General Election 2017: Westminster’s obsession with expanding the state is a threat to 21st century growth

Graeme Leach
The UK Hosts The 2017 Somalia Conference
Theresa May has been called a "Red Tory" for her interventionist ideas (Source: Getty)

One of the most astonishing aspects of the latest General Election campaign is the complete absence of any debate about the size of the state.

Indeed to the extent that there is any debate, it is about how to increase not decrease the size, with speculation as to whether or not the Prime Minister is a “Red Tory”.

Debates over the size of the state are seen as old hat, 1980s arguments that we left behind long ago. But academic evidence for the negative impact of a large state is much stronger now than it has ever been.

Let’s examine three aspects: the scale of tax and spend; the nature of the tax system; and the impact of regulation. Readers of this column will be familiar with the first aspect, namely the compelling research base, accumulated over recent years, that an increase in the size of the state equivalent to 10 per cent of GDP potentially reduces annual GDP growth by between 0.5 and 1.0 percentage points.

But there is much more. The most recent IMF Fiscal Monitor (April 2017) examined how to boost total factor productivity growth by eliminating tax barriers which hold back productive firms.

In other words, how to adapt the tax system to promote a more efficient allocation of capital and labour, by reducing the distortions that prevent resources from going to where they are most productive.

According to the IMF, addressing these issues could potentially lift real GDP growth in the advanced economies by around one percentage point per annum for 20 years.

Red tape reduction

The size of the state is not measured simply by tax and spend. The overall size – a total intervention index – also has to include the impact of regulation. Recent evidence for the US shows that regulatory barriers have slowed the GDP growth rate by approximately two percentage points per annum since 1949. A mind-boggling number, suggesting the GDP growth rate could have been double the 2 per cent recorded rate over the period.

These numbers (one per cent here, two per cent there...) may seem relatively minor. However, small changes in output today lead to enormous changes in living standards tomorrow, as they are compounded over time. Over decades, a modest degree of economic freedom vastly increases a population’s wealth.

General Elections remind us that we have political freedom, but unfortunately we have a tendency to think that the freedom debate stops there. It doesn’t. In the words of the American philosopher John Tomasi, there is a need for “a much thicker concept of economic liberty.”

Nobel Laureate James Buchanan has warned that interventionist policies could thrive in the 21st century because of a socialist parental role for the state.

The implications are stark. For example, consider our ageing population and the cost of medical and social care – perhaps around 5 per cent to 6 per cent of GDP – and you see that the role of the state is not shrinking, not by a long shot. Indeed, the Conservatives’ retreat on social care speaks volumes in itself, and signals the dangerous direction in which we are heading.

City A.M.'s opinion pages are a place for thought-provoking views and debate. These views are not necessarily shared by City A.M.

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