The yield on UK government debt is at historical lows. The government argues that this shows the market’s confidence in Osborne’s fiscal strategy and that any retreat from this would lead to higher interest rates choking off the recovery.

As he argued in his Autumn Statement:

Last April, the absence of a credible deficit plan meant our country’s credit rating was on negative outlook and our market interest rates were higher than Italy’s. Eighteen months later and we are the only major western country which has had its credit rating improve.

Italy’s interest rates are now 7.2%. And what are ours? They are less than 2.5%. Yesterday, we were even borrowing money more cheaply than Germany.

Those who would put all that at risk by deliberately adding to our deficit must explain this.

Just a one per cent rise in our market interest rates would add £10 billion to mortgage bills every year. One per cent would mean the average family with a mortgage would have to pay £1,000 more. One per cent would increase the cost of business loans by £7 billion. One per cent would force taxpayers to find an extra £21 billion in debt interest payments, much of it going to our foreign creditors.

In other words, one per cent dwarfs any extra government spending or tax cut funded by borrowing that people propose today.

And that’s the cost of just a one per cent rise. Italy’s rates have gone up by almost 3% in the last year alone.

We will not take this risk with the solvency of the British economy and the security of British families.

Osborne then is pretty clear that his ‘tough action’ is what  has kept yields low.

Interestingly enough  a survey published today by financial information company Bloomberg doesn’t  agree with the Chancellor.

Chancellor of the Exchequer George Osborne’s pledge  to eliminate the budget deficit isn’t the main reason U.K. government-bond  yields are at record lows, say most analysts in a Bloomberg survey.

The Bank of England’s quantitative-easing program,  which has so far purchased a quarter of outstanding gilts, was identified as  the single biggest cause by a third of 27 economists polled. Just over a  quarter said investors fleeing other European bonds were driving U.K. rates  lower, while 22 percent said Osborne’s plan was the main reason

One worth remembering the next time the Chancellor tries to  claim the credit for record low interest rates. Whatever he might want to believe, three quarters of those who actually work in financial markets seem to think he isn’t the main reason for low yields.

There are as many as 20 people chasing the one vacancy in some areas. The UK wind industry is growing fast and now employs over 10,000 people, with many projects sites in rural areas and areas of high unemployment. In January alone, 2,700 wind industry jobs were either created or reinforced with new contracts.

As  DECC points out, “The creation of jobs in the renewable energy sector, investment in new manufacturing capability, and the consequent direct and indirect benefits will support our transition to a green economy.” The offshore wind industry could directly employ 30,000 people by 2020.

Hopefully ITV will ensure a fair and balanced reporting of the economic successes of the renewable industry. Like Mabey Bridge Ltd, whose Bevil Mabey Structural Steelworks, opened on 12th May 2011, is part of the company’s £38 million investment in the renewable energy sector. This is the UK’s only indigenous manufacturer of wind turbine towers. It created some 240 jobs in addition to the 400 already employed by the company in Chepstow and Lydney.

Or take Scottish and Southern Energy’s Clyde wind farm. It represents an investment of £500 million, with 200 construction jobs as the wind farm is being built and a staff of 30 to operate and maintain the site.

The Scottish Government’s £70 million National Renewables Infrastructure Fund, designed to strengthen port and manufacturing facilities and supply chains,  will leverage significant private sector investment. Over the next four years it should  deliver 28,000 jobs and £7.1 billion in value to Scotland’s economy over the coming decade.

Perhaps we need a proper analysis of the motivations behind the growing number of attacks on renewable energy in the UK. But in there somewhere is an anti-regulation, anti-government, anti-public funding ideology that is apparently blind to the harsh realities of unemployment, falling wages and diminishing employment opportunities which the green industries could help solve.

Some recent business surveys have painted a more positive picture and asset prices have risen. But the pace of expansion in the United Kingdom’s main export markets has also slowed and concerns remain about the indebtedness and competitiveness of some euro-area countries. A gradual strengthening of output growth later this year should be supported by a gentle recovery in household real incomes as inflation falls, together with the continued stimulus from monetary policy. But the drag from tight credit conditions and the fiscal consolidation together present a headwind. The correspondingly weak outlook for near-term output growth means that a significant margin of economic slack is likely to persist.

The Bank is therefore hopeful that falling inflation will provide a boost to incomes and consumption but worried about the prospects for continued growth through exports and the ‘head winds’ of ‘fiscal consolidation’ and ‘tight credit conditions’.

Whilst there isn’t much that the Bank can do about the Government’s fiscal policy, there may be more it can do to help alleviate tight credit conditions.

As last week’s money and lending showed the UK appears to be caught in a second credit crunch. Lending to non-financial firms is falling and the money supply numbers look extremely weak.

Against the backdrop of an existing QE programme of £275bn these numbers are especially concerning.

Last week the TUC published a report on how the banking sector is currently failing to support the real economy.  MPC member Adam Posen, speaking at a TUC seminar, called for more active policies to support SME lending and ensure that credit flows into productive business.

Whilst the TUC welcomes that the Bank is taking active steps to support demand, we worry that QE, in its current form, won’t be enough to get the economy moving strongly again.

The Government has been talking about ‘credit easing’ for almost six months now but with little action whilst Project Merlin has come and gone (to seemingly little effect), it’s time for the Government to get serious on this agenda.

