Wednesday, November 14, 2018

The draft withdrawal agreement agreed by negotiators on the terms of Brexit is to be considered by the UK Cabinet later today. While full details are not at this stage in the public domain, enough information has leaked to make it clear that this would be a truly awful deal.

It is difficult to distill the demands of various groups into a coherent argument, but here's an attempt:

⦁ Most observers see considerable value in the single market. This is the body of regulations that allows trade to proceed freely across the EU - rules about the characteristics that products must have in order to make them fit for sale in each country. Leaving the single market without introducing some sort of similar arrangements would necessitate checks on things that are being traded - a bureaucratic innovation. Remainers would like to avoid this bureaucracy by staying in the single market, while many Brexiters would prefer to avoid it by having a free trade agreement that allows some form of mutual recognition of rules. But Remainers and Brexiters share an appreciation of the value of what the single market does.

⦁ The customs union is a system that imposes a common set of tariffs on products that are imported into the EU from outside. Since there are no tariffs imposed on trade within the EU, this means that imports into one EU country can be transferred to other EU countries easily. Both Remainers and Brexiters see benefits in the free trade that this encourages within the EU. But many Brexiters would like to see the UK free to negotiate further free trade deals with countries outside the EU - and such deals would be virtually impossible to negotiate were the UK to remain in a customs union with the EU. Remainers note the high proportion of the UK's existing trade that is undertaken with other EU countries (and countries with which the EU already has trade agreements), and are therefore sceptical of the benefits of the UK leaving the customs union.

⦁ The Irish border question has been prominent in debate over recent months, and has appeared to be intractable. Neither Remainers nor Brexiters want a hard border either on the island of Ireland or between Northern Ireland and Great Britain. But if the UK were to have different regulations and a different tariff regime to the EU, some sort of border would have to exist between the UK and EU - a land border in Ireland and a sea border elsewhere. Such a border would disrupt supply chains - and so it is a serious issue regardless of the unusual circumstances affecting Ireland. Remainers see this as a reason to remain within the single market and customs union. Brexiters see it as a problem either: to be solved by a technology that they don't believe exists (because if they did believe it exists they would have no problem in accepting a backstop arrangement that such technology would render redundant); to be solved by a political realignment (either Irish unification or a wholly undemocratic Irexit); or to be ignored and wished away altogether.

⦁ A variety of other issues, including immigration, agricultural and fisheries policies, workplace regulations and the like have been given less prominence. Many Remainers probably sympathise with some Brexiter views on at least some of these issues, but are more likely to regard them as a price worth paying for the benefits of single market and customs union membership. While immigration had high profile as an issue during the referendum campaign, there has been little discussion of it since. Brexiters stress a desire to 'control our borders', but many recognise that modern free trade agreements of the type they espouse typically involve some conditions on labour mobility.

The withdrawal deal that is now being considered offers a backstop of customs union membership for the whole of the UK and an arrangement on regulations that is close to the single market for Northern Ireland, but not for Great Britain. This backstop would come into force in the likely event that no agreement on trade is reached between the UK and EU by the end of the transition period in 2020. In any case, the nature of the backstop probably provides clues about the longer term direction of travel. So it is important.

By keeping the UK in a customs union with the EU, this will prevent the UK from negotiating its own trade deals. The main economic argument for a Brexit (weak though that may be) thus vanishes in a puff of smoke. At the same time, the benefits of single market membership will be stripped away from Great Britain, thus severely disrupting supply chains and the ability of British firms freely to export to their major markets in the EU. The Chequers ambition of a 'common rule book' - code for what was essentially regarded as continued single market membership - has been stripped away by a major negotiating win for the EU, motivated by its desire to maintain the integrity of that single market. This leaves a deal for the UK that is thoroughly miserable. The likelihood is that it will not gain the support of parliament. At the time of writing, however, we do not know what 'review arrangements' are in place in connection with the backstop; the ride through parliament may depend in large measure of this, because it will determine whether Brexiters are reassured that the UK will be free to leave the customs union at some stage.

Everything we know at this point suggests that this is a lose-lose deal. Given the red lines that the UK government set itself, and given its desire to make Brexit a cakeist project, that was perhaps inevitable. The UK is now faced by the choice between this calamitous deal and a constitutional crisis - and the latter looks to be the better option. Mercifully - despite the frenzied activity at the last minute - the negotiations on this seriously flawed deal have been completed early enough for other options to be considered. A 'no deal' Brexit is desired by (virtually) nobody and would have highly damaging economic consequences. Other options still available are some version of the 'Norway for now' proposal put forward by Nick Boles (though the 'for now' almost certainly needs to be extended), or a further public vote which could conceivably result in a mandate to remain in the EU.

