21 November 2016

If we want jam tomorrow, we need to get Britain growing


Philip Hammond will give his first Autumn Statement on Wednesday and the press has already mentally written the headlines: “Jam tomorrow!”.

JAMs are the latest Whitehall acronym, standing for those “just about managing” – whom, we are told, Theresa May has ordered him to help.

While doing something for those who work hard, play by the rules and yet still struggle to make ends meet is good, focusing just on this narrow group would be wrong. In fact, it would simply be to continue with the political style of chancellorship perfected by Gordon Brown and George Osborne.

Both, you may remember, started well, but allowed their tenure to degenerate into a zero-sum game, of robbing politically undesirable Peter to pay desirable Paul.

The result was endless tinkering and a tax system more confusing than the process for electing the Doge in 16th-century Venice.

Rather than go down that path, Hammond should see his chancellorship as a five year opportunity to put the economy on a fundamentally different and more productive path of faster growth in per capita GDP, led by supply-side reform, innovation, productivity and enhanced capital accumulation.

He also needs to do this while maintaining market and business confidence.

He must start by throwing his weight around in the Treasury, where the Budget process is somewhat lazily seen as revolving around producing the “Budget measures” table in the Red Book, showing a few tax rises here, and spending commitments there, all miraculously adding up to a surplus in a few years hence. That is the zero-sum game.

This process has succumbed to an intellectual disease prevalent ever since the invention of the Excel software programme: spreadsheet-it is. Imagination, common sense and vision are all forgotten, so long as the spreadsheet adds up.

Never mind that the inputs to its calculations might themselves be based on flawed assumptions, or defy reality.

We already have a flavour of what the spreadsheet is going to look like from the Institute for Fiscal Studies. The deficit has once again deteriorated both this year and further out, partly due to economic uncertainty arising from Brexit, partly due to an assumption that reduced foreign investment will lower the economic growth rate, and partly due to the latest round of money-printing by the Bank of England – which, for complicated reasons, has been added by the statisticians to the Government’s balance sheet.

Put all that together and public sector borrowing is likely to be £60 billion, not £55 billion, this year – and the debt to GDP ratio will be on the rise again, to more than 90 per cent of GDP by 2020. A surplus is a long way off.

The deficit is important of course, as are the JAMS, but Hammond should not be diverted by these short-term considerations.

Instead, he should embark on a policy of enhancing growth and productivity. If he gets it right and tells his story to financial markets and to business correctly, the deficit might deteriorate in the short term, but improve after that as economic dynamism sends more revenue tumbling into Treasury.

What are the policies he should consider? Here are four:

First, don’t accept the latest received wisdom in Westminster that globalisation has led to disastrous income inequality. The evidence does not really support this.

What is true is that a combination of globalisation and quantitative easing by central banks has led to serious wealth inequality, especially between generations.

In Britain, this has been made worse by our dysfunctional housing market. The planning system restricts supply, but what is not sufficiently understood is the role of building regulations and also stamp duty.

These combine to reduce transaction volumes (their level is still below that of 2006), hold back new supply and distort the new-build market towards one- or two-bedroom flats.

The answer to this is a complete overhaul of stamp duty. It should be reduced to a flat 1 per cent levy on both buyers and sellers for any property size or type (including commercial).

By massively reducing transaction costs, construction and refurbishment of proper houses would be stimulated, thereby generating additional tax revenue in future years.

Above all it would be a welcome mat for foreign investors supposedly deterred by Brexit. Just about every investment decision has a property aspect – and the current stamp duty system is a deterrent.

Second, Hammond should reform the student loan system. This is a total disaster which has, for some reason, hardly featured on the political radar. But in summary, the interest rates are far too high – and are set to rise further, to 6 per cent or more.

Already more than one in 10 loans are in default. And those in their 20s and 30s generally have a negative net worth, compounding at an absurdly high rate.

The Chancellor should cut the rate to be in line with the Government’s own borrowing costs and make loan repayment free of income and inheritance tax.

Third, with bond yields so low and a backlog of investment, now is indeed the time to borrow for infrastructure spending.

However, this should done not by the Government itself but via officially mandated private-sector projects (such as airports, toll roads or broadband), funded via a new project bond market.

Fourth, corporate taxation. Osborne’s policy of cutting the rate of corporation tax for large companies does not reflect the additional risks entrepreneurs take, or the social and economic benefits of the new ideas, innovation, new jobs and competition created by small companies.

Hammond should therefore freeze corporation tax for large companies at 20 per cent and instead reduce corporation tax for small companies – or better still eliminate it altogether, as Lord Saatchi recommended a few years ago. Investment allowances should also be increased across the board.

Those mythical JAMs are, on closer inspection, much like the British economy as a whole: squeezed between the two crusts of an incompetent state on the one hand and economic distortions on the other.

By taking a long term, market-based approach, Mr Hammond can sweeten all of our lives.

George Trefgarne is the founder of Boscobel & Partners, a communications firm.