Autumn Statement: Economy
| Tuesday, November 29, 2016
My Lords, it is always a great pleasure to follow the noble Lord, Lord Desai. I will take up one or two things he said, but a preliminary question that occurred to me is: if the private sector is so flush with money, why is it not investing more of it? Why does it need government help to do so? The answer that occurs to me is that the private sector does not see sufficient demand to justify the kind of investment that would employ those funds that are sitting idle. I will come to another point made by the noble Lord on the OBR in a moment.
As a long-term critic of the Government’s economic policy, I recognise that the Chancellor’s Autumn Statement has some good news in it. He has relaxed the absurd commitment to balance the budget by the end of this Parliament. That is good news. Instead, he has allowed for discretionary fiscal policy of up to 2% of gross domestic product in his fiscal rules for the coming Parliament. Mr Hammond has also paid lip service to public investment and productivity, with a small sum set aside for a national productivity investment fund. That is a welcome change of tack. We inch closer to the views I have been advocating in this House and elsewhere for eight years: public investment, not austerity, is the appropriate response to depressed conditions.
We have recently been treated to a remarkable insight into Mr Osborne’s state of mind as austerity took its toll on the British economy and his own sense of mental stability in 2012. In an interview with a journalist he said:
“I got myself into … a hole”.
He said he shut himself in a room and stopped listening to people who disagreed with him. This was the Chancellor of the Exchequer in 2012. He got into this hole because his policy was not working. If he had listened more he would probably still be Chancellor, Brexit would probably not have happened and the British people would certainly have been better off. His austerity policy cost the British people dear—and it cost him dear.
I have to disagree with the noble Lord, Lord Livermore, who is not in his place, when he said that the fiscal targets were trumped by Brexit. The fiscal targets were trumped because they were wrong. They were based on a theory that fiscal consolidation would cause the economy to grow faster. In fact, it caused it to grow slower. That is why George Osborne missed his targets; it had nothing to do with Brexit. Mr Hammond has wisely abandoned those targets, using Brexit as an excuse. The Government have not yet reached that point of honesty when they can say, “We were pursuing the wrong policy”. Instead, they put up a European smokescreen to cover their retreat.
I welcome the Chancellor’s commitment to public investment, but we must recognise how limited it is. He proposed to spend £23 billion extra over five years. That is not nearly enough to reverse the fall in public investment since the Conservatives took office. To get public investment back to the 3.4% of GDP it was when Labour left office, he would have had to commit not £23 billion over five years but £130 billion over five years—so let us keep the change of tack in perspective.
Further, the Government have emasculated the role of the National Infrastructure Commission of the noble Lord, Lord Adonis. The original idea was to empower it to oversee and co-ordinate key infrastructure projects. Now it is just advisory. The departments have made sure that they keep control over all the investments. That is a pity. The idea behind the National Infrastructure Commission was that there should be independent monitoring of investment projects that would keep its distance from political interference—but that apparently has been abandoned.
The Chancellor is rightly concerned about the collapse of productivity. It was chugging along at about 2.2% a year in the decade before the recession and since then it has fallen to below 0.5% a year, taking the period as a whole. The Chancellor has promised £2 billion extra a year for research and development. That is good—but the British problem has never been lack of research but the application of research to business, the source of productivity. As the noble Lord, Lord Desai, rightly said, this has been a British problem for a long time. The problem of productivity is very difficult. There is no simple answer to it. There is a close, though complicated, connection between education, training, investment, productivity and jobs. Here I want to highlight the role of the distribution of jobs in our productivity situation. This has been a job-rich but productivity-poor recovery.
In my view, the collapse of productivity is the direct result of the jobs that have been created since 2010. Between 2007 and 2015 the real hourly wage in the UK dropped by 10.4%—a fall equalled only by Greece in the OECD. This is consistent with the shift from capital-intensive to labour-intensive jobs: in other words, a big increase in the proportion of low-wage, service jobs. If you have that, you are going to get a fall in productivity. Reversing the productivity decline requires investment in good-quality jobs and in industrial strategy—I will come to that in a second—not just small dollops of money for training. Training for what?
The noble Lord, Lord Hennessy, gave a very amusing account of industrial strategy—and it was accurate, as far as it went. There have been many industrial strategy policies, one after another: seven, I think he said. But were they all failures? I do not think that they were. There were losers and there were winners, but that is also true of the private sector. I do not think that industrial strategy has been by any means as bad as that account suggested. The more telling point is that France and Germany—much more successful countries than we are—have also had industrial strategies. Why did theirs succeed while ours did not? Are we uniquely bad at industrial strategy? This seems to be an unsolved problem. It is just assumed. The narrative is that we are hopeless at industrial strategy and that we always pick losers—and then we point to other countries that pick a fair proportion of winners. Japan is another example I could give. So there is something lacking in the explanation.
I want to end by saying something about the role of the Office for Budget Responsibility. It was set up,
“to examine and report on the sustainability of the public finances”.
There is a little issue here because the public finances were supposed to be based on its forecasts. So, in effect, it was set up to monitor the sustainability of its own forecasts. We are surely one monitoring body too short here. In June 2010, the OBR made a set of forecasts about the growth in key economic variables over the following six years. The noble Lord, Lord Desai, accuses the OBR of excessive pessimism, but surely he remembers that in this period all its forecasts were excessively optimistic. It predicted that the economy would grow by 17.2% in that period. In fact, it grew by 12.9%. Investment was predicted to increase by 47.1%. In fact, it only grew by 21.8%. It said that productivity would grow by 12.8%. In fact, it grew by 2.5% over the six years. It was consistently overoptimistic. Now, on the basis of four or five months, we accuse it of being too pessimistic. I think we have to take the record as a whole. It is neither continuously overoptimistic nor continuously underoptimistic; it is just continuously wrong.
There are two reasons for these divergences between forecast and outcome. The first is radical uncertainty. Economics is not physics, and no group of economists will ever be able to predict large bits of the future accurately. The OBR is doomed to make mistakes. Why then do we pay attention to these forecasts, when most are fictional? The answer is that we have nothing better. Sure, we have to use the best data we have, but we must not treat them as gospel or believe that they exclude the need for judgment by politicians on what is sensible. We do not currently know what form Brexit will take, we have no clue as to what a Trump presidency might be like, and Marine Le Pen may become President of France in their next general election, yet in the Autumn Statement the Chancellor pronounced that public sector borrowing at the end of this Parliament will be at its lowest in two decades. That means absolutely nothing. We can put no reliance whatever on that, but it is on the basis of OBR forecasts.
The second reason for the divergence between forecast and outcome is more profound. I admire the OBR for its political neutrality and professionalism, but it is naive to believe that it is theoretically neutral. All forecasts must be based on an underlying theory of the economy. These supposedly “scientific” predictions are treated as gospel because of the political independence of the OBR: as a result, the economic theories underlying them are not subjected to public scrutiny at all. They are hidden in mathematics and models, lending them a false air of objectivity. We have seen this time and again. The OBR’s theory of the economy ignored the damage to productivity that austerity would produce. The IMF has constantly underestimated the fiscal multipliers. Now it has changed its tune and said that it did underestimate them and cried mea culpa—but the OBR has never properly explained why its forecasts are bound to be as imprecise or inaccurate as they have turned out to be.
I am as big a critic of economics as anyone in this House—I do not think that economics has a very sympathetic audience here and I am critical of it, too—but sometimes it is better to get the theory right, especially when the lives of nations are at stake.
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