Macroeconomics: UK economy, IB Economics

The Observer makes the case for an incoming Labour government to alter the focus of tax policy: away from tax cuts for the rich and in favour of measures to reduce child poverty, arguing that not only is there a moral imperative but that it makes economic sense too, not least given shaming levels of child poverty.

It's an interesting argument and revolves around one of the fundamental questions that underpins contemporary economic thought. Incentives. 

Free market economists will tell you that lowering taxes on the rich incentivizes them to work harder and be more innovative; equally, offering more support to the poor reduces the incentive for them to 'strive'. And yet, it's taken for granted that the MPC of the latter is higher than the MPC of the former, so increasing their incomes is likely to have more of an effect on consumer spending and thus aggregate demand. 

That, in a nutshell, is the central policy dilemma - demand-side v supply-side; rich versus poor

The EU's Climate Service has highlighted the fact that the 2015 pledge to limit long-term temperature increases to 1.5C above pre-industrial levels is already under threat and that there's need for action to cut carbon emissions.

It's a lovely example of a basic co-ordination problem, the absence of accountability in the setting of these targets and reinforces a central tenet of economics, that people need to be incentivised to act appropriately, to counter global warming.

Will Hutton ponders the abolition of Inheritance Tax, arguing that even though the tax doesn't generate an awful lot of revenue, it's an important bulwark against perpetuating inequality. He also looks to debunk the notion that its abolition will unleash a wave of entrepreneurship, again, something for which there's little to no empirical evidence. 

This article highlights the fact that the cost of living crisis has increased shoplifting. This is self-evident: the incentives involved imply that this will be the case, and the article highlights how widespread it is. But, you might argue have social mores also altered? 

Oh dear! Now the serious analysis of the Budget has started, the real nature of the promises becomes apparent, starting with this IFS research. 

According to them, the cost of the schemes designed to get people back into the labour force, are likely to encourage 110,000 more people back into work but at a cost of around £7bn per year - or 70,000 per job.

To put that in perspective, net migration, which costs nothing to incentivise, and assumed to be around 245,000 people per year is much more successful in enlarging the labour force.  

I spotted this article yesterday but wanted to give it a bit of thinking time - it's fundamentally about incentives though.

In short, Britain now has 8 million people working part-time and nearly 9 million people of working age are economically inactive, which represents an economy working well below its productive capacity, and makes you wonder whether we should be more concerned with under-employment that unemployment. 

So why aren't people returning to full-time work? This article suggests that the incentive structures created by the current benefit system, the cost of childcare and lifestyle choice all play a part. And none of these factors are going to be cured by a Chancellor pleading for people to return to work. He should be asking whether he'd be willing to work triple his monthly hours to earn £100 extra per month. Of course, the reality is that were a former government minister 'working' for 11 hours per month in another job, they'd be expecting to earn a sizeable six figure salary. 

It seems that the Budget might be bloody - it's almost as if the Treasury are already starting to 'spin' a low tax version, presumably on the basis that if they can't afford to increase public sector pay, then they can't lower taxes either.

Of course, free marketeers would say that public sector workers don't deserve higher pay because in the public sector there are fewer incentives for them to be efficient, not least when their jobs and pensions seem so secure as to encourage 'laziness' (note: you'll not catch them saying it, but it's what a number of them think!).

And from a political point of view it's interesting, because I suspect the same group see lowering taxes as their only chance of winning the next election.

Chris Mullin's views on taxation are unorthodox, in as much as he's upfront about where his priorities lie, and that alone is refreshing.

In this article he makes a case for tax rises - and not tax cuts - to fund public spending, arguing that we've been deluded by politicians of all hues into wanting Scandinavian public services with US levels of taxation. 

This is a genuinely interesting article in that it doesn't go for the obvious solutions, such as singling out the rich alone for higher taxation, but rather argues that we should all be paying if we want those public services that we seem to. As a result, he suggests increasing the basic rate of income tax to 22p.

However, you might construct a case opposing this move - not least it's effect on the incentives to work - and whether or not increasing tax revenues necessarily makes public services less efficient. And once again, it raises plenty of trade-offs for you to think about.

Larry Elliott sets out the week ahead - the latest MPC interest rate decision and, subsequently, the mini-Budget being delivered by Kwasi Kwarteng. Both promise to be worth watching!

However, for all the tax about the need to reinvigorate growth - and you'd have to worry if Liz Truss thinks that she's the person to do this - Elliott's point is a fairly fundamental one. For all the talk of deregulation, the UK is already relatively deregulated to many of our trading partners. Thus, it may well be that the real issue holding back growth is much more fundamental - a lack of investment, and, a lack of supply-side capacity. This has been something that has been a feature of my now 28 year teaching career, and no-ones been able to find an obvious solution. 

