Last Thursday, the Monetary Policy Committee (MPC) of the Bank of England announced that it had raised interest rates from 0.5 per cent to 0.75 per cent. Apart from the fact that this is the highest they’ve been since March 2009, nobody was too surprised.
Mark Carney stated that the economy had the potential for some surplus demand and that it had reached its speed limit. As such, the MPC was concerned that the supply capacity of the economy meant that as demand increases due to increasing wages, supply might not keep up and so inflation would increase. Whether or not this was the right call remains to be seen. Inflation targeting is a notoriously tricky business, and so there should be reform of open market operations to reflect this, with a policy that instead targets nominal GDP being introduced.
Economic growth is incredibly important. It improves the standard of living of the population, provides people with more money with which they can buy new and better things, and allows us to live longer, happier lives. It has also been the driving force which has lifted countless people out of a life of subsistence and squalor over the past 200 years, and the last 40 years in particular.
However, as Mark Carney’s reason for raising rates reveals, we cannot have sustainable economic growth without the supply side of the economy keeping up. Otherwise, we risk inflation getting out of hand which will erode hard-earned savings and drive up prices – exacerbating the cost of living crisis for the very poorest people in the country.
The Bank is right: we are probably at a rate of growth that is reasonable, however, it does not have to be this way. Singapore, Hong Kong, and the United States are all enjoying robust economic growth. So, what is their secret, and how can we replicate that growth in the UK?
The solution is simple: we need a party committed to implementing far-reaching supply-side reforms.
Take housing, for example. As most people have probably found out at some point, renting a house in a major UK city is very expensive, and the prospect of owning your home seems unattainable. The reason why housing is so unaffordable in the UK is due to the very restrictive planning system which contains a plethora of pointless rules and regulations and does not allow for developers to build on the green belt. This decreases the supply of housing and so drives up prices. Far from the free market causing the crisis, the opposite is true: we are in this state of affairs because we have stifled and restricted the market for successive decades.
And it follows through: high housing costs contribute to the cost of living crisis experienced by many people in the UK. A restrictive planning system also prevents people from moving to highly productive areas and so overall productivity is lowered, hampering economic growth. Liberalising the planning system so that the country can build more houses would, without a doubt, increase productivity and boost economic growth.
There is also the issue of corporation tax. This is a productivity killer as it discourages businesses from investing in their firms or from moving from high-tax jurisdictions to low-tax ones. It is, in the words of Helen Miller, Associate Director of the Institute For Fiscal Studies, “one of the more damaging taxes on growth”. There is a great deal of research which supports this. For example, one study found that higher levels of corporation tax adversely impacts the level of investment by businesses.
We also need to think about transport infrastructure. Making journeys – especially to work – takes far too long. Congestion on the roads and railways lowers productivity by producing longer and less pleasant journeys. And although rail prices are expensive, they are actually cheaper than they should be, due to the very generous subsidy provided by taxpayers. This simply encourages more people to use the railways when they would not otherwise, resulting in overcrowded trains.
So, the Government should scrap rail subsidies, refrain from interventionism and let the market do its job. It should also allow more private investment in the construction and maintenance of the highways, allowing more roads to be built and, in turn, reducing congestion. It could also – if it wanted to truly seize the opportunity – abolish vehicle excise duty, lower fuel duty and introduce a carbon tax. Such decisions would reduce the burden placed on motorists while ensuring that the environmental damage caused by carbon emissions is reduced.
Removing the shackles currently stifling the market, cutting taxes for low earners, embracing free trade, abolishing capital gains tax and stamp duty on homes, thorough deregulation on goods, and reducing government spending: these are just a few of the supply-side reforms which would improve productivity and boost economic growth.
But we must also consider Brexit. Leaving the European Union gives the UK a unique chance to boost growth. However, it has to be done properly. Remaining a member of the Customs Union would mean the continuation of restrictions in the form of tariffs on products entering the UK from outside of the European Economic Area. Economists from all across the political spectrum accept that such barriers to trade hinder economic growth and stand in stark contrast to the overwhelming evidence that free trade increases productivity and economic growth. Therefore, leaving the Customs Union and embracing free trade with the EU and the rest of the world is crucial to Britain’s future success.
We could do this and secure the confidence of the business community by joining EFTA, at least on a temporary basis. This would allow the UK to extricate itself from the worse aspects of the EU and ensure that we could strike free trade deals with the rest of the world, while also ensuring that we have full access to the single market and workers can still move freely to the UK. Such a plan would help to improve the prospects for business in the UK and, therefore, increase investment.
There is no reason why the UK should not experience the high levels of economic growth enjoyed by other countries around the world. But the fact is we choose to hinder ourselves by implementing damaging government policies. If we want to see high levels of growth, we need a government with the backbone to implement the far-reaching reforms to match the challenges of our time.