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The unions stand on the precipice

The unions stand on the precipice

Len McCluskey, the leader of the trade union Unite, probably did as much as anybody to ensure Boris Johnson’s massive electoral victory last December.

A fervent supporter of Jeremy Corbyn, his grip on the Labour Party machine compelled Labour to fight the election with its most unpopular and inept leader in history.

McCluskey is up to his old tricks, this time with the support of other, usually more staid unions such as Unison and the GMB.

Their threat is to tell their members not to return to work unless there is a massive boost to spending on health and safety enforcement.

The various railway unions are making demands, much to the chagrin of London’s Mayor, Sadiq Khan. The teachers’ unions are itching to instruct their members not to go back to work.

In all of this, the unions are behaving exactly like the villain of the economic textbooks – the good old-fashioned profit maximising firm.

In this case, the “profit” which the unions are trying to maximise is the pay and conditions of their members.

For all the rhetoric of their leaders about social justice and world peace, this is the main reason why people join trade unions.

Union leaders believe that the government’s desire to gradually move Britain back to work has given them a strong bargaining chip.

Just like the most ruthless capitalist, they are acting rationally by seeking to maximise the benefits accruing to their members.

Or are they?

For those who remember the 1970s, there is more than just a touch of nostalgia about the current situation. Then, as now, trade unions leaders attempted to hold the country to ransom. In one infamous example, the railway workers turned down an offer of a 27.5 per cent pay increase on the grounds that it was inadequate.

But the eventual outcome was not the triumph of the unions, but their literal annihilation in much of the private sector under Mrs Thatcher. Only 13 per cent of workers in the private sector now belong to a union, compared to over 50 per cent in the public sector.

The economic textbooks themselves make a clear distinction between short-term and long-term profit maximisation. It is usually not sensible to try and exploit every short-term advantage.

Whenever the lockdown finally ends, the government will be faced with a massive gap between what it spends, and what is raised by taxation.

There is already strong pressure from within the Treasury to reduce and even eliminate this deficit. Big savings on public spending or increases in taxes are the only options.

Whatever the opinion polls may say now about the demands of the unions, it is most unlikely that the current privileged position of those in the public sector will survive for long. They have remained on full pay, not furloughed or made redundant, even when they have not been required to work.

With high unemployment and squeezes on pay and living standards in the private sector, sympathy for those cocooned from the rigours of the market economy is unlikely to last.

As published in City AM Wednesday 13th May 2020
Image: Len McCluskey via Flickr CC0 1.0
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Coronavirus: Economists have a role to play in recovery

Coronavirus: Economists have a role to play in recovery

Lockdowns are starting to be eased in Europe. Austria, Denmark, Italy and Spain are all moving back towards normality. At some point during May, the UK will follow.

We can reflect on what the government has got right and wrong so far in the opening phase of the pandemic.

This is emphatically not to apportion blame. The government was suddenly confronted with a crisis without parallel in living memory. Mistakes were bound to be made. The key question is how rapidly the appropriate lessons were drawn.

East Asian countries responded to the crisis far better than the UK and Europe. But they had the opportunity to learn from the earlier SARS virus, which did not spread to the West.

Government departments did try and prepare by “game playing” a pandemic. Exercise Cygnus in late 2014, for example, seems to have formed the basis for the initial response to the real thing.

But no matter how much governments attempt to develop strategies in advance, in the words of the great Prussian general of the 19th century, von Moltke, “no plan survives initial contact with the enemy”.

At first, the policy was to let the virus spread so that the population could develop so-called herd immunity. This was a serious mistake. Even the most basic epidemiological model would predict a huge spike in cases with a virus such as Covid.

The government learned rapidly. A voluntary lockdown was proposed, to which many people responded.

The actions of a minority prompted the introduction of a legal basis for the lockdown. This was completely correct. We can already see sharp falls in reported new cases in countries such as Italy which introduced lockdown before us.

