Thursday, 31 August 2017

This might seem
easy. The depreciation immediately after Brexit, plus subsequent
declines in the number of Euros you can buy with a £, are pushing up
import prices which feed into consumer prices (with a lag) which
reduce real wages. But real wages depend on nominal wages as well as
prices. So why are nominal wages staying unchanged in response to
this increase in prices?

Before answering
that, let me ask a second question. Why hasn’t the depreciation led
to a fall in the trade deficit? Below are the contributions to UK GDP
from the national accounts data.
Net exports are very erratic, but averaging this out they have
contributed nothing to economic growth since the Brexit depreciation.

The belief that the
depreciation should benefit UK exports is based partly on the idea
that exporters will cut their prices in overseas currency terms,
making them more competitive. Yet at the moment UK the majority of exporters seem to be responding to the depreciation not by cutting
prices but by taking extra profits. If they keep their prices
constant in overseas currency terms (from currency denomination
data almost as many exports are priced in overseas currency as
imports), sales will stay the same but profits in sterling will rise.

While this helps account for the lack of improvement in net trade, it increases the puzzle over why
nominal wages are not responding to higher import prices. If exporting firms profits are rising because of the depreciation, why not pass some of that on to their workers?

One perfectly good
answer is that the labour market is weak, and what has stopped real wages falling further is that firms do not like to cut nominal wages. In
these circumstances there would be no reason for exporters to share
their higher profits with their workforce. So the immediate impact of
the depreciation has not been a decline in the terms of trade (export
prices/import prices), but instead a shift in the distribution
between wages and profits. But many people believe that, with unemployment falling rapidly, the labour market is not weak.

There is
another reason why exporters might be increasing profits but not
sales, and not passing higher profits on to higher wages, which goes
back to a point I have stressed before.
We need to ask why the depreciation happened in the first place. To
some extent the markets were responding to lower anticipated interest
rates set by the Bank of England, but there is more to it than that.
Brexit, by making trade with the EU more difficult, will reduce the
extent of UK-EU trade. Furthermore there are two reasons why Brexit
is likely to reduce UK exports by more than UK imports.

The first is
specialisation. Because countries tend to specialise in what they
produce, they may not have firms that produce alternatives to many
imports, making substitution more difficult. The EU produces many
more varieties of goods than the UK, so they are more likely to be
able to substitute their own goods to replace UK exports. The second
is the importance for UK exports of services, and the key role that
the Single Market has in enabling that. On both counts, to offset exports
falling by more than imports after Brexit we need a real depreciation
in sterling. Exporters will have to cut their prices in overseas
currency terms, and a depreciation allows them to do this.

Of course Brexit has
not happened yet. We still get a depreciation because otherwise
holders of sterling currency would make a loss. So firms do not need
to cut their prices in overseas currency yet, allowing them to make
higher profits. But these higher profits will be temporary,
disappearing once Brexit happens. It would therefore be foolish to
raise wages now only to have to cut them later when Brexit happens
(no one likes nominal wage cuts). To restate this in more technical
language, when Brexit does happen the UK’s terms of trade will
deteriorate as a response to export volumes falling by more than import volumes.
Firms are in a sense anticipating that decline in the terms of trade
by not allowing nominal wages to rise to compensate for higher import
prices.

So before Brexit
happens we are seeing a distributional shift
between wages and profits, but once Brexit happens profits will fall
back and we will all be worse off. For Leave voters who think this is
all still just ‘Project Fear’, have a look at the national
accounts data release
that the chart above came from. It shows clearly that UK growth in
the first half of this year has been slower than that in the
US, Germany, France, Italy and Japan by a wide margin. What Leave campaigners called Project Fear is real and it is happening right now, but do not expect your government or some of your newspapers to tell you that.

Monday, 28 August 2017

I think it unlikely
that we will have a second referendum before we leave in 2019. [1]
Brexiteers fear losing it and Labour fears fighting it. So why ask
the question? It will become clear.

I think if a second
referendum was just a rerun of the first, then Remain would win
comfortably. It is now pretty clear there will be no £350 million a
week for the NHS, and instead as the OBR suggests there will be less
money if we leave the EU. The economic concerns that the Leave
campaign so effectively neutralised with ‘Project Fear’ are now
becoming real: we had a depreciation (as predicted), real wages are
falling, and GDP per head in the first half of the year is almost
stagnant. I could go on, but this is enough for many Leavers to
change their minds.

Partly because of
this, a second referendum would not be a rerun of the first. Leave
would have a new theme, which they would plug away at relentlessly.
They would argue that the very existence of a second referendum was
an attack on democracy. The people had already decided, and a second
referendum was an attempt by MPs to take power away from the people.
The people needed to take back control from MPs as well as the EU.
They would argue that you should vote to Leave again to preserve
democracy.

The simple point
that people should be allowed to change their mind would be met by
lots of rhetoric that sounds convincing. If a second, why not a
third? Referendums are meant to last a generation, and not to be held
every few years. (Quotes from David Cameron saying similar things
from the last campaign would be trotted out.) We know from the polls
that this argument has power, as many people who voted Remain think
that nevertheless we should respect ‘the will of the people’.
Many think that on a constitutional issue like this, a referendum
should override the views of MPs, and will feel that by voting Leave
they will be upholding this principle. In this sense it would be
like the Labour leadership election in 2016, which Corbyn won in part
because members felt MPs were trying to take members power away.

