UK decline and stylised empirical facts

 

It is beyond dispute that the UK economy is suffering from a second lost decade, by which I mean a sustained period of poor or non-existent growth far below comparable countries. When something has been going on for so long, it is tempting for many to write as if it has been happening forever, or at least for our collective living memory. That in turn allows people to write their own accounts of the reasons for this decline, and if you wanted to be cynical you could say they choose reasons for this decline to fit their own political prejudices. Was it the advent of Thatcherism, or more generally neoliberalism, that started the rot? Was it and is it the outsize influence of the City and finance?

The problem that I have with a lot of this writing is in the empirical evidence it tends to use. So this post is mainly about establishing the stylised facts that any account of what has gone wrong needs to explain. In my view there are two key points that need to be made here, and two more minor but still important issues that if ignored could mislead..

First, looking at UK growth rates alone is a mistake. The UK economy operates in a global environment, where technical innovation tends to be dispersed wherever it originates from. So, for example, the UK economy undoubtedly benefited from widespread improvements in computing power and information availability that began in the 1990s, and it would be foolish to try and explain that in terms of some peculiar UK development.

Equally, in the decades after WWII the global economy grew rapidly in part because of economic reconstruction (in Germany, Japan and elsewhere) and that benefited all economies, including the UK. That rapid growth was unlikely to continue in subsequent decades. Therefore to compare GDP growth rates before and after the 1980s and blame neoliberalism for the drop off in growth rates is almost certainly wrong, but it is frequently done.

It is far better to assess UK economic performance by comparing the UK to other countries, and in particular the US, France and Germany. When you do this you get the following stylised facts. In the 1950s and 1960s the UK economy grew less rapidly than elsewhere. How much of that was due to post-war reconstruction is uncertain. But in the 1980s, 1990s and early 2000s the UK economy grew at similar rates to the US, Germany and France. During those two and a half decades there was no UK decline.

The following chart, plotting productivity in terms of output per hour, is one illustration of this. (It ends in 2019 to avoid the disruption caused by the pandemic.)

I have normalised these index numbers so all countries are at 100 in 2007. Before that, we can see that US productivity grows most rapidly, followed by the UK, and then the remaining countries except Italy, which had a disastrous two decades. After 2007 productivity growth is still lowest in Italy, but the UK is now second slowest rather than second fastest.

Fans of a more continuous UK decline might object that relatively favourable UK growth in the 1980s and 1990s was itself rather special. The most obvious candidate here is North Sea Oil. It is certainly the case that revenues from North Sea Oil allowed the Thatcher government in particular to do various things that it would not otherwise have been able to do. However in a purely mechanical sense oil output is not enough to explain how UK productivity grew at similar rates to productivity in the US, Germany or France over this period. In addition, the discovery of North Sea Oil in the late 70s and early 80s helped lead to an appreciation in Sterling that had devastating consequences for UK manufacturing.

A more plausible explanation for strong UK growth during these two decades and a half is EU membership. But perhaps that is better seen as a reason for relatively poor UK performance before we entered the EU, when the benefits of lower trade barriers helped growth in Germany and France but not the UK. It is of course an important reason for slow growth after we left the EU more recently.

The first stylised fact that therefore needs explaining is why UK economic decline relative to other major economies has not been a post-war constant. Indeed it is possible that all that needs explaining, in terms of relative UK macroeconomic performance, is the last fifteen to twenty years. However we need to add our second stylised fact that needs to be part of any account of the UK’s poor relative performance. Here is a chart I first showed in a post last August from a study by Chadha and Samir

Investment is crucial for growth not just because it helps workers produce more, but also because it often embodies new technology that adds to productivity growth and therefore living standards. Investment has nearly always been higher in Germany, France and the US than in the UK, but part of that may reflect the composition of UK output. What is noticeable in this chart is that investment since the mid-1990s has been way below these other countries. So the stylised fact in this case is similar to the previous one, but with slightly different timing. UK investment was comparable with that in the US, Germany and France in the 1970s and 1980s, but significantly below it both before and afterwards.

Two more minor points relate to measurement and timing. In my view the best measures to use in looking at comparative UK performance is growth in real (constant price in own currency) GDP per head or some measure of productivity. Real GDP growth is OK and is easy, but it can be distorted by waves of immigration. Measures of real wages as a way of doing international comparisons of overall economic performance suffer from distortions caused by sudden movements in exchange rates or more trend-like movements in the distribution of income, affecting the US in particular. (The relationship between productivity growth and real wages is very different in the US and the UK.)

A second point about timing is particularly important if the focus is on the last two lost decades. As the first productivity chart illustrates, it is tempting to start the period of poor UK growth around 2007, and therefore to relate this to the Global Financial Crisis (GFC). I have read many times about how the UK’s productivity (and therefore growth) problem started during the GFC. As I argued here, there are two problems with this. First, we see a slowdown in productivity growth in other countries before 2007, perhaps as a result of the beneficial effects of the 1990s IT revolution beginning to die away. The reason that doesn’t show up in the UK data is because of rapid growth in productivity in the UK financial sector.

