Winner of the New Statesman SPERI Prize in Political Economy 2016

Tuesday, 18 February 2020

The left needs to campaign for social liberalism

The continuing expulsion of the Windrush generation from their home country to a country they hardly know, splitting up families in the process, is just a deliberate act of state cruelty. Why did the government go ahead with these deportations despite sitting on a report suggesting they should stop? Their pretext was that these individuals had at some stage in their lives committed a ‘serious’ crime, yet all had served their time for these offences. This act of cruelty is part of the Conservatives attempt to appeal to socially conservative voters, both traditional Tories and one time Labour voters. What do we call splitting up families just to make a political point? 

As Paula Surridge shows here, voters who were thinking of leaving Labour for the Conservatives in June 2019 were both more right wing and more socially conservative than loyal Labour voters. Those 2017 Labour voters thinking of voting Brexit were not more right wing, but were much more socially conservative. We have to wait for the BES survey before we can tell whether these were also the voters who finally broke Labour’s ‘red wall’ of northern constituencies, but it seems likely they were.

Brexit was an issue that split voters along the social conservative/liberal axis rather than the left/right axis (apart perhaps from Lexiters). Like immigration, these issues that sort liberals from conservatives are very useful to right wing parties on one condition: that right wing liberals vote on economic grounds but left wing conservatives vote on social grounds. That condition has so far seemed to hold. Furthermore in the UK’s FPTP system, the concentration of liberals in cities will favour social conservatives. So while Labour and Democrat party members obsess about internal disputes over economic policy, to win elections the left needs to focus on winning over social conservatives. [1]

It is tempting to relate the social conservative/liberal divide to basic psychological traits. Liberals tend to value individual rights and embrace change, while conservatives value community cohesion and order. Liberals look to a better future and conservatives look to the past, and so on. However it is a mistake to think individual views on particular social issues are things they are born with. Liberal attitudes often spring from an environment of security while conservative attitudes come from insecurity.

Social attitudes may also reflect experience. It is often noted that attitudes to immigration tend to be hostile in areas of almost no or recent immigration and tolerant in areas where immigrants have lived for some time. A similar effect may come from a university education. The two main predictors of attitudes to Brexit were age and education. This chart, also from Surridge, suggests having a degree is the more important factor.

Here Silent = 75+, Boomer = 54-74, Gen X = 40-53, Gen Y 25-39. There is some age effect among those without a degree, but the defining factor in generating liberal attitudes is having a degree. Surridge argues here that a lot of this effect simply comes from the socialisation that a degree brings.

All this raises an obvious question. Why have we seen a national divide over ‘culture’ emerge as the dominant political divide recently, while in the past the right/left divide seemed to be what mattered? One answer goes back to Windrush. I’m (just) old enough to remember Enoch Powell’s Rivers of Blood speech in 1968. Powell advocated a policy of voluntary repatriation for immigrants and their descendants. Today we have selective but involuntary repatriation.

The key point her was that Powell was sacked as a minister of a Conservative government for that speech, and repatriation remained something that only a few on the right and extreme right groups advocated. The Times (not yet owned by Murdoch) condemned the speech and subsequently recorded incidents of hate crimes against immigrants immediately after the speech. This was despite the popularity of the speech among many groups: famously a thousand London dockers went on strike in protest of Powell's sacking and marched from the East End to the Palace of Westminster.

Ted Heath sacked Powell because he feared the damage the speech might do to race relations, and he was absolutely right to do so. Today’s Conservative party is a very different animal, but so is our press. Racism, xenophobia and social conservatism more generally are seen by today’s Conservative party as constituencies to cultivate, in part because on many issues the country is more left wing than the government (e.g. size of the state, nationalisation). The right wing press helps them do this. 

However I think this is not everything. When I used to describe Cameron’s government as very right wing, I got quite a few responses saying nonsense and using gay marriage as proof that Cameron had moved left. I thought it was nonsense at the time, but on reflection it made me think about the extent to which social liberalism has both triumphed and moved forward over the last 60 odd years. At the beginning of the 1960s we still had the death penalty, while homosexuality, abortion and blasphemy were all crimes.

The 1960s Labour government saw a whole raft of liberalising legislation passed, but it is probably fair to say that was mostly not driven by popular opinion. The data we have from the British Social Attitudes survey shows public opinion moving in a more liberal direction from the start of their data period. Here are just two examples.

One interesting feature here is the liberalisation surge that began around 2010. Paula Surridge has aggregated a number of questions from the survey, distinguishing between respondant’s levels of education

The gap between attitudes by education is clear, and there is a suggestion of a widening gap from 2011. (The education gap on left/right questions is much smaller.)