If your reaction to
this is to say ‘what nonsense’ or ‘who would be so idiotic to
fall for this tactic’ then you are who I’m writing this post for.
The view that Remain lost and that result should be respected is a
perfectly valid point of view. Furthermore, as Owen Jones has pointed
out, the polls suggest there are many besides himself who take that
view. It does the Remain cause no good whatsoever to suggest that
people who hold this view are in any sense stupid. (The opposite is
also true - the Re-Leavers view is also not obviously right, and needs to be
argued. Is parliament overriding the referendum result really a 'coup against the popular will' when people realise they were duped and so no longer support Leaving?)

In addition, Remain campaigners just
saying a majority of the electorate didn’t vote for Leave because
some people did not vote will not convince anyone. Simply asserting that
the original Leave campaign was based on lies is also not sufficient,
because all election campaigns involve politicians telling lies of
some kind. We need much better arguments than this if we are going to
convince Remainers who think the original referendum result should
stand.

A good place to
start is a post
by Richard Ekins, a Professor of Law at Oxford University, who argues
“Political fairness and democratic principle require one to respect
the outcome of the referendum even if one is persuaded that Brexit
would be a very bad idea”. His arguments are strong and they need
to be addressed (as I tried
to do in March). We need to argue that the chosen electorate for the
first referendum was not fair, and to allow just a simple majority to
decide such an important and potentially irreversible event is not
democratic, even after the event. We need to argue, as I tried
to do, that the lies told by the Leave campaign went well beyond
what normally happens in an election. In these circumstances a
referendum result is not something to respect,
but something you resist
with all your power.

Remain campaigners
also need to be politically realistic. To say, as some do, that
Labour’s commitment yesterday (to staying in the Single Market and
Customs Union during the transition period) means nothing and is “not
good enough” because it still involves leaving the EU in 2019
completely misunderstands political realities. Brexit is not going to
fall apart of its own accord. As George Eaton argues
(see also
Stephen Bush), the best bet for reversing Brexit is through a Labour
government. Given this, to suggest that Labour would campaign against
Brexit if it wasn’t for Jeremy Corbyn is both misdirected (it ignores
many
MPs in Leave voting constituencies who think Labour have to support
Brexit) and counterproductive (if Brexit is reversed, it will likely
be by a Labour government under Jeremy Corbyn).

When Owen Jones
described
‘Hard Remainers’ online as increasingly resembling a cult, I was
both shocked and surprised. I am, after all, someone who argues
online that the referendum vote should not ‘be respected’. By
cult he meant those he encountered who were

“Intolerant, hectoring, obsessively repeating a mantra that doesn’t
convince outside of their bubble, subjecting any who dissent from
their hardline stance to repeated social media pile-ons, engaging in
outright abuse and harassment, saying that people who voted Remain
aren’t really Remain supporters and are heretics.”

Now I like to think
I do none of those things, and I know some of those campaigning to
Remain who do not do these things either, but I can also see that
others might take a much more aggressive and purist approach. This is
a strange but I think real phenomenon: the less likely something is
to happen, the more some demand that only it will do. The reality is
that staying in the Single Market and Customs Union outside the EU
permanently is a lot more likely than simply staying in the EU, and
less costly that leaving either. Because it is obviously inferior to
staying in the EU it may be how rejoining the EU eventually happens.
Those campaigning to Remain are in no position to be aggressive or
absolutist.

[1] A referendum
where Remain is an option, and assuming we leave in 2019 and the
Conservatives remain in power until then.

Friday, 25 August 2017

I’m beginning to
think I should have made much more of analogies between economics and
medicine in discussing what I call the microfoundations hegemony: the
idea that the only ‘proper’ macroeconomic models are those that
have all their equations consistently derived from microeconomic
theory. The analogy I have in mind is that biology represents
microfoundations, and statistical analysis linking, say, smoking to
lung cancer are the non-microfounded models. (I've used the analogy in other contexts.)

I was thinking about
this in the context of a paper I have just finished which uses a
diagram that Adrian Pagan used to describe different types of
macromodels. The diagram, which you can find in an earlier post,
has ‘degree of empirical coherence’ and ‘degree of theoretical
coherence’ on the two axes. Particular macromodels can be placed
within this space. At one extreme involving the highest theoretical
coherence but weaker empirical coherence are microfounded DSGE
models. At the other are VARs: statistical correlations between a
group of macro variables with no theory-based theoretical
restrictions imposed. In the middle are what I call Structural
Econometric Models and Blanchard calls Policy Models, which use an
eclectic mix of theory and econometric evidence.

If you have a simple
view of the hard sciences, this diagram looks very odd. Theories
either fit the facts or they do not. But I think a medic could make
sense of this diagram by thinking about medical practice based on
biology (for example how cells work and interact with various
chemicals) and practice based on epidemiological studies. Ideally the
two should work together, but at any particular moment in time some
medical ideas may borrow more from one side or the other. In
particular, statistical studies could throw up links which do not
have a clear and well established biological explanation.

Now imagine the
microfoundations hegemony in macroeconomics applied to medicine.
Statistical longitudinal studies in the 1950s showed a link between
smoking and lung cancer, but the biological mechanisms were unclear.
The microfoundations hegemony applied to this example would mean that medics would argue that until those biological mechanisms are clearly
established they should ignore these statistical results. The
investigation of such mechanisms should remain a top research
priority, but for the moment advice to patients should be to carry on
smoking.OK, that is perhaps
a little harsh, but only a little. That some macroeconomists (I call
them microfoundations purists) can argue that you should model and
give policy advice based not on what you see but on what you can
microfound represents something that I cannot imagine any philosopher
of science taking seriously (after they had stopped laughing).

Wednesday, 23 August 2017

Over the last few
days the BBC has given considerable publicity to Patrick Minford’s
new report published by the ‘Economists for Free Trade’. I have
looked at both the BBC News website entry
and listened to the Radio 4 Today programme’s discussion.
They are both classic ‘2 sided controversy’ formats, with Monique
Ebell from the National Institute of Social and Economic Research
(NIESR) providing the main opposition.