That growth spurt in finance was reversed after the GFC, and we now know it was a spurious result of excess leverage. If we abstract from that sector, then UK productivity doesn’t clearly begin to diverge from other major countries until the early 2010s. (Just as finance boosted productivity growth before 2007, its reversal after 2007 brought aggregate UK productivity down at the end of this decade.) Second, US productivity appeared to be largely unaffected by the GFC.

To summarise, any account of UK economic decline has to explain two important stylised facts: why growth was relatively strong in the 1980s, 90s and perhaps 2000s, and why investment has been so low since the mid 1990s. Also beware any accounts that avoid looking at international comparisons of productivity growth or growth in GDP per head, and also accounts that assume decline started with the GFC.

Andy Burnham is said to have talked about the four horsemen of UK decline: deindustrialisation, privatisation, austerity and Brexit. As I have suggested above (see also here) there is strong evidence to support the last, and this is consistent with our stylised facts. The casse is less strong for the other three. UK deindustrialisation in the 1980s was certainly much more rapid than it needed to be, but the problem there is that this was also the start of the period of relatively strong UK growth. [1] How privatisation in the 1980s could have led to a relative decline in the 2010s is not obvious, but it could help account for some of the collapse in UK investment in the 1990s. I personally would be very happy to put the blame on austerity from 2010 onwards, but the empirical problem there is that all the major economies except China were hit by their governments cutting spending during a recession [2]. So while I cannot yet give a comprehensive account of UK economic decline, isolating the key stylised facts does help eliminate or illuminate various possibilities.

[1] Rapid deindustrialisation and (Hesiltine apart) the Thatcher’s government’s disinterest in doing anything about it could be an important factor behind the UK’s unusually high level of regional inequality, and that may in turn have had a longer term impact on aggregate economic growth.

[2] As I note here, 2010 also represented a sea-change in how the UK government viewed comparative growth. Before they were obsessed by it, and the UK’s relative productivity performance in particular. From 2010 that concern was no longer a priority, replaced by the deficit and later sovereignty.

Capital and Right Wing Populism

 

If it gets into power right wing populism typically does great damage to the economy. The systematic evidence is here, and we have too many recent examples: Brexit, Orbán in Hungary, or Trump and Israel’s war with Iran. Which begs an obvious question. Why do right wing populists seem to have so little trouble getting large amounts of funding? The links between Trump and ‘Big Tech’ are well known, but even in the UK a recent league table of donations to political parties had Reform at the top.

We could add to the puzzle by noting that the distinctive policies pursued by right wing populists, restrictions on the international movement of goods and people, are also generally against the interests of large sections of the business community. Look at the damage that Brexit has done to the UK economy, and therefore to the firms that make up that economy. By championing traditional energy sources and opposing the green transition, right wing populists if they gain power may mean their economies miss out on key future technologies such as electric vehicles. The antagonism that these populists have for academia also makes future innovation that much more difficult.

The standard answer to this puzzle is that right wing populists like Trump are very good at giving large tax breaks to capital and the wealthy. In the short term those tax cuts may more than offset the impact of reduced (or negative) economic growth on profits and very high incomes. But compensating for poor overall economic performance by redistributing income in your direction is not a sustainable long term strategy.

A better answer in my view is to stop thinking about business or capital as a monolithic bloc, or as a unified class if you like. Many large firms are still controlled by wealthy individuals, and some of those wealthy individuals will have political views that align with right wing populism. They may be very socially conservative, or even have racist views. Racism is not something that the very wealthy are immune to.

If you look at donors to Reform, for example, what stands out are very large sums donated by a small number of very wealthy individuals. The role played by Elon Musk in financing Trump’s recent campaign is well known. Sometimes this reflects the political views of the individuals involved, but on other occasions it reflects the particular business interests involved, and the role that the government can potentially play in helping or hindering that business. Individuals pushing cryptocurrency are an obvious example.

Very wealthy businessmen (is it invariably men?) using their money to further their political views is nothing new, of course. In the US the Koch brothers were at the forefront of pushing an anti-union, pro-libertarian agenda. But the Koch brothers focused on issues that could easily be described as furthering a pro-business, neoliberal agenda. What is more unusual is the very wealthy using their money to support parties advocating causes that appear to conflict with neoliberalism, like restrictions on the international movement of goods and people. [1]

Three developments have made the role played by the wealthy in pushing politicall agendas more important than it used to be. First is that in some countries, like the US for example, rules that used to limit the amount that business and wealthy individuals could give to political campaigns have been removed. Second, there is just more extreme wealth around.