One reason for the overall trend in liberalisation, and perhaps some of the reaction against it, is that the broadcast media is largely populated by those who have a degree. This allows certain right wing newspapers to talk about a ‘liberal elite’ which ignores those with a less liberal attitude, and on this they are largely correct. More recently the broadcast media has attempted to counter its own biases by endless VoxPops and other devices. 

Immigration is part of this liberal/conservative divide. One incredible (for a liberal like me) recent YouGov poll throws a strong light on where this divide comes from.

It is too easy, and I think a mistake, to describe this as reflecting xenophobia, as if you are describing some immutable characteristic. Better to note that it would be very hard to be bothered by foreign languages if you heard them all the time, as many city dweller would.

This evidence suggests two important but provocative conclusions, which for me represent tentative hypotheses rather than anything firm. First, the key division in UK society today as far as elections are concerned is the social liberal/conservative divide, rather than ABCD class divisions or how left wing economic policy is.[2] Brexit was not an aberration but part of a trend. The big divide in the UK is partly age but mainly education. [3] The political right understands this, which is why elections will be fought on proxies for this divide. It is a divide they can exploit because social conservatives feel they are not in control, in part because the tide has been towards liberalisation. An interesting question is what the proxy for this divide will be in 2025 after 15 years of Tory rule.

Second, social conservatism is not immutable. Leavers are becoming more liberal than they used to be just as Remainers have, even if the pace may be slightly different. One clear example is immigration, where attitudes are becoming more positive regardless of Brexit. This means that the left can and must argue the case for more liberal attitudes, rather than regarding social conservatism as a problem to appease while dealing with economic issues, or worse still romanticising older class divisions.

Both the Blair/Miliband left (the control immigration mugs) and the Corbyn left are equally at fault here. The idea that Brexit represented protests from the economically ‘left behind’ has dominated thinking on Brexit, moving the debate on to a more comfortable economic frame. It is far from clear that improving incomes will change people’s socially conservative attitudes, as the large Brexit vote outside 'left behind' areas shows. Left parties must fight for social liberalism, rather than vacating that ground to the right.

[1] Just to be clear, winning them over does not mean adopting socially conservative policies. This does not work for various reasons that I have mentioned in earlier posts. Labour voters are socially liberal, and they have alternatives in the Liberal Democrat and Green parties as 2019 showed. The left needs to challenge socially conservative myths, not validate them.

[2] This is not to say that economic divisions are unimportant - far from it. My point is about where the key divisions are as far as elections are concerned.

[3] Part of the age division may also represent economic rather than social divisions, as Rachel Shabi discusses here.


Tuesday, 11 February 2020

The UK’s place in the world

As an economist, I naturally focus on the economic aspects of the EU. The EU is mostly about economics. To counterpoise sovereignty as an alternative perspective to economics misses an important point: most EU rules stem from the economics of free trade within the EU. The EU wants common regulations to make it easier to trade. The EU wants restrictions on state aid to prevent countries giving their own firms an advantage over others in the union. Much the same applies to labour market and environmental standards.

Economics is also involved in another aspect of being in or out of the EU, and that is how the UK sees its place in the world. Is the UK’s identity partly a European identity, or does the UK ‘stand alone’, independent of all multinational blocs. Anyone interested in this question should read an excellent and compact essay by the ‘Red Historian’, Robert Saunders.

Those who want us out of Europe need to address why the UK became part of Europe in the first place. After the war, the UK had tried a different strategy. After all, being part of Europe did not look very attractive in the aftermath of a war that had destroyed large parts of it. Instead the UK tried to forge its place in the world based on its history, a history of empire.

This involved three elements: the remains of Empire, the Commonwealth, and our special relationship with the US. Harold Macmillan spoke of Britain playing ‘Greece’ to America’s ‘Rome’, acting as a wise counselor to its idealistic but naive successor. But that strategy failed, because neither the Commonwealth or the US were particularly interested in playing their allotted roles in this scheme.

Two quotes from Saunders’ essay are indicative. The American Dean Acheson said ‘The attempt to play a separate power role’, he declared, ‘a role apart from Europe, a role based on a “special relationship” with the United States, a role based on being the head of a “commonwealth” which has no political structure, or unity, or strength … this role is about played out’. Privately, Harold Macmillan agreed: ‘all our policies at home and abroad’, he lamented, ‘are in ruins’.

This is why we became a part of the EU. The UK wanted to continue to play some significant role in the world, and our attempt to do so independently of Europe had failed. So now we have left the EU, is there any coherent vision of an alternative strategy?