So why was this
coverage something the BBC should be deeply ashamed about? There are
two main reasons, but first let me make a more general point which
applies to journalism more generally. There is no quality control in
most of the media when it comes to giving publicity to a report like
this. There is a very simple reason for this, and that is the primacy
given to immediacy. In a better world, when a report like this came
out, journalists would spend a few days ringing around to see what
the reaction of other experts were, or nowadays just look at
reactions on twitter.

In this particular
case such a strategy would have thrown up some apparently large
errors, and this should have led journalists to question whether they
should give the report any publicity. They might at the very least
have waited until the full report was published next month.

Let me give an
analogy. Suppose a report of a medical trial had suggested a miracle
cure for some serious disease. The report had not been peer reviewed,
and its author had connections to a drug company that stood to
benefit from the alleged cure, but the BBC had decided to give it
considerable publicity nevertheless. Within days it became clear that
there were serious problems with the report, and that there were
other existing papers that came to a completely different conclusion.
The BBC would then look very foolish, and many sufferers from this
disease would have been given false hope. I suspect for that reason
the BBC would be much more cautious. Yet if the report is about a
subject matter with any political implications this caution appears
to go out of the window.

Now let me get to
the two reasons why the BBC should be ashamed in this case. First,
Patrick Minford is no expert in international trade. He is a
macroeconomist, who in his younger, less obviously political, days
served as something of a role model for me. He published a very
similar argument about the benefits of unilateral trade
liberalisation during the referendum campaign. It was heavily
criticised by individuals
or groups
that are experts in international trade. So we have already had the
quality control, yet the BBC decided to ignore that. Returning to my
analogy, it is as if there had been earlier claims of miracle cure
that had been thoroughly debunked by medical experts and the BBC had
ignored these.

Second, at no point
in either of the two items I looked at is there any mention that the
overwhelming consensus among academic economists is that Brexit would
be harmful to the economy. We just have reports that give two
opinions, with no context whatsoever about which opinion is the
consensus view and which is the maverick. It is exactly equivalent to
giving considerable publicity to a report from some climate change
denial outfit, and including a response from one or two climate
scientists with no mention of what the consensus among climate
scientists is. Again to draw on my analogy, it is like reporting a miracle cure and failing to say that nearly all doctors thought this was rubbish.

This last point about ignoring the clear consensus touches a particular nerve for me, because it is exactly what the BBC
appeared to many of us to do during the referendum campaign. Yet when
the Royal Economic Society complained about this, they were told that
the economic consensus had been mentioned in this and that bulletin.
Whether this was cherry picking by the BBC is not easy to establish
after the event. [1] Well here is an example where it was not
mentioned, and I would like to hear from the BBC why this information
was not thought to be useful to convey to its audience. [2]

On both counts, this
is very bad journalism, even if you do not think economics has the
same standing as medicine. The BBC may have thought they had brushed
off complaints from economists, but here is a specific example where
they really do have a serious case to answer. As Ben Chu rightly
says:
“The legitimate news story around Minford’s work is how bad
science can survive and thrive when it supports the desires and
prejudices of powerful people in our society … the BBC ... has
become part of the problem.” Brexit is the Emperor's New
Clothes, and no one - including the BBC - dares say
that the Emperor has no clothes.

[1] Not easy but not
impossible: it would cost a few thousand pounds in research time for
someone to go through the main news reports during the Brexit
campaign and establish how many times the economic consensus was
mentioned.[2] Channel 4 News
did put the point
to Minford that many economists thought his work was flawed, to which
he responded by saying “all these trumped up economists and the
consensus they are all hired hands”‘. A very political answer
from a very political economist, and therefore very revealing, but
not a question the BBC apparently thought worth asking.

Monday, 21 August 2017

I talked
last week about how the Leave campaign involved lies at its centre.
Not the occasional exaggerations of the Remain campaign, but claiming things that were the opposite of the truth. Like there will be more
money for the NHS, when in fact there will be less. That particular
lie probably swung the result, according
to the man who organised the Leave campaign.

Labour people tell
me that public opinion on Brexit will turn once these lies become
apparent, and at that point Labour can safely take up the Remain
cause. What this overlooks is that the managing of information
characterised by the Brexit campaign continues. The Tory tabloids
continue to distort the truth, and the Telegraph acts in a very
similar fashion.
The UK government appears more interested in saying stuff to please
its UK audience than actually negotiating with the EU, and its
studies of the impact
of Brexit remain secret [1].

Meanwhile the opposition give no hint of the costs that Brexit will involve, and by
design
or conflicted confusion are just a tiny bit less pro-Brexit than the
government. The broadcast media, and particularly the BBC, appear
hopeless at questioning the facade that both main parties and
supporting think tanks have erected. I have never heard a politician
pulled up for saying we must retain access to the Single Market: all
countries have access to that market! (This
is the kind of journalism we should be seeing.) Individual MPs are
intimidated
into silence by the power of the Tory tabloids.

When I talk to Leave
voters, all they tell me is how the economic ‘catastrophe’
predicted by Remain did not come to pass, or other Leave nonsense
talking points like the exchange rate was overvalued anyway. They are
often unaware that falling real wages are the direct result of the
Brexit depreciation, and as a result the economy hardly grew in the
first half of this year. They, and many people who voted Remain, do
not realise that the government’s position papers are largely
fantasy and that the EU is in a position to dictate
terms. This is not because these voters minds are closed. They just
get their information from sources that go along with the
government’s Brexit fantasy, unless they are fortunate enough to
read the Financial Times. No wonder there has been no major
change in public opinion since the referendum.