The BLS provides tables for the USA and nine other countries America compares itself with, one of which is the UK. The most usable figures are those that translate each set of national figures into US definitions. This means they’re not quite the figures we’re used to talking about in this country, but it’s the relative position we’re interested in here, so that doesn’t matter so much. Our unemployment rate is still a little lower than America’s and Italy’s, and significantly lower than France’s:(*)

Our unemployment rate is usually higher than Japan’s, but it is a little depressing to find ourselves lagging some of the other countries so badly. What’s much more interesting, though, is how these countries have coped with the impact of the global recession on their labour markets: (*)

This table may actually paint our position in too rosy a light. America’s bigger increase in unemployment reflects the massive loss of jobs that took place in 2008 and 2009, that picture is improving very slowly and UK unemployment may rise higher than America’s:

The National Institute for Economic and Social Research’s gloomy forecast for UK unemployment suggests that that upswing at the end of the chart above is more than a blip:

the output gap will be closed only very slowly, with unemployment rising to about 9 per cent this year and remaining high throughout the forecast period. Even in 2014, it will still be over 7 per cent, compared to the OBR’s estimate that the structural unemployment rate is about 5.25 per cent. Unemployment at this elevated level for such a long period is likely to do permanent damage to the supply side of the economy, with large long-run economic costs.

On his Not the Treasury View blog, Jonathan Portes, the Institute’s Director, has drawn attention to “the largest and longest unemployment gap since WWII“. The unemployment gap is the difference between actual unemployment and structural unemployment (here labelled the ‘NAIRU’ – the non-accelerating inflation rate of unemployment):

He points out that the unemployment gap is a measure of the amount of unemployment due to macro-economic conditions:

In other words, if macroeconomic policy is broadly on track, the unemployment gap should be small; it is a measure of the number of people who are not working because macro policy isn’t either.

(Double emphasis in original.) Jonathan notes that we don’t have the high inflation that might normally explain such a gap. He draws one encouraging conclusion from it – that there is more spare capacity in the economy than is sometimes claimed, and so more room for fiscal expansion. But this also means that if we don’t do anything about cyclical unemployment it will become a huge weight of structural unemployment – the spare capacity will drain away.

In other words, if we accept a persistently high level of cyclical unemployment now, we will condemn ourselves to a persistently high level of structural unemployment in the future.

The days when Britain could lecture the rest of the world about labour market success are behind us. Austerity has not served Britain’s unemployed workers well and we are on the verge of creating a structural problem that could take a generation to solve.

(*) The BLS data stretches to the fourth quarter of 2011 for all the countries in these tables except the United Kingdom. I have used the 3rd quarter figure instead.

This study looked at the link between the financial sector and the real economy. It considered the extent to which financial activities either promote or impede industrial growth and innovation. The project was co-ordinated by Professor Mariana Mazzucato of the University of Sussex, who some readers might know from her DEMOS pamphlet, ‘The Entrepreneurial State’, which considers how, contrary to popular belief, the public sector drives and bankrolls much innovation activity.

I have always found innovation to be the trickiest part of the growth policy jigsaw. Putting together an active skills policy isn’t theoretically difficult (witness Germany’s success in this area) although politicians, of every stripe, have lacked the will to really make this happen in the UK. We could have a major push on procurement policy if we really wanted to (there’s that problem of political will again). But innovation is hard enough to define, let alone to develop policy in support of. For this reason, FINNOV’s conclusion are vital.

I won’t list them all here, but take a look at the FINNOV website: Key among the study’s findings, however, are that tax rules that currently penalise innovative companies should be changed. Key financial instruments are needed to allow funding to reach innovative firms – the Green Investment Bank is a start, but it is not enough. Blanket support for small businesses is misguided – government support for SMEs should be sector specific and targeted at the small percentage of high growth firms, in all sectors, which have an impact in terms of jobs and/or new products. And the green economy is the next ‘big thing’ after the internet and is likely to produce high returns for those companies that get in there first.

I think these are excellent conclusions. In the TUC’s recent report, ‘German Lessons’, we talk about the need to grow more small firms into medium sized enterprises, capable of forming part of the supply chain for larger, world class exporters. In the UK, small firms are seen as a good in themselves, a sign of vibrant capitalism, even though most fail in the first five years. I’ve nothing against small firms as such, but I question their automatically important role in a modern economic model. Instead, there are some companies that are naturally small and will remain that way, but others that have the potential to grow and that the rest of us need to grow. That should be the area of government focus.

‘German Lessons’ also talks about support for key industries in the context of climate change. The TUC has long talked about building the strategic industrial sectors where the UK can become and remain competitive in the decades to come. Green technology is self evidently one such sector and it is right for FINNOV to call for focus on this part of industry. It’s great for the TUC and FINNOV to be on the same page on most of these areas. I hope they get many of these policies taken up in the corridors of power.

Last week the Government announced its much-trailed policy proposals on executive pay. While some useful reforms were announced, for example requiring total remuneration for each director to be reported as a single figure, it was not the radical overhaul of executive pay that is so clearly needed. Most disappointingly, decisions about executive pay were left in the hands of shareholders, and remuneration committees were left unreformed.

The TUC and others have called for worker representation on remuneration committees, arguing that this would bring a sense of perspective and common sense to decisions on remuneration and crucially would ensure that remuneration committees took account of pay and conditions elsewhere in the company, as they are required to do by the Corporate Governance Code. In the House of Commons last week, Labour MPs repeatedly asked why the Government had not included worker representation on remuneration committees in their proposals for reform. The gist of the Secretary of State’s response was that while worker representation on boards was very desirable, mandating it was not practical. Two reasons were cited for this; firstly, “the question of how to ensure that a worker representative accepts the full legal responsibilities of a director”; and secondly, the challenge of selecting suitable worker representatives in companies that employ large numbers of overseas workers.