Another notable success has been what we could term the propaganda strategy. The slogan “Stay home, protect the NHS, save lives” is brilliant. It has been so effective at changing behaviour that some may be reluctant to leave lockdown even when it is lifted legally.

The government still seems to rely heavily on a single team for its epidemiological modelling. They have not learned that this is not a science with the precision of physics. Different teams have quite different views.

Even the projections of the same team can change rapidly. For example, The Institute for Health Metrics and Evaluation is a prestigious American academic outfit. Just over a week ago, they predicted 66,000 deaths in the UK. This is now revised down to 37,000. Were it not blasphemous, we might speculate that their next forecast might be one of negative deaths, with thousands rising from the grave.

Further, epidemiologists focus on the disease in question, how it might evolve, how to contain it, to the exclusion of everything else.

Economics brings a wider perspective. The common perception is that the subject is about macro – the big things like GDP and unemployment.

But the main focus of economics is on individuals, how they take decisions, and how these decisions can be influenced. Economists have a key role to play in any exit strategy.

As published in City AM Wednesday 15th April 2020
Image: City of London by Ian Capper via Geograph is licensed for use CC BY-SA 2.0
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Coronavirus: A traffic light loosening gives the economy hope

Coronavirus: A traffic light loosening gives the economy hope

The strategy of exiting from the lockdown is far too important to be left in the hands of health professionals.

The government’s advisors have played very valuable roles in helping to avert the sort of crisis which overwhelmed the health services in Northern Italy.

Many who were seriously ill with the virus died unnecessarily because of a lack of ventilators. People with other dangerous conditions died because resources were diverted to virus patients. Britain, from an admittedly standing start, has learnt from those mistakes.

But there is growing realisation of the huge costs being incurred economically. A consensus is emerging amongst economists that the British economy has shrunk by about 30 per cent. In money terms, this is a loss of over £2 billion a day.

The costs are not just monetary. Stories of increases in domestic abuse proliferate. Worries about general mental health are growing, with the former Governor of the Bank of England, Mervyn King, adding his voice to them last week.

From a purely health perspective, the lockdown might persist until there is no longer a risk of someone with the virus infecting anyone else and so ensuring that no one dies.

We could take a similar view with road traffic. We could save almost 2,000 lives a year and avoid some 25,000 serious injuries by abolishing motor vehicles.

As a society, we are willing to make the trade-off. We accept this level of death and injury in return for the benefits which road traffic creates.

Obviously, governments take measures to try and reduce these accidents. In the late 1960s there were nearly 8,000 deaths a year. But we are happy for cars and lorries to continue to trundle around.

The virus imposes health costs. It takes up resources. People die and some survivors have long term damage. Getting the economy back to speed brings large benefits.

This is why I devised with Gerard Lyons of Net Wealth, and chief economist to Boris Johnson when he has Mayor of London, a traffic light strategy for getting Britain back to business.

The epidemiologists warn that loosening the lockdown will lead to another large wave of cases.

If behaviour reverts to what it was before the crisis, they are correct.

But behaviour will change. How many people will shake hands as soon as the lockdown is lifted?

This means that the chances of a disastrous second wave in which the NHS is overwhelmed are very much lower than the epidemic models suggest.

We suggest that lockdown is followed by three phases, as in a traffic light, from red to amber to green. Then everyone is clear about the sense of direction. At each stage different economic activities and behaviours are allowed. It will also give hope.

In the red phase, for example, more shops could open such as hairdressers, with social distancing and face masks. In the amber, unlimited private car travel. Only in the green phase could mass gatherings such as football crowds be allowed.

Combining epidemiology with economics is the way to get Britain back to work.

As published in City AM Wednesday 8th April 2020
Image: Empty Streets via Flickr is licensed for use CC BY 2.0
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Pension reform is political dynamite, but Macron’s attempt should be commended

Pension reform is political dynamite, but Macron’s attempt should be commended

It would take a heart of stone not to be amused by Emmanuel Macron’s current predicament.