Those in the Labour
party should realise more than most how the media can present a
one-sided reality which many non-political voters accept,
until they see for themselves the other side during a general
election campaign. The problem with a ‘wait and see’ attitude to
Brexit is that its major economic cost will not become apparent until
years after we actually leave the Single Market. Few realise that the
original Treasury study, with the central estimate of an average
annual cost of £4,300 per household (6.2% of GDP) was not some piece
of Remain spin but a perfectly reputable study, which economists at
the LSE said
was “overly cautious”. Instead we get nonsense like this
reported by the BBC. [2]

Some time ago I calculated a conservative estimate for the cost of
austerity, and it was £4,000 per household. Ironically it was based
on OBR estimates that the MSM largely ignored, just as they ignore
the OBR’s estimates for the short term cost of Brexit. But my
austerity cost estimate was a total cost, over all the years of
austerity. The Treasury estimate is a cost each year. There is
therefore a strong liklihood that Brexit will be far far worse than
austerity in terms of lost resources, and unlike austerity there is
no way of avoiding these costs once we are outside the Single Market.

For Labour party members and MPs I would put it this way. Imagine
winning the next election but having to accept continuing austerity.
Winning an election after leaving the Single Market will probably be
much worse, and of course the media and voters will blame it all not
on Brexit but on Labour’s ‘far left’ policies. Winning an
election after Brexit is a poisoned chalice.

[1] Here
is Mike Galsworthy on this and the earlier 'Balance of Competences'
reviews that the government kept very quiet about before and during the
referendum.

[2] I’ve talked to
people at the BBC, including their economics editor, about why they
cannot apply the BBC Trust’s recommendations
on science coverage to economics. (The Trust’s conclusion, in
summary, is that in controversial areas the BBC should go with the
overwhelming scientific consensus. In other words recognise
scientific knowledge, and not treat it as just an opinion.) I think a
summary of their response to my question is that economics should not
be regarded as a science: there is no economic knowledge, just opinions. What that attitude means in practice is
that the public do not hear from the many experts in international
trade we have in the UK (and there are many), but instead they hear
from Patrick Minford.

Friday, 18 August 2017

I don’t write
enough about Japan, and now that some of my posts are very kindly
being translated into Japanese I should try to remedy that. In fact
there is currently a very good reason to write about the Japanese
economy, and that is a very strong 2017 Q2 performance. Annualised
growth was 4%, compared to 1.2% in the UK. What is particularly
heartening about recent Japanese growth is that it is led by domestic
demand rather than trade. In the past Japan seemed to have the
opposite of the UK’s problem: growth was often led by trade, while
domestic demand was weak.

This recent growth
is not just making up for poor past performance compared to other
countries. Comparisons of GDP growth are misleading for Japan because
(unlike the UK and US) it has relatively little inward migration, so
it is better to use GDP per head for such comparisons. (As Noah Smith
points
out, even this my bias comparisons against Japan because its
population is aging.) Between 2006 and 2016, Japan increased GDP per
head by a total of about 5.5%, compared to around 5% in the US and
about 3% for the UK. Good compared to other countries, but all these
countries should have had stronger recoveries from the recession.

Strong growth is
good news because inflation is so low (around 0.5%): way below the 2%
inflation target. The government is trying to stimulate growth using
a modest fiscal stimulus and large scale quantitative easing (short
and long interest rates are exactly zero) as well as
implementing various structural reforms. But the striking thing about
all this is that their net government debt to GDP ratio is
125% and rising (OECD Economic Outlook measure). This is higher than
any other OECD country except Greece and Italy.

Does the conjunction
of relatively strong growth and high government debt confound
economic theory, as Bill Mitchell suggests?
Like high powered money and inflation, any relationship between
government debt and growth just does not work when interest rates are
stuck at zero. High government debt could crowd out private
investment (although some dispute this), but not when real long term
rates are zero and inflation is near zero. Servicing high debt could
discourage labour supply, but again not when interest rates are zero.
Nor is debt a burden on future generations when the real rate of
interest is well below the growth rate.

Of course most
people think such high debt levels are a real concern because of ‘the
markets’. But the markets will only stop buying this debt if they
expect default or rampant inflation, and there is no way a government
with its own currency can be forced to default. There is also no way
it will choose to default with interest rates so low. This is the
basic truth that our leaders in the UK choose not to tell us (and
pretend otherwise).

But what happens
when growth finally raises inflation, and interest rates rise. Will
debt not be a problem then? Maybe, but only in the long term, so the
government will have plenty of time to fix that roof when the sun
shines. [1] Right now Japan does worry about its high levels of
government debt, but it rightly worries about the combination of low
growth and low inflation much more. In that sense it sets a good
example to other countries.

[1] Fixing the roof
while the sun shines is one of the Cameron/Osborne little homilies I
approve of. The problem when they used it was the UK economy was
actually in pretty poor shape, as we could tell because interest
rates were so low.

Wednesday, 16 August 2017

Take the people who
voted Leave because they believed there would be more money for the
NHS if the UK didn’t have to contribute to the EU. People, and
there were plenty
of them, who believed the £350 million a week figure. Should we
respect their vote by leaving the EU, which would mean considerably
less money available for the NHS?

And how about those
who voted Leave because they believed less immigration from the EU would mean they
had better access to public services. They can hardly be blamed for
voting that way, because plenty of politicians from the Prime
Minister downwards have told them that immigration is to blame for
pressure on public services. In reality reducing immigration would
almost surely reduce the money available for public services. So how are we
respecting their wishes by leaving the EU?