In a TUC briefing, the TUC argues that these so-called “practical” objections do not present a significant obstacle to worker representation on remuneration committees and have been significantly over-stated. While the TUC would of course welcome workers becoming full members of boards, workers do not need to be board members to sit on remuneration committees. There are other important company committees that often include both board and non-board members, such as health and safety committees and CSR committees, and there is no reason why remuneration committees likewise could not include both board and non-board members.

Nor would company law need to be amended in order to require worker representation on remuneration committees; indeed, company law does not currently refer to remuneration committees anyway. A simple amendment to the Corporate Governance Code would be sufficient.

As for the point about international representation, there are precedents from established processes such as European Works Councils for selecting workplace representatives from a company’s operations across different countries. Ultimately, however, if a company is listed in the UK and its board is mainly drawn from the UK, it is reasonable to expect it reflect UK-established procedures for executive remuneration.

Without a decisive change to the system of setting executive remuneration, public concern over top pay and distrust of corporate priorities will not go away. Any political respite gained by stripping Fred Goodwin of his peerage is likely to be short-lived.

Oddly, the tax paid for emitting a tonne of CO2 varies widely according to the fuel used and whether it was used by households or businesses. This results from the interaction of an array of overlapping policy initiatives – from the EU Emissions Trading Scheme and Carbon Reduction Commitment to the Climate Change Levy and the Renewables Obligation – each raising the price of some sources of emissions but not others.

Arguing for more efficeint green taxes and not to abolish them, the IFS says we are in the “ludicrous position” the IFS says that CO2 emissions from domestic gas consumption are not just untaxed but positively subsidised relative to other goods and services. As a result, instead of choices being made on the basis of prices that reflect the underlying commercial and environmental costs of different activities:

• energy-intensive business activity is much more strongly discouraged than household energy use.
• households and businesses have a strong incentive to use gas rather than electric heating.
• electricity generation is biased towards coal rather than gas as a fuel.

Heavily penalising some forms of carbon emissions, while leaving others untouched even if they would be much easier to reduce, is an immensely costly way to reduce greenhouse gas emissions. Simplification and consistency are needed. But concerns over carbon leakage – the loss of jobs and investment to competitors without CO2 controls – explain the special provisions for energy intensive industries announced in the Autumn Statement. IFS recognises that the need to secure industrial production is a constraint on improvements to carbon pricing. But smart changes would support improvements to the UK’s overall economic performance.

The numbers certainly tell a worrying story:

Net lending to consumers fell by £377mn in December – the largest fall in consumer lending since the start of the data series in 1993.

Lending to corporate also contracted.

The broad measure of monetary supply (M4 excluding certain kinds of financial intermediaries) also saw a record fall.

Simply put –  the supply of money and the volume of credit in the UK economy is going into reverse.

The charts below (all from the Bank) make this clear.

Mortgage lending remains very weak:

The growth rate of consumer credit which had staged a (very) modest recovery is turning down again:

Broad money growth fell:

Whilst the broadest measures of lending (M4L) showed that household credit growth remains very weak, lending to non-financial firms (private non-financial corporations (PNFCs)) remains negative and lending to none-intermediary financials (the pink line) is negative (but volatile):

Given that this all comes after the BOE has restarted quantitative easing the numbers will be especially concerning to the Bank.  

Last year I warned that there were nascent signs of a second ‘credit crunch’ hitting the British economy in 2012, on yesterday’s numbers this may already be happening.

Tomorrow the TUC will host a seminar on reforming banking so that it supports the real economy (with speakers including the BOE’s Adam Posen, Professor Richard Werner and UBS’s George Magnus). This feels like a timely and urgent question to be asking.  

Particularly interesting (and relevant for me) was the launch of the IPPR’s publication, ‘The Third Wave of Globalisation’.

I don’t pretend to have read all 96 pages, but I’ve seen enough to see there’s some interesting stuff here. The report argues that the first wave of globalisation was led by the UK and took place about 140 years ago. The second wave followed the Second World War and was US led. We are now at the third wave, which will require advanced economies, like those in Europe, to focus on their strengths in high-end technology and component goods across international chains of production. The report describes how people in the developed world fear that “as the east emerges, the west will become ‘submerged’”. In his Foreword, Lord Mandelson takes up this theme, spending some time thinking about why globalisation has brought incredible benefits, yet many have what he calls “nagging doubts” about it. In fact, Mandelson goes further, pointing out that globalisation brings “a mix of new economic opportunities and disruption, volatility and insecurity for individuals and families”.

I think people have feared globalisation for a number of reasons. One is that they have simply felt incredibly powerless in its wake. This is especially true in that the disruption of globalisation hasn’t been spread equally. It may be true that, for some, globalisation has led to new opportunities to travel and work abroad, but a manufacturing worker losing his or her job in the West Midlands and being told that that job going to China is somehow a sign of world economic progress could hardly be expected to feel positive about it. The growing divide among rich and poor in recent years has made matters worse. So globalisation has often seemed like something happening to people, rather than being shaped by them. We try to shape world events through our elected politicians, but right now, the bond markets and international speculators seem more powerful than the ballot box, especially in some European countries.

The IPPR cannot solve all these problems, of course, but its call for action on current account imbalances between surplus and deficit countries is welcome, as is Lord Mandelson’s call for a more robust industrial strategy for the UK.

