Winner of the New Statesman SPERI Prize in Political Economy 2016

Friday 13 July 2018

The micro incompetence of UK austerity

I have, for obvious reasons, talked a great deal about the macroeconomic incompetence of austerity, and how it probably cost each UK household around £10,000 in lost resources on average. I have also talked about how it was based, at least after 2012, on political deceit: a pretense that cuts were necessary to reduce government debt when in reality the aim was to reduce the size of the state. (If the priority really was the deficit, why all the tax cuts?) What I have talked less about is the microeconomic incompetence in the way this reduction in the size of the state was achieved.

To many that may seem an odd thing to discuss. After all, isn’t how government spending is allocated between health, education, defence etc inevitably a political decision. But that is not how an economist would think about it. People have preferences between spending on the various goods that are allocated by the state, and so it is perfectly reasonable to ask how good a job the state does in getting the right allocation i.e. in reflecting society’s needs and preferences. If it wasn’t doing this to the first approximation (and allowing for slightly different preferences depending on political orientation) you could legitimately question whether the state was doing a good job. One of the pieces of academic research that has always stuck in my mind is a 1984 paper by Ron Smith and colleagues, who found that allocation did reflect needs and costs once you allowed for bureaucratic inertia.

As a result, it is perfectly legitimate to ask whether an attempt to shrink the state has preserved broadly the correct allocation or distorted it. After all, if a Labour government substantially increased government spending in random ways with no coherent plan everyone would be quite right to complain. So exactly the same should be true in reverse: if you are going to shrink the state you should do so in a planned way.

There was of course no public plan set out in 2010 discussing what parts of the state should be smaller and why. Was there a secret plan that guided Osborne and the Treasury’s decisions? Perhaps he had to keep his plan secret because if it had ever been made public it would have been very unpopular. As I have noted many times, there has never been in the UK more than 10% of the population that wanted a smaller state. That is why state reduction had to be done by deceit, as a few journalists have been prepared to acknowledge in public. But if you are going to do something by deceit, and have kept your master plan of where the state should be shrunk secret, you probably deserve people like me making the assumption that there is no plan beyond political expediency. So I will assume that the only plan was to make the cuts in areas that they could get away with.

Under certain assumptions, that idea of cutting until the pips squeak is in itself not a bad method. In particular, if you think that there is a lot of waste and inefficiency in public spending (because of lack of competition etc), then this mechanism may be one way of getting rid of that waste and inefficiency. However some of the assumptions required for that method to work show clearly why it is in fact a very bad method. One assumption is that each part of public spending has an equal political voice, and will shout only as loud as the real pain of cuts. The real world is just not like that.

Take pensions and social care as two examples. The state pension has been austerity free, probably for the simple reason that pensioners tend to vote Conservative. So why has social care, which is used by the same people, been subject to savage cuts that are highly likely to have led to many premature deaths? The answer is in part that people do not have full information: the papers they read do not talk about cuts to social care very much. It is also because social care is the responsibility of local government, and so cuts can be blamed on local councillors rather than central government.

I started thinking about this again after reading an article by John Harris, who discusses the perilous state of UK local government. As he says, political “journalists who work themselves into a lather about this or that item of Westminster gossip hear the dread phrase “local government” and glaze over.” Do you know who the minister for local government is? I had to look it up. So the feedback mechanism that tells the Chancellor and the Treasury that cuts in local government have gone too far is largely absent and can be neutralised. As a result, that is one place where further cuts are still in the pipeline.

Groups that have been particularly badly hit by cuts, the disabled and poor, also happen to be those with little political voice. In some other areas the extent to which cuts took place depended on simple spin. Because of the spin that the NHS budget had been protected, it suffered sharp cuts because it normally grows substantially for various good reasons. Is this all part of a master plan, or just what was politically convenient?

Economists go on about the efficient allocation of resources, and that should apply just as much to public goods as private goods. The fact that this allocation is achieved through political decisions rather than responses to price signals makes it easier to get things wrong, but it should not mean allocations are random. So any departures from a reasonable allocation due to a programme of cuts which has been and is being allocated based on essentially arbitrary factors should be a major cause of concern. In simple english, not only was the Conservatives’ attempt to shrink the state done at the worst possible time for the economy as a whole, it has also been done in an incompetent way in terms of how spending is allocated.