In the Brexit debate you can hear an echo of the failed post-war strategy. No trade deal with the EU is now apparently called the Australian relationship, because that sounds better. We also hear an echo of an even earlier history, when appeals are made to the UK’s buccaneering spirit. However, as Adam Curtis explored in a 1999 documentary (HT Adam Tooze), there is a modern counterpart to this, which is the story of how we ended up selling weapons to Saudi Arabia. But as Robert Shrimsley points out, this vision conflicts with the government's new found need to worry about left behind regions with what some ministers call 'legacy industries'.

Yet stories and exceptions apart, the truth is UK industry is not particularly buccaneering. This has nothing to do with being constrained by the EU, as a comparison with Germany makes obvious. In fact the opposite is the case. One of my first jobs after I graduated was looking at the steady and significant decline in the UK’s share of exports in world trade, which was something of an obsession among UK policymakers.

The UK’s weakness is perhaps not surprising in a country where the middle classes regard an engineer as someone who fixes your washing machine. What the UK does well is produce financial, business and other services. But to successfully export these often requires pretty deep trade agreements, like the EU single market. Which is why our export share within the EU rose so substantially after the Single Market was formed. Which major economies are going to enter into the equivalent of the Single Market with the UK?

There is little sign that the current government, and particularly those who lead it, understand anything of this. Comic book stories substitute for solid evidence. They have shown us nothing to suggest that the UK can continue to have any voice among those of dominant players like the US, EU, China, India, Russia and Japan. As Robert Saunders writes
“In writing a history of Britain as a small power, it pretends that nothing has changed: that a nation stripped of its colonies, its industrial power and its control over global finance has the same options today as in the age of its pre-eminence. That means that we are not being serious about the choices in front of us.”

Does the UK need to have a special place in the world? Can we not accept that others will take the key decisions, and we will just have to do what we can in a world over which we have no control? As Saunders notes, in a benign world this might be tenable, but we no longer live in a benign world. This is where the economics of trade re-enters the equation. A UK with no big country or union to help protect it will be at the mercy of any big global player that wants to gain some trade advantage at our expense.

For many in the ERG the implicit answer to this problem is the United States. They are encouraged by Trump’s enthusiasm for Brexit. They fail to see that his enthusiasm is based on antagonism towards the EU and his desire to exploit our weakness. For those who have a nostalgia for days of glory that weakness will be hard to take, as it will be when our legacies of empire are gradually taken off our hands along with the trappings of international influence.

For all these reasons, Brexit is not tenable in the long term, as those who tried and failed to make it work after the war finally understood. Their conclusion will be our conclusion after Brexit: for the UK to flourish in a secure environment it has to be part of the EU. The only question is how long this realisation takes and the manner of our rejoining.

Tuesday, 4 February 2020

What causes concern about immigration

It is part of folk lore among politicians and most social scientists that concern about immigration is governed by the number of immigrants. So how do we account for the decline in the relative salience of immigration since the EU referendum (source)?

There are of course many explanations for this decline. Perhaps people now see the benefits of immigration after all the post-referendum talk of nursing and doctor shortages. A rather more straightforward explanation is that people think that by leaving the EU the immigration 'problem' is being solved (i.e immigration numbers are much reduced). If it is the latter, then their knowledge is incomplete.

Immigration from the EU has declined dramatically, which is not surprising, but this has been partly offset by a significant rise in non-EU immigration (source). Are people really more concerned about EU immigrants than non-EU immigrants?

Roy Greenslade notes that the newspaper articles full of stories of immigration peril have all but disappeared. He writes
“It was the press phenomenon of the age 10 years ago, and for at least the following six years – right up to the EU referendum. Since then, however, immigration has all but disappeared from newspaper pages.”

Could it be that the explanation for the diminished salience of immigration is the very simple one that it is no longer in the news?

The folk law comes from the fact that the increase in concern about immigration at the turn of the century coincided with the increase in immigration numbers, first from outside the EU and then from the A8 countries joining the EU. However, as I note here, there is a two or three year lag between the initial increase in immigration and public attitudes. The lag is much shorter with a time series for the number of stories in the press about immigration.

This shouldn’t be a surprise. Much of the concern about immigration is in areas that see very few immigrants. If people are getting their information ‘first hand’ from friends or relatives living in areas of high immigration you might expect a relatively short lag between numbers and concern, but if people are getting their information from the media you would require some change in how the media covered this issue before salience changed. Or to put it more crudely, salience to some extent is inevitably going to reflect what is ‘in the news’.

This does not mean salience is completely divorced from what people think. You could fill newspapers with stories about the housing problems of the very wealthy and it is unlikely that housing would start climbing the salience ranking. It is also true that rising immigration numbers helped newspapers write stories of 'floods' and 'waves'. But what it does mean is that if stories about immigration start disappearing, salience will gradually decline.