And those who voted
Leave because they were worried about being ‘swamped’. Not
because it was happening to them right now, but because they have read that it is going
to happen. When Turkey joins the EU. Or with all those refugees.
Because they read countless articles that scare them. The only
difference between this
example and others is that this is explicit in talking about ‘the
Muslim problem’. Do we honestly think that leaving the EU but
continuing with free movement is going to assuage their fears?

It is an awkward
truth that what many people wanted when the voted Leave is either simply impossible, or cannot happen without making everyone significantly poorer year after year. It is this reality that keeps the government in a fantasy world. Almost
no one who voted to Leave is going to be happy with the result of
government decisions. Those who wanted better access to public
services will not get it. Those who wanted more sovereignty will find
their sovereignty sold off cheap in a desperate attempt to get new
trade deals. Those who wanted less immigration will also find their
wishes largely frustrated because the UK cannot afford to reduce
immigration.

The parallels with the US are clear. The Republicans, after spending years denouncing Obamacare, found they could not
produce anything better. Those promoting Leave also did so without any thought to how it might actually happen, and therefore they have nowhere to go when confronted with reality. As a result, the government invents a magical
customs union so that Liam Fox can have something to do. I have never known a UK government look so pathetic.

This is why the lies
told by the Leave side are so critical. People tell me this is not
important because most elections involve politicians lying. I'm afraid this is exactly equivalent to saying that Trump is just another politician
who lies. It should be obvious that Trump and today's Republican party are something new and dangerous: people who tell blatant lies all the time about crucial issues and construct an alternative reality with the help of media outlets like Fox News. In exactly the same way, those in charge of Brexit live in their own imaginary world supported by the pro-Leave press. It is this imaginary world that they got 52% of the electorate to vote for.

That alone is enough to completely discredit the referendum as an exercise in democracy. But there is more. The debate we should have had during the
referendum was about the costs and benefits of immigration, This never happened because the person leading the Remain campaign had spent so
much of his political life stoking
up fears about immigration. It is hardly surprising that so many people voted to end free movement when both campaigns were united about immigration being a problem and way too high. The referendum campaign was like a boxing
match where one side tied one of his hands behind his back and the
other side brought knives.

Respecting the
referendum result means passing all this off as just normal. It is not normal. It is no more normal than Republican's taking health insurance away from millions. It is like an election held by an
authoritarian state that runs a xenophobic campaign and controls much of the means of information. In that case we would say that this authoritarian state respected democracy in only the most
superficial sense, and the same was true for the EU referendum.

We cannot say that
we should respect the right of people to make mistakes when the
information they were given was so untruthful. The people voted for
Trump and it is right to struggle to limit the damage and overturn
that result after 4 years. Those who struggle against Trump are not
disrespecting democracy but fighting to preserve it. In the same way
it is right to limit the damage the referendum vote does and reverse
it whenever that opportunity arises.

I understand those
who say that in today's political environment anything other than another referendum is politically
impossible. I understand
why it benefits the opposition to sit on the fence and triangulate.
[1] But please do not tell me that by being politically expedient in
this way you are keeping the moral high ground. [2] There is nothing noble in defending an exercise in democracy that was as deeply flawed as EU referendum. It is no accident that the only major overseas leader that supports Brexit is Donald Trump, and that those pushing Brexit hailed his victory. Brexit is our Trump, and the sooner both disappear the better the world will be.

[1] Although what is
the point of Labour hedging bets on keeping in the customs union? It
makes their Brexit strategy look much more like confused and
conflicted than strategic triangulation.

[2] It is very easy to tell the difference between political expediency and political conviction. Imagine the very unlikely event that parliament votes to end Brexit. Would you join demonstrations outside parliament calling this an affront to democracy, or would you breath a huge sigh of relief?Postscript 17/08/17 If you think that these lies were not important in influencing the result, then you should read what Dominic Cummings who ran the Leave campaign thinks: in particular the paragraph that starts "Pundits and MPs kept saying"

Monday, 14 August 2017

As the Global
Financial Crisis (GFC) and consequent recession were in progress, the
Labour government looked at how fiscal stimulus could be used to
moderate its impact. This would increase the budget deficit that was
already rising as a result of the recession, but they knew that
cutting interest rates alone would be insufficient to deal with this
crisis, and that you do not worry about the deficit in a recession.
That is Econ 101, i.e. basic macroeconomics, and it is 100% correct.

Here Osborne and his
advisors saw a political opportunity. Before the recession, fiscal
policy had been all about meeting the government’s fiscal rules
about debt and deficits, because monetary policy looked after
smoothing the business cycle. There had been much discussion about
the extent to which Gordon Brown had been fiddling these rules.
Osborne could therefore make political capital over the rising
deficit, particularly if he could suggest the deficit represented
fiscal profligacy rather than the result of the recession.

But what about Econ
101? The advice he was given (I suspect) was reflected in a speech
he gave in 2009. This gave a short account of the history of
macroeconomic thought, and described how the New Keynesian model
underpinned his macroeconomic policy. It said that in today’s world
the consensus is that monetary policy not fiscal policy dealt with
moderating booms and recessions. Yet it failed to mention that this
idea no longer worked when nominal interest rates hit their lower
bond. And that unconventional monetary policy was powerless in the
New Keynesian model. The speech was given a month after interest
rates hit their lower bound.

