to conduct in the real world, rather than just imagined by people like himself, would it really reach the results that he claims?

What I wanted was a practical experiment to see what decisions people would make about how they would like income to be distributed in society.  This would have to be real consequences (all good economists know that what matters is revealed preferences – not answers to a questionnaire but our real practical decisions when they actually affect us), and it would have to be behind a genuine veil of ignorance, so that the people making the decisions could not have any idea where they would end up on the income spectrum in the resultant society.

Sadly the ASI would not give me the budget to create such a realistic large-scale experiment, but fortunately one is already being done for us, twice a week, involving over 40 million people, and the results are not at all what Rawls would have thought.  I think of it as a practical application of the Rawlsian ‘original position’ thought experiment behind the veil of ignorance, but it is more commonly referred to as the Lottery.

It meets Rawls’ tests.  The decision to play is made behind a very effective veil of ignorance – the lottery is completely random, so there is no way of knowing where you will end up.  It is a free decision to buy a ticket, but one that has genuine consequences (lose and you are poorer than you were before; win and you are richer).  It is also a decision that is made with a reasonable understanding; 70% of adults in Britain play on a regular basis, so the experience of regular losses will soon teach them the unlikelihood of a big win.

Think about it - by buying a lottery ticket, 40 million of us are buying into a proposal for a profoundly unequal society, where 89% lose out entirely, 10% make modest gains and, if 45 million play, just one of them might become staggeringly wealthy in an evening.  Over two thirds of adults in Britain play regularly, so from behind the veil of ignorance, most people are choosing not a more egalitarian society, but one far less equal than the one we have already.

We should not take this too far; although buying a lottery ticket does cause a loss, for most people it is a small one compared to their income.  Although the result supports a libertarian view, it could also be consistent with a safety-net welfare state with a certain level of tax and welfare to support a sufficient minimum income before taking a gamble on the rest.  But what this practical application of Rawls’ veil of ignorance does not justify is any idea of financial equality as an objective for society.

By Richard Teather

Reasons for optimism - wealth

Some commentators suppose that following the Financial Crisis of 2008 and the current worldwide pandemic that world output will never regain its previous levels, and that people in the future will have a lower standard of living than their predecessors did. Others allege that such increases in wealth as have happened have been concentrated in the hands of the super-rich, leaving poorer people worse off.

Neither of these somewhat pessimistic views appear to be justified. Periodic shocks such as the Financial Crisis and the pandemic happen from time to time. They provide a shake-up and a reallocation of capital and resources. Some businesses go to the wall, but they free up space into which new business can move. The wealth-creating process picks up the slack, and new products and processes are introduced to take the place of those no longer viable. The explosive growth of firms such as Uber and Airbnb and the value they have brought into the lives of millions both occurred after the Financial Crisis.

The pandemic has accelerated trends that were already evident before it. Lockdowns have led to an upsurge in buying goods online and having them delivered. They have also led to a huge increase in the numbers working from home. The likelihood is high that after the pandemic is over people will resume the habit of shopping in person, though it is unlikely that online purchases will go down to their pre-virus levels.

 People will undoubtedly return to offices, though there will be more home working than there was previously. The economy will adjust. More high street retailers will probably join the ranks of those which have already closed, but the vacated premises will be put to other uses. Some of them will probably be converted into apartments to help redress the housing shortage brought about by current planning laws.

The UK economy has shown over the last 150 years or more an average growth of about 1.5 - 2.0% annually. This includes the various shocks and crises that it has gone though, including the 1930s slump. We grow richer because innovations raise productivity and enable us to buy things more cheaply in terms of the man-hours it takes to afford them.

The notion that this new wealth flows exclusively to the super-rich is incorrect. True, the likes of Jeff Bezos, Tim Cook and Elon Musk become billionaires, but they do so by adding value to the lives of billions of people and making them better off as well. Amazon makes people richer by selling them goods online at prices lower than high street ones. Apple makes the money we spend buy far more valuable goods than the same money would have bought only a few years ago. Elon Musk made online payment safer with PayPal, and has since made a Tesla electric car into an affordable, high quality product. They have all become richer by making others richer.

The world has not passed “peak wealth,” leaving children to be poorer than their parents were. On the contrary, wealth will continue to be created. The economy will adjust to changing circumstances, as it has done before. The prediction that people worldwide will be wealthier in the future than they were in the past is not just optimistic. It is realistic.