The more interesting question is why newspaper headlines about immigration, which in newspapers like the Sun and the Mail were explicitly or implicitly hostile to immigration, should decline sharply after the referendum vote. Roy Greenslade writes
“Yet the undeniable truth, the sad, sick, unvarnished truth, is that migration is off the media’s central agenda for two reasons. Firstly, it is no longer a political issue. With the pro-Brexit vote having been achieved, there is no need to keep on injecting the same poison into public debate. Job done. Secondly, seen from the newspaper editors’ perspective, it is not a sales-winning topic at present. No need to play to the gallery. There is no “value” in running anti-immigrant stories.”

In other words, newspapers are not publishing alarming stories of waves of non-EU immigrants coming to the UK because there is no political or sales motive for doing so. It is like saying if people who are hostile to immigration think leaving the EU means job done then let them. Increasing immigration salience was politically important for these newspaper owners while Labour was in government and to push the Tory government to support Brexit, but no longer.

Which, in turn, is why a Conservative government not led by Theresa May and without immigration targets can contemplate a fairly relaxed immigration regime, as Jonathan Portes notes. The other reason is that opposition to immigration (rather than salience) has been declining since a couple of years before the referendum, as the Migration Observatory also shows. Since 2017 more people think immigration has had a positive impact on the UK than think the opposite.

As Rob Ford notes, we don’t know why the public are feeling more positive about immigration, but equally too many have failed to notice how things have changed. I would add that too few also realise how changes in the salience of immigration tells us a lot about what has been in newspapers, and rather less about the underlying views of voters or, indeed, the number of immigrants coming in to the UK.

Tuesday, 28 January 2020

How business lost its influence on right wing parties

This covers ground which others may be more knowledgeable about, so please let me know of any references or sources that I really should read that cover issues central to the discussion below.

When Trump threatens governments that want to tax tech giants, most of which are based in the US, it seems like the familiar story of governments acting in the interest of business. But when Trump imposes tariffs on imports he may be favouring particular firms, but he is also acting against the interests of US trading firms in general.

Brexit is a much more potent example. Brexit is clearly not in the interests of firms that trade. Because Brexit makes the economy as a whole poorer there are not many firms who support it. Boris Johnson, when asked about concerns from business about a hard Brexit, is reported as saying “f*** business”, and following some comments by the new Chancellor, Chris Grey speculates whether “f*** business” is now government policy.

It wasn’t always like this. David Edgerton writes that
“After the second world war, such captains of industry avoided the Commons, but the Conservative party was without question the party of capital and property, one which stood against the party of organised labour.”

That changed after Thatcher, as she reduced the power of trade unions, and Labour began distancing itself from them. Another development that I think began with Thatcher, and is particularly evident in the UK, is a lack of concern about who owns large firms. The importance of this should not be overstated: the ONS estimated that in 2012 just 1% of non-financial firms were foreign-owned, but these firms were large so around a third of value-added was accounted for by foreign owner firms. I suspect the proportion is higher still in the traded sector. But that still leaves plenty of important UK owned firms.

Another important point, and a difference from the US, is that joining the EU meant the UK was no longer in charge of trade negotiations. This ended the extensive and direct contacts between the UK traded goods sector and government that you find in countries not part of the EU. However links between the financial sector and the UK government are strong and effective. In contrast as the financial sector expanded, its links with domestic businesses became less important.

Finally another important development that followed from the Thatcher period was the reduction in taxation of top incomes. This particularly benefited high earners in the financial sector, but it also spread to most CEOs of large companies. According to Piketty, Saez and Stantcheva, this encouraged in the UK and US an explosion in executive pay, distancing the 0.01% or 0.001% of extremely rich individuals from everyone else. This involves the managers of business extracting rent from the business itself. Although this explosion happened in the 1980/90s, the cash increase in remuneration (including bonuses etc) for the median FTSE 100 CEO between 2009 and 2017 increased by 76% to £3.9 million. There are no signs of it ending. 

This meant that CEOs spoke in the interests of both the companies they ran, but also in the interests of very rich individuals like themselves. Before the 2015 UK general election, one of the main concerns of business about a possible Labour government was a potential tax on expensive homes! This helps dilute the pressure business can exert on right wing governments, if those governments make it clear that they will always stand up for the very rich. In 2017 Labour’s campaign slogan was ‘for the many not the few’, so of course the few will always support the Tory party, even when it was making life much more difficult for business. Tax cuts for the wealthy are now a key part of any Republican programme.

In these senses neoliberalism (aka what happened during and after Thatcher and Reagan) created the conditions that helped diminish the direct influence of business on the dominant right wing party in the UK and US, and therefore for much of the time the UK and US state. This was my thinking when I wrote
Rent extractors naturally seek political defences to preserve their wealth, and the mechanisms that sets in place may not embody any sense of morality, leading to the grotesque spectacle of Republican lawmakers depriving huge numbers of health insurance to be able to cut taxes for those at the top.”

