Budget 2014: how good politics can trump good economics

The days leading up the budget are hectic as many in the Treasury are busy devising financial gimmicks to please the electorate. This forthcoming budget is particularly important as next year’s budget will be too close to the election to have much of an impact on the economy or the “feel-good factor”.  Government politicians are also busy revelling in good economic data including a return to economic growth and falling unemployment. The chancellor has been telling colleagues that “we have won”.  Have they?

Full Bog continues here on The Conversation website.

Advertisements
Posted in Uncategorized | Leave a comment

US Politics and the Health of a Nation

Some semblance of calm has descended over Washington after the farce of the government shutdown. But it would be a stretch to say that things have returned to normal and the full extent of the economic damage will not be known for some time.

Full Bog continues here on The Conversation website.

Posted in economic policy | Leave a comment

The UK Economy: The Retreat of the Makers

If the Chancellor George Osborne is to turn his vision of reinvigorating our manufacturing sector, the so called “march of the makers”, he and his government colleagues need to develop a coherent industrial policy. The public policy debates which focus on austerity, withdrawing from Europe, and on limiting immigration misses the target. These are short term political agendas, that are not good for long term economic growth. We need Europe as a market for our goods and services, 50 per cent of our trade is with our European partners, and we need people coming into the country to boost our talent pool.

The need for an industrial strategy

There are too many piecemeal policies at the moment and there is too much focus on austerity, and reducing the size of public sector deficits and debt. But there is no coherent long term industrial strategy that will successfully rebalance our economy.  The need to rebalance our economy is losing momentum when it should be at the centre of the agenda.  We have to focus on stopping the “retreat of the makers” before we even get to thinking about the “march of the makers”

The economy is still stagnating.  We are still really bouncing along the bottom, this is the worst recession and the worst recovery from recession for over one hundred years.  In normal times, an economy recovering from recession should generate annual growth of three to four per cent. The recent quarterly growth of 0.6% is not an indicator of a sustained recovery – particularly as it is unbalanced growth with manufacturing and construction continuing their long term decline.

When in March 2011 George Osborne called for a “march of the makers” he identified manufacturing as the key growth sector for the economy and announced a series of policy initiatives, such as: extending the export credit guarantee schemes; increased R&D tax credits; and the creation of new enterprise zones.  But these policies have failed to generate growth because they do not deal with the fundamental problems which are the lack of demand and the lack of investment in the economy.

The myth of the ‘invisible hand’

The manufacturing sector has suffered benign neglect from governments of all persuasions from the 1960s and particularly from the 1980s onwards. The manufacturing sector has been allowed to decline based on the argument that markets know best and that the economy can be built on services. Manufacturing has been left to decline, whereas in the USA and Germany it has been supported. For some, the “invisible hand” of the market, will solve all economic problems – a phrase used only once by Adam Smith in “The Wealth of Nations”.  Markets rely on help from government to help them work more efficiently and become more effective – the role of the State is to support markets.  If we just rely on ‘market forces’, the result is an unbalanced and weak economy.

The need to rebalance

In the UK, there are sectoral imbalances:  we have seen a focus on the financial services and the relative decline of manufacturing. There are regional imbalances: London has done very well over the last thirty years while the North West and the North East have not.  There are also trade imbalances:  we have had a big balance of payments deficit and we are not paying our way; for the last thirty years we have been borrowing from the rest of the world to fund our consumption habit.

These three imbalances – in our sectors, our regions and our balance of payments – cannot continue and we are destined to see much lower growth for ourselves and our children in the future.

Rebalancing is important, geographically for the regions and also for the economy as a whole. It is not just about manufacturing but it is also about giving our high technology services, our creative industries, a much needed push too.

Openness strengthens the economy

There is also the misplaced focus on reducing immigration. The UK economy has always been open to talent, and that talent has helped our economy grow. We need to be an open economy both to ideas and to people. Europe is one of our major markets if we withdraw from Europe it is going to harm economic growth.

The importance of investment

What we need is a coherent strategy to invest, and although the private sector will help, a lot of that investment will have to come from the public sector and that means increased government expenditure. We must relax the current focus on austerity, and cutting deficits, the main legacy we can leave our children is not the problem of deficits, it is the problem of low economic growth. If we want to get economic growth going we need investment and we need investment now and the public sector has got to be part of that.

An earlier version of this blog appeared on the Compass website.