Source

Third, just as the fading away of post-WWII norms against extreme right wing and racist views have encouraged politicians to promote such views, so it has allowed individuals like Elon Musk to give Nazi salutes in public, behaviour that fifty or even twenty years ago would have led to social ostracism.

An additional factor may be that right wing populist parties and governments, that tend to have top down authoritarian structures, are easier for businesses with specific interests to influence. Of course industry is always lobbying governments and opposition political parties to pursue policies that help their particular business interests, but in established parties that lobbying may often be opposed by other groups. So while big oil is pushing the Labour government to allow more extraction from the North Sea, those efforts will be opposed by groups within Labour concerned about climate change. It is far easier for the oil lobby to influence Reform, for example. In addition, as corruption is more endemic in right wing populism, it follows that it is easier for business to buy influence. That observation may be a factor in which parties big oil supports.

In this sense it is not capital as a class that is enabling the rise of right wing populism, but elements within that class, where for ideological or particular business interests these elements are willing to ignore the negative impact that right wing populism will have on the economy as a whole. But a question remains why other business interests or wealthy individuals which do not have these populist views or particular business interests, and who will be concerned about the damage a right wing populist government will do to the economy, don’t fight back. Why don't they provide larger financial donations to more mainstream parties, and why don't we see more of their leaders arguing against the policies that right wing populism pursues?

A good example of this puzzle was the 2016 Brexit referendum, and its contrast to the 1975 referendum that ratified the UK joining the EU. In the latter business played a very active role in promoting EU membership, but in the former the business community as a whole played a more minor role. This absence, alongside a few ‘celebrity’ businessmen promoting Brexit, helped reinforce the idea among Leave voters that the economic downsides the UK is now experiencing would not happen.

I don’t have a clear idea of why the majority of the business community is so mute about the economic dangers of right wing populism, partly because there are too many possible explanations. Is it another example of short-term thinking among firms and the wealthy, favouring the short term gain from tax cuts over the more significant longer term loss from economic decline? Perhaps too many companies and the wealthy don’t understand the damage to the economy that right wing populists do, or are in denial about it.

I suspect in this case class may have something to do with it. The opposition to EU membership in 1975 when a Labour government was in power was led by the left, and so it would have seemed natural in class terms for business to take the opposite view. The prospect of the business community arguing with others in the same class may make that community more hesitant. Alternatively business leaders may have adopted a similar view to politicians in mainstream right wing parties, that the promotion of socially illiberal policies is an inevitable price it has to pay to maintain or reinforce otherwise unpopular neoliberal goals such as deregulation.

However an equally important factor may be fear. As the Trump regime illustrates clearly, authoritarian figures can hold grudges and when in power take revenge. Any individual business leader who speaks out against a right wing populist party when they are in opposition may find that they and their businesses suffer at the hands of those party leaders if they come to power, and corruption becomes endemic. Needless to say that fear becomes all too real once right wing populists are in power, which is why business as a whole may appear to be excessively deferential towards right wing populist rulers. Capital as a class may not be cheering on right wing populism, but it is a pretty ineffective bullwark against it. 

[1] What about the role of big business in helping the rise of fascism in the 1930s? First, there remains considerable doubt that this happened in any generalised way. Second, there was then a clear threat from communism which no longer exists today.

Should the government compensate consumers for cost of living shocks?

 

Governments around the world are cutting taxes on petrol or fuel, including in Germany, Italy, Spain and Canada. The UK government has come under pressure to do the same, which is hardly surprising as the crisis may leave the typical British household £500 worse off. But the problem with this approach should be pretty obvious. Prices are rising because there is a reduction in the amount of oil and gas being produced. Prices therefore need to rise to discourage the demand for oil and gas to avoid physical shortages. If governments take measures to subsidise prices by taxing fuel less, then demand is discouraged less and prices will need to rise further, or there will be rationing.

Each individual government is tempted to cut taxes on fuel, because if they alone did so then their consumers would benefit, and other countries would only suffer a small increase in global prices. But if all countries do the same the policy is self-defeating: prices simply rise further to offset the government subsidy. If many states cut taxes on fuel, consumers in the remaining countries face significantly higher prices as the global price tries to match demand to supply, or there is rationing.

In principle a much better way of protecting consumers from the impact of higher energy prices is to let those prices rise, and compensate consumers for some of their loss in real income by transferring cash to them. Consumers still have an incentive to economise on energy, but the hit to their real income is reduced. As I argued during the previous energy price hike, this approach seems natural if the excess profits of energy producers and electricity distributors [1] can be taxed, effectively transferring from the small number of winners to the many losers of the price hike.

However I suspect most economists would ask why the government needs to cushion the impact of higher energy and food prices for those who can afford those higher prices. Most would agree that it makes sense for the government to protect those who would suffer real hardship as a result of higher prices, but why go beyond that? If we abstract from issues of supporting aggregate demand, any government subsidy today has to be paid for by raising taxes or borrowing, and why should the government do either to shield consumers from higher prices?

