WHISPER it, but things finally seem to be looking up. Investment is rising, unemployment is falling, and the deficit seems to be coming under control. But it could be a lot better. Real wages will not recover to their pre-crisis peak until 2020. And expected growth of 2.7 per cent this year is well below what we might expect in a real recovery.
The question is, how can we get the strong growth we all want? Tax cuts are nice, but hard to sell as long as the deficit remains large. And calls for business deregulation are often too vague to be useful. But there are clear areas for reform in planning, immigration, and money, and none would threaten the deficit. Reform these areas – the PIMs, we might call them – and real, booming, sustainable growth will come.
Planning reform would give the economy the most immediate boost, particularly in London. House prices have skyrocketed in the capital, having risen in the past year by an eye-watering 17.7 per cent. In most parts of the UK, prices are still lower than they were before 2008, but in London they are nearly 25 per cent above their pre-crisis peak.
Demand for housing is rising because more people want to live in London, but the planning system prevents enough new homes from being built to meet this extra demand. Research published in 2011 by Aida Caldera Sanchez and Asa Johansson showed just how unresponsive the UK market is to price changes. In the US, a 1 per cent increase in house prices will trigger a 2 per cent increase in supply. In the UK, a 1 per cent price rise tends to bolster supply by just 0.4 per cent. Reforming planning would allow tens of thousands of new homes to be built in London alone.
Root-and-branch liberalisation would be best, but is probably not politically feasible. Yet there are small steps we should take. First, the government should roll back the green belt around London by one mile. This, according to LSE analysis, would create space for more than 1m new houses, all within travelling distance of central London. Next, the government should get rid of most of the height and visibility restrictions to make high-density construction easier. The ensuing construction boom would be phenomenal – an example of real wealth creation – and would probably add a few points to GDP. The fall in housing costs would be a nice bonus.
Immigration reform is trickier, but could be even better for long-term growth. The net migration cap is voodoo economics, but it exists for political reasons. So we must consider “keyhole” policies that improve a bad system.
Abolishing any cap on highly skilled immigration, in particular, would be a boon to UK firms, allowing them to import the best talent the world has to offer. Similarly, scrapping the cap on student visas would revitalise the higher education sector, a strong export earner. Both seem viable: less than a third of the public objects to highly skilled or student immigration, compared to nearly two thirds who object to low-skilled immigration.
In the longer term, we should move to a system where immigrants can buy work visas for a few thousand pounds to insure against benefits dependency, while scrapping the migration cap altogether. More immigration would attract the world’s entrepreneurs and help prevent the cost of Britain’s ageing population from leading to a fiscal crisis.
Monetary reform is the most wonkish item on the PIMs agenda, but is crucial to improve the overall macroeconomic environment and prevent future recessions. The Bank of England’s Monetary Policy Committee should be scrapped; the discretion of its “wise men” replaced by a simple, predictable rule that requires the Bank to target the level of nominal GDP instead.
This target, which includes both real GDP and inflation, would avoid both the hidden inflation in booms and the demand shocks in busts that lead to widespread recession. Under this regime, a real shock like an oil crisis would lead to purchasing power falling, but would avoid the mass unemployment and bankruptcy that demand shocks have caused in the past.
By binding the Bank to a strict rule, markets would also have no reason to panic over tightening money, as happened in 2008, when central bankers’ incompetence led to economic collapse. Implementing a predictable, rules-based policy that offset inflation in the good times, and stabilised spending in the bad times, would be the best way of giving markets the macroeconomic confidence they still lack, and prevent big busts in future.
The deficit-neutral PIMs trifecta is this: planning reform gets us growth now; immigration reform secures it in the long term; and monetary reform safeguards against recessions. Some of these policies may be unpopular initially, but they would deliver enormous returns. Fortune favours the bold, as they say.
Sam Bowman is research director at the Adam Smith Institute.