  1. "it probably cost each UK household around £10,000 in lost resources on average."

    Prior to the financial crisis my wife and I received 6.2% interest on our savings, we now receive around 1.75%. If interest rates were to go back to their pre-crisis rates our income would be 40% higher. Our 'lost resources' over the last few years have been way higher than £10,000.

    It was right that short term emergency measures should have been taken at the time of the crisis and we were happy to make a sacrifice to see the country through an emergency. However, we do not see why we should continue to take a hit when the economy is no longer in danger. Indeed the continuing emergency measures have fossilised the economy and prevented economic renewal by creative destruction. We are being forced to take a lower income in order to support policies that are suppressing the evolution and growth of the economy.

  2. So what would this increased spending have actually been spent on? I understand about boring to increase spending in a recession, but increasing spending when there is, by all measures, practically full employment? where are these people coming from to do the jobs you are creating? If they are UK residents doing jobs, aren't you just encouraging wage inflation? If you are bringing in workers from overseas to do these jobs, how is printing money to fund jobs that need people to come from abroad a good idea?

    1. NHS needs more nurses and doctors. More policemen are needed, whatever ministers say. Carers in social care are needed. More people organizing activities for young would sharply reduce violence and crime among adolescents.
      Real salaries have fallen, there was no need to limit raises to 1% (except pushing people out of government service).
      Local budgets were cut to the point they can't perform their functions. More money for local authorities would have improved social care, cultural content (how many libraries, museums and other cultural facilities have closed? and how many community facilities, key element in turning at risk adolescents from gangs to productive life?).
      Education is theme for itself. Generous budgets don't mean just more teachers and educators, but better infrastructure, free healthy meals, better equipment, school-financed trips... All of things that can improve the next generation, their capacity for creativity and chance for reaching their full potential. Budget cuts like those since 2008 mean that rich can reach their full potential. Chances for everyone else are significantly lowered.

    2. Yes Anonymous but where are you going to get those people from given we have full employment?

  3. I would also add the ring-fencing primary school/high school education, which sound really great and at first glance most of us would think it's a really good idea. But on deeper reflection and in practice it amounts to the ring-fencing of shiny third edition textbooks for middle class kids who already have iPads and three magazine subscriptions. Meanwhile, vital public services are being cut.

    I would add HS2, which has some weighty arguments in its favour, I don't deny that. But is it really appropriate when local government funding is being cut to the bone?

    The Coalition government effectively stopping the building of social housing is another example of misplaced spending priorities. Social housing reduces the housing benefit bill of rent paid out to landlords in the private rented sector, therefore will save the government money in the long-run.

    The cutting of coastal defenses is another example. The 2015 to 2016 floods did £1.6 billion in damage. (Source).

    Renewable spending? The UK could be making a killing by now if Cameron hadn't slashed funding. Public sector innovation can spur private sector innovation and bring in revenue for the country.

  4. There was a plan. Beggar government, then say government is not working, offer the solution of privatization which opens up huge tranches of public cash to the wealthy and corporations.

  5. «the aim was to reduce the size of the state. [ ... ] perfectly reasonable to ask how good a job the state does in getting the right allocation i.e. in reflecting society’s needs and preferences.»

    Ah the usual "new left"/"hard right" hypocrisy of pretendin that the issue is “size of the state” and “society’s needs and preferences”, when it is entirely transparent that the issue is distributional impact”, that is transfers from some classes of tax payers to other classes of spending recipients.

    The conservatives are practical people and don't care about the size of the state as such -- they care a lot about (not) paying taxes to the benefit of poorer people, and since most state taxation and spending nowadays amount to taxing higher incomes to spend on lower incomes, they are against the state.
    The same conservatives, when the state was about taxing the poor to pay tribute to the power to the powerful, were all for a strong and big state.

    What matters to them is their ownneeds and preferences”.

    That to me seems entirely legitimate, but the hypocrisy of Economists and others about distributional impact is stultifying and prevents discussion of important trends, such as devolving taxation and spending to smaller areas which are then becoming more homogeneous and stratified by income.