That is my own instinctive position on government subsidies in response to a hike in energy and food prices. Yes, the government should protect those most in need, but otherwise it should not provide any compensation, and the government certainly shouldn’t cut fuel taxes. I think that is the right position if the government could direct help perfectly to those who need it. The problem arises because the government cannot easily do that.

As this instructive study from Levell, O’Connell and Smith at the IFS notes, those most affected by energy price hikes are not just those on low incomes. Indeed the correlation between hardship following an energy price increase and low incomes is pretty low. That makes the government’s normal benefits system a poor vehicle for supplying assistance to those who need it following an energy price hike.

So one justification for the government providing compensation for everyone is that you can be sure of getting help to those that really need it. The problem, of course, is that you are providing help to many more who don’t need it, and so the compensation is very expensive. This is what the last UK government under Sunak did during the previous energy price hike, and it cost a great deal of money. A better alternative is to attempt to use what data the government has to proxy household needs, but did the government put any resources into trying to do that after the last energy price hike?

Of course the most effective way of getting help to those who need it is to directly subsidise the price of fuel. As we have already noted, that has obvious costs (what economists call efficiency costs) in terms of preventing consumers switching away from using energy. The IFS study noted above finds those efficiency costs to be large, partly because they also find that consumers do manage to economise quite a lot on energy use when prices rise. But despite this, they still find that optimal policy involves some degree of direct price subsidy from the government, and of course how much that subsidy should be depends on how effectively the government can target those who really need help by other means.

All this implies that, in the absence of an effective way of targeting those most in need after an energy price hike, there is an economic case for both income compensation and even some energy price subsidy. Yet I suspect that while this matters for economists it has rather less influence on politicians. They will want to provide help for consumers in an attempt to show the government is on their side in trying to reduce the cost of living, and therefore encourage voters to let them remain in office after the next election.

What will matter much more for politicians than any economic analysis is the finding that the cost of living crisis of 2022-24 was associated with an unprecedented failure of incumbent governments to retain power in democratic elections. High prices were caused by the recovery from the pandemic and the Ukraine war, yet it is governments who seem to have been punished by the electorate. The message this sends to governments today is if you want to hold on to power you need to do everything you can to shield consumers from the impact of higher energy and food costs.

Should economics matter more in shaping policy, and provide a more effective bulwark against politicians acting in their own interests? I’ve talked about this many times before. In a media environment where political journalists rather than subject specialists cover these issues, and political journalists rank political contacts and relatively unimportant scandals over expertise and the major issues, expertise and policy analysis will always take second place. Economics is not unusual in this regard, as we saw with medical advice during the pandemic. It is why Brexit happened, and therefore why living standards are now so stagnant in the UK.

Were not fiscal rules meant to stop governments handing out money to make their reelection more likely? Fiscal rules can do this for permanent tax giveaways or spending increases, but in this case, as with the previous energy price hike and with the pandemic, we are talking about temporary fiscal handouts. Our fiscal rules focus on medium term deficits (or the change in debt), and so will not stop fiscal giveaways that increase the deficit for just one or two years.

Could fiscal rules be changed to be more short term? I suspect the frustration with the impact on public debt of government largess during the pandemic and the subsequent energy price hike led some to advise the new Chancellor to shorten the horizon for the main fiscal rule from five to three years, advice she unfortunately took. The problem is that fiscal rules that apply over the short term are bad fiscal rules, because they will either do considerable harm or be quickly abandoned.

Attempts to target deficits in the short term, or target the level of debt even in the medium term, leads to inappropriate and harmful volatility in taxation or spending decisions as the government responds to every externally driven shock to the public finances. The most obvious example is a fiscal rule to balance the budget each year, which will mean spending cuts or tax rises during recessions and the opposite during booms.

A better possibility is to give independent fiscal institutions more authority to critique government decisions, but as we should know (but some still pretend otherwise) the OBR has no such power. [2] An independent fiscal institution that can give policy advice is effectively a counterweight to the failure of the media to take expertise seriously. In its absence, politicians are going to come under great pressure to cut fuel taxes and compensate all consumers by too much, and they are likely to succumb to that pressure.

[1] Electricity distributors may make excess profits if prices are based on marginal costs, which typically reflect gas prices, while average costs rise much less because of renewable sources of energy. The government is looking to modify that link. Normally higher profits from higher prices encourages additional investment to increase future production, but because of climate change we don’t want additional investment in oil and gas production.

[2] The OBR can comment on how changes in energy prices impact the economy, but not on what the policy response should be, as a true fiscal watchdog would.