The speech also said
nothing about expansionary austerity, or the need to appease the
markets. That would all come later. This also suggests that Osborne's
focus on the deficit was a simple but devastating macroeconomic
error, a result of just not doing your homework. It was an incredible
error to make, as the fact that interest rates had hit their lower
bound was all over the financial press. If the media had been in
touch with academic economics they would have pounced on this black
hole in the speech. (Maybe this is complete coincidence, but his main
economic advisor
had previously worked at the IFS, where as I have said elsewhere they
do not do macro. [1])

As an economic
choice his policy was crucially out of date, but as a political
choice it was almost brilliant. The line he pushed on the deficit
came to dominate the media narrative, which I was later to describe
as media macro. It did not win the 2010 election outright, but it
went on to win the 2015 election. I say almost brilliant, because it
has proved the undoing of his successor. The economic damage done by
cutting government spending at the one and only time monetary policy
could not offset its impact was immense. I think it is no
exaggeration to call it the most damaging UK macroeconomic policy
mistake in my lifetime as an economist.

It was damaging in
part because politics drove two additional features of his policy
after he became chancellor in 2010. First, the austerity policy
would have had less economic impact if most measures had been delayed
until later into the 5 year term of the coalition government. But
that would have meant deep cuts before the next election, and Osborne
could see that would do political damage. Second, although the fiscal
rule did not require it, public investment was cut back sharply in
the first few years, because investment is often easiest to cut. As I
say in that 2015 post,
those cuts in public investment alone could have reduced GDP by 3%.

By 2010 you need to
introduce other actors who played a part in these mistakes. The
Treasury did what the Treasury unfortunately often does, and put
public spending control above the macroeconomic health of the
country. The Governor of the Bank of England pretended that losing
his main instrument didn’t matter, even though I’m told the MPC
had almost no idea what impact unconventional monetary policy would
have. If either institution had acted better perhaps the damage done
by the austerity policy could have been moderated, but we will never
know.

But the main damage
was done when the Conservatives were still in opposition. Did the
policy of opposing fiscal stimulus start off as a policy to reduce
the size of the state under cover of deficit reduction: what I call
deficit deceit? Or was it just something to beat Labour with: the
first in what proved to be a long line of bad economic judgements
simply designed to wrongfoot his opponents. Without the actors
involved telling us, I think it is impossible for us to tell. However
there are two things I think we can clearly say.

First, if it started
as ignorance rather than deceit, it turned into the latter as Osborne
prepared to repeat the policy all over again before the 2015
election, while at the same time cutting taxes. Second, if it started
as ignorance it is far too kind to call it a mistake. It is similar
to someone who has never learnt to drive taking a car onto the
highway and causing mayhem. It reflects a cavalier attitude to
economic expertise that has, I have argued,
its roots back in the early days of Thatcherism.

[1] This advice
served him well in other respects, such as establishing the form of
his fiscal rule (which would help limit the impact of austerity after
2011) and creating the OBR.

Friday, 11 August 2017

When people say
‘all politicians lie’, they cannot seriously mean they all hold
to the same standards of veracity as Donald Trump. But how do you
measure degrees of lying in politics?

Paul Krugman
suggests
that the Republican party’s problems began when they started
pushing the idea that tax cuts pay for themselves. The notion that
cutting taxes will bring in more rather than less tax revenue is a
theoretical possibility but has been shown by study after study to be
empirically false. But why was this lie worse than others?

I would suggest the
following. The lie became (and continues to be) a major plank of
Republican policy. We are not talking about being economical with the
truth with statistics to present a party’s policies in a more
favourable light. This lie was ultimately an attempt to legitimise
cutting taxes on the very rich, and reducing the size of the state
(because when the tax cuts did not pay for themselves the next step
was to cut spending to control the deficit). It was a lie that went
completely against expert opinion, and was at the heart of Republican
economic strategy.

Lying in this
fundamental way distorts the whole direction of political activity.
It and its supporters begin to focus on ways to hide the truth. It
means setting up think tanks whose aim is not just to push the party
line, but also to provide a counter-weight to, and therefore
neutralise the power of, real expertise. Such think tanks involve an
element of ‘pay us your money and we will push your interests’,
which is why right wing think tanks are the least transparent
about their funding. It also means using partisan media outlets to
present an alternative reality to voters.

If you can get away
with this, then why stop at one crucial lie. Politics becomes about
choosing the lies they can get away with that will promote their
cause. It is about what lies sound plausible to particular voters, or
what lies a partisan press can reliably sustain by selecting evidence
to support them. Lines between politics and journalism in partisan
outlets become
blurred.

We see the politics
of lying all the time in totalitarian regimes, or regimes that
control much of the mean of information. What I think has surprised
many is that two nations that pride themselves on their democratic
traditions and independent media can reach a point where the leader
and ruling party of one lies all the time, and the other undertakes a
huge constitutional change on the basis of a campaign where one side
lied
with impunity.
The Brexit campaign did not lie for the fun of it, but because it
would gain them votes, and what evidence
we have suggests their lies were believed.

It is not hard to
understand why these two longstanding democracies succumbed so easily
to the politics of lying. First, they tolerated the growth of a
partisan media that danced to whatever tune their owners played.
Second, the remaining non-partisan media placed even-handedness
between each side, the political horse race and entertainment above
informing the public and telling the truth. The Clinton email
controversy illustrated clearly a failure to apply any notion of
balance. Calling the £350 million a week figure ‘contested’ was
literally being economical with the truth. The BBC’s mission to
“inform, educate and entertain” has a secret caveat: informing
and educating does not include anything deemed political.

