This policy paradigm has become the most important factor holding back economic revival. State support is propping up too many firms and jobs that have no sustainable future. Resources are stuck in low-productivity areas and in zombie businesses – businesses that are too weak to invest in their underlying operations but have enough income from somewhere to survive.
This blocks economic restructuring and frustrates the potential of innovative business investments to have a wider positive impact. A zombie economy is not the intention; rather, it results from the short-termist muddling-through approach that recoils from the disruptiveness of change. The repeated attempt to stabilise the economy has frustrated capitalism’s creative-destructive tendencies. Depressed economies need disrupting, not preserving.
Ultra low interest rates from central banks are at the forefront of contemporary stabilising policies, with the specific effect of fuelling a debt-based spending-sustained economy. Easy monetary policies keep demand for business output artificially high, while cutting the debt service costs of barely profitable businesses. Not only do these palliatives perpetuate decay and depression, similar policies were the immediate cause of the bubbles that burst in 2007-8. Yet successive British governments and other governments of mature economies seem committed to this path. Their reluctance to countenance disruption to economic life dominates the day-to-day, even though these policies invite financial crises at some future date.
The possibility today of a better economic future depends on breaking this pattern. Much will change with Brexit. We have already seen the currency fall significantly. It is probable that export markets will change, that the reasons for inward investment will change, that opportunities will change for the financial sector, and much more besides. All this change offers the possibility of reversing the decades-old decay in the economy’s capacity to create new productive sectors and generate decent, well-paying jobs. Policies are needed that take advantage of these new circumstances to help shake the economy out of its torpor.
Attempts to stabilise the economy have frustrated capitalism’s creative-destructive tendencies. Depressed economies need disrupting, not preserving
The policy indications since the referendum have been far from encouraging. The dominant political and business reaction has been to urge continuity. We have had repeated reassurances that not much really needs to change. Worse, we are promised actions will be taken to minimise the economic effects of Brexit: for example, to retain as much as possible of the old economic relationship with Europe’s single market.
Yet such resistance to change condemns the economy to the continuity of stagnation. The biggest economic threat today comes not from the changes resulting from the referendum vote but from efforts trying to prevent change happening. It comes from a continuation of the timid, risk-averse, muddling-through policies that put stability first. To counter this, we need a vibrant national debate about how Brexit can help us realise economic renewal. Here is a five-step plan of initiatives for consideration.
Step one: Acknowledge we’re stuck in a depression
A constructive way ahead has to start with realism. The first step towards restoring economic dynamism is to recognise the scale of the crisis in production. Instead, successive governments have failed to admit the economic problem. When this has been impossible, as in 2008-09, the government evaded the economic crisis’ domestic roots by blaming foreigners and asserting that things at home are really fine.
Politicians on both sides of the referendum debate have continued with this pretence. Remainers claimed Britain had done well inside the EU and that to exit would endanger this position of economic strength. Leavers rejected the forecasts of disaster mostly on the grounds that these were talking down a fundamentally strong economy that could easily handle the shock of exit.
The Brexit vote has exacerbated economic anxieties, but the underlying problems in the economy were not caused by these anxieties. Rather, the vote has brought long established trends to the surface. For example, people are rightly concerned about the funding of Britain’s current account deficit. It would be much better, though, if this were recognised as a wake-up call that no country can live beyond its means forever. The deficit, going back to 1984, is simply the accounting expression of more money going out of the country to pay for importing goods and services, and for returns on foreign-owned assets in the UK, than is coming in from selling goods and services abroad, and from the earnings on British overseas holdings.
Rather than fret about whether foreigners will continue to fund this annual deficiency, it would be far better to do something about the source of these persistent deficits; namely, the inability to produce things efficiently and cheaply enough, either so as not to be so dependent on imports, or to be more successful in exporting. We need to take off the blinkers, stop worrying about symptoms, and address with gusto the core problem of inadequate productivity.
Step two: Invoke Article 50 immediately
The purpose of invoking Article 50 now is not to prioritise negotiating Britain’s future relations with the EU. Rather, implementing Article 50 fulfills the democratic mandate of 23 June to change things and take back control. It gets us on the road to leaving the past behind and focusing on creating a better future. That means embracing the new opportunities, not fighting to retain the economic relationships of membership.
