George Osborne has to hold his nerve – the UK economy needs vision, not populism

 
Patrick Nolan
EVERY day the pressure grows for the government to do something about growth. Usually this translates into calls for more borrowing and spending, special rules for struggling businesses, or other eye-catching initiatives. The government should resist. Recent history has taught us such quick wins often end up being own goals. They make the business environment more complex, undermine investor confidence and damage productivity.

Nothing illustrates this short-termism better than yesterday’s launch of the Get Britain Building Fund, rightly criticised by Allister Heath in these pages. This approach would repeat the mistakes of encouraging sub-prime loans and developments nobody wants. It could have come straight out of Gordon Brown’s playbook. It has even been endorsed by Ed Balls.

This is populist tinkering with symptoms, not addressing the structural causes. If the government really wanted to get Britain building it would go further in addressing the planning system, which is notoriously cumbersome.

The government is drifting on growth and David Cameron and George Osborne are sounding more like Brown and Peter Mandelson by the day. This drift can be seen in areas from workplace regulations to taxation and infrastructure.

When it comes to workforce regulations, ministers are right to support flexible labour markets. Flexibility is not only good for employers but can improve the lot of employees. But the coalition has reduced labour market flexibility by restricting skilled labour from outside the EU, by apparently rejecting the Beecroft Review’s ideas on unfair dismissal and failing to implement Lord Young’s health and safety review.

The goal of a simpler tax system is also right. Yet some members of the government, along with the opposition, support temporary employment tax reductions for small firms. This will make the tax system more complex and is unlikely to work. Firms see through such short-term changes because while the tax reduction is temporary the hiring decision will be permanent.

The focus on small and medium-sized enterprises (SME) is also an unhelpful distraction. Policies should improve the business environment facing all firms. Larger firms are as important for productivity, growth and taxation. Large businesses of above 500 employees contribute 86 per cent of the revenue collected from business.

On personal taxes, the government is right to seek to abolish the 50p tax rate given its impact on highly productive individuals. Yet the smarter approach would be to scrap the 50p rate as part of a larger reform of the personal income tax system. This should include the integration of national insurance and income taxes, reform of the system of personal allowances and reform of the taxation of pension tax relief.

The government is being urged to bring forward spending on infrastructure to create jobs. Yet the days of building infrastructure with masses of manpower with picks and shovels are long gone. Modern infrastructure projects are capital intensive and largely employ skilled labour. They are unlikely to have an immediate effect on the unemployment queue.

By setting out a target to eliminate the structural deficit in this parliament Osborne got the big call right. But it is always easier to set a target at first and then, as people tire of austerity, there is a temptation to stop before the job is done. But easing fiscal plans, beyond the operation of the automatic stabilisers, would provide little or no benefit while incurring the cost of higher interest rates and would risk losing the government’s credibility with markets. The UK was living beyond its means before the crisis and the borrow now, pay later culture must end with a period of belt tightening.

Osborne would be only human if he wished that he were chancellor of a different economy, fully deleveraged and ready to grow. But, as the Chinese curse has it, he has to be chancellor in more interesting times. His task is to explain that what matters is not temporary factors but the underlying potential of the economy. This requires sticking to plan A to control public spending and introducing a set of consistent economic and business policies that improve productivity. The problems facing the economy are structural and they require structural solutions.

This will require making tough decisions and being clear on where government can add value, and where it does not. After all, real growth will not come from government but from a dynamic, highly productive private sector.

The government’s confidence in its basic economic approach has been knocked by slower than expected growth. But it must resist the trap of short termism. Osborne has a once-in-a-generation opportunity to shift the economic debate. He has to hold his nerve.

Dr Patrick Nolan is the chief economist of the independent think tank Reform. Reform’s report The Long Game is available at www.reform.co.uk