Different kinds of fiscal stimulus

Newspaper day. In the Guardian I have a piece that looks at how we should regard any tax cuts that Boris Johnson may announce as part of the forthcoming election. And make no mistake tax cuts are coming (we already know they intend to cut the tax on petrol), because the spending review signalled that the governments rule will change, as Chris Giles discusses in a good article in today’s FT in which I among other economists are quoted. .

In the Guardian piece I argue that tax cuts are a bad idea because in the context of us leaving the EU they will almost certainly produce unsustainable increases in the deficit without much of a compensation in higher output. As I say in the Giles FT article, policies that if unchanged would lead to steady and permanent increases in debt to GDP are not a good idea. That in turn will mean that at some stage either taxes will have to rise or we will be back to austerity.

But why did I also imply that Wednesday’s spending review was to be welcomed? Are not spending increases and tax cuts not two sides of the same fiscal stimulus coin? There is the obvious point that in many areas public spending cuts have gone way too far. But there is a macroeconomic point as well. Spending increases directly raise aggregate demand by the same amount. Things like income tax cuts, particularly if they go to the better off, are largely saved. (A number of around a third is commonly found in empirically studies for the amount actually spent.) So you get less demand stimulus for your money.

According to calculations done in a separate article by the Financial Times, Labour’s likely plans will also raise the ratio of debt to GDP. But if you look beyond the ‘scare’ headline, the reasons are quite different. Labour will still meet its fiscal rule for current spending, but the amount of investment planned could lead to the ‘falling debt to trend GDP’ part of the rule being breached. These calculations need to be taken with a pinch of salt, because they assume the additional investment produces no increase in GDP, and therefore no higher tax take. Even the IFS when they evaluated Labour’s election plans in 2017 allowed additional public investment to boost GDP. Which is just one reason why the FT’s analysis annoyed the large number of economists, including me, who signed this letter published in the FT today.

I didn’t like the FT write up for another reason. It seemed to be designed simply to be one more fiscal scare story. If I had been writing this I would have asked whether, if the policy did in fact break the debt to trend GDP part of the rule because of more public investment, that part of the rule made sense. A company increasing investment would happily increase its debt to sales ratio if it did a lot of investment, as would an individual increase their debt to income ratio when buying a house. Perhaps that part of Labour’s fiscal rule is a hangover from the days when mediamacro thought government borrowing was a bad thing, even when it was additional investment?

That is the key difference between Labour and the Conservative policies. If the debt to GDP ratio rises because of supposedly permanent tax cuts, that leads to steadily increasing debt to GDP and so cannot be sustained. Running public investment at high levels because you are restoring the public capital stock and as part of a Green New Deal may be prolonged but it is not permanent, and temporary increases in debt to GDP to finance investment make sense.

How China beat the Global Financial Crisis

If you were hoping for something on yesterday’s interest rate rise, I can only direct you to the leader in the FT today which says: “There is no compelling reason to increase the cost of borrowing in the UK, but there is definitely good cause to wait.” On why nine intelligent people could all make the same mistake, you have to question their mandate, and move to something that focuses on having the right environment for growth, as I do here.

I recently finished reading the latest book by Adam Tooze (of which much more in a subsequent post), and it reminded me of a story that was not told enough in the early days of austerity. Everyone knows about how quickly the Chinese economy has grown over the last few decades, and how strong exports have been an important part of that. In dollar terms the value of Chinese exports more than quadrupled between 2000 and 2007. By 2007 Chinese exports represented 35% of GDP.

An important characteristic of the Global Financial Crisis (GFC) was how quickly world trade collapsed. If we compare the beginnings of Great Recession after the GFC with the start of the Great Depression, while world industrial production moved in a similar fashion, world trade collapsed by much more in the Great Recession than the Great Depression. Here is a chart from Barry Eichengreen and Kevin O'Rourke’s ‘A Tale of Two Depressions Redux’ VoxEU article.

Trade collapsed in the winter of 2008 around the globe, without exception. This was very bad news for China. Whereas exports had been around 35% of GDP in 2007, they fell to around 25% of GDP in 2009. That is a big hole to fill, and if it wasn’t filled, there was a chance that Chinese growth would collapse completely with damaging knock on (multiplier) effects to the rest of the economy. Above all else, China feared the political consequences of the unrest widespread unemployment would bring.