Monday, November 27, 2017

The government has published its long-awaited Industrial Strategy. It is well established that successful innovation often involves collaboration between public and private sectors, and the provision by government of a clear steer, with the promise of tangible support in the ‘Grand Challenge’ areas of AI, mobility, environment and ageing, is to be welcomed. There is some overlap between these areas and the launch of Sector Deals – partnerships between government and industry in the areas of AI, the automotive sector, construction, and life sciences. Future Sector Deals are heralded in the areas of creative, digital, and nuclear industries.

The Strategy places considerable emphasis on ‘people’, and stresses the need ‘to create good jobs and greater earning power for all’. The commitment is that ‘as the economy adapts, we want everyone to access and enjoy good work’. Within government, the Business Secretary is to take on responsibility for the delivering quality jobs. Building on the Taylor Report, he will develop ‘a set of measures against which to assess job quality and success’ – including: ‘overall worker satisfaction; good pay; participation and progression; wellbeing; safety and security; and voice and autonomy’. Some aspects of good work, as defined in the literature, are notable in that they do not appear in this list – notably flexibility and worker co-determination. Sector Deals are proposed as one mechanism whereby job quality can be enhanced; there will need to be others.

While employment in the UK has recovered well from the Great Financial Crash, it is widely recognised that the economy suffers a serious problem of mismatch in the labour market. The Industrial Strategy seeks to address one aspect of this problem – an absolute shortfall of certain skills. In particular, it identifies gaps in skills in science, technology, engineering and mathematics (STEM) and inequalities in educational achievement. The proposals in the Strategy to address these issues build upon innovations introduced in the last two Budgets – specifically in the provision of Technical level qualifications, apprenticeships, investment in mathematics education, and lifelong learning. The Strategy leaves another aspect untouched, however. Overeducation – or, rather, the allocation of well educated workers into jobs where they are less productive than they might otherwise be – has become an increasingly prominent issue. A part of any successful industrial strategy should therefore be to investigate how the operation of the labour market could be improved so that people can most effectively use the skills they already have.

The Strategy aims to tackle regional disparities in skills by devolving responsibility and budgets to mayoral areas. This is welcome, as local conditions are best understood by people working on the ground. More generally, the migration of highly skilled young workers to London is leading to coincident overheating in the capital and stalled recovery elsewhere. Investments made as part of the Industrial Strategy all have a spatial dimension, and active government support for initiatives ought explicitly to be conditional on promoting and maintaining regional balance; the need is for something with considerably more teeth than the regional mission of the British Business Bank heralded by the Strategy document. The Northern Powerhouse and Midlands Engine may be key to this – though it is critical that these initiatives should work together and not mutually frustrate each other. (If everywhere is a powerhouse, nowhere is a powerhouse – and there is a legitimate fear that regional politics may already have kiboshed George Osborne’s great idea.)

The UK has long lagged behind major competitor countries in its R&D spending, with combined public and private spending amounting to 1.7% of GDP. This compares with 2.8% in the US and 2.9% in Germany. The Strategy sets the goal of raising the proportion in the UK to 2.4% by 2027. This medium term goal appears modest, and indeed the Strategy itself sets an aspiration for a longer term target of 3%.

Overall, then, there is much to welcome in the Strategy. Productivity has been an issue in the UK economy for many years, and it is good to see government make explicit its responsibilities as an agent that can set the right environmental conditions for business to innovate. It is however a pity that the positive aspects of the Strategy are at odds with other relevant developments in the policy domain. The word Brexit does not appear in the document at all, and the only serious discussion of its implications for the substance of the Industrial Strategy is in a brief paragraph on the penultimate page. That aside, there is one page (with a lot of white space) that deals with migration – in a notably coy manner. The sad reality is that Brexit will take with one hand what the Industrial Strategy gives with the other.

Monday, August 21, 2017

The 'Economists for Free Trade' group has produced a document, authored by Patrick Minford, suggesting that Brexit will provide considerable economic benefits to the UK. It is interesting how this group has changed its name so that it looks as though more than one group is saying the same thing as them - they were 'Economists for Brexit' a few months ago.

Minford's basic argument for free trade is one that most economists would support. Trade (whether international or just me going to buy a coffee) happens because it's an exchange that makes both parties better off - and restricting that trade makes us worse off. International trade can be restricted by tariffs, but also by a whole plethora of non-tariff barriers (eg regulations of various kinds).

Minford emphasises tariff barriers - and (curiously, since he reckons Brexit will ‘mostly eliminate’ UK manufacturing) has a very manufacturing oriented view on this. But he's way out of date. The World Trade Organisation works to reduce tariff barriers worldwide - and we already benefit from that. There are still some tariffs, sure, but this really isn't the main thing that impedes trade.

That impediment comes from regulations - and the single market has done more than anything to remove it. Leaving the single market would put a whole lot of new barriers in place.