A couple of weeks ago, the TUC launched its own report, ‘German Lessons’. Whereas the IPPR went to Brazil, China, India, Germany and the US, we focused on one country, Europe’s strongest, Germany. Like the IPPR, we don’t have all the answers, but policymakers should think afresh about the role of trade unions in creating a fair globalisation. German companies are used to being winners. Volkswagen aims to be the biggest motor manufacturer in the world. Siemens and ThyssenKrupp are two other world leaders that we visited. What is interesting is that all three recognised the imperative of investing in China. It is the biggest growth market in the world and to sell there in any meaningful way means getting a base there. And when I say “all three” recognised the importance, I don’t just mean managers, I also mean trade unions in those companies. Because in the German Social Market Model, works council representatives, who are usually trade union members, also take responsibility for major investment decisions. What is crucial, however, is that those works council reps can also keep one eye on their own constituencies. So what they do is they support company investment in China (or India, or Brazil), so long as there is also an agreed investment in the home plants, protecting jobs and skills in Germany. In short, they negotiate, like good, old-fashioned trade unionists always have.

Trade unions can’t make the powerless powerful, but they can help to cushion the inevitable blows of globalisation. If we want a globalisation that takes workers with us, trade unions are undoubtedly part of the solution.

Guido, for example, writes that:

Hester wasn’t going to get his hands on his bonus for over a year, it wasn’t even going to come directly from treasury funds and most of it would have ended up in Treasury coffers, yet this morning £320m has been wiped off of the value of the British taxpayers’ forced investment. With mob mentality over-ruling contracts, there are obvious jitters around the banks this morning.

A straight forward argument – the public pressure might have resulted in the CEO declining a million pounds but this ‘meddling’ will cost the tax payer much more than that as the markets  take fright at ‘political interference’.

How does this stack up?

Actually not very much. Whilst both facts are true (Hester is not taking his  bonus and RBS shares are down) this doesn’t really tell us a great deal.

The key is to never look at  financial information in isolation. A simple look at the BBC website gives the  following share price moves for British banking stocks at the time of writing:

Yes RBS is  down but not by much more than Barclays and by less than Lloyds. In fact the  entire sector is down this morning. As the FT reports:

Banks were at the bottom of the FTSE 100 on  Monday, tracking worries about a potential unruly Greek debt default on a day  when public anger forced RBS’s chief executive to surrender his bonus.

Indeed, as the Greek  debt talks rumble on and Portuguese bond yields hit new highs, banks are down  across Europe today on worries about the potential fallout.

The fall in RBS shares today has little to do with Mr Hester’s  bonus. The prospect of a disorderly Greek default is almost certainly rather more pressing for most investors.

The incomes of ordinary workers would be far higher today if the share of national spent on wages was the same as it was in the late 1970s. To find out how much you would have been paid if the ‘wage output’ ratio hadn’t been falling for 30 years, we’ve made this incomes tracker tool. Type in your salary and see how much you would be earning today – and how much of a pay cut you’ve in effect taken.

Furthermore, the richest in society have taken an ever greater slice of the UK’s dwindling earnings pie. The lowest fifth of earners have seen their wage share fall seven times faster than the richest fifth. Meanwhile those at the very top received rapid pay rises that outstripped inflation, growth and the performance of the companies they run.

In the past our shrinking wage pool has been papered over by strong economic growth, a housing boom and rising credit card bills. But we can’t rely on more personal debt to get us out of trouble again.

Download the full report (pdf)

The falling ‘wage output’ ratio presents a massive challenge for the UK and needs to be addressed. Consumer spending is a huge driver of growth and we can’t build a sustainable economic recovery off the back of people getting poorer. More collective wage bargaining, better skills training and a fairer distribution of wealth are some of the recommendations the TUC makes in our latest Touchstone Extra pamphlet published today: All in this Together.

Download the full report (pdf)

It has become an iron rule of recessions that it is the lower and middle-paid sections of the workforce that bear the heaviest burden of the fallout.  Of course, with the economic cake shrinking by 7%, pain was inevitable after 2008. Living standards on average were bound to slide. This recession, however, was meant to be different. “We are all in this together” became the much voiced refrain of coalition leaders. This time, it was claimed, the impact would be more evenly shared that in the past.

A new report that I’ve written for Touchstone, called “All in this together?“, shows just how empty those words have proved to be. Just as in the 1980s and early 1990s, it is those in the bottom half of the income distribution that are bearing the brunt of the rise in unemployment and the cuts in real wages. Those most likely to have lost their jobs have been skilled and unskilled workers in the lowest pay brackets.

It is similar story on pay. On average, real wages fell by 3.6% in the year to June 2010 and then by a further 3.8% in the year to June 2011. But those facing some of the deepest cuts in pay have been those on already low wages working in voluntary organizations, especially those working in social care. Cuts in real pay are also only part of the story. Across the public, voluntary and private sectors, longstanding conditions of work are being eroded, with staff contracts re-written to impose longer hours, poorer sickness and pension provision and fewer holidays.

Moreover, for most, pay levels and conditions are unlikely to return to pre-recession levels, even after recovery. The UK is heading further in the direction of a low-paying economy with weakened employment conditions. The last thirty years have already seen a continuing fall in the share of output accruing to wage-earners. One of the key effects of the crisis is to have fuelled this long-term trend. This is officially recognized by projections by the Office for Budget Responsibility which show that labour’s share of economic output will have fallen even further by four percentage points between 2009 and 2016.