As Tooze recounts, China’s reaction was swift and bold. In November 2008 it announced a stimulus package of public spending worth 12.5% of GDP. (The Obama stimulus package, by comparison, was around 5% of GDP.) “Over the days that followed [the announcement], across China, provincial party meetings were hurriedly convened …” Within a year 50% of the stimulus projects were underway. Some of this stimulus paid for what Tooze describes as “perhaps the most spectacular infrastructure project of the last generation anywhere in the world”, the Chinese high speed rail network. Monetary policy was also relaxed.

In 2008 as a whole, before the stimulus and hardly touched by the collapse in world trade, Chinese GDP grew by 9.6%. In 2009, when GDP in the advanced countries fell by 3.4%, Chinese growth was 9.1%. The stimulus package had filled the whole left by collapsing Chinese exports. (Source)

Basic macroeconomic theory says that a negative shock to GDP, caused for example by falling exports, can be completely offset by a monetary and fiscal stimulus. China is a good example of that idea in action. What about all the naysayers who predicted financial disaster if this was done? Well there was a mini-crisis in China half a dozen years later, but it is hard to connect it back to stimulus spending and it had little impact on Chinese growth. What about the huge burden on future generations that such stimulus spending would create? Thanks to that programme, China now has a high speed rail network and is a global leader in railway construction.

Now of course people will say that China is not like an advanced democracy, and it was not part of the global banking network that caused the GFC. But the US and UK stimulus programmes could and should have been larger. Those close to the action tell me that the UK was running out of things to spend more money on in 2008/9, but I cannot help think this amounts to a failure of imagination: it is not as if UK infrastructure is great, there are no flood defence projects left to do etc. Above all else China’s example tells you what a huge mistake 2010 austerity was.

Fake News UK style

So yesterday Jeremy Corbyn gave a speech which journalists had been given advance notice of. The Independent tweeted “Jeremy Corbyn to highlight economic 'benefit' of Brexit as he demands UK stop relying on 'cheap labour from abroad'” and referenced an article by their political correspondent Ben Kentish. As you might expect, the great and the good piled in to condemn the speech as anti-immigrant and pro-Brexit.

I was alerted to all being not what it seemed by this tweet from Financial Times Chief Political Correspondent Jim Pickard. He wrote: “Corbyn team is complaining that his words about "cheap labour" have been taken out of context and on this occasion they are absolutely right: he was talking about "imports" made abroad with cheap labour, not cheap labour coming here - here's the relevant passage. Please retweet.” My interest was aroused, but I could not find a copy of the speech online because it had not been given yet.

An example of the advantages of twitter follows. I asked in a tweet if anyone could provide me with the speech, and I received both the press briefing and the ‘check with delivery’ speech itself. You can now read the final speech in full yourself here, or watch an excerpt here. I then did something I do not think I have done before, and quickly composed a thread about the speech. The rest of the day saw lots of people using my own thread to correct others who had reacted to the original Independent tweet. If anyone wanted to notify me about anything else yesterday I’m afraid it has been lost in a mountain of what seems like thousands of notifications referencing my thread.

What we can say for certain is that the Independent’s tweet, which at the time of writing has not been withdrawn, is very misleading. Corbyn was not giving a speech about the benefit of Brexit, and the ‘cheap labour’ he referred to was that used to produce imported goods. Instead the speech was all about the active industrial policy that a Labour government would put in place to help manufacturing industry, which made sense as he was addressing a manufacturers organisation in Birmingham.

But surely he must of said something about the benefits of Brexit? The speech said this: “exporters should be able to take proper advantage of the one benefit to them that Brexit has already brought – a more competitive pound.” He suggested they had not because of the absence of any industrial policy. His statement about a benefit to exporters of the depreciation is innocuous.

To many Corbyn supporters this is just par for the course - it is happening all the time. I am no Corbynista, but I would agree. Much of the media, both Labour friends or foes, appears happy to distort things the Labour leadership says to an extent that I cannot remember happening to another Labour or Conservative leader in my lifetime. The macro evidence for this is the 2017 election, where Labour destroyed the accepted wisdom that election campaigns made little difference to the polls.