It also means that the finance any party of the right needs can come from money and those that manage business (and extract rent from it), and that can be divorced from the interests of business. This was part of my thinking in talking of a governing plutocracy, and writing:
It is also a mistake to see this plutocracy as designed to support capital. This should again be obvious from Brexit and Trump. It is in capital’s interest to have borders open to goods and people rather than creating barriers and erecting walls.”

Could a more vocal attack on Brexit by businesses have influenced the vote? It is not clear, because everything is mediated through a largely partisan press and an 'opinions differ' broadcast media. However I think the distinction between the interests of the wealthy and domestic business is important, and goes well beyond an opposition between financial and non-financial firms.

Tuesday, 21 January 2020

Evidence and the persistence of mistaken ideas: the case of house prices

Another paper, this time from the Bank of England written by former MPC member David Miles and Victoria Monro, shows that the rise in house prices we have experienced since 1985 is mainly the result of lower real interest rates. The other, less important, driver is household income. Those two effects together can account for all the increase in house prices relative to inflation. The increase in house prices is not the result of a shortage of new houses.

Those who remember two earlier posts of mine will know of my own conjecture along similar lines. More recently Ian Mulheirn has championed this theory: here he is commenting on an apparently contrary view from Paul Cheshire. The importance of real interest rates to house prices has been understood for a long time: the first time I came across it was when Steve Nickell wrote a paper when I think he was still on the MPC. Very recently, here is Paul Johnson making the same point.

Secular stagnation is used by most macroeconomists to describe the current era where real interest rates appear to be permanently lower than they were decades before. The uncomfortable conclusion would be that as long as this era lasts, house prices will remain at levels that are unaffordable for many young people. Building more houses on any reasonable scale is not going to change that very much.

The reasoning behind the theory is incredibly simple. Houses are an asset. Like any asset, its price depends on the return from holding them (in the case of housing rents) and the rate of interest. The demand and supply for housing services (i.e. a roof over your head) determines rents rather than house prices. Imagine choosing between investing in housing or in government debt (more specifically a perpetuity, so you never get the money back but the interest pays forever), Interest rates on government debt are 2%, so on every £100 K you invest in government debt, you get 2K a year in interest. Suppose the (net of costs) rent on every £100K of house was 2K a year. Then you are indifferent to whether you own either asset.

Now suppose interest rates fall to 1%, but rents stay the same. Everyone wants to become a landlord, and people with money to invest buy houses to rent, because before interest rates rose you are getting double the return you were getting on debt. With perfect arbitrage this will carry on happening until houses that used to be worth 100K are now worth 200K, so that the return to housing again equals the return to holding debt = 1%. House prices have doubled, but the demand and supply of housing services has remained unchanged. The suggestion is that this is the process behind rising house prices in the UK.

That does not mean building more houses (increasing the supply of housing services) has no effect on house prices. Raising supply pushes down rents, other things being equal, and that reduces the return from owning a house, so it will reduce house prices. But the stock of houses is very large, so even with large house building programmes the impact on rents is small. Here Ian Mulheirn shows what the paper by Miles and Munro says about the small size of that effect.

You might say that any reduction in house prices is welcome, but you are using a great many resources (and a fair bit of land) to produce a modest effect. You might get a similar impact on house prices if the government undertook a serious fiscal stimulus, leading to a rise in short interest rates which would have a modest impact on long interest rates, but a noticeable impact in reducing house prices.

My question is why this point is almost never made in the popular discourse on the house price problem? One answer is that housebuilders have a vested interest in suggesting a dire need for more housebuilding, in part because it adds to pressure on governments to free up greenfield sites. This is exactly what has happened since 2010. There is nearly always a vested interest in perpetuating incorrect economic explanations.

In this case, as in others like the supposed need for austerity, there is something else, and that is an apparently simple piece of economics that perpetuates this misconception. With austerity it is that the government should be like a household, which most economists believed before Keynes showed it was false. With house prices it is that prices reflect demand and supply.

The difference between austerity and failing to distinguish between house prices and the price of housing services is that the former is more difficult to challenge than the latter. The reason is that everyone also talks about housing normally being a good investment. That is seeing housing as an asset, so all you need to do to break the misconception is a bit of asset pricing theory.

With issues like these, there are two spheres of understanding, with precious few links between them. There is what I will call the knowledge sphere, where academics (including academic think tanks) and economists in central banks and elsewhere regularly exchange ideas and evidence within that group. There is a second group comprising most of the print media, the broadcast media, some (mainly right wing) political think tanks and most politicians, where again communication within the group is pretty good. 