Britain’s twin-track economy, a fast-track for the rich and a slow-one for nearly everyone else, has become more firmly entrenched since 2007. Far from accepting a fair share of the pain, those at the top have found ways of firewalling their own incomes and wealth. Indeed, a small corporate and financial elite has continued to grow its share of the cake through the downturn.

This is not just an issue of fairness. These same trends are also torpedoing the chances of recovery. If the share of output going in wages was the same today as it was in the late 1970s before the thirty-year long wage-squeeze began, UK consumers would now have around £60 billion more in their pockets. Instead the lifeblood of the economy is being further squeezed.

It was the increasingly skewed distribution of the national economic cake that was one of the key, if mostly ignored, factors leading to the 2008 Crash. The same factors are now driving an apparently relentless slide into near-permanent slump.  If the division of the cake now stood at its level of three decades ago, much of the human cost would have been avoided, and we would be well on our way out of this mess.

Amid from the usual barrage of cutting the 50p rate, slashing capital gains tax and further deregulation (not so much a growth strategy as the usual shopping list of free-market policy demands) Nick Clegg is once again talking about raising the personal income tax allowance to £10,000.

Raising the personal allowance to £10,000 is long standing Liberal Democrat policy and features in the Coalition Agreement (although only as a ‘longer-term policy objective’) .

The allowance was raised by £1,000 in 2010 to £7,475 and is scheduled to rise to £8,105 this year. Clegg today will reportedly argue that:

“Today I want to make clear that I want the coalition to go further and faster in delivering the full £10,000 allowance, because the pressure on family finances is reaching boiling point.

“These families have seen their earnings in relative decline for a decade, compared to those at the top. That has accelerated since 2008, with lower real wages and fewer hours at work.”

There is of course a caveat to this. As Clegg has made clear this hasn’t yet been cleared by the Treasury and Clegg appeared this morning to say that the allowance probably can’t be raised to £10,000 in one Budget.

Just over one year ago, Clegg has making a similar call. As Faisal Islam wrote then, raising the allowance to £10,000 a year would cost £11.5bn annually by 2015 – an ‘uncosted tax cut’ of roughly similar magnitude to a temporary VAT cut, something which the Coalition appears to regard as reckless.

As such a move would be, I presume, permanent it would, unlike a temporary tax cut, increase the structural deficit – something which is hard to square with Osborne’s fiscal mandate. Of course the £11.5bn could be offset by tax rises elsewhere. But whilst Clegg seems to be in favour of higher taxes on wealth, his coalition partners are unlikely to agree to that.

Raising the allowance is usually talked of by Nick Clegg has a way to help the low paid and struggling, but as analysis by Howard Reed and Tim Horton pointed out in 2010, the distributional gains are hardly progressive.

• the measure would do nothing to help the very poorest, who don’t have income large enough to pay tax;

• only around £1 billion of the £17 billion cost (6 per cent) actually goes toward the stated aim of lifting low-income households out of tax;

• households in the second richest decile would gain on average four times the amount than those in the poorest decile; and

• the policy would increase socially damaging inequalities between the bottom and middle.

Furthermore with the VAT rise costing families £450 a year on average even raising the allowance to £10,000 won’t offset this for many families.

It’s also unclear how effective a stimulus to demand such a move would be. The distributional analysis above suggests that the benefits would fall disproportionately to the better off –  those with the lowest marginal propensity to consume and so the least likely to actually spend it.

But despite all of the above, raising the personal allowance wouldn’t be the worst policy move in the world. I’d welcome almost any stimulus that might actually have some impact on growth at the moment.

Raising the allowance would certainly be a more effective stimulus than cutting capital taxes, a further 1% off corporation tax, cutting the 50p or further deregulation and attacks on workers’ rights – the other ideas currently being pushed on the government by its allies and outriders. Raising the personal allowance isn;t the best stimulus the Coalition could embrace but from the menu their supports are offering, it’s probably the bwest of a bad lot. 

The two key facts were already evident before this morning’s release – this is the worst ‘recovery’ in modern British economic history and GDP per capita is not expected to regain 2007 levels until 2016. In other words, on the OBR’s numbers we are already in a ‘lost decade’.

Today’s numbers though do tell us something. The five key points, as I see them, are:

1/ The awful manufacturing numbers suggest that an ‘export-led recovery’ is unlikely. The Eurozone crisis is starting to have an impact on GDP figures, one that is set to continue and worsen into 2012.

2/ But the Economy was already stagnating well before the Eurocrisis. The stagnation in the service sector at the end of 2011 is part of a long-running collapse in domestic demand. Something that can’t be blamed on Europe. Exports prevented us from falling into recession in 2011, that prop to growth now seems unlikely.

3/ This fall in GDP is a lot more worrying than the one in Q4 2010. Back then ‘special factors’ (the snow) were at least partially to blame and so GDP bounced back in Q1 2011. This time GDP fell without ‘special factors’.

4/ The -0.2% result was a tad worse than the OBR expected (-0.1%). It appears the November forecasts are already looking a bit too optimistic. Again.

5/ In terms of the impact of austerity, it has been noted that ‘government services’ was one of a few bits of the economy actually growing in Q4. But ‘government services’ in this GDP release don’t map exactly to ‘government spending’. The large fall in construction output could be linked to the government’s cut in its own investment, equally the stagnation in the service sector is at least partially caused by the VAT rise.

Does this mean that a double-dip recession (I.e. two quarters of negative growth) is now likely? It’s certainly more likely than it was before the release but in some ways, despite being politically charged, it’s an irrelevance.  Unemployment is rising, living standards are being squeezed and the per capita GDP is likely to fall regardless.