Orbán, Trump and the International Right Wing Populist Movement

 

If you doubted that right wing populism is an international movement, then the turnout of support for Victor Orbán and his party Fidesz before Sunday’s election should have put you right. It wasn’t just visits from US Vice President Vance and Secretary of State Rubio, plus supportive messages from Trump himself. [1] Every leader of the main right wing populist parties in Europe offered Orbán support, alongside Netanyahu from Israel and of course Putin from Russia.

The scale of Orbán’s defeat, with his opponent Péter Magyar,winning a super majority of seats allowing him to undo constitutional changes enacted by Orbán, is impressive when set against past Orbán victories and the extent of election rigging in favour of Fidesz. But the main two reasons that Magyar won were fairly inevitable after a prolonged period of right wing populist government: economic stagnation and widespread government corruption. I noted here how severe economic decline is typical after a period of right wing populist government, and corruption is also standard in any highly autocratic state.

The durability problem with right-wing populist governments is not their popularity, but that these governments meet unpopularity with measures that degrade and possibly eliminate the democratic process. Sunday’s election result is a reminder that there are limits to what an almost entirely pro-government media can do, and the scale of Orbán’s defeat may have also deterred him from trying to ignore the result by claiming it had been stolen as a result of EU interference. [2] Orbán might have been able to get away with such a tactic if the result had been close and he still had large areas of support, but after such a large defeat popular resistance to such a tactic could have been too great for Orbán to risk.

The scale of Orbán’s defeat may also be a result of where that defeat came from. Sunday’s victor, Péter Magyar, was a member of Orbán’s party, Fidesz, until just two years ago. He is a right wing conservative, but broke with Orbán and Fidesz over the issue of corruption. In those two years Magyar worked tirelessly in visiting rural areas that had traditionally been Fidesz strongholds, and this may help explain the scale of his victory. Social conservatives who might have still hesitated to vote for a more liberal opposition leader were prepared to vote for Magyar. (A lesson perhaps for centre right parties elsewhere including the UK: you defeat right wing populism by fighting it rather than becoming it.)

The task ahead for Magyar is still immense, and it will take time to get rid of all the Orbán loyalists that have become entrenched after sixteen years of his rule. But the benefits for those outside Hungary are likely to be more immediate. Magyar has pledged to stop Hungary being the odd one out in the EU, which means no longer doing Putin’s bidding and trying to block European aid to Ukraine.

The desire of right wing populists around the world to support Orbán is also an indication of the key role that Hungary played in the international right wing populist network, both as an example of the kind of regime that this movement hoped to spread to other countries, and as a direct provider of cash for events and propaganda. However here the impact of Orbán’s fall should not be overestimated. In the UK, for example, few of those voting for Reform will even be aware of Orbán, and there will still be plenty of money around to support right wing populism in the UK and elsewhere.

This external support for Orbán doesn’t seem to have done him any good in Sunday’s election, and may well have been harmful. In particular Orbán’s increasing links with Russia and hostility to the EU (to the extent that his ministers acted as Russian spies within the EU) are unlikely to have been popular. But support from Trump could also have backfired.

I have argued for some time that a silver lining to Trump’s second term may be the damage he does to right wing populism outside the US. There are three reasons for this. First, right wing populists typically inflict severe damage to their own economy, to their voter’s health and so on. Because events in the US are often well publicised in other countries, voters can see this damage. As domestic right wing populists often cannot help themselves in praising or emulating Trump, then Trump’s failures in the US will reflect badly on right wing populists at home.

The second reason is that Trump, among the set of right wing populist leaders, is particularly incompetent. Not, I should say immediately, incompetent at keeping his political base happy, but simply in terms of decision making. In part this may simply be because of his mental health, but it also comes from his personality. A third reason is that some of those bad decisions directly impact voters overseas. Tariffs used to be the main example but now the consequences of Trump’s Iran war dominate. Trump’s unpopularity overseas is only likely to grow.

Unfortunately this third reason means that Trump’s impact on the success of right wing populism may be double edged. His increasing unpopularity caused by the evident harm he is doing will reduce the support for right wing populists, both in government and in opposition outside the United States. Even Farage, who in the past has been a very vocal and indeed loyal fan of Trump, recently said “I happen to know him, but that’s by the by”. Just as right wing populists outside the US begin to distance themselves from Trump, they will also begin to realise that what works for the MAGA base does not necessarily work elsewhere.

However Trump’s actions could actually add to the support of right wing populist parties outside the US if those parties are not in government. In particular Trump’s Iran war is leading to lasting increases in the price of energy and food, similar in scale to the increases seen after the end of the pandemic. We know that the latter was associated with a period where incumbent governments fell around the world, perhaps because many voters blamed those governments for the hit to their prosperity. In that respect Trump’s actions could provide a boost to right wing populists in the years to come.