We don't know exactly where Minford's latest figures come from – his group is reporting the research bit by bit to try to get more publicity. But he undertook a similar exercise before the referendum, and it was clear from that that his model was ill-equipped to do the analysis. Indeed that exercise was widely panned. The model they use assumes a reduction in VAT instead of a tariff cut. It also assumes that the burden of regulations will decrease (and rather curiously models that by assuming a fall in the employer's rate of national insurance). Now if the EU regulations that our exporters face when they sell to the EU could be magicked away just by us leaving the EU, there might be some case for doing that, but otherwise it's bonkers. No, let's just tell it like it is... it is just plain bonkers.

Here's a picture that the Resolution Foundation produced, showing the 'before the referendum' and 'after the referendum' forecasts of economic growth made by every forecaster surveyed by the Treasury in its regular compilation of UK forecasts. The red dot is the forecast in July 2016 (after the referendum), the blue dot in June (before). In all cases but one, the expected impact of Brexit is clearly negative. The one exception is Patrick Minford.

The BBC – which, during this August silly season has given much prominence to the Economists for Free Trade report – needs to take a long, hard look at itself. By following a remit on 'balance' that is designed for political balance during general elections, not referenda, it has provided a completely unrepresentative view of the technical aspects of Brexit. (Bizarrely, it does the same thing with climate change when it gives the likes of Nigel Lawson a platform.) Balance should apply when there is a discussion about values - and of course there are some values-based arguments surrounding Brexit, and that is perhaps where the confusion comes in. But on a technical issue, where the science is clear, cranks should be treated as cranks. This really is flat earth stuff.

Tuesday, August 15, 2017

The UK government has published a document on future customs arrangements with the EU, in which two possible models are floated. The first of these involves a ‘highly streamlined’ system in which existing procedures are largely maintained alongside ‘technology-based solutions to make it easier to comply with customs procedures’.

The second involves the UK mirroring EU procedures when imports that will subsequently be exported to the EU enter the UK – thus allowing seamless movement of products between the UK and EU. Just how anybody will know which imports will later be exported is anyone’s guess. The government’s document refers to ‘simplifications for business, such as self-assessment’… which sounds a lot like complications for business.

The opportunities that will exist to strike trade deals with third party countries undoubtedly offer the UK some potential to benefit. This comes, however, at a cost – most notably bureaucracy. Clearly the UK should not be able to import products from a third country with a tariff that is lower than that applied by the EU, simply to export them to the EU without tariff. But it might be possible for UK businesses to process these products and sell their output to the EU at zero tariff. A call must then be made in determining how much processing or modification is needed in order to qualify a product for tariff-free export to the EU. Hence the need for rules of origin. Devising and subsequently implementing these rules is a huge undertaking – though technology (elsewhere in the document described as involving a ‘risk-based and intelligence-led’ approach) can certainly, albeit with imperfection, help.

The first option presented by the government’s document could be highly streamlined indeed if the UK were to be free to strike its own trade deals but did not take advantage of that freedom, and if it inherited all the trade arrangements already made by the EU (unlikely though this scenario might be). The existing customs union would then remain in all but name. A somewhat less streamlined mechanism would allow exceptions, albeit at cost that would need to be balanced against the benefits.

Whatever final arrangements are agreed, the UK government is proposing a transitional period. And – noting the British penchant for solving problems by changing the name – whatever it is called, at least the transitional arrangements should look very much like the customs union that currently exists.

Friday, January 06, 2017

Comments by Andy Haldane, chief economist at the Bank of England, comparing economic forecasts to the famous failure of Michael Fish to predict the October 1987 hurricane have been seized upon by the media. The relevant part of Haldane's commentary comes in the 5 minutes from 15m30s in this video.

A number of points are worth making about this. First, the specific forecasting failure that Haldane compares to Fish is that of the financial crash leading to the Great Recession. Some media outlets have suggested otherwise. Haldane does comment on the Bank's forecasts for the post-referendum period and notes that the economy has been more resilient so far than had been expected, but he continues to expect a relatively tough year in 2017.

Focusing then on the major forecasting failure in 2008, he identifies two contributory factors. The first (extending the analogy with meteorology) is a lack of data. With better data, better forecasts can be produced. The second is arguably more fundamental. As Haldane notes, the forecasting models tend to work well when the economy is close to equilibrium, but perform badly during the (more interesting) periods following a shock. They clearly need to be redesigned, and indeed are being redesigned, better to accommodate such extreme events. Much effort since the crisis has gone into developing macroeconomic models to include imperfectly operating housing markets, and it is likely that this effort will contribute to more successful forecasting in future.

That said, economies are made up of people with free wills, and forecasting in this context can never become an exact science. The forecaster's tools - be they VAR models, neural networks, DSGE models or whatever - allow the evidence to be marshalled systematically in order to produce informed estimates of the likely time paths of key economic variables. But they are informed only by what is known at the time of the forecast, not magically informed by data that are unavailable. That said, data on the vulnerability of the sub-prime sector were available in 2007, and it is certainly fair to say that these should have been given greater heed in forecasts.

