UK economic growth: lessons from history
by Nick Crafts
If there is one area that could deliver short-term stimulus and long-term efficiency gains it is private house-building – but the politics are difficult for the government, writes professor of economic history
Returning to growth after the crisis is proving elusive for the British economy. There is little sign that the United Kingdom is about to enjoy the strong growth that followed in both the 1930s and the 1980s and that started in each case during fiscal consolidation. So are there lessons from those decades that are relevant to kick-starting recovery today?
Although it is not possible to cut nominal interest rates when, as now, they are at the lower bound, it is possible to deliver monetary stimulus by reducing real interest rates if, as in the 1930s, the authorities are willing and able to commit to higher inflation. However, the inflation-targeting regime in place since the 1990s would have to be revised.
Second, although there are reasons to think the fiscal multiplier may be relatively large when interest rates are at the lower bound, history says that this claim needs to be treated with caution especially when public debt to GDP ratios are large. Third, a key component of a policy to stimulate recovery during an episode of fiscal consolidation is an ability to 'crowd in' private sector spending – private housing investment aided recovery in the 1930s and consumer spending did so in the 1980s. And fourth, if politicians wish to devise more interventionist industrial policies, it is essential that they are designed with a view to minimising the adverse impacts on competition.
If radical changes to monetary policy are ruled out and fiscal consolidation continues, the implication is that reforms to supply-side policies have to play a significant part in any attempt to stimulate growth. The 'good news' is that there are plenty of evidence-based reforms that can strengthen the UK's growth performance by improving horizontal industrial policies that have left much to be desired in the last 30 years.
These include repairing a serious infrastructure shortfall, institutional reforms to deliver higher quality schooling and improve cognitive skills, reforming taxation to reduce corporate taxes and expand the value added tax base, and addressing the massive distortions created by the land-use planning system that undermine the potential productivity gains from successful agglomerations. The 'bad news' is that these policy choices are very much exposed to government failure, are subject to implementation lags, and have their effects in the medium and long-term.
If there is one area that could deliver short-term stimulus and long-term efficiency gains, as in the 1930s, it is private house-building. The evidence suggests that draconian planning restrictions mean that the stock of houses is three million below and real prices are 35 per cent above the long run free-market equilibrium. The welfare gains from some relaxation of these planning rules are huge and the employment implications of steadily addressing the housing shortfall could be considerable – building 200,000 extra houses per year might employ 800,000.
This would require addressing issues of housing finance and incentivising local communities to want development because they can benefit from it and builders to believe that delaying construction would not be profitable. In principle, this could be achieved very quickly but, sadly, it is not politically acceptable so the Chancellor of the Exchequer, George Osborne, may find himself in the role of Mr Micawber for a while longer.
Nick Crafts is professor of economic history at the University of Warwick in the United Kingdom. This article is based on the author's Royal Economic Society Policy Lecture delivered today at University College London