For this reason alone Orbán’s defeat should not be seen as a turning of the tide against right wing populism. I argued here that ever since advocating extreme socially conservative views has become normalised, there will always be at least a third of the electorate that will be attracted by parties that make immigration and overt nationalism their main issues. Hard economic times, and in particular cuts to public services, will boost that number, as many voters begin to believe that immigrants are responsible for their stagnant real wages and their difficulty in accessing public services. [3] These are the circumstances that offer right wing populist opposition parties the chance to gain power, and in Trump’s case and perhaps in Orbán’s case to regain power.

[1] This is an interesting connection I was unaware of between the Republican party and Orbán’s election victory in 2010.

[2] Pusuing that possibility may be one reason for the variety of fake polls suggesting Orbán would win.

[3] This is the reason why it is so important to keep repeating the truth that immigrants tend to pay more in taxes than they take out in terms of using public services, because that discussion is a counterweight to populist narratives about immigration putting extra strain on public services.

Taxation as Insurance, Welfare and Entitlements

 

A rather abstract discussion which leads to a very specific conclusion about the merger of income tax and employee national insurance contributions

Paul Krugman has described the Federal US government as a gigantic insurance company with an army. Can the same thing be said of public spending in most European countries, including the UK? Broadly yes, with one big caveat and some smaller caveats. Indeed, where countries have an army for defensive purposes alone (unlike the US at present) even the army can be regarded as a form of insurance. Spending on law and order can equally be regarded as a kind of collective insurance against being harmed or robbed by others.

The biggest item of departmental spending in the UK is on health. This is a classic form of insurance, where we pay taxes but receive health care that is by and large free when we need it. Much of welfare spending is a form of insurance. The biggest item of welfare spending in the UK is the state pension, which is a type of insurance policy where you receive an annuity on retirement, which in effect insures you against the financial cost of a long life. Disability benefit can be seen as insurance against becoming disabled, unemployment benefit as insurance against becoming unemployed, and universal credit as insurance against low earnings.

In some of these cases, and particularly the last, seeing spending as insurance only works for everyone if it is insurance you might take out behind a veil of ignorance before life begins. A medical consultant is unlikely to want to take out insurance against low pay, as would an unborn child who knew their parents were billionaires. For that reason I’m using insurance in a Rawlsian, social liberal sense. Perhaps, as a result, we could describe much of state spending as a form of social insurance.

The major caveat is that a significant part of public spending is on education. (Of course the same is true in the US: Krugman was referring to Federal spending, and education is funded at the state level.) If we add child benefit, we could say that a significant part of public spending is for types of child support [1]. The smaller caveats include spending on transport, housing, overseas aid etc.

Of course a lot of this insurance individual citizens could provide for themselves using the private sector. We could provide for our health by taking out private insurance, but since Arrow’s seminal work economists have recognised the problems with personal health insurance, and the United States is a good example of why a private health system can be very inefficient. We can also buy our own pensions, but one large advantage of a state pension is that it avoids the risk of stock markets or interest rates being low when your pension matures. [2]

Putting the caveats to one side, taxation can therefore be seen as a form of insurance payment. Indeed one of our main taxes has the word insurance in it. In particular, taxes are a significant part of insurance against old age. This is important, because it means that during the middle part of people’s lives, and much of their voting lives, they will be paying taxes that considerably exceed the benefit they receive in terms of public services. Indeed in this respect taxes and benefits are like individual income and consumption: we earn (pay tax) more than we consume (use public services) in middle life and vice versa in early and late life. (This is also why the claim that immigrants on average put a strain on public services is just wrong.)

The insurance provided by the state is a little different from insurance provided by a company in terms of both contributions and benefits. State insurance is unlike most private insurance because benefit entitlements can be changed at any time. In addition, in theory many of the benefits paid out by the government, including benefiting from the NHS, do not require any contributions whatsoever. In practice we all make a contribution by paying tax, and everyone beyond a certain age pays taxes the moment we buy anything that isn’t zero rated for VAT. The idea that those paying income tax should have a greater voice in spending decisions makes no sense for this reason alone, and because few would want to argue that billionaires should have the right to much more political influence than anyone else.

Some state benefits require a degree of contribution. The state pension, for example, requires a minimum period of contribution to receive it, and how much you receive depends on how long you have been either earning or receiving child benefit. But how much you receive does not depend on how much money you contributed. What is less often noted is that the same is true for unemployment benefits, where you need to have been paying contributions in previous years. These requirements sometimes lead people to think that their contributions fund their pension, but this is false. Pensions today are paid for by those paying tax today.

Periodically I come across people who think that state pensions should not be classed as a welfare payment by the government because it is something they are entitled to by contributing employee national insurance payments (see this, for example). This is an illusion, because whatever requirements the government may make to receive a pension are pretty arbitrary. It is really a reaction to much of the media describing state benefits as ‘handouts’. Seeing these benefits as a type of insurance is much more realistic.