Labour’s extraordinary surge in the three weeks of the campaign is far too large to be due to just some mistakes by the Conservatives. The more plausible explanation is that both parties had direct access to the media, and for the first time voters were seeing the parties and their policies directly, rather than being filtered through media interpretation. This also helps explain why Labour’s position in the polls began to steadily deteriorate soon after their election bounce: the media filter came back on, with a constant stream of negative stories about Labour and its leadership. I have talked before about the contrast between coverage of Labour’s antisemitism problem and the Conservative’s islamophobia problem.

That is the context in which to see the events I described yesterday. A very small example of a much bigger and very serious problem. There is of course a lot you can say about the speech that is not misrepresentation. Is it right to be so focused on manufacturing when so much of our economy involves services, for example? Did it appear to promote an insular UK? For my own part I would be very critical to the reference to cheap labour. The reference occurs in the following sentence:

“We’ve been told that it’s good, even advanced, for our country to manufacture less and less and to rely instead on cheap labour abroad to produce imports while we focus on the City of London and the financial sector.”

This is a standard argument on the left against financialisation and City dominance, but the words ‘cheap labour abroad to produce’ are completely unnecessary, unless someone was trying their hand at dog whistling.

Can the misrepresentation of that tweet be forgiven in wanting to make this a story about Brexit? Well there is a Brexit story in the speech, and it is the opposite of the one suggested by the tweet. Corbyn is always accused of being a Lexiter: wanting to leave the Single Market so that he can use state aid to support domestic industry. Here is what he said on that:

“Too often, we have been told by Conservatives who are ideologically opposed to supporting our industries that EU rules prevent us from supporting our own economy. But if you go to Germany you’ll struggle to find a train that wasn’t built there, even though they’re currently governed by the same rules as us. When the steel crisis hit in 2016 Italy, Germany and France all intervened legally under existing state aid rules but our government sat back and did nothing. We have made clear we would seek exemptions or clarifications from EU state aid and procurement rules where necessary as part of the Brexit negotiations to take further steps to support cutting edge industries and local businesses.”

That, I would suggest, is not what a Lexiter would say.

When journalism becomes propaganda

A few days ago I took part in a Royal Economic Conference session on the implications of the Brexit vote. There is no need for me to describe how it went, as there is a good write up in the FT. By good, I mean that it was a fair reflection of what went on. Philip Aldrick, economics editor at the Times, took exception to something I said at the meeting on twitter.

Almost a month ago I wrote a post on propaganda. I used a definition borrowed from Jason Stanley, where intent was key. A good journalists provides what they believe are they key facts that the reader needs, while propaganda involves providing facts that advance the newspaper’s view. The interesting thing about this twitter conversation was that Aldrick thought that selecting facts to support the papers view was not propaganda, and that he thought it was what the other newspapers he named and I as an academic did.

Just to crystalise what I mean, take this article that recently appeared in the Telegraph. The headline (and remember this is all that many Telegraph readers will read) said “EU migrants without a job make up city the size of Bristol”. The article continued:

“EU migrants of working age living in the UK who do not have a job account for a city the size of Bristol, new figures have revealed. One in seven of the 2,733,000 EU migrants aged 16-64 - a total of 390,000 - are unemployed or “inactive”.

A survey by the Office for National Statistics does not give a breakdown of how many claim benefits, but those who are unemployed will be eligible for jobseeker’s allowance and may also claim housing benefit and child benefit. People who are “inactive” include those claiming disability benefits.”

The ONS survey can be found here. The fact that the Telegraph chose not to report was that 1 in 5 UK nationals was unemployed or inactive (excluding students). The reason that this is such a high figure is that ‘inactive’ includes mothers staying home to look after children, another fact that the Telegraph decided not to report.

The real story therefore is that migrants of working age are more likely to be working than UK nationals of working age. Other things being equal, this means that they will be paying more taxes and therefore contributing proportionately more to public services that UK nationals. By selecting which facts to report to their readers, the Telegraph turned this into a story about how many migrants were not working, and the amount of benefits they were collecting. In doing this, they were following in the proud traditions of the Mail, Sun and Express. 

Would you call this journalism or propaganda? There are a great many good journalists who would not want this described as the same as what they do, and it fits the definition of propaganda I gave exactly. Propaganda distorts the truth, and in a country like the UK good propaganda does not need to resort to lying about facts to achieve its goal. And of course it matters a lot. I suspect that stories like this are one of the reasons the state can treat migrants so badly in this country. 