What I find
surprising is not just that this happened, but that the non-partisan
broadcast media has so little interest in doing anything about it. In
the US, when Trump complained about his coverage, CNN hired someone
nominated by Trump. In the UK the BBC sees no evil, and bats away
letters from the Royal Economic Society about its Brexit coverage as
just one more irritating complainant. Understandable given business
models and constant attacks on Fake News/Liberal bias by the
political right, but it means both countries remain wide open to the
politics of lying.Longer read on similar themes: Post-truth and propaganda

Wednesday, 9 August 2017

What do I mean by
this? Macroeconomists have many faults, but one clear positive is
that we think about systems as a whole rather than just one
particular component. One area where it is important to do this is in
thinking about what determines economy wide real wages. Take, for example, this
recent post
by the Flip Chart Rick. (His posts are brilliant and I try and read
every one, but unfortunately this one is too good an illustration of
the problem I have in mind.) He starts with this chart from the FT
that I reproduce below.

Why is the UK unique
in having a combination of negative real wage growth but positive GDP
growth? Now it just so happened that I had written a post
about this, explaining I thought pretty well the key reasons. But
Rick mentions none of these, but writes about a whole bunch of stuff
related to labour market structure and trade union power that I think
are largely irrelevant. I think he is making the same mistake that
people make when they say immigration reduces real wages, or that we
would all be better off if only unions were more powerful.

All these things are
important in influencing nominal wages, and perhaps the distribution
of wages between workers. But real wages also depend on prices, which
are set by domestic or overseas firms depending on where goods are
made. If nominal wages go up, prices are likely to go up.

So what do I think
accounts for the fall in real wages in the UK over the last decade?
We need to start with GDP per head rather than GDP: growth in the
latter has been boosted by immigration. Here is what has happened to
GDP per head over the last ten years.

GDP per head fell in
the recession, and then steadily but slowly recovered: the slowest
recovery in at least a century. To see how that is related to real
wages (using ONS average earnings divided by the CPI), which I call real consumer wages, we
first need to look at an intermediary measure: real product wages.
These are real wages divided by the price of UK output: the GDP
deflator.

This is an
interesting measure because its closely related to a simple identity relating GDP to labour income and profits. We can see that real product
wages have not changed very much over this period: the recession
mainly hit profits, or it created unemployment. (Real wages are wages
divided the number of workers, GDP per head is GDP divided by the
total population, which includes the unemployed.) But if we are comparing 2007 with 2015, real
product wages were as stagnant as GDP per head.

So why did real
consumer wages fall? That must be because consumer prices rose more
than output prices. There are two reasons why this happened in this
case: indirect taxes increased (remember the 2011 VAT hike), and a
large sterling depreciation during the GFC worked its way into higher
prices for imported goods. It is of course another depreciation after
the Brexit vote that is cutting real wages once again right now. As I
always try and stress, real GDP growth per head is not a good guide
to real income growth if the price of imported goods rise or the
price of UK goods sold overseas falls (what economists call a decline
in the UK’s terms of trade).

Real wage growth in
the UK has not been lousy because of lack of union power, immigrants
or higher profits, but because economic growth (properly measured)
has been stagnant, austerity included raising indirect taxes and we have now
had two large depreciations in sterling. [1] That is not to say that
these labour market factors are not important. At a macro level they
are important in keeping inflation low, which should have allowed a
more rapid expansion of GDP growth than we have actually had. That is
where fiscal austerity and Bank of England conservatism come in. At a
micro level labour market structure helps influence the distribution of earnings between
different labour groups. [2]

What I say about the
unimportance of profits is factually true for the UK over this
period, but it is not always the case. In the US and elsewhere we
have seen a gradual shift from wages to profits over the last few
decades. But even here it is not obvious that weak nominal wage
growth is the main cause, because in a competitive goods market lower
nominal wages should get passed on as lower prices. One explanation
that is attracting a lot of interest is the rise of superstar firms.
These firms make unusually high profits, or equivalently have low
labour costs, and if output is shifting towards these firms labour’s
share will fall. What these firms do with their profits then becomes
an important issue. More generally, it may be the case that
governments have become
too lax at breaking up monopolies, allowing a rise in the overall
degree of monopoly.

The consequence of
growing concentration, superstar firms and a rising share of profits
is that income derived from profit grows faster than income from
labour. I say derived from profit because I would include in this CEO
and financial sector pay, which in effect extracts
a proportion of profits from large firms. The net result is that most
of the proceeds of economic growth are going
to those at the top of the income distribution. But it would be good
if we could change that by making the goods market more competitive
and removing the incentive for CEOs to extract surplus from firms
[3], rather than by making the labour market less competitive.

Technical appendix

For those who are
lucky enough to have learnt economics using the Carlin and Soskice
text, this is a classic application of wage and price setting curves.
If workers become weaker, this shifts the wage setting curve towards
the (perfect competition) labour supply curve, reducing the
equilibrium real wage (unless the price setting curve is flat) but
increasing the equilibrium level of employment. An increase in the
degree of monopoly (the mark-up) shifts the price setting curve
further away from the perfect competition labour demand curve, which
reduces equilibrium employment as well as the real wage.

[1] One possible
caveat here is that low wage growth may have encouraged firms to use
more labour intensive production techniques, which has depressed
investment and productivity. But if we want to incentivise firms to
invest in more productive technology, increasing demand is a much
better method than increasing nominal wages.

[2] Another caveat. I'm not sure where the real wage data in the FT chart comes from, but the fall in UK real wages there is greater than you get by using the ONS average earnings data (which I have used), so it may be a different and more specific measure of real wages. In which cases labour market structure might be relevant in explaining that number, and I apologise to Rick in advance if that is what he had in mind.

[3] By, for example,
applying much higher tax rates on high incomes, or imposing a maximum
wage.