  6. You allude to pensions and social security and these are "ringed fenced" areas in effect.What this must surely mean is that cuts cannot over a period of time follow a "rational" basis but must become more arbitrary in that they have to concentrate on a smaller and smaller basis of un ringed fenced spending. It seems to me that this means that your assertion that the cuts must be micro economically incompetent must be true.

  7. What's your best piece of evidence that the State has shrunk since 2007, when there were no people claiming that we were living under austerity?
    A second question: what's your definition of austerity? You do talk about it a lot. Other people do as well of course, so maybe you are bouncing back off what other austerity commentators are saying. Nevertheless, you could fixate on the allocation of spending rather than the broad brush overall amount, so what's your 2018 definition of the term 'austerity'?

    1. AUSTERITY. i could suggest we need to think half what we had in 2006 (since then figures have been distorted by QE). Then think half again - that is where we are headed, in real terms due to the Western overspend of oil proceeds and credit-money created (where did it all go).
      so aiming for my spending to be ONE-QUARTER of 2006 levels - that is a good start - BEARING IN MIND EVERY £1.00 "SPENT" IS 1lb weight (0.454kg) - AT LEAST - INTO THE ATMOSPHERE OF CO2 - OUCH!
      Having been working on these ¼ levels of expenditure all my life since my first good engineering job (having first found a good life partner) the challenge was where to put the savings? Answer - into real estate, like a pension, but inflation-proof. But i do not need a top-up pension when the State pension is sufficient having paid off my housing loans!! SO INVEST YET MORE in ultra-low carbon to get rid of the gas bill (and show example to others) also spending valuable time helping Gov, others and this blogsite to get on a CLEAR TRACK – A Modified Green Deal
      A) underground vertical polystyrene external to the foundations and lower walls (surplus spoil into planters). External Wall Insulation (EWI) that REALLY WORKS above that, by making roofs (especially at the edges, really work). Currently they do not.
      B) Roof finishes to come off and go back on over CONTINUOUS FULL-SHEET 60 mm reinforced Celotex or similar with Solar PV and solar-thermal set in over that insulation between the replaced ultra-long-life tile or slate, having first put snug layer under rafters right out over the outer walls (slit once for push-fit, work from top, ridge down). Lighter, Stronger, Warmer.
      C) Connect up the solar-thermal to central tank underfloor micro-cellar with 2 cu m Water-Store and Warmth Transfer tank (into the earth) or hot tub similarly thus warming the whole underfloor area inter-seasonally

      [Example: for a modest house giving double Prof Mackay’s example of 900 kWhr of warmth storage ready for winter and the way to get it in “fast enough” that eluded him.

      So he could have come down on the ultra-low carbon side without nuclear! Government could now come down away from “more government borrowing” and onto money HIGH-STREET-CREATED created [or created at negligible cost] at 0.5% (the RETURN to public purse). It could be allowed to commercial banks at fixed regulated mark-up of 1% to them. Going towards a modified effective GreenER Deal from high street banks and local contractors. Or it could be central bank money issued to local branches to help guide the first few thousands of Eco-Fits to where most needed, within 3 years reaching 1 MILLION HOMES AND BUILDINGS A YEAR. By making it non-repayable we echo Mrvyn King's late-2012 Video on money cancellation

      The thing is the old way of putting it out to Carillion or big contractors would not work due to both the COST OF THE MONEY if repayable and the high overheads of big companies often charging double or 4 times the lean little man. So spreading the wealth that is often talked about and hardly ever achieved. AND A REAL ACHIEVEMENT: A bottom-up FLOW to public purse, which we believe should be ring-fenced and at first put towards increased ASA responsibility to make it Advertising and Editorial Standards Authority. [We need to concentrate on higher moral standards – only good advertising allowed in. No gambling. POORER PEOPLE would welcome Wholesome stuff, with humour – but honestly advising that cleaning agents really not so much needed, nor the emulsified water fancy face creams, just the basic vitamin E cream will do for most people. Natural is nice (eg sterilise the sink cloth in the egg-water) rather than using all those disposable kitchen-roll, tissues, wet-wipes. Real savings AND Eco-savings.]


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