Delaying Article 50 turns it into an obstacle in the way of change. Invoking it is simply a technical trigger for negotiations to start between the EU and Britain over a ‘withdrawal agreement’. The Article 50 mechanism cannot be allowed to water down the Brexit decision, creating an excuse for a two-year, or more, hold on change. Triggering it is also not a reason for the government to move slower than possible, or for it to focus primarily on the relationship with the EU. The withdrawal agreement is not supposed to nail detail but to take into account a ‘framework’ for the future relationship.
The agreement doesn’t need to take two years. It could be negotiated in a month, or six months, or a year. The two-year limit specified in Article 50 is simply the maximum time for which the EU Treaties would remain in force in the absence of a withdrawal agreement (unless the EU member states agreed unanimously to extend this period). In particular, there is no need to secure a trade agreement with the EU as part of, or before, agreeing the terms of withdrawal. The framework specified could simply outline the mutual desire to negotiate a free-trade agreement, something Britain should commit to now.
Nor does Article 50 stop Britain acting unilaterally to make other immediate changes. Taking back decisions on things to do with the UK motivated many of the 17.4million people who voted Leave. In this spirit, the British government can legislate now to extend working and residency rights for all EU citizens who are already in Britain. Britain’s civil service may be hamstrung and demotivated, but it will need to relearn how to do several, indeed many, things at once.
Step three: End state measures propping up the economy
Former chancellor George Osborne’s headline pledge in his ‘five-point’ post-Brexit plan was to cut corporation tax by another two percentage points. This again exemplifies what’s wrong with current policymaking. He was probably sincere in hoping that enhancing Britain’s status as a quasi-tax haven would help boost investment rates, but it would be a timid, ineffective and counterproductive act.
Tinkering with the business tax rates is hardly a bold response to Britain’s biggest change in decades. Eliminating corporation tax could be sensible as part of a comprehensive plan to simplify the national taxation system. However, simply engaging in a race to the bottom with Ireland and other low-business tax regimes is a distraction from creating the conditions for new productive investment.
It won’t work because onerous taxes are not the reason businesses are not investing; few British businesses even say corporate tax rates are a big factor for them. This is not surprising because Britain has been cutting this tax since the 1980s and already has the lowest rate in the G20 group of leading nations. Yet investment has continued to trail off. In fact, in today’s circumstances, low-business taxation undermines innovation investment because it operates as a form of state subsidy that helps British companies keep going. Alongside other state supports, it sustains existing low-productivity businesses and dampens creative destruction.
To deal with this core problem, multiple state policies will need to be reviewed to limit the economic damage they are doing. The use of government subsidies, procurement policies, public-private partnerships, product and market regulation should be wound down or modified to counter their intended or inadvertent effects in sustaining the old at the expense of the new. At the top of the list is ending the emergency ultra-low interest rates in place since 2009, which have turned into the biggest support for the zombie economy.
As the Bank of England embarks on even more monetary easing, government should instead step in and reverse this. It should direct the bank to normalise monetary policy and raise interest rates from their 300-year record low. One mechanism to do this would be to mandate a lower inflation target than the current two per cent, which is being used to justify super-low official interest rates.
Ironically, raising official interest rates would actually help the Bank of England to stabilise the financial sector, a task that used to be its prime responsibility. Very low interest rates are undermining the viability of the traditional business model for commercial banks, which make money from the difference between what they charge for loans and what they pay for funding. Ultra-low interest rates narrow this gap and reduce revenues, causing banks great financial difficulties. This is something the Basel-based Bank for International Settlements, the central bankers’ bank, has been warning about for some time.
Putting a stop to preservationist economic policies is the biggest and toughest change to policymaking to make post Brexit. It is the biggest because it confronts the ingrained anti-change cultural underpinnings of three decades of economic policymaking. It is also the toughest because it means potentially lots of people will lose low-productivity, low-paying jobs at a time when better-paying, more productive jobs are still to be created.
There is no pain-free alternative to this disruptive part of economic renewal, but there are ways of collectively mitigating the human cost through assisting people into new decent jobs. People will need support, in terms of skills training, as well as housing and welfare benefits as they transition into better employment. This presumes, though, that those good jobs in new sectors and industries will become available, which is why the other parts of the economic plan to boost sector and job creation are also vital. In the interim, this transition challenge is another good reason for a surge in government infrastructure spending. This would provide employment on the public-investment projects as well as in their private-sector supply chains.