Why it’s your bloody GDP, not ours

Why does the recovery mediamacro constantly talk about seem not to apply to most people? Aditya Chakrabortty tells the story behind my title better than I did here, and picks up the important regional angle. But there is more to it than that.

First, there is the abuse of language I talked about here. I make a strong case that recovery should only be used when GDP is catching up with a past trend. Instead mediamacro use it for any non-negligible increase in GDP. They are egged on, of course, by the politicians who are partly responsible for our failure to actually recover from the Great Recession.

Second is an old favourite. Mediamacro constantly uses GDP rather than GDP per capita. This makes a big difference when an economy experiences a large increase in immigration. This chart from an article in the FT recently attracted attention, showing that the UK was the only major economy over the period 2007 to 2015 to combine growth in GDP with a fall in real wages. (I assume below the chart means growth between 2007 and 2015, rather than between 2006 and 2015.)

If we use the latest ONS data, UK GDP did indeed grow by 7% between those years (0.85% average annual growth), but GDP per head increased by only 0.8% (0.1% annual growth). It is one of the great ironies of this period, and a largely untold mediamacro secret (because mediamacro hardly ever connects dots), that the government has relied on claims about GDP growth that were in large part a consequence of the immigration which they were at the same time complaining about.

GDP per capita is of course the relevant comparison for real wages. But the claim in the FT article remains true: the UK does combine growth in GDP/capita (albeit small) with falls in real wages. The chart below uses ONS data on average earnings deflated by the consumer expenditure deflator. [1] That is the relevant deflator to use, if you want to look at the purchasing power of wages. However if instead you use as a deflator the price of GDP as a whole, the GDP deflator, then you get a very different story. As the chart below shows, that measure of real wages has increased by a similar amount to GDP per capita between 2007 and 2015.

So what has caused the price of consumer goods to increase more rapidly than the price of total output? There are a number of factors, but I emphasised two in a similar analysis I did two years ago: the depreciation in sterling in 2008, and the increase in VAT in 2011. The impact of the later is clearly evident in the chart, but so is the depreciation if you recall that there was a temporary cut in VAT in 2010, which led to a short term fall in consumer prices. The depreciation raises after a lag the price of imported goods and therefore consumer prices, relative to the price of domestic output. [2]

The disparity between GDP growth and real wages is therefore due to a combination of three factors: immigration, which boosted GDP, a rise in indirect taxes and a depreciation which both raised consumer prices. If we focus on GDP per head, as we should, then very weak GDP growth caused by the global financial crisis and austerity was translated into negative real wage growth, because of the global financial crisis (the depreciation) and austerity (the rise in indirect taxes). We are not seeing a shift from wages to profits. [3]

If there is one overall message here, it is that since the global financial crisis overall GDP growth in the UK has been terrible, and austerity plus an exchange rate depreciation has made it even worse for real earnings. That the media have not presented it that way is an important reason why it seems like your GDP, not ours. 

This disconnect in mediamacro between GDP and real wages has been very evident more recently as well. On the one hand Brexiteers have made great play about the fact that GDP in 2016 has been much stronger than some had expected. The media has also noted how inflation is increasing, and earnings growth is flat, implying a squeeze on real wages. Yet the two facts are hardly ever brought together. If they were, they might note that the 1.8% growth that the Brexiteers are so proud of in 2016 falls to 1.1% if you take out population growth (immigration). And they might also note that any growth in GDP in 2017 is likely to seem like ‘your bloody GDP’ if real earnings fall because of the Brexit depreciation. (No wonder they are in such a hurry to start negotiations.) Another message of this discussion is that the media could try a little harder to relate GDP growth to average earnings, rather than treat them as disconnected events just because the statistics are published on different dates.

[1] The fall in real wages shown in this chart is a lot less than in the FT chart, but without knowing their exact source it is difficult to know why.

[2] If you are wondering how real wages managed to ride out the recession, there are two main factors involved. The recession reduced the share of profits in national income (as recessions generally do), and in addition there was a large increase in unemployment.

[3] The labour share (of GDP at market prices) did fall by over 1% over this period, but the profit share also fell. The share that increased was taxes, reflecting the VAT increase already noted.