Posted in economic policy, immigration, manufacturing, regions, trade performance | Leave a comment

Immigration: Lies, Dammed Lies and the Daily Mail

It times of economic turmoil it is common to direct venom at others.  And immigrants are an easy target.  This was a feature of the 1930s and the 1970s in the UK – with immigrants being ‘blamed’ for taking ‘our’ jobs as well as claiming benefits- the fact that these were usually impossible together is usually ignored.  And this intolerance is rearing its ugly head again. Of course, immigration is an important issue that needs sensible debate. But too frequently it reduced to sound-bites from vested interests.

Man in a hat

Man in a hat

Whenever the topic of immigration is on the agenda, the BBC turns to Nicholas Farage.Take his contribution on Newsnight on 25 March, when told that immigration had not depressed wages in the UK, he retorted: “absolute rubbish… I have just been in a pub full of plasterers, decorators and carpenters.”   Good for him to have been to the pub.  But not necessarily a robust sample of employed workers in the UK.  Especially in a Suffolk pub at 10.30 in the evening.

There is even more incoherent nonsense from one of the Daily Mail’s merchant of bile, Richard Littlejohn , in his ‘article’ on 25 March, ‘Keep ’em out, Dave? They’re already here!

According to Littlejohn: ‘From across North London came reports of Romanians moving into homes while the owners were away….. And if Romanians make up half of all squatters, they also seem to comprise at least 50 per cent of all the beggars in central London these days. Presumably they return to their suburban squats of an evening.”  Of course, none of this litany of hate is polluted by evidence.

Litteljohn goes on: ‘Now even the Left is, sort of, admitting it got it wrong….In the Daily Mail over the past few days, David Goodhart, director of the Left-wing think-tank Demos, has written an extended mea culpa’.  Has he?  So what?  Some of the so called ‘Left’ follow a wayward path to confusion and distortion.  For instance, the right wing think tank, The Institute of Economic Affairs, used to be populated by dazed and confused ex-Marxists.

A Littlejohn mini-me at the Daily Express, Ross Clark, also resorts to unsubstantiated vitriol.   According to Clark: “What does rile the public, on the other hand, is when migrants arrive in Britain one day, and the next day they have been installed in a substantial West London villa, courtesy of thousands of pounds a year of taxpayers’ money, and when they are on a waiting list for NHS treatment behind people who have never lived in Britain nor paid towards the NHS. No Briton ever took a Eurostar to Paris in the expectation that they would immediately be put up in a grand apartment on the Champs Elysees courtesy of French taxpayers.”  What should rile the public is being fed such lies.

Clark even argues: ‘Jonathan Portes, director of the National Institute for Economic and Social Research was wheeled on to say that migrants claiming benefits were a ‘minuscule’ problem and that the real challenge to the public finances is elderly British people with the temerity to claim the pensions they have paid for all their lives.’  Almost certainly Portes did not use this language – and as far as I am aware he is not wheels.  Portes has undertaken detailed and rigorous analysis of the impact of immigration – see here.  And Clark does not have the guts or the intellect to engage with the evidence.

Assessing the impact of immigration is difficult – but that does not justify the scaremongering tactics of some of the press and pressure groups. There is strong evidence of some of the impacts. First, immigration helps to reduce the pressure on the public finances as they pay more taxes as they are less likely to claim benefits and are more likely to pay more taxes than the average citizen (see here and here). Second, immigration contributes to economic growth when measures in terms of GDP. When focus is put on GDP per capita, or GDP per capita of the non-immigrant population, the evidence is more fuzzy.  But this is largely a product of the limitations of macroeconomic modelling.   Economic growth (per capita) is driven by new ideas – and the most innovative places, such as Silicon Valley,  attract talent from around the globe.   Third, the United Kingdom  is a country built on immigration throughout its history.  And even if we focus on more recent times: those that care for us in illness may come from the Philippines but we should remember that we imported our Royal Family from Germany.

Posted in economic policy, immigration | Leave a comment

Governments and growth

Last week, ‘two lads from the ECB’ contributed to the debate on the state of the economy. They were cited by the venture capitalist, Jon Moulton, on Newsnight, as providing evidence that Governments harm growth.  It was contribution which showed the shallowness of much of the debate on the economy.

The two lads

The two lads from the ECB came up during a Newsnight debate on the Budget on 19 March – you can watch it here.

aqOLey2

As shown in the images (from Mohammed Tanweer) Moulton stated:  ‘the bigger the public sector the less likely you are to have growth. It is a pretty well established relationship.’