However, while many laypeople consider forecasting to be a major part of what economics is all about, that perception is misleading. Most economics is based on generating hypotheses that are then tested on historical data. This allows some stylised facts to be determined, and helps us understand a complex world - for instance: production quotas raise the price of oil; or restricting trade is harmful to growth. The body of economic understanding that has developed in this way over many years is in no way challenged by the fact that (in common with everybody else) economists lack perfect crystal balls.

Friday, December 02, 2016

The government's approach to Brexit negotiation has been rather difficult to fathom - partly because the undertaking not to give a 'running commentary' has made pregnant every least significant ministerial utterance. But, insofar as one can make sense of the government's position at this stage, it is this: the government wishes to negotiate a relationship with the EU that is outside the EU and outside the EEA, but which is at least as advantageous to the UK as EEA membership would be. Specifically, it is looking to remove the UK from the plethora of regulations that essentially define the EEA - the non-tariff barriers that define standards for goods and services - and wants to replace this with a system of mutual regognition (MR). So, instead of accepting a single set of European standards, the UK would be allowed to define its own standards, but trade between the EU and UK would remain unhindered because each of the UK and EU would accept the other's standards. At the same time, being outside the EU and the EEA might unambiguously allow the UK to impose restrictions on the movement of labour. This adoption of MR might be what 'sovereignty' looks like.

For both sides to the negotiation to accept MR would require it to be understood that there are limits to the extent to which standards can diverge. The EU is unlikely to accept MR as a principle without restricting the UK's ability to define standards that, in effect, produce serious non-tariff barriers - and the same goes the other way. Sovereignty is diluted by this. Moreover, the definition of a whole bunch of new standards for the UK implies the creation of a huge bureaucracy. 'Leave' voters who were concerned by the Eurocracy would not likely be impressed. And both the UK and the EU will have red line conditions attached to any MR agreement - it is unlikely that the UK would manage to secure an agreement of this kind without both continued payments to the EU and conditions being met on the mobility of labour.

If this is indeed the way the government is thinking, it is not the worst of all possible worlds. But, once it has been negotiated through, the merits of such a proposal, relative to those of simply remaining within the EEA, are not at all clear.

Friday, October 28, 2016

The employment tribunal ruling that Uber drivers are employees rather than being self-employed sub-contractors has major implications for the development of the labour market. Much evidence suggests that there has been a large growth of employment in the-so-called 'gig economy', where a firm puts workers in direct contact with clients to undertake specific one-off tasks (or 'gigs'). The firm acting as co-ordinator between workers and clients arranges the gig - and is often assisted by technology in doing this - and takes a commission for doing so. Hence, in the case of Uber, a passenger uses her digital device to arrange a journey, and Uber's software is used to find a possible driver. Till now, the drivers have been considered to be self-employed.

Working in the gig economy offers advantages and disadvantages. Work arrangements can be very flexible. But as self-employed workers, many of the protections available to employees have been absent. So, for example, gig economy workers cannot access sick pay unless they make insurance arrangements themselves - and there are moral hazard reasons why this might be difficult. Likewise they are likely to have to make their own pension arrangements. If they are available for work at a time when no work is offered, they may in effect be paid below the minimum wage. For some workers, involvement in the gig economy supplements a more regular job. For others, the main source of income is the gig economy. And for this latter group, the lack of job security can be a problem.

It is, however, a problem not only for the individual worker, but for the economy more generally. If workers do not have a long term engagement with an employer, they are likely to lack the structures that have conventionally accompanied a job - in particular training, development and progression. While some parts of the gig economy involve highly skilled work - freelance journalism, or business consultancy, for example - others less so - and here driving is a classic example. In the absence of a career structure, workers will lack the opportunity to develop to their full potential, and, for the economy as a whole, this creates a productivity gap. If the future of work is increasingly characterised by a looser set of ties between employers and employees, institutions other than the employer will be needed to provide the mechanisms that ensure development, progression and productivity enhancement. Membership organisations may be one way in which this role can be fulfilled. Unions are one example, accreditation bodies are another.

The finding of the employment tribunal will raise Uber's costs and this in turn will diminish its competitive advantage. If Uber can survive this, then its employees will benefit from the new employment security that they will enjoy. Otherwise, Uber may not be able to operate in the UK.

In this digital age, however, solutions similar to Uber, possibly operated from other legal jurisdictions, would be sure to emerge to fill the gap. While the tribunal ruling shifts the responsibility for employment security onto the employer in this case - and while many other gig economy businesses will need to consider the ruling carefully - a more comprehensive solution may be to look to other institutions than the employer to provide workers with security, development, progression and productivity enhancement.