Monday, 7 August 2017

As regular readers
know, I have for the last few years been banging on about the
importance of the media in influencing public opinion. (It formed a
key part of my SPERI/News Statesman prize lecture.)
It is not a partisan point about whether the media is politically
biased in a particular direction. Instead it is a claim that the
media can and sometimes is profoundly important in influencing major
political events. I think it is fair to say that such claims are
often dismissed, particularly by the media themselves.

Take the Brexit
vote, for example. A general view is that it is down to a dislike of
immigration, but few people ask whether the concern about immigration
was to a considerable extent manufactured. The left has decided that
Brexit reflects the revolt of those left behind by trade and
technical innovation, largely ignoring the evidence that this was
only part of the story. You will find extensive studies of why the UK
voted to leave the EU, some of which I reviewed here,
but none to my knowledge look at the influence of the tabloid press.
Although my own immediate reaction
to the vote put the press at centre stage, I faced a problem that
anyone who blames the media faces. How do you prove that the media
are not simply reflecting opinion rather than molding it?

We are now seeing
studies that attempt to get around that problem by looking at what
economists call natural experiments. The most well known
found that “Republicans gain 0.4 to 0.7 percentage points in the
towns which broadcast Fox News”. Here
is another that argues that the media has combined with special
interests to misinform voters about climate change. The evidence that
the media does not just reflect but also influences voter opinion is
mounting up.

I argued in a post
immediately after the 2017 election that this event also showed how
powerful the media’s impact was in the UK. Since the second Labour
party contest in 2016 until shortly before the 2017 general election,
the public’s view of both Corbyn and the Labour Party was largely
intermediated by political journalists. The polls showed that labour was unpopular and Corbyn even more so. During the general election campaign, both
Corbyn and Labour gained direct access to voters. The popularity of
both surged.

Now it is possible
that both Corbyn and the party underwent some huge transformation in
those election weeks: the manifesto surprised everyone by including
popular measures, and the party surprised everyone by being totally
united behind it. I just do not believe this can account for the
extent of the surge we saw. A much more likely explanation is that
Corbyn and Labour had been portrayed by the media in a negative light
until the election.

It might be tempting
to suggest exactly the opposite: that the Labour surge shows the
diminishing power of the Tory press. However, as Roy Greenslade
notes,
these papers are mainly read by the old not the young. Furthermore, among
those aged 65%+, the share of Labour voters between 2015 and 2017 was
unchanged. Instead the Labour surge showed not only the importance of
social media, but also how the broadcast media can have considerable
independent influence when it does not follow the Tory press.

The Corbyn surge
need not reflect any deliberate anti-left bias, but just a
self-reinforcing process. The disunity within Labour until the second
leadership election had a large negative impact on the polls.
Political reporters took these polls as evidence that Labour and
especially Corbyn could not win, and this influenced the way both
were reported until the general election. Pretty well everyone,
including myself [1], took the pre-election unpopularity as
reflecting informed voter opinion rather than an impression largely
manufactured by media coverage.

The Labour surge was
also a reflection of May’s awful election campaign. But exactly the
same points can be made here. May did not suddenly become robotic and
unresponsive during the campaign. The serious faults that were
portrayed then were also clearly evident in the year before, and
during her time at the Home Office. But rather than investigate
these, political reporters chose to focus on the polls and believe
that her position was impregnable.

Gary Younge has
described
the failure to at least investigate the possibility that Corbyn might
gain in popularity during the election as “the most egregious
professional malpractice”, but as far as I can see he is virtually
alone among journalists in thinking how the Labour surge might
reflect on their own reporting. Instead the tendency has been to
focus on the inadequacy of the polls (which is quite unfair because
the differences in the polls largely reflected quite understandable
different views about expected turnout among younger voters) and more
generally journalists failure
to predict the result.

Indeed I think
Younge understates the lessons of the surge. If the media was able to
convey a largely false impression of Labour, Corbyn and May before
this election, it seems reasonable to suppose that there have been
other episodes where the media has had a large influence. The list in
my lecture cited above could just be scratching the surface. This
potential power often used without awareness or responsibility breeds
mistrust, as Andrew Harrison relates here.

One of the
unacknowledged problems in the broadcast media is the perpetual focus
on Westminster, which was one of the factors that led to discounting
Corbyn. Which naturally leads us to Brexit. I’m constantly told
that any challenge to the referendum has to wait until public opinion
turns. And looking at all the facts available it should turn: real
wages are falling and output is stagnant as a direct result of the
Brexit decisions, there will be less rather than more money for the
NHS, and so on. But we should have learnt from the 2015 general
election that this kind of simple economic determinism does not
always work. Then real wages had fallen by much more, we had the
worst recovery from any recession for at least a century, and the
Conservatives won on the basis of economic competence.

The Westminster focus means that on Brexit the 48% get largely ignored. The right wing media that gave us Brexit are continuing
to mislead as they always have. On the broadcast media that most
people watch, there is no one championing a second referendum.
Instead the presumption is that Brexit has to go ahead because
‘democracy’ demands it. There is the danger the media that
created Brexit will sustain Brexit, just as the media sustained a
view that Corbyn was hopeless and May was
masterful until people had direct access to both. As a result, those
pushing the idea that a second referendum should only be held if the
public demand it are in danger of being as naive about the power of the media as those
who wrote off Corbyn’s chances

[1] To some extent
this was, I’m afraid to say, a classic example of not having faith
in my own ideas. But I was also surprised at how quickly the
broadcast media was able to swing from Corbyn bashing to focusing on
May’s inadequacies. The problem the Conservatives and their press
backers had was that scare stories about Corbyn were ‘old news’,
whereas seeing the Conservative election machine fall over itself was
a new experience, and therefore far more newsworthy. But, once again,
this poor performance was also very clear from various decision taken
in Downing Street in the year before.