Saturday, 7 January 2012

Role of The State: Part 2

In Part One of this post, I covered Warwick Lightfoot's book on the state of the UK's finances, Sorry, We Have No Money, which provides a useful context for Richard Murphy's The Courageous State. Another useful lens through which to view this book is Tim Harford's The Undercover Economist. Yet another is Michael Lewis's Boomerang: The Meltdown Tour... I think you're getting the picture.

Richard Murphy's thesis is that we need 'a new way of economic thinking' because the 'neoliberal' belief in the power of free markets is misplaced and has caused successive governments to retreat in a 'cowardly' fashion from areas where the state should intervene unashamedly. Richard argues that the 'cowardly' state is doing a poor job of providing public services like education, care for the elderly and so on, whereas a 'courageous state' would not.

Richard's proposed alternative model rests on the primary economic objective that the state should  enable people to achieve their ‘potential’ in terms of four groups of needs: 'material', 'emotional', 'intellectual' and 'purpose'. To do that, Richard recommends universal social benefits, a higher minimum wage, a 35 hour week, protecting union rights, reintroducing “industry wage boards” that replicate national collective pay bargaining, extra tax relief for employing people, free higher education, more social housing, removing any market element from the NHS, care for the elderly, youth services and ‘comprehensive payment of earnings-related pay-as-you-go pensions for all in society because no other form of pension provision eventually makes sense financially or economically.” He would claw back universal benefits and pension payments from people on higher incomes via 'negative tax allowances'.

To try to pay for all this, Richard suggests raising more tax revenue from progressive taxes, especially on higher incomes, capital gains, inherited property, land values, advertising and removal of deductions for business interest payments over £50k. Richard would also raise the corporate tax rate, but grant deductions to “those who add value by creating employment in the community or by providing training in society” rather than “the speculator or the company that survives on technology alone when so much of that technology will almost certainly be directed at excess consumption.” He would provide further incentives to charity and recycling shops, over and above their existing tax-free status. The minimum wage should be lifted - with additional increments for more expensive locations, like London, rather than reductions in line with local costs and labour market conditions.

Clearly this book does not represent a short or medium term solution for today's economic problems. It's more of a plea for a different mindset in the longer term. As a solution for the short term, it lacks any acknowledgement of our basic fiscal constraints that Warwick Lightfoot explained, or how the recommendations would operate within them:
  • Countries should aim to limit public spending to around 30 - 35% of GDP to avoid slowing the economy and reducing the absolute amount of tax raised;
  • Tax receipts in the UK have averaged around 38 per cent of GDP over the last twenty years and have never exceeded 40%.
  • Only a deficit of up to 2.5% of GDP can be financed sustainably;
  • As government borrowing competes with private sector borrowing any new spending proposal to generate benefits at least 25% greater than the explicit financing costs involved.
However, even looking at the longer term, I'm uncomfortable with the premise that the straightforward achievement of personal potential should be our primary economic driver for a 'new way of thinking'. Limiting our primary needs to 'material', 'emotional', 'intellectual' and 'purpose' overlooks our physical potential, notwithstanding the importance we attach to health and wellbeing. Richard is also a little unfairly dismissive of a purist form of free market economics, since economists only deal in models, which are imperfect (unlike mathematical theories), as Emanuel Derman has explained. In fact, a great deal of economic debate focuses on how to deal with market failures, as Tim Harford discusses in The Undercover Economist. Those failures tend to arise from suppliers leveraging scarcity or ignoring externalities associated with their activities ("a harm suffered or benefit enjoyed by some third party that isn’t reflected in a market transaction", e.g. the true cost of smoking). Asymmetry of information is another challenge, as is the overriding requirement for fair outcomes, particularly in relation to the vulnerable. So I'd have thought that any advancement on free market thinking ought to encompass those sorts of concerns in its central premise. Simply starting with the idea of enabling everyone to achieve their 'potential' is a model that begs the same questions as traditional economic thinking about whether this achievement comes at the expense of another person or is 'unfair' and so on.

I'm also uncomfortable with the idea that we should pour more tax revenue into a state that is 'cowardly' and inefficient. Richard does not say how this would improve public sector productivity, and Warwick Lightfoot points out that 30 years of attempts to improve efficiency have failed. Surely we need to see improvements in the way the state currently spends our money before giving it extra - even if we could pay it more within the fiscal constraints mentioned above.

Unfortunately, the more I get into the detail of Richard's recommendations, the more anxious I become for the future they would yield.

I worry about the statement that "There is little or no evidence that business people are motivated by eventually realising substantial capital gains: entrepreneurial activity is a lifestyle choice that genuine entrepreneurs take irrespective of taxes." The first part might be true - perhaps the 4.3 million sole business proprietors in this country are self-employed merely for the income, rather than the chance of selling for the capital gain that would fund their retirement. Perhaps, too, they prefer the lifestyle of answering to customers rather than a boss. But I know from personal experience that we are not in business 'irrespective of taxes'. At some point it becomes impossible to work any more hours or increase prices, and if that does not pay the bills one can only reduce costs. A person in that position will not generate any additional tax revenue, and may ease off and contribute less.