The expectation of both the OBR and independent economists (as surveyed by the Treasury) is that 2012 will be a year of very low growth overall. The simple fact is that the current recovery is historically weak – as best demonstrated by the below chart from NIESR:

But one often missed fact is that 2012 (on the OBR’s numbers) is, in one important regard, set to be a year of economic contraction. Whilst headline GDP growth is forecast to come in at 0.7%, the ONS forecast that the population of the UK will grow by 0.8%.

In other words per capita GDP (GDP per head) is set to fall this year.

The graph below shows GDP (in 2008) prices per capita (using the ONS population projection and the OBR’s growth numbers):

Looking at GDP per capita matters and tells us an awful lot more than simply looking at the headline numbers. If GDP were to grow by 5% but the population grew by 10%, people won’t be 5% better off – they’d actually be worse off.

2012 is set to see the first contraction in GDP per capita since 2009. On this measure we are set to double dip.

Indeed on the OBR economic growth forecasts and the ONS population projections it will be 2016 before GDP per capita returns to 2007 levels. In GDP per capita terms we
really are set for a ‘lost decade’.

Chance to be Chancellor gives you – the voters of the future – a platform to voice your views on important economic decisions.

The game allows you to choose between various government policies and ‘be the Chancellor’.

For each option the game lists pros and cons of the different policy options, usually in a far more straight forward manner than we hear from the Treasury.  Some highlights are reproduced below:

Maintain the government’s plans for 2012 by raising the amount earned before paying tax to £8,105 and keeping the 50% tax on those who earn over £150,000.

Pros & Cons

PRO Keeping the system as it is – particularly the top rate of tax – will maintain current level of public revenue to pay off the deficit.

CONThis option does not offer any new help to those on low incomes despite the downturn in the economy.

 

Reduce VAT to the previous level of 17.5%

VAT is a flat rate of tax charged on goods and services. Reducing it could increase consumer spending and boost the economy.

Pros & Cons

PRO Reducing VAT will lower living costs which helps those on lower incomes the most.

CON As a major source of revenue the reducing of VAT creates a shortfall that will need to be filled by other tax rises or cuts in spending.

Reduce corporation tax by 1%

Corporation tax is charged on the profits of businesses. This option reduces the main rate by 1% to encourage more business investment.

Pros & Cons

PRO The reduction will make the UK more attractive to business investment.

CON Increased investment is not guaranteed as other factors such as workforce skills may have a greater influence.

 

Reform NHS budget

Halting the building of new hospitals, charging for non-essential operations and cutting medical research can achieve larger savings and encourage greater efficiency.

Pros & Cons

PRO These savings should improve the long term efficiency of the NHS and the choice and quality it offers whilst helping reduce the deficit.

CON Healthcare cuts disproportionately affect the most vulnerable in society and can result in a less healthy workforce which has negative implications for the
economy.

 

Maintain spending and introduce ‘free schools’

Keep to the current schools budget and reform education by introducing ‘free schools’ that enable a wide range of groups to set up independent state funded schools.

Pros & Cons

PRO Free schools will bring new expertise and innovation into the education system that will drive up competition amongst schools and raise standards at low cost.

CON Many already existing schools are in need of repair or rebuilding and a lack of further investment in them will also have a negative impact on construction
industry.

 

Stick to current plans on police spending

Stick to the planned reduction in spending to £8.8bn in 2012-13.

Pros & Cons

PRO Remains consistent with expectations of the demands on police forces around the country.

CON Frontline police numbers could fall by 16,000 by 2015 as a result. This is the same number of police required in London at the height of the August 2011 riots.

So the game tells us that –

• the government’s tax and benefit plans ‘do not offer any new help to those on low incomes despite the downturn’,
• that a cut in VAT would help those on the lowest incomes
• that cutting corporation tax might not lead to higher investment
• that reforming the NHS budget may disproportionately hit the most vulnerable
• that Free Schools may lead to less investment in existing schools and hit the construction industry
• that the government’s spending plans could lead to a 16,000 cut fall in frontline police numbers.

I do hope lots of people sign up and take part.

It’s not just the impact an FTT would have on their bonus income they’re worried about, though. As the increased focus of attention shone on the practices of the hedge fund industry by Mitt Romney’s stumbling campaign for the US Republican presidential nomination demonstrates, hedge fund managers have been making a mint out of management fees as well as the growth in the funds they manage: and it’s that management fee income that they are desperate to protect from a Robin Hood Tax.

This explains much of what hedge fund – and pension fund – managers have been saying about the impact of a Robin Hood Tax on pensions. Their working assumption is that current processes MUST NOT change. That pension funds will continue to pay high fees to the middle men (gender assignment not unintentional) every time they shift pension fund holdings around.

But there is little evidence, as Financial Times research reported today shows, that this constant recycling of fund holdings (whether the owners an individual or a pension fund) benefits the owners or the managers. Fund managers are also desperate not to take the hit on each individual management fee the charge for carrying out a transaction, and their assumption is that all the revenue raised by an FTT will be passed on to their clients.

An FTT would force fund owners, collective as well as individual, to re-examine the model that they are following. And it’s the model that fund managers are desperate to retain. But it’s not in the interests of us as pension fund members, and if an FTT was implemented without changing that model or at least sharing the tax payments, that would be exposed.