The French President is trying to position himself as the leader of Europe. But at the same time, the streets of the major cities in France are, quite literally, ablaze. France’s public services are crippled by the biggest strike in decades.

The reason is the massive unpopularity of Macron’s proposed reforms to public sector pensions.

The retirement age in France is still only 62, compared to 66 in the UK. In general, the proposal is not to increase the age, but to pay slightly reduced benefits before the age of 64. However, the most contentious part is to modify or even scrap completely the scams under which many public sector workers get to retire much earlier on full pension.

France faces a serious pension funding problem. Spending on pensions costs no less than 14 per cent of the country’s GDP. Only Greece and Italy are higher in the entire developed world.

That is probably why opinion polls put support for these reforms among the population as a whole at around 70 per cent, with even greater support among the young, even if many from the minority directly impacted have taken angrily to the streets.

Still, pension reform is known to be potential political dynamite — and not just in France. Raising the pension age for women has become an issue in the current General Election here.

The Women Against State Pension Inequality (WASPI) campaign argues that when the retirement age was raised for UK women in a series of reforms, the 3.8m affected women, born in the 1950s, did not have enough time to adjust.

Despite that fact that this is not mentioned in Labour’s manifesto, John McDonnell has pledged to compensate these women. The cost is a mere £58bn — around three per cent of GDP — almost all of which would need to be borrowed.

As it happens, considered purely in isolation, a reasonable case can be made for increasing the general level of the basic state pension in the UK. Pension costs here are below the OECD average as a percentage of GDP, at only half the level of France. But this would not be a free lunch. Other aspects of public spending would have to be correspondingly reduced.

The myth persists that people are investing in a funded scheme with their taxes. They pay the money in when they are working, the investments grow, and there is a pot earmarked for them at their retirement. In reality, the cost of paying an individual’s pension falls entirely on those who are working during his or her retirement.

For anyone in work, the government’s promise of a pension in the future is rather like a slightly dodgy IOU. The amount you will end up getting depends upon how fast the economy grows over the coming decades, how long people live, and ultimately on the generosity of those in employment when you retire.

Political debates on pensions are usually rather depressing for economists because of either the inability or the reluctance to understand this point.

Much as it sticks in the throat to say so, President Macron is to be admired for the stance he is taking.

As published in City AM Wednesday 11th December 2019 
Image: President Macron protests by Jeanne Menjoulet via Wikimedia licensed for use CC BY-2.0
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The economic impact of Brexit tariffs only tells us half the story

The economic impact of Brexit tariffs only tells us half the story

Brexit is about much more than the economic costs and benefits, but the idea that the former dramatically outweigh the latter has become the received wisdom in much of the media.

Report after report emerges which purports to show that, under any of the various trade arrangements envisaged, the UK will be worse off as a result of Brexit.

These studies are not wrong. They all use perfectly standard economic theory to arrive at their conclusions. But they are misleading.

The real problem is that they miss out key bits of the story. We can think of the classic tale of the person dropping his car keys in the street at night. He only looks for them under the street lamp, where the light is.

In the same way, standard economic analysis of Brexit only illuminates part of the landscape.

The explanation of why trade occurs between countries was given 200 years ago by the great English economist David Ricardo. It is still the basis of the modern economist’s understanding of trade.

Ricardo imagined, to illustrate his theory, a world with just two countries and two products. His examples were England and Portugal, and cloth and wine – but they could have been any countries and any products.

Ricardo asked a simple but profound question. If England could produce both cloth and wine more efficiently than Portugal, why would trade take place at all? How could the more efficient country, England, benefit from trade?

His answer introduced the fundamental concept of comparative advantage. England had an absolute advantage in producing both cloth and wine, but the country should choose to specialise in producing the one in which its advantage compared to Portugal was bigger.  Both would benefit if England produced only cloth and Portugal only wine, and they traded.

