The election is over and David Cameron’s new government is poised to pursue its legislative programme. Here Ken Clark explores the economic challenges facing the new Government, and in particular falling productivity.
The economy was undoubtedly a crucial part of the election campaign and the eventual outcome. While the Conservatives emphasised the renewed growth, expanding employment and deficit reduction that took place under the Coalition, Labour focused on their plans to reduce inequality and to boost living standards, wage growth and investment in the public sector, while still exercising fiscal responsibility. Indeed the need to control public expenditure and reduce the deficit was seen by Labour as so central to the electorate’s perceptions of the party’s credibility that it was the first pledge in their manifesto. Similarly the Conservatives’ “long-term economic plan” was founded on the continuation of public sector austerity outside of the protected areas of health, education and foreign aid.
By contrast, amongst both academics and journalists who write on economics, there is a growing consensus that we should be much less worried about the government’s budget deficit and more concerned about our ability to produce the goods and services that Britain will need to sell in order to finance both a higher standard of living and better public services in the future. The figure below (taken from here) shows output per worker in the UK compared to the pre-recession trend. By the end of 2014 this measure of our productivity – how much output the economy produces per unit of input – had declined by 15% relative to its average growth since 2000. To be clear: this represents output that was not produced and sold, wages and profits that were not earned and taxes that were not paid.
While economists are still arguing about what precisely caused the dramatic reduction in labour productivity, there is less debate about whether it is this or the government’s budget deficit which should be the focus of economic policymaking going forward. There is no suggestion that the UK cannot finance the deficit but there is every chance of its citizens being less well off if the productivity slump is not reversed.
What then did the main parties promise to do about it? The Conservative manifesto acknowledged the need for infrastructure investment in road, rail, internet and mobile communications. It offered upskilling the workforce through apprenticeships, less “red tape” for small businesses and investment in scientific research through a Grand Challenges Fund. And while the need for more housebuilding is noted, there are also plans to give local people more control over planning and to protect the countryside. The ambition to reduce immigration to the tens of thousands remains, irrespective it would seem of the needs of the labour market. Moreover, with the toughest deficit reduction plans of any party and tax rises ruled out during the campaign, the new government’s ability to invest in increased productivity is clearly restricted.
Free from the need to govern, it could be argued that Labour has the opportunity to reflect and develop a new economic narrative which puts arguments about Blair/Brown “profligacy”, responsibility for the financial crisis and efforts to deliver “austerity-lite” – but not too lite to be thought irresponsible – firmly behind it. Their manifesto promised a National Infrastructure Commission which would be independent of government and would take a longer-term perspective, free from the political considerations of the electoral cycle. Together with a new British Investment Bank for small businesses, increased bank competition, guaranteed apprenticeships and the promise to build garden cities, the party offered some commendable supply-side policies. However, anti-immigration rhetoric barely less strident than the Conservatives, question marks over higher education funding and a sudden ardour for rent controls damaged their economic credibility.
While both main parties demonstrate some grasp of the need to increase Britain’s productivity, it’s less clear that they are sufficiently focused, radical or, indeed, brave to follow through on this agenda. The housing market is an obvious example of where a long-term failure to confront the inflexibility of the planning system and its bias towards existing homeowners has led to restricted supply, artificially high prices and knock-on effects for those in rental accommodation and the housing benefit bill. In the labour market, political concerns over the public’s perception of the negative effects of immigration (few of which are actually supported by research), inhibit the supply of skilled labour which employers need to develop the technology-intensive products that an advanced industrial economy should be making and selling. And for both the short- and longer-term, we need an education system (primary, secondary and tertiary) which is focused on doing its job of producing citizens with the skills needed for the 21st century, rather than concerned with issues of restructuring and refinancing which change with each change of government or minister.
It’s worth remembering why the deficit loomed so large over the 2015 election campaign. The financial crisis of 2008 wiped around £40bn from tax revenue. Confronting this was the major challenge for the Labour Chancellor at the time and his Conservative successor. But we are no longer in the immediate aftermath of a financial crisis and it is time for the narrative to move on. If we enter the 2020 campaign with the deficit taking centre stage as it did this year, this will be symptomatic of either another economic crisis in the meantime, or an ongoing political failure to confront the real weaknesses in the economy. Sadly, it’s not clear that the latter is any less likely than the former.