However there is a sense in which people are entitled to all state benefits. Paying taxes when younger is part of a social contract that involves the understanding that you will receive various forms of insurance, usually but not always later in life. Insurance against ill-health (a free NHS), insurance allowing you to live a long life without financial hardship (a state pension), as well as insurance against unemployment, having a low wage job/poverty and so on.

If we see taxes in general as largely a form of insurance policy, and welfare benefits as a form of insurance payout, then the argument for workers paying national insurance contributions alongside income tax is diminished. Having two separate taxes on income leads to all kinds of distortions that make little sense, and for this reason many economists have long argued that the two taxes should be merged. [3]

The reason this sensible idea has not been adopted by most Chancellors is simple. It would mean that pensioners would pay more tax and workers would pay less. Pensioners tend to vote more often than workers, particularly younger workers. [4] In particular, given the current system pensioners would argue that such a merger would be unfair, because why should they contribute to their pensions once they start receiving those pensions?

However that argument could be turned around, suggesting that linking particular taxes to particular benefits is a bad idea. It is a bad idea because those paying for private education could argue they shouldn’t pay the taxes that go to fund state education, and those paying for private medical insurance shouldn’t pay so much for the NHS and so on. Arguing that state pensions are a return on earlier national insurance contributiions views taxes as just like personal insurance, where we pay taxes just for what we personally get back in return. Instead taxes can be seen, as I show above, as a form of social insurance, where society collectively insures all of its members. If that is the case, relating a particular tax to particular benefits makes little sense. 

[1] Could state spending on children be seen as a form of insurance against the cost of having kids? The reason I don’t think this works is the state doesn’t support a proportion of the cost of having kids, but instead funds all the cost of educating kids. A major reason it does this is because education has clear economic benefits for society. This is perhaps why the OECD sometimes distinguishes between public spending that is military (defence), economic (education) and social (much of the rest)

[2] Retire when the stock market is booming and your pension will be that much better than someone who has contributed exactly the same but retired when the stock market was bust. Defined benefit personal pensions avoid this problem, but are now increasingly rare outside the public sector. In addition annuity rates can vary widely depending on the level of long term interest rates at the time the annuity is taken out.

[3] In my post three weeks ago I questioned the wisdom on political economy grounds of economists, including the IFS, arguing for abolishing zero-rating of VAT, so I’m happy to support them on this particular issue. (Here is the IFS putting the case for merger.) The case for merging employers’ NI contributions as well as employees' is more complex, in part because in the short to medium term the incidence of this tax is only to a small extent on wages (see here and here).

[4] To avoid this an income tax and employees national insurance merger could be combined with a one-off uprating of pensions, perhaps combined with getting rid of the triple lock for future pension increases.

The damage that right wing populists do

 

History, and events today, tell us the damage that fascism can do. Right wing populism is a milder form of fascism. Right wing populism is not about doing popular things! Instead it is an authoritarian creed that is intolerant of a pluralist democracy (where there are many sources of power), and instead believes that ‘the will of the people’ should always prevail, where that ‘will’ can only be expressed through the wishes of the leader. An intolerance of political opposition means that political opponents are either demonised as dangerous minorities or dismissed as out of touch elites. For this reason, right wing populists have little time for human rights because they believe they (representing ‘the people’) should have ultimate power over everyone else.

In a post a year ago I discussed two developments that could mark out fascism as an extension of populism: abandoning democracy and the use of violence against opponents. I argued at the time that Trump could in those terms be described as fascist, and unfortunately subsequent events have only confirmed that judgement. Trump and his party are doing everything they can to rig the mid-term elections in November, and Trump has used his police force ICE and the justice department to go after domestic political opponents, and has used illegal force to kidnap or kill heads of state overseas who are his enemies.

More recently I wrote about a study that showed the economic damage that populists on average do when they take power. After five years GDP would be lower by around 5% compared to what it would have been if populists had not gained power, and this damage carried on increasing in size if they stayed in government longer. In that post I gave the obvious reasons why right wing populists can do so much economic damage: their nationalism tends to restrict overseas trade and also the entry of people from overseas.

We can now add to that list a military attack on a country that has the ability to restrict global trade. Even if ships started going through the Strait of Hormuz immediately after this post is published, the damage already done would have a significant impact on global GDP. Continuing costs arise not just from the higher price of oil and gas, but also from the higher cost of fertilisers and other goods shipped through the Strait of Hormuz.

This war illustrates a point that I hope is pretty obvious. While some of the costs of right wing populism or fascism come directly from its ideology, others are a more indirect consequence. For example, putting so much unchallengeable power in the hands of one individual is just asking for trouble. It’s a recipe for disaster, like the disaster of the Iran war, if that individual is a very elderly fool.