Richard's rationale for a 35 hour week is somewhat instructive here. He says we are working too long because we are either trying to do 'the government's job' of lifting ourselves out of poverty or “to consume more goods that [we] really do not need.” But the vast majority of those who work harder to earn more aren't among the relatively few fat cats. We work harder because we don't believe the government can keep us out of poverty, or pay off our mortgages by the time we retire, or provide better healthcare or a better education for our kids. As Richard says, we are already providing our own private solution for the ways in which he says the state is 'cowardly'. So is it 'fair' to expect us to pour even more money into that leaky public sector bucket knowing it will bring no improvement?

Richard also complains that “the UK has one of the lowest ratios of staff employed in small companies in the developed world”. I guess he's pointing to the fact that about 4.3m of our 4.5m businesses are owner-operated. He seems to be saying that the failure of these individuals to band together is somehow "the major impediment" to "staff"' having the opportunity to “join in the ownership of their enterprise to take a share of the profit when appropriate, and to eventually reach positions of senior management.” Richard says these people should be obliged to operate limited liability partnerships rather than to be allowed to operate as sole director/shareholder of a limited company. Or is he saying these 4.3m people should close up shop and seek employment with the remaining 200,000 businesses in the hope of one day rising to the level of senior management? This holds the same irony as the Mexican fisherman story.

But is 'employment' really the right model for everyone?

Richard says the 'courageous state' is one that “recognises trade union rights” (he advises the Trade Union Congress on tax issues.)  Apparently unions are essential to “health and safety, paid holidays, equal pay, protection from dismissal… collective bargaining, protection in industrial disputes, and representation in the workplace.” That may be true of the 60% of public sector workers they represent, but only for a far smaller proportion of private sector workers. The result has also been that public sector workers are 14% better off in terms of pay and pensions than private sector workers. And research shows the premium is much larger in some areas. The unions are pushing for an even greater premium, as we've learned from recent strikes. And while I have no idea of Richard's politics (he's equally damning of recent Labour and Conservative/coalition governments) it's no coincidence that the unions finance and control the Labour Party. The more public sector workers there are, and the better paid they are, the more votes there will be for the Labour Party.

So it seems the employment relationship works just fine for the public sector and at least one of our major political parties. But the adverse impact on the regional competitiveness of the private sector is another story. Local businesses can't hope to lure many staff from the public sector. Richard would address this in part by restoring “industry wage boards” to replicate national collective bargaining in the private sector. In other words, he advocates union-style pressure being applied to force regional businesses to pay their employees more. This must result in higher prices, further reducing demand for regional output, and hastening the decline of regional economies. On the other hand, Warwick Lightfoot suggests local competitiveness could be restored if public sector pay and pensions were reducd by 2% of GDP nationally - about £30bn or 17% overall in line with local costs and labour market conditions. The latter option seems logical to me. Richard would also help the regions by giving local authorities more powers, taxation rights and encouraging the issue of municipal bonds (doubtless backed by a bank guarantee and ultimately the taxpayer). So local businesses would not only be competing with the local authority for staff, but would also be paying higher taxes and competing against the local authorities for finance. Municipal bonds wouldn't be a great investment on that basis. The local economy would never generate the taxes to pay the promised return on the bonds, leaving local investors out of pocket and calling on the bank guarantee - and ultimately the taxpayer.

Richard justifies his proposed tax on advertising (other than local media job ads "and such other announcements") because he says advertising is a "pernicious" and “continual process of artificially manufactured dissatisfaction”. He rightly assumes that such a tax would increase the cost of such advertising and inflate the cost of any items advertised. But Richard does not explain why this inflation is desirable, or why the reduction in demand for the higher priced goods would help businesses pay their employees more, and thereby increase income tax revenue. He does not acknowledge the possibility that the reverse would actually occur and overall tax revenue could fall due to lack of demand for goods and downsizing. Richard would tax the production of luxury goods, even if that were to destroy those industries (“so be it,” he says, “this is a price worth paying”). Richard would ban advertising to children, but does not explain the impact this is likely to have on children’s TV programming, for example. He believes the media generally does not behave well enough to 'deserve' advertising revenue, but there are deserving elements that could receive government funding in return for impartiality or public service: please buy more lipstick, if you can afford to, so we can send more BBC staff to cover the Greek riots.

All this conjures up images of a fairly desolate future - I certainly don't see the funding of romantic comedies anywhere in Richard's plans.

But, ultimately, I'm most repelled by the notion that we should automatically rely on the state for our wellbeing. This encourages an 'entitlement culture' in which we are preoccupied with our rights but ignorant of our duties, as I've pointed out before. In turn, this allows us to cast ourselves as passive victims of our institutions - on which we lay the blame for crisis after crisis. Yet each crisis reminds us that all our economic problems ultimately fall on each of us as an individual, whether as a taxpayer, employee or aspiring benefits recipient.

If I were asked to suggest 'a new way of economic thinking' the premise would be one that encourages each of us to behave as an active participant in a society of our own making and under our own control and to acknowedge that each of us bears ultimate responsibility for the wellbeing of others. Such a premise would be that each of us is obliged to secure everyone else’s long term welfare, not just our own.

On that basis, the role of the state would be to enable each of us to fulfil our own fundamental obligation to secure everyone's welfare, not to deliver it for us. 

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