In not cutting taxes and allowing high inflation, the Government is holding back growth

David Cowan 7.45am

On Tuesday the ONS revealed that growth for the last quarter was only 0.5 per cent. Many were expecting the figure to be lower, especially after only 0.1 per cent growth in Q2, but this meagre performance is still a serious cause for worry.

This may be unsurprising given the current global financial storm, the latest Eurozone bailout package being at threat by a Greek referendum and the lack of a credible plan from President Obama and Republican presidential candidates. However, this does not mean that the UK is powerless to boost growth. In fact, the Government is pursuing policies that are harming growth.

The most irresponsible is the Bank of England’s second round of quantitative easing (QE2). The de facto printing of money to the tune of £75 billion will not boost growth, but only exacerbate the already dangerously high level of inflation at 5.2 per cent. There is nothing progressive or compassionate about allowing the ‘inflation tax’ to put further pressure on the poorest people in the country at a time when real wages are not increasing. We cannot inflate our way out of our problems. The Government must realise that we need capital accumulation based on real savings for investment into British businesses instead of cheap credit at the heavy cost of rising inflation.

The Government’s growth strategy also seems to be too heavily weighted towards investment programmes. While it is certainly desirable that the Government should invest in more science R&D, education, apprenticeships and expanding the broadband network, there are some potential ‘white elephant’ projects that should not be pursued.

The biggest one is High Speed Rail 2 (HS2) which is based on Labour’s original badly planned route, has £28 billion worth of hidden costs and leaves our current infrastructure in its present decrepit state. The £1 billion Regional Growth Fund is also another futile attempt to get growth going and will actually destroy jobs.

Businesses are still having to pay higher taxes, which the state then inefficiently redistributes to areas which are already heavily dependent on hand-outs. Growth will not come from a Keynesian style ‘multiplier effect’. The focus should be on tackling the true restraint on growth: high taxation.

The 50p tax rate remains, despite it losing £4.5 billion and driving businesses away. National Insurance Contributions (NICs) are penalising job creation and have caused perverse income tax rates. The 10 points increase in Capital Gains Tax (CGT) will only prevent the capital accumulation we so desperately need for real investment in the private sector. Green taxes are already making up 20 per cent of every household’s energy bill.

On top of this, new taxes have been arbitrarily levied on banks and energy companies with little or no warning thus causing uncertainty. It is time for real action on reducing and simplifying our unnecessarily long tax code which is punishing enterprise and the poor.

Tax cuts can largely pay for themselves, as optimal levels are reached and increasing growth will boost revenues. However, there will need to be some spending cuts to soften any loss of revenue which may occur. I would suggest scrapping HS2, which will save £30 billion, dismantling the Green Investment Bank and Regional Growth Fund, which will save a further £4 billion, and abolishing the Department for Education (as I have previously suggested here).

The Government is contending with a turbulent economic climate and the legacy of Gordon Brown, which has left the UK heavily indebted and uncompetitive. There have been bold moves to tackle this, such as the deficit reduction plan, liberalising employment law and planning regulations, and education and welfare reform. However, there has been no attempt to deal with the key threats to economic prosperity for all, especially the poorest: rising inflation and high taxation.

It is essential that George Osborne tackles these twin dangers if he wants to regain the Conservative party’s reputation for economic competence and social compassion.

Follow David on Twitter @david_cowan

George Osborne’s strategy is to show that Britain is open for business

Matthew Robertson 6.04am

This is the second in a series of Egremont contributors’ entries to Fraser Nelson’s Coffee House competition, with a prize of a bottle of Pol Roger for the best explanation of George Osborne’s growth strategy.

A man checked into a hotel for the first time in his life, and goes up to his room.
Five minutes later he called the reception desk and said: “You’ve given me a room with no exit. How do I leave?”
The desk clerk said, “Sir, that’s absurd. Have you looked for the door?”
The man said, “Well, there’s one door that leads to the bathroom. There’s a second door that goes into the closet. And there’s a door I haven’t tried, but it has a ‘do not disturb’ sign on it.”

This is the dilemma facing the Chancellor at this crossroad for the UK economy: regardless of which door he opens he is still in the same room of a stagnant economy.

Open door #1 and rebalance the economy between public and private sectors which will involve cuts affecting people’s everyday lives; open door #2 and cut taxes to keep the City of London competitive and risk creating another bubble; or open door #3 and ease up on the austerity measures which could disturb the financial markets.

Of course all of these are not mutually exclusive of each other - the answer lies somewhere between the bathroom and the exit via the closet door. Despite consistently iterating that the number one priority of the Government is to reduce the deficit, the Chancellor has long acknowledged that a growth strategy is of essential importance as well.

The fundamental thinking of Osborne’s growth strategy is credit. Businesses need credit to invest and grow, which in turn means more hiring leading to greater employment and increased confidence. The reason the Chancellor always returns to the deficit when asked about growth is confidence. Confidence is what makes businesses invest and individuals spend and this is the integral building block of growth.

Running a tight fiscal policy with low interest rates has allowed the terms of trade for our businesses to improve substantially with the rest of the world. This had to be the starting point for growth.

Moving on from that position, the Government has announced numerous measures to help businesses develop and grow.  The Regional Growth Fund is a £1.4 billion fund operating over three years to galvanise private sector-led employment and economic growth. The aim of this is to secure an economy that is more balanced between private and public sector, as well as harmonise growth across different regions of the UK.

Another policy to enable growth is prioritising investment in infrastructure, which has been demonstrated by the increase in capital spending of £2.3 billion in the 2010 Spending Review, and investing over £30 billion in transport projects.