Communication between the two spheres is sparse. Most political journalists in the broadcast media spend more time watching each other and reading the print media than they do talking to people in the other sphere. Despite many who work hard to package knowledge in accessible ways, often the best those in the knowledge sphere can hope for is an article in the Guardian, FT or Times. If politicians don’t want to access expertise, there is therefore little requiring them to be knowledgeable. The examples I have highlighted are from economics, but I think it is true for all the social sciences.

As a result, politicians can continue to propagate and pursue bad ideas, like austerity is necessary or house building is the answer to high house prices, with little or no challenge in their own sphere. This is not about experts forcing politicians to do what they suggest, but about the public and even politicians being aware of what the evidence suggests. The fundamental problem is not that those in the knowledge sphere don't communicate well, but that too many politicians and much of the media do not want to be well informed. 

Tuesday, 14 January 2020

Monetary and fiscal cooperation: the case for a state dependent assignment

In December last year Mark Carney said
“In a global liquidity trap, central banks cannot be the only policy makers who do “whatever it takes.” There are clear gains from coordination, with other policies – particularly fiscal policy”

I of course agree, as would most academic macroeconomists. So would any sensible informed fiscal policy maker. But of course this didn’t happen in the Global Financial Crisis from 2010 onwards in some key major economies, including the UK.

Carney’s statement, which follows similar statements by the central bank governors of the Fed and ECB, goes against what I have called the ‘consensus assignment’. The consensus assignment has monetary policy looking after the stability of aggregate demand and inflation, while the fiscal authority looks after government debt. In the UK at least this consensus assignment is deeply embedded in the way the media thinks about policy.

In 2009 George Osborne gave a speech in which he said
“[New Keynesian] Models of this kind underpin our whole macroeconomic policy framework – in particular the idea that by using monetary policy to manage demand and control inflation you can keep unemployment low and stable. And they underpinned the argument David Cameron and I advanced last autumn – that monetary policy should bear the strain of stimulating demand….”

This is a statement of the consensus assignment. The irony of it was that shortly before the speech was given UK interest rates hit their lower bound.

Is the consensus assignment still the best way to run policy after short interest rates hit their lower bound? In 2010, in Europe and the UK at least, central banks acted as if it was. Indeed they went as far as to advise fiscal policymakers to embark on austerity. Carney’s statement is an implicit acknowledgement that central banks had been wrong to do that.

The trouble with unconventional monetary policy is not that it does not work, but it does not work reliably. The scandal in 2010 was that while the Bank of England was suggesting in public that unconventional monetary policy could replace conventional interest rate policy, in reality they had little clue how much effect any change in unconventional monetary policy would have. An unpredictable and unreliable instrument is not a good basis for a policy regime when a better instrument is available, and that better instrument is fiscal policy. I think negative interest rates fit into this category of unreliable instruments, simply because we cannot for obvious reasons assume linearity.

So how do we ensure as far as we can that fiscal policy makers will not repeat the mistakes of 2010 in the next recession? The first best would be to have better fiscal policy makers, but alas that is not always possible. There are three widely discussed possibilities.

  1. The first is MMT. This in effect reverses the conventional assignment, with fiscal policy doing the demand and inflation stabilisation in all states of the world. If that happens debt looks after itself. I am not in favour of MMT, because I think independent central banks have been very successful at controlling inflation, and a government using fiscal policy would be less successful.

  2. The second is Helicopter Money. If you are prepared to call Helicopter Money (HM) monetary policy, this preserves the consensus assignment by giving the central bank a new tool. HM is more reliable than unconventional monetary policy, because HM is just like a tax cut, and we have a lot of data on the impact of tax cuts on consumers. Like tax cuts, HM will not work if all consumers are Ricardian, but they are not.

HM is only possible with the agreement of the government, preferably well before it is actually needed. Two key things have to be agreed. The first is the distribution mechanism, where I suspect some governments would prefer something other than a reverse poll tax. The second is an agreement to back the central bank, by which I mean supply it with the assets it requires to claw back at least some of the HM when the economy recovers. The only difference between HM and a bond financed fiscal expansion is that probably some or all of the bond issuance is delayed until after the economy recovers.

Central banks worry that governments will renege on their commitment to back the central bank. My response is that any government that would not back their central bank so it can fight inflation is also a government that would be prepared to abolish its independent central bank, so the concern is of no interest. I suspect also central banks think HM looks like fiscal policy to most people, and they shouldn’t be doing fiscal policy.