Economics has moved on in the past two centuries, but the concept of comparative advantage, modified by factors such as the distance between countries, is still seen as a key determinant of trade patterns.

In terms of Brexit, introducing complexities like tariffs into the picture essentially affects the amount which is traded, and not the structure of trade in terms of who sells what to who.

If the basic pattern of trade is fixed by comparative advantage, then if Brexit means higher tariffs for the UK, as a country we will lose out. In a nutshell, this is what lies behind all the negative assessments of the impact of Brexit.

However, the key word in the last paragraph is “if”.  Like almost all economic theory, these models are static. They assume that the network of trade is fixed, and analyse the consequences of changing prices through tariffs.

The EU has become mired in regulation and the level of innovation is low. Outside the EU, the UK could alter the patterns of trade by innovating in, say, biotech or AI-related products and services. It is this dynamic response, and not the static one, which will determine whether or not Brexit is a success.

Economic models which claim to analyse the impact of Brexit are true – but only up to a point, Lord Copper, as the saying goes.

As published in City AM Wednesday 30th October 2019 
Image: Dover by Oast House Archive via Geograph licensed for use CC BY-SA 2.0
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Until Scotland’s currency puzzle is solved, independence is economically delusional

Until Scotland’s currency puzzle is solved, independence is economically delusional

The possibility of Scottish independence is back on the political agenda once again. And one question – which currency would an independent Scotland use? – that was crucial in the 2014 referendum has still not been resolved.

The informal use of the pound is a very risky option.

To see why, the Scottish National Party (SNP) might look at the problems which Facebook is having in getting its proposed digital currency libra off the ground. Already, companies like PayPal, Visa, Mastercard and Ebay have withdrawn as potential sponsors.

While Facebook is a company and Scotland is a country, the issue is how the currencies are backed.

Facebook proposes to back the libra by its accumulated profits held in a portfolio of “low volatility assets”. But as Barry Eichengreen of the University of California points out, “anyone who lived through the 2008 global financial crisis will know that low volatility is more a state of mind than an intrinsic attribute of an asset”.

In the face of an unexpected adverse shock to the values of these assets, Eichengreen notes that these will be subject to the equivalent of a bank run. But there is no lender of last resort able to simply print money.

By simply using sterling, as many Latin American countries do with the US dollar, the Scots would have no means of printing money if their banks were attacked in a financial crisis. Taxes would have to rise massively to support the banks.

The Scots could instead apply to join the euro. An immediate problem with this would be the rule in the Stability and Growth pact that countries in the Eurozone should keep their budget deficits below three per cent of GDP.

The UK spends only 1.1 per cent of GDP more than it raises in taxes.  Ironically, this would make us a shoo-in for euro membership, if Britain as a whole wanted to join.

In contrast, the latest figures produced for Government Expenditure and Revenue for Scotland show the nation running a public sector deficit of seven per cent of GDP.

This is obviously much higher than would be allowed in terms of membership of the euro.  It is, in fact, the highest in the whole of Europe, the next highest being Cyprus at 4.8 per cent. So to join the euro, the Scots would have to make large cuts in public spending.

If instead they decided to set up their own currency, the markets would almost certainly force similar public spending reductions on them. After all, small countries running large public deficits tend not to be viewed kindly.

This problem has been magnified dramatically by the statement by Derek Mackay, the Scottish government finance secretary, that an SNP government in an independent Scotland would refuse to repay its share of outstanding UK debt.

A massive public sector deficit and defaulting on government debt is hardly a very sound basis on which to launch any new currency.

The desire for independence is often driven by emotion rather than rational calculation. But unless the currency question is addressed and solved, an independent Scotland would live to rue the day.

As published in City AM Wednesday 23rd October 2019
Image: Scottish Independence March by Christine McIntosh via Flickr licensed CC BY-ND 2.0
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