The concept is actually quite an old one but it was popularised in modern times at a lunch meeting attended by economist Arthur Laffer and officials from the Ford administration (including Donald Rumsfeld and Dick Cheney) in the mid 1970s, when Laffer drew the curve on the back of a napkin to illustrate how a rise in personal taxes proposed by Ford might lead to lower tax revenues.

Laffer argued that if tax rates were set at zero then tax revenues would clearly also come in at zero, but if taxes were set at 100%  then no one would bother working and so tax revenues would again be zero. He sketched something like the below to demonstrate this:

Whilst Laffer was almost certainly correct to suggest that there is curve, the key question facing tax policymakers is where about on the curve are tax rates currently. Are they on the left hand upward sloping slide, in which case tax rises will raise revenue, or on the right hand, downward sloping side, where tax rises will lead to less revenue?

For what it’s worth,  the point at which tax rates move to the downward sloping, right-hand side of the curve, appears to be around the 70% mark, so in most cases Laffer analysis suggests that higher rates can indeed raise revenues, despite what the Curve’s usual proponents argue.

But I’ve thinking recently about the Laffer Curve not as it relates to tax policy but in terms of how the concept might relate to austerity.

Last week international policy makers (including the IMF’s Christine Lagarde) urged a slowdown in fiscal consolidation – i.e. less austerity. They worry that austerity programmes across the developed world are leading to weaker growth, higher unemployment and ultimately higher deficits and bond yields.

Just before Christmas, as I blogged at the time,  the IMF noted that some preliminary analysis suggested that it was possible, that beyond a certain point, austerity led to higher, rather than lower, yields on government debt:

The IMF are suggesting that in certain cases (presumably like those we currently find ourselves in, with weak growth, very low central bank interest rates and depressed demand) that cutting government spending can mean the yield on government bonds rises rather than falls.

This makes intuitive sense. If cutting government spending means weaker growth and a higher deficit then it would be perfectly rational to demand a higher interest rate in return for holding government debt.

Might it then be the case that something like a Laffer Curve exists for austerity? That is to say that cutting government spending up to a certain point leads to lower deficits but beyond a certain point, the impact of lower growth and higher unemployment means that deficits get worse as the government cuts more?

The graph below attempts to illustrate this (and I would have drawn it on a napkin but didn’t have one to hand):

Like the Laffer Curve it suggests that there is a point at which cutting government spending becomes self-defeating, it simply lowers growth, depresses tax revenues and pushes up social security spending by more than the government is cutting.

The question for policy-makers then, is are they past the point and at which the curve becomes downwards sloping? Will more austerity simply lead to higher deficits?

Judging by the tone of S&P’s downgrade of several European sovereigns last week, it certainly seems to think that many countries have passed this point.

The main reason for this outburst of optimism turns out to be that ‘everyone feels the pain, rather than just certain sections of the community as in the Eighties and Nineties’. Apparently the ‘democratic nature’ of the recent downturn, combined with various pieces of recent ‘good news’, mean that it’s time to stop worrying. Unfortunately, this assessment doesn’t stack up.

Firstly, it simply isn’t the case that the downturn is affecting all of us equally. Those in the lowest paid work are always more likely than everyone else to lose their jobs, and during an economic slowdown their risk increases more quickly than is the case for middle and higher paid workers.  And those in the lowest paid work do not only have the highest risk of unemployment, they also face the highest risk of spending more than six months out of work and ending up in long-term unemployment.

Different areas of the UK are also feeling differential amounts of pain. The downturn has hit economically weaker areas of the country far more than those which were already better off – hence current unemployment rates of 12 per cent in the North East (with a 2.3 point annual increase) compared 6.4 per cent in the South East (a far lower increase of 0.7 points). With public sector job losses set to hit those areas which already have higher rates of unemployment, regional inequalities look set to become worse not better.

There’s also the question of who is hardest hit by the current living standards squeeze. It’s absolutely right that real wages are falling for the many rather than the few, and have been for over two years. But with the poorest fifth of households having far higher inflation rates than those in higher income deciles, and those who are underemployed in temporary or shift work more likely to be lower paid (and facing both the impacts of falling wages and not enough work), again those on lower incomes are worst affected. And of course, rising inflation costs will inevitably form a higher proportion of the income of those with lower incomes (a £20 rise in basic weekly food costs will by definition form 20 per cent of the weekly budget of someone living on £100 a week, but only 4 per cent of the weekly costs of someone with £500 a week to spend).

In addition, ongoing falls in household incomes are accompanied and exacerbated by the steepest programme of public spending reductions since WW2 – something Laws neglected to include in his article. Extensive IFS analysis has regularly shown that the distributional impacts of government’s programme of spending reductions are anything but fair.  As the TUC showed at the time of the Comprehensive Spending Review, the poorest are being affected by cuts 15 times more than higher household incomes.

The second part of the Laws case for optimism rests on various pieces of supposed good economic news. But again the analysis is suspect.

Laws is right that falling inflation will help squeezed household budgets, but if earnings growth continues to fall then real wages will remain negative, ndeed the OBR say that they are set to fall throughout 2012. And when benefit and tax credit cuts are built in, the prospects for household incomes over the next year aren’t looking great. The rise in the tax tax-free personal allowance will provide an additional £120 a year for anyone on basic rate tax, but this is an amount that pales into insignificance compared to the cuts in household incomes many will be facing (for example, a duel earner household on an annual income of £26,000 paying for part-time childcare is set to lose over £1,500 in tax credit cuts alone by April 2012).