Equally authoritarian rulers are likely to value loyalty over expertise, so they will pick advisors who become yes men and women. Watching Trump’s court spend so much time praising him, or wearing the wrong size shoes, is just incredible. Is it any wonder a leader with these priorities and with these types of advisors makes some terrible decisions. That attitude then filters down the chain of command. Add to this a common trait among right wing populists to be antagonistic towards expertise, and academics in particular, and making policy based on evidence becomes increasingly unlikely. That all adds to the cost of right wing populism or fascism.

While the focus on the economic costs of right wing populism is understandable, many of the problems outlined above impact on government decisions of all kinds. [1] The publication of the UK’s Covid Inquiry reports make it clear, if it wasn’t already, that tens of thousands of people lost their lives unnecessarily as a result of UK government inaction during the second COVID wave in 2020/1. This substack from Christine Pagel provides an excellent account, so in what follows I want to focus on the key details and relate them to the right wing populist government we had then. It suggests yet another reason why populists and fascists do so much harm.

During the first COVID wave there were plenty of mistakes made by pretty well everyone involved, including the experts advising the government. But the second COVID wave killed more people, and the second wave did not take the experts by surprise. We had learnt from the first wave that strong lockdowns could bring cases (and therefore deaths) down, and that is what experts both inside and outside government recommended when cases started rising over the summer of 2020. This advice was ignored by a right wing populist leader.

By the summer of 2020 it was already clear that a vaccine against COVID was a strong possibility and could be developed quite quickly. A key argument against using lockdowns to isolate people and decrease the speed at which the pandemic spreads is that this just delays infection. But with a vaccine that argument is blown out of the water. The vaccine could provide the ‘herd immunity’ that the disease would otherwise eventually create, but with a fraction of the deaths. So in the autumn and winter of 2020 it made complete sense to use strong lockdowns to isolate people until vaccines became available. By mid-March 2021 over 95% of all adults over 65 years old in the UK had been vaccinated.

It was complete sense that Boris Johnson didn’t accept. He was already having severe misgivings about the first lockdown as the first wave came to an end. Even before the pandemic started in the UK his instincts were libertarian. During the first lockdown these instincts were revived by strong criticism from the right wing press, which had a powerful influence on the former journalist who was now PM. Newspapers were losing a lot of money as a result of the lockdowns.

Once the impact of the pandemic became clear, most people supported lockdowns, including a stronger lockdown in the Autumn of 2020, but for populists the ‘will of the people’ is measured by the preferences of the leader rather than opinion polls. The UK right wing press, in particular, is used to pretending that the wishes of its owners represent popular opinion when they in fact do not.

While it is easy to relate anti-lockdown sentiments among the populist right and its media to ideology or simply money [2], I suspect there is a rather simpler explanation for the harm they did in this case and which will apply to populists more generally. Right wing populist leaders do harm in part because they don’t care very much about other people, and also have extremely elevated opinions of their own self-worth..

Of course that combination of characteristics apply to many politicians, and indeed might be something of a prerequisite for any political leader. But right wing populist leaders seem to take this to another level. They tend to be narcissists. Johnson said he would rather “let the bodies pile high” than impose another coronavirus lockdown, and it is difficult to imagine previous UK Prime Ministers even thinking let alone saying that.

This is one reason why corruption under right wing populist leaders is so much greater than it would be in their absence. To populist leaders it seems only right that they and their colleagues or friends should profit as much as they can from their position, and their sense of public duty is very small. (The other reason for populist corruption can be the ability of populist governments to curb controls on it, and in particular to control the law.) Of course corruption not only takes money away from everyone else, but it also is likely to reduce the overall size of the economic pie. In the case of Covid, it led to nurses and doctors not getting the projective equipment they needed.

George Bush’s ‘Axis of Evil’ was never an axis: Iraq and Iran had recently fought a very costly war against each other. In contrast, what Paul Krugman calls the ‘Axis of Autocracy’ is very real. Right now both Russia and America are doing what they can to help Victor Orban’s party in Hungary avoid defeat after being in power since 2010. After a strong recovery from the Global Financial Crisis, the impact of populist government is now very evident in Hungary, and despite controlling the media and tilting the electoral scales Orban may lose power in April. Hungary under Orban, like the US under Trump and the UK under Johnson, is another example of the harm that populists do.

[1] As a key part of right wing populism is to scapegoat minorities, then we should include the damage caused to those minorities in any inventory of the harm this populism creates.

[2] Unfortunately the economic argument against strong lockdowns just does not hold up, because it only applies in the very short run. As long as the health system is limited in its ability to cope with a growing pandemic, then at some point a lockdown will be required to prevent the health service collapsing. The larger the number of cases there are, the longer and/or more strict that lockdown will be. So delaying a lockdown ‘for the sake of the economy’ is just making the eventual economic hit that much bigger. In this post I used an analogy with inflation and the Phillips curve.