And perhaps economic theory can explain why: the payoff to meaningful supply-side reform is such that short-term, careerist politicians have little incentive to implement it. 

Evidence of the sort of criticism that has driven the unusual volume of spin emanating from the Treasury today. 

I don't disagree with the Chancellor's view that he can't do everything - but the fuel duty cut? Come on, that's no defence. It's just a dreadfully thought out policy designed to appeal to popular opinion. Let petrol prices rise; you never know, it might incentivize some wealthy car owners to switch to an electric car. 

Who would have thought it - if it takes 300 years to be investigated for non-compliance with the minimum wage, who would have thought that firms would have taken the government's furlough scheme money to pay salaries and just told their workers to carry on as before?

They say that Economics is all about incentives - ain't that the truth.

I think that this might be the most interesting aspect of the Budget - there seems to be a sense that the Conservative Party are looking at the abolition of National Insurance, ending the 'double tax' on work. IT seems a common sense thing to do - although it will cost the government £46bn per year and have interesting distributional effects, not least for pensioners who are liable for income tax but not NI.

Watch this space; I don't think it's the worst idea in the world and might go some way towards improving intergenerational equity because it would redistribute some money away from wealthy pensioners 

Faisal Islam with his assessment of why tax cuts are inevitable in the Autumn Statement - it's in line with the consistent messaging of the past week, and the fact that the government trail the Opposition by such a margin in the opinion polls. 

But what will the tax cuts look like? Well, I'm going to suggest that tomorrow's going to see tax cuts focused on encouraging investment and perhaps a reduction in National Insurance to incentivise work and that the next Budget will be all about pre-election bribes - i.e. income and Inheritance tax cuts. 

The TUC, once again, argues in favour of a wealth tax, suggesting that such an intervention affecting the richest 140,000 people could raise over £10bn. I suspect the reality isn't that straightforward; equally, in the grand scheme of things, £10bn isn't an awful lot of revenue.

That said, I don't buy the argument that such a wealth tax would be much of a deterrent - yes, it might deter at the margin, but what about those increments to wealth that are effectively economic rents?   

Another day, another trade-off: this time Christian Aid make the case that a 0.5% wealth tax would pay for the UK's share of an international loss and damage fund to compensate countries for the worst effects of climate change.

Superficially, this has appeal, but it's far from good economics for many, many reasons - you might have a think about why, reflecting on incentives, and the unintended consequences of such a move. 

Larry Elliott reflects on the confusing nature of current labour markets, with the Chancellor set to try and encourage people back into active labour market participation at a time when most of the data suggests that the labour market is doing well - with low unemployment and high, but falling, vacancies and the suggestion that real pay is also just starting to moderate. 

And this indicates a fundamental problem with policymaking - like good comedy - timing is key and at the moment it could be the case that the lag between the changing economic environment and policy being implemented might result in inappropriate policies being adopted.  

This sort of thing is seen by many as peripheral - and in one sense it is - but in another it's a fundamental problem with current labour markets, and may contribute to rising in-work poverty. Changing benefit rules have created a class of people trapped in low-paid jobs with little prospect of promotion and there's some fascinating material about the effective marginal tax rates of moving into part-time work from benefits and from part-time work to full-time work, with the latter more heavily penalised since the late 1990s. 

It's a great introduction to the concept of under-employment too. 

It seems as though there's greater incentive for saving: a rise in easy-access savings rates has increased the opportunity cost of consumption and is encouraging saving. Expect to see a rise in the savings ratio and, of course, a decline in consumer spending and, by definition, economic growth. 

What with food price inflation reaching a record high, with grocery prices soaring by 13.9% last month - meaning that average grocery bills are now nearly £650 higher than they were a year ago - consumers are looking at ways of mitigating these rising costs.

As a result, it's unsurprising that Kantar's research suggests two things: consumers substituting in favour of so-called "wonky veg", the cheaper, less aesthetic vegetables offered by some supermarkets; a rise in purchases of frozen vegetables which are likely to generate less waste. 

So much for the £150 Council Tax rebate! It seems that low income households are having to wait longest for it. National Energy Action reports that local councils are struggling to administer the rebate - and again, think of the role of incentives here: do they have much incentive to give money away?

Strange to relate, but whilst the Prime Minister wants UK workers to be more 'German' in terms of staying away from work when infected with the coronavirus, he's also keen to overlook that the thing that's most likely to incentivise this - the rate of sick pay - in much more generous there. 

Indeed, whereas German workers get paid 100% of their income for the first six weeks of their illness, with the payments kicking in from day one, UK workers can expect to get around 19% of their income, and in the next month that's going to revert to pre-pandemic norms and only be payable from day four. We're all in this together - apart from when we aren't...