We also hear that ‘the Government has now delivered most of its bad news’, with the continued impact of that news, and the additional, steeper and as yet unspecified spending cuts that the Chancellor has factored in for after the next election easily glossed over – and that the low pound is a cause for celebration. Of course it’s better to have lower rates, which has had some benefit for exports as well as homeowners (at least those not in negative equity and on variable rates), but with domestic consumption (which makes a far greater economic contribution) continuing to fall through the floor and growth projections worsening, it’s hard to see how it can bring much cheer.

The Daily Mail often produces factually inaccurate analysis. So perhaps it’s no surprise that an ex-Cabinet Minister would choose to use the paper to promote a misleading picture of the state of the economy. But however warm his words, for many they simply won’t ring true.

I would argue that these two debates are actually fundamentally linked. As I wrote in response to ‘In the Black Labour’ for Policy Network:

Without a rebalanced economy we will never have truly sustainable public finances, a point that cannot be made forcibly enough especially as the Coalition continues to put its faith in lacklustre ‘growth strategies’ based on the old Thatcherite recipe of corporate tax cuts and deregulation.

And to me, ‘rebalancing the economy’ is part of the reforming capitalism debate.

In the past week David Cameron, Ed Miliband and Nick Clegg have spoken variously of ‘popular capitalism’, ‘responsible capitalism’ and the ‘John Lewis Economy’.  This has prompted Channel 4 to ask if any of this talk will have any impact at all. A point recently made, in a typically witty manner, by Hopi Sen:

When it comes to changing capitalism, Politics has a self perception problem too.

Does Capitalism need reform? Why certainly. I think Joanna Voter would agree, too. “It’s a bloody mess. All the wrong people benefit, and bad people sit upon mounds of Gold, while I scape together a living making Craft cards” quoth my fictional everywoman.

A disgrace, we all agree. Now, Joanna, here’s who we’ve got lined up for you in the British All Comers Reform Capitalism sweepstakes: A Former special adviser and PR for a TV company that went bust, a former special adviser and Banker who made his money doing something he never quite explains involving Europe, and a former special adviser and cabinet minister. Place your bets.

What? Not satisfied with their credentials for making your life better? Well, cop a load of this. They don’t come alone. They’ve got friends to help them make your dreams of a better world come true. These intellectual advisers include a chap who doesn’t wear shoes and socks, a university lecturer who says reciprocity a lot, that woman from the telly who shouts at  hopkeepers and Kirsty Allsop. Oh, and a enormo-headed fellow in crumpled tweed who talks about the importance of the Medival Tawney, or something. Also, a leader writer for the Times/Guardian/Independent (delete according to Party)

And what do they want to do, these people? Well, It is exceedingly visionary, and incredibly ambitious. So it can only be discussed in the vaguest and most general terms.

I can see where Hopi is coming from on this – talk of ‘reforming capitalism’ does sometimes sound like its best left to think tank roundtables and academic seminars, not something that cuts through in the real world. And I’m also happy to agree that the language isn’t right at the moment, that to many people this seems like an arcane debate with little impact on their lives.

But I also think that this is a mistake.

Faisal Islam is onto something when he writes:

The speeches on moral and responsible capitalism are a smokescreen for a much bigger political problem for both main parties. The model of British laisser-faire capitalism that has, on the whole, delivered for the bulk of the nation for decades, may no longer be up to the job. That is not to say that British capitalism is broken, more that its place in the world has fundamentally changed, meaning that it can’t, right now, deliver for large swathes of Britain’s population. And neither political leader recognised that today.

The current cost-of-living crisis, the seeming inability of the British economy to grow at a decent clip, the still-broken state of the banks, the huge challenge of generating enough jobs – these are all things that matter to people and these are all aspects of the ‘reforming capitalism’ debate.

The problem of a declining wage share and a skewed income distribution (extensively documented by the TUC and Resolution Foundation over the past few years) and the turn by households to borrowing to make ends meet and the subsequent financial crisis (see this excellent IMF analysis) are both linked to the nature of our capitalism and probably mean more to most people than questions about the size of the government deficit.

This is all occurring against a changing international economic backdrop. The Economist today devotes a special section to the rise of state capitalism in the emerging economic powers – whatever its pros and cons, it will radically reshape how the world economy operates, possibly to the detriment of Britain.

For Britain to compete and prosper major reforms are needed – a point well made last summer by the IPPR’s ‘Surviving the Asian Century’.

To get some sense of how the changing international environment might affect the UK, it’s worth reading a very interesting speech made by the bank of England’s Adam Posen this week, entitled ‘What the return of 19^th century economics means for 21^st century geopolitics’.

Given the problems of the British economy, the need for a rebalancing to fix the public finances and the changing nature of the global system I don’t regard talk of ‘reforming capitalism’ as a distraction, I regard it as crucial.

What is needed now are concrete policy suggestions and a good place to start is by looking at Germany.

Now of course we can’t simply import German institutions, policies and ideas wholesale and then hope for German outcomes.  Things are never that simple, but there are things we can learn – about banking, about industry, about institutions and practices.

In that spirit, I’d highly recommend the following three recent reports and articles:

• A major new on lessons from Germany from the TUC (here, with a (shorter!) blog post by my colleague Tim Page here)
• Gregg McClymont & Andrew Tarrant on the German banking system here.
• Andrew Tarrant’s fascinating interview with Matthias Machnig here.

I hope that those who take the time to read these reports and articles will be reassured that there’s more to talk of ‘reforming capitalism’ than academic and moral language. The challenge now is for policy makers to turn of sentiments and handwringing to talk of practical actions.