All of this has already happened and could not have happened without the bedrock of a stable fiscal position. These policies are examples of an underlying strategy from the Chancellor to create jobs in the economy whilst preserving the key ingredient: Confidence.

So where will this confidence come from and how do we find the door for the exit without disturbing low interest rates and a sound fiscal position?

There is no easy answer to this question but the Chancellor has a strategy and has attempted to answer it.

Firstly, he has introduced new Enterprise Zones to stimulate private sector led investment. Through the tax system he has incentivised investment by extending the capital allowances short life asset regime for plant and machinery from four years to eight years and provided £180 million for up to 50,000 additional apprenticeship places.

These are confidence measures targeting areas, business and individuals. Critics will say these measures do not go far enough but every one of these policies boost confidence in the real economy without hindering the financial markets. The Chancellor’s strategy is not risk free or easy but is an attempt to steer the UK economy out of the hotel room he was given with as little disturbance as possible.

The strategy is plain and simple: stop the negativity, get up and show the world that the UK is open for business and use the fiscal position we have to build a better and more balanced economy. If only we could find the keys.

Follow Matthew on Twitter @FlatFootTory

Central bankers, not politicians, will be the ones guiding the global economy to safety

Matthew Robertson 7.59am

Ever heard of Paul Reid? What about Sir John Parker? John Deacon?

You’ll be forgiven for not knowing who two thirds of the above are but I’m sure a lot of you know what Ben Bernanke, Jean Claude Trichet and Mervyn King do for a living.

They are the fine tuning, careful helmsman of the Western economies. The men, who before 2008, were mostly concerned with raising/decreasing interest rates a percentage point or two so that inflationary pressures would not embed themselves in the economy.

Like now, they were hardly household names and even though their roles were fundamental to the world economy, the measure of their success was determined by the consistency of their approach and the expected headlines they each produced. This was the Guardian in 2006:

‘Interest rates were left at 3.25% but the ECB president, Jean-Claude Trichet, sealed market expectations that rates will rise next month by saying that vigilance was needed on inflation pressures.’

The Economist in 2007:

‘Ben Bernanke talked about “generally favourable financial conditions” and enthused—as much as a Fed chairman is allowed to—about “fairly brisk” financing activity in bonds and business loans. Mr Bernanke also talked about the Fed’s continuing concern over inflation. Nothing new here, really.’

And the FT in 2005:

‘But with money markets now expecting at least one quarter point interest rate cut this year and another early next year, Mr King’s emphasis on the risks of higher inflation appeared designed to correct the recent notion that interest rates would soon be cut.’

Inflation was the key problem and the tool at the disposal of central bankers to tackle it was setting interest rates. Economics had enabled solving the problem of inflation whilst continuing solid growth. Central bank independence removed the threat of politicians manipulating monetary policy to coincide with electoral cycles and by having a credible committee to keep inflation around a certain target, inflationary expectations could be tamed.

This was the job of a central banker, staying behind the scenes ensuring that inflation was kept under control and the economy smoothly elevated. A similar role to that of Paul Reid, Managing Director of National Air Traffic Services (NATS), who ensures the safe and orderly movement of aircraft along our air routes. Every little decision can have a monumental effect, a small deviation can set the course of the economy/aircraft on a cataclysmic path.

Of course the financial crisis of 2008, for which we are still suffering from, dispelled any belief that economics had solved the problems that had dogged it for years. Growth across the Western world is still stagnating and inflation is well above target in most Western economies.

Throughout the conference season you will have heard a lot from Cable, Osborne and Balls on their suggested paths for the UK economy. There is no doubt that the role of fiscal policy is important in negotiating the turbulence ahead but the key to the recovery lies with the controllers, the fine tuning, careful helmsman of the economy. A fiscal stimulus will have little impact if detrimental monetary policies are pursued at the same time.

A cautionary tale comes from Europe. The crisis devouring the Eurozone has various causes, not least the failure of European politicians to tackle the underlying problems, but the rate increase from 1.25% to 1.5% by the ECB on 7th July has not helped. ‘The entire continent would benefit from maintaining price stability and confidence’ exclaimed Trichet but the exact opposite has happened. As a result of the increase, borrowing costs increased for countries such as Spain and Italy, who unlike Greece are suffering from a problem of liquidity not solvency. On the back of the ECB’s decision stock markets fell across Europe and unemployment increased 150,000 to 10% from April to July and has stayed there ever since.

As the West confronts the dilemma of credit and liquidity the central banks will have to assist in every way possible and so the old rule book of maintaining price stability through setting interest rates may have to be altered.

Interest rates must be kept low to ease the pressure on companies and individuals’ cash flows. This is the lifeblood of the economy and maintaining liquidity must be at the top of every central bank’s agenda. A job reminiscent of Sir John Parker, chairman of the National Grid, who ensures that electricity generated anywhere in Great Britain can be used to satisfy demand elsewhere at any given point.

The systems are so interconnected that any break could have devastating effects. This is the exact dilemma central bankers face today. Central banks must maintain liquidity to ensure that money can reach businesses and individuals elsewhere when needed. By keeping interest rates low, central bankers can assist with ever increasing liquidity troubles.

You will have heard a lot about Cable’s fiscal stimulus, Balls’ VAT cut and Osborne’s credit easing over the Conference season. However, as the UK hovers over a possible double dip, America endures increasing unemployment and the Eurozone faces collapse it is the air controllers and energy deliverers of the economy who will have the biggest impact on our lives.

As for John Deacon, he was the solid bass player of Queen whose great hits would not have happened without him, but you already knew that didn’t you?