I would add a further point on HM. It will not stop a government using what I call ‘deficit deceit’ in a recession: pretending the deficit is too high and requires spending cuts, because the government wants to scare people into accepting a smaller state than would be popular otherwise. HM would avoid this fiscal consolidation influencing output because its demand effects would be offset by the central bank. But a shrinking of the state beyond anything that is popular in normal times is also almost certainly sub-optimal, and can have devastating political as well as economic implications, like those we have seen in the UK, and you could argue HM encourages this.

  1. The third, and most likely, is central bank advice. If the central bank thinks that a recession is coming where rates will hit the lower bound, it advises the fiscal authority that some fiscal expansion is required. This is fine if we are trying to combat a fiscal authority that is just ignorant on these matters. The central bank could also convince a fiscal authority that was worried about financing its debt, by for example agreeing to monetise the expansion needed by doing the corresponding amount of QE, or more simply to neutralise any failure by private agents to buy debt.

My concern here is with a government that said thanks for the advice, but we prefer to focus on reducing the deficit using spending cuts. Would the central bank be prepared to make its advice public? It might not do so if it was concerned that the government would reciprocate by starting to tell the central bank what do so. You could therefore argue that this strategy could be either ineffective, or may threaten central bank independence.

So how can you stop a government that is determined to use the rising deficit in a recession to shrink the state? Of course you cannot, but you can try and create the conditions that will put maximum political pressure on it not to. I suggest above that HM fails to do this, and central bank advice is unlikely to either.

What would be more effective is for macroeconomists and central banks to start being honest about the consensus assignment. As a near optimal policy regime that assignment is dead. Instead macroeconomics suggests what could be called a ‘state dependent assignment’. In most states of the world, central banks stabilise the macroeconomy just as they do now. However in an economic downturn of sufficient size (where ‘sufficient’ is to be defined) the assignment flips, and fiscal policy makers are in charge of stabilisation. In non-technical language, fighting recessions becomes the government’s job.

I think this is something that most academic macroeconomists and some central bankers have accepted implicitly but not explicitly. One reason is I think pedantic. Of course in the state dependent assignment the central bank does not stop trying to stimulate demand in a recession by at least keeping rates low, but there are compelling political economy reasons to highlight the responsibility of governments in this respect.

Those familiar with Jonathan and my paper on fiscal rules will recognise our knockout when rates hit their lower bound as one operationalisation of a state dependent consensus assignment. But it is not an ideal mechanism because switching the assignment should depend on forecast events. Others, like the IPPR and Resolution Foundation, have suggested alternative schemes that come under the umbrella of a state dependent assignment. There is a great deal of work required to figure out the best mechanisms, and also to think about who has control over when switches (both on and off) happen, and whether there is a role for the central bank and/or fiscal council in advising the government on effective stimulus packages.

To conclude, central banks are now recognising that fiscal stimulus is required in significant economic downturns. This is in contrast to the GFC, when many fiscal policy makers enacted austerity. One of the reasons they were able to enact austerity was the dominance of the traditional consensus assignment in the mind of the public. Our most effective way of preventing this happening again is to make a state dependent assignment the new consensus assignment.

Tuesday, 7 January 2020

Was the Remain campaign always doomed?

In hindsight it is tempting to say that Remainers should have set their sights on something close to a BINO type deal (UK remaining part of the Single Market (SM) and Customs Union (CU)) rather than campaigning for Remain, and some have already suggested that. Is that a reasonable conclusion in the light of Remain’s defeat in December 2019?

In mid May it all looked so different. I wrote
“It seems odd writing that Brexit is on its deathbed, in a coma but with no chance of recovery, when a year ago the Remain cause seemed hopeless. The thing everyone under estimated was the way Brexiters themselves would effectively kill Brexit.”

The essential problem was that a significant section of Conservative MPs (and Farage) wanted no shared sovereignty with the EU (no ties to common standards etc), while another part of the party didn’t like the implications of this hard Brexit for UK business. So how did Brexit move from its deathbed to become a certainty within just 7 months? What mistake did I make, and could it have been foreseen?

I was right about the prospects for Brexit under May. May was going nowhere because there was no way to avoid a hard border in Northern Ireland with any UK wide deal acceptable to the Brexiters, and both May, the DUP and many Conservative MPs seemed adamant that a border in the Irish Sea was not on. A lot of this was already apparent to me a year and a half earlier.

It is easy to say that a new Prime Minister made all the difference, but that isn’t enough. In May I did write “A Conservative party committed to No Deal is the only way the Tories have to neutralise Farage.” I could have added that many Tory MPs would be unhappy with that, which is why that path was not sufficient for Johnson.

What he did would have been hard to anticipate in May. I think Johnson got there through trial and error rather than having some master plan when he was elected. He had to convince both Farage and the Brexiters that he would go for no trade deal rather than anything that ties the UK to the EU, yet convince everyone else that he really was going for a deal. The way he achieved that was to agree to the EU’s original proposal for a border in the Irish Sea, but also by committing not to extend the transition period beyond a year.