Step four: Immediately double government funding of scientific research and development to one per cent of GDP, and then double it again
Scientific research is woefully underfunded. All governments in the mature economies have been underspending in this area since the early years of the Long Depression. Britain, though, has been among the meanest, consistently spending since the mid-1980s about two-thirds the levels of France, Germany and the US. British government funding of research and development (R&D) fell from an already inadequate 0.86 per cent of GDP in 1986 to less than half a per cent in recent years.
Much more is needed to help generate the scientific advances underpinning the next wave of innovation that is so essential to rejuvenating Britain and other mature economies. Areas like quantum technologies, robotics, nanotechnologies and biotechnologies are all moving ahead slower than is possible, and necessary, because of a lack of public non-commercial funding.
UK government-funded R&D as share of GDP
Source: OECD Stat.
With resources already limited, some scientists have been concerned about losing EU grants because of Brexit. However, this EU obsession is distracting from the core issue of inadequate Westminster funding. First, EU funding represents less than three per cent of Britain’s total R&D spending (1). Second, Brussels doesn’t possess a money tree. The grants received by British research institutions and businesses are part of that famous £350million of Britain’s gross weekly contributions to the EU budget. This money – and more – can go directly to fund R&D, cutting out its stopover in Brussels. Third, non-EU countries, including Israel, Turkey and Norway, get science funding from Horizon 2020, the EU’s current research and innovation programme. Britain can join Horizon 2020, too, and apply for research grants on the same terms as EU countries.
Rather than be preoccupied with what may happen with future EU funding, these scientists should be angry about long-term underfunding by the British government. Even if Britain’s spending on R&D as a share of GDP had remained at its 1980s levels – roughly the same as the level in France or Germany today – it would be more than five billion pounds more than it is today, which dwarfs the EU’s contributions.
We, scientists included, should use the revival of government accountability to argue the public case for much more state scientific funding. It should be boosted in the first instance to one per cent of GDP (about £17 billion), which is proportionately where it used to be in the 1970s. And then, as funding is allocated, increased again to two per cent.
Step five: Initiate a fourth industrial revolution
The destructive part of economic restructuring can occur if the state gets out of the way and stops sustaining the zombie economy. The creative part depends on businesses – existing and new – investing in innovation in current sectors and, especially, in novel ones. Here the state can play a positive orchestration role, as well as assisting workers through the transition period of restructuring.
Policies should be developed to foster capital investment in technological innovation. Mechanisms such as tax incentives, catalyst funding and government-sponsored collaborative projects between businesses can be applied. Government should help to build up the venture-capital industry to support new business investment in productive innovation, and back private equity when its turnaround efforts involve genuine investment in next-generation technologies.
Many government regulations, especially those that incorporate the precautionary principle, inhibit experimentation and productive risk-taking. It is a misconception that existing regulations would disappear with EU withdrawal, but Britain will have control again over decisions to rescind or maintain regulations. EU directives – enacted into UK law – and EU regulations, as well as non-EU-inspired regulation, should all start to be reviewed now in anticipation of the exit date. The objective would be to annul or modify all those that are detrimental to research and innovation. For example the EU’s tough regime on biotechnology and especially on green biotech – GM foods – has been a prominent barrier to research and development in this area, in Britain and across Europe.
Government should also take a direct role modernising physical infrastructure, including housing, transport, energy and communications. Commercial funding is of course cheap today for governments – even when official interest rates rise. Instead of debt primarily supporting consumption, as has been the case for the past three decades, it can be used to support public-sector investment. This would have at least three benefits: it would establish a forward looking perspective for the whole economy; expand or replace the decrepit infrastructure bottlenecks that are holding the economy back; and provide jobs for people to help families through the disruption of economic change.
Let the national debate on renewal begin. Let the people decide.
Phil Mullan is author of The Imaginary Time Bomb: Why an Ageing Population Is Not a Social Problem (IB Tauris, 2000: (buy this book from Amazon (UK) or Amazon (USA)), and Shake Up: How to Escape the Long Economic Depression (forthcoming).
Picture by: Henrik Winther Andersen, published under a creative commons license.
(1) Britain’s annual allocation averaged £669million from the EU’s Seventh Framework Programme that ran until 2013. Total R&D spending was £28.9 billion that year, of which government funding was £8.4 billion.
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