Mariana Mazzucato (Professor, University of Sussex) responded in the appropriate scholarly fashion: ‘by whom?’

Moulton: ‘Well…umm… A couple of lads at the ECB.  A couple of lads at Stockholm. I can send you the graphs.’

 

 

Who are these likely lads?

The couple of lads from ECB are António Afonso and João Tovar Jalles who published a paper on ‘Economic Performance and Government Size’ in 2011 (thanks to Romesh Vaitilingam for pointing this out).  According to Afonso and Jalles: ‘Our results show a significant negative effect of the size of government on growth’.  Although they also argue: ‘economic progress is limited when government is zero percent of the economy’.  Quite! I wonder where and when they had in mind?

So what do the graphs show that Moulton has now probably sent to Professor Mazzucato?  They are shown below; and you would need a distorted and perverse perspective to imagine that they show that government harms growth.  But we do not need to believe our eyes as we can turn to art of modern economics.

Governement and Growth 2Governement and Growth 1

The art of modern economics

The economics of the ECB lads is apparently impressive: they have a model with the required algebra and lots of numbers supported by sophisticated statistics.  But, as with much modern economics, when you scratch beneath the surface, you find assertions supported by some correlations.  And be careful when you see the term ‘significant’ bandied about – this refers to ‘statistical significance’ which tells us nothing about economic significance or the size of any apparent effects.

Yada Yada Economics

As with most economics papers, Afonso and Jalles have an economic model: ‘a typical economy with a constant elasticity of substitution utility function of the representative agent…….’ blah, blah, blah, lots of algebra etc.  This looks scientific although many readers will not read it or will not understand it.   But the model is superfluous.  The construct of ‘a model’ is an artificial edifice now required in most modern economics as its physics-envy knows no bounds. The authors’ arguments are based on correlations between some variables, but you can construct many different ‘models’ and still end up performing the same correlations.

The evidence

The evidence of the lads is a series of multiple correlations – wrapped up with a battery of statistical ‘tests’ and ‘robustness checks’.  But what this amounts to is that if you massage the data enough you can show that economic growth is inversely correlated with the size of Government (as a share of the economy).   Correlations say nothing about causation – causation is imposed by the authors.  Some economists believe that they can prove causality through a statistical test – such as the Granger Causality test – this technique can be used to show that consumers expenditure in early December caused Christmas later in the month.

Afonso and Jalles argue that their correlations show that if government increases (as a share of GDP) then economic growth falls.   But they fail to consider more plausible explanations for this.  First, causality may run the other way: if growth of the economy falls for other reasons then the share of Government in GDP will increase as the denominator (GDP) is smaller – and more so, if the Government makes transfer payments to the unemployed which increases the numerator.  Second, rich countries tend to grow slower than poorer countries (that can have catch-up growth); and as economies become richer, Government as a share of GDP tends to increase as Governments often supply goods and services that prosperous consumers want – such as education and health. Since 1960, the size of Government (as a share of GDP) has increased in every OECD country.

Debataing the Dismal Economy

The economic crisis has led to much debate about economic policy.  And much has been highly informative – for example, see the debate between Wolf and Giles in the FT, and the contributions by Faisal Islam, Jonathan Portes, David Smith and Simon Wren-Lewis.

But much of the discussion has frequently been vapid and vacuous. With often confusion between: when and how to reduce the deficit; and the role and size of Government.  And the use of economic ‘evidence’ has often been uncritical and instrumental – including so-called ‘well established relationships’.

Decisions about economic policy and the role of the state are inherently political and should be driven by what sort of society people want to live in – and they should not hide behind the false veil of the pseudo-scientific objectivity of modern economics.

Posted in economic policy, economics | 1 Comment

The FT: defending zombie economics

There is an entertaining debate (well, it is entertaining if you are an economist) in the FT about the conduct of economic policy in the UK.  On the side of realism is Martin Wolf who argues that Britain’s austerity is indefensible, on the side of the austerians is Chris Giles whose latest defence of zombie economics is to argue that ‘Osborne is too timid, not too austere’.

Continue reading

Posted in economic policy | Leave a comment

The OBR and the impact of austerity

OBRThe Office of Budget Responsibility has given the Prime Minister a public dressing down.   Robert Chote, the OBR’s Chairman, has clearly stated in an open letter that the Government’s austerity policies have harmed economic growth. Continue reading

Posted in economic policy | Leave a comment