The other key ingredient was the devastating Conservative result in the European elections. Not only did it ensure May’s departure, but it also became clear to Tory MPs that they risked disaster at a General Election if they didn’t get Brexit done. So they rejoiced when Johnson got the deal that Johnson had said earlier was something he couldn't possibly agree to. They didn’t ask questions when Johnson refused to extend the transition period, even though they knew full well no trade deal worth anything could be done with the EU within a year when the UK didn’t want a level playing field. 

Equally Brexiters and subsequently Farage were persuaded that Johnson would stick to his pledge for no extension of the transition period, because to question it was to put Brexit at risk. Both sides heard what they wanted to hear from someone they knew was the least trustworthy politician in the UK. Now we have seen all this happen it is easy to imagine it, but in the first half on 2019 you would have been almost clairvoyant to see all that detail. As a result, Remainers optimism at the time was not unjustified given the information we had, and so compromises were less likely.

What you could have done was be pessimistic at a more general level. Many hoped that after the vote public opinion would gradually lose faith in Brexit, but that happened only to a small degree. If you believe as I do that the Brexit vote was the product of Brexit press propaganda coupled with BBC disinterest in informing viewers about reality, then why would people change their mind? As a result of solid Brexit support, the fate of the Conservative party became linked to getting Brexit done, so the party had to find a way.

Of course Remain could have won the General Election, and a failure by the Conservatives to get an overall majority would have meant the end of Brexit. Ironically Corbyn both created the conditions that allowed Remain to be optimistic (Labour’s victorious defeat in 2017 and the consequent DUP veto) but they also helped create the conditions for a Conservative victory. Labour’s performance in 2017 changed the Brexit political dynamic, but the last people to understand that were the Labour leadership. I wrote in January that Labour’s refusal to oppose Brexit is becoming a historic error, and events in the first half of 2019 proved that was correct. [1]

Johnson’s victory did not just depend only on the Remain vote being split. During the election period Labour clawed back a lot of the votes they had lost to the LibDems, but the LibDem and Green vote was still 50% up on 2017 levels. Corbyn was very unpopular among many of the kind of traditional Labour voters who had voted Leave: the media gave us two more years of negative coverage of Labour, and Corbyn’s past was a gift in that respect. But a detailed assessment of why Labour lost is for another time.

There was another sense that fence sitting by Labour did not help Remain. I noted above that public opinions about Brexit did not change significantly after the referendum vote, but we will never know if that was inevitable. The way broadcast media work is to cover what the two main parties say, even on an issue like Brexit. Corbyn’s stance after the vote meant that Labour felt unable to attack Brexit rather than the government’s handling of it.

There is a counterfactual history where Labour MPs played things better (i.e waited until the beginning of 2017) to provoke a leadership election, Corbyn lost that vote and his successor campaigned against Brexit. This gave Labour a poll bounce that dissuaded May from holding an election, allowing Labour to campaign against Brexit for the next three years. It might have not worked out that way, but we know for certain Corbyn as leader did not work out.

To sum up, I don’t think I and other Remainers were being unrealistic in aiming for a Remain outcome. But I do think we have to be realistic about the next five years. It is just possible that Brexit will lead to the next five years being obviously terrible, and that public opinion will move against the whole project. If that is the case opposition parties, and particularly Labour, should not be afraid the join the dots and make that case. More likely, however, is that things continue as they have been over the last three years. Not good at all, but not bad enough for anyone to change their beliefs about Brexit.

If the lessons of austerity and the last three years carry over, the more some talk up impending disaster, the more poor performance will be portrayed as the vindication of Brexit. The reality is that powerful forces have imposed a policy on half the population that do not want it. It is rare that we see a government implement a policy that all experts say will do the UK serious economic and political harm, which is why those overseas who are not on the extreme right or left think we are utterly stupid. At least those that have fought this policy all the way can hold our heads up high and say we did all we could to stop it.

[1] There are some who still insist that Labour’s eventual adoption of a People Vote in all circumstances was a ‘suicide note’, but Labour’s policy before then would have been much more disastrous. You may discount the European elections, but polls both before and after that had Labour around 25% and the LibDems touching 20%. Labour’s 2017 result had created the political dynamic of strengthening Remain, creating a political vacuum that Labour didn’t fill so the LibDems did. Labour would always have clawed back some of the voters who chose LibDem during the election period, but in the absence of a commitment to a Public Vote their final percentage would have been well below the 32% they actually achieved. That is because Leavers would not have come flocking to them, because the lure of 'getting Brexit done' was too great.