More than a u-turn. Why Philip Hammond’s reversal on National Insurance matters

It is difficult to know where to begin. There is nothing new about u-turns from Chancellors – Lord knows George Osborne did enough of them.

But Philip Hammond’s volte face on National Insurance must surely go down as one of the most screeching and humiliating in years.

Mr Osborne took two months to reverse his notorious pasty tax. Mr Hammond has taken less than a week.

There are a few obvious lessons. The first is that the Treasury is clearly weaker than it has been in decades. Under Gordon Brown and Mr Osborne, it was the powerhouse department no-one else could argue with – including, sometimes, the Prime Minister. No longer.

The Chancellor was very invested in the plan to raise national insurance rates for the self-employed – as was his department; he spent the day after the Budget defending the policy vigorously. He disputed claims that it broke the Tories’ manifesto pledge not to raise main tax rates. Indeed, in the last couple of days it seemed increasingly that he had managed to ride out the choppy waters: the headlines in recent days have been dominated by Scotland and Brexit.

But it is clear, now, that he has been overruled by Number 10. Which raises a big question: given there is so much tricky economic policy that will need to happen in the next few years – on reforming the tax system, on changing planning laws, on throwing out long-standing EU regulations – how on earth will the Treasury be able to push it through?

The NICs change was undoubtedly controversial: some self-employed workers would have paid considerably more. But it was as nothing compared with the furore that will ensue if the Government considers anything that will equalise the intergenerational divide. It is tiny in comparison with the political impact of trying to dismantle planning restrictions over the green belt or reverse popular labour market regulations.

In short, any hopes economists had that this Chancellor would be a great reformer seem to have been quashed in one fell swoop.

Another broader lesson is that the Government’s wafer thin majority in Parliament means any contentious fiscal decisions are going to be very difficult to push through. This u-turn was largely driven by Conservative backbenchers, who were fighting the reforms. Their victory will only make their voices louder in the future.

To take this case alone: abolishing the NICs increase means the Budget will have a £1 billion hole in this parliament – potentially £2bn over the next five years. That hole will need to be made good – either through other spending cuts or tax rises, or more borrowing. Now, as it happens, the Government could comfortably borrow more without breaking its rules – indeed, as I pointed out on Budget day, the intriguing thing about the NICs change was that in purely fiscal terms (eg to make his sums add up) the Chancellor didn’t really need to do it.

But, again, the issue is more the precedent it sets.

Finally, there’s the question of what this u-turn does to the structure of the UK economy – and here there are at least two concerns. One is that the NICs increase was there for a reason (beyond raising money). There is a major tax incentive for anyone wanting to be self-employed. Some degree of incentive is fair enough, but most economists argue that in the UK’s case the balance is skewed too far in the direction of self-employment. That helps explain why self-employment rates have gone through the roof here compared with most other nations. The Government has commissioned an independent review on this and other gig economy related issues from RSA chief Matthew Taylor, so its publication may prompt more reforms. But given what happened today, you’d have to append a lower probability to any of those recommendations actually happening.

Then there’s the impact on inequality. The NICs change was the most progressive policy in the Budget – in other words, it took most from the richest and least from the poorest. Its absence will, all else equal, mean the UK is more unequal than would have been the case with the NICs increase. Given that by some measures this Government is already raising inequality more than any other for decades, that’s not a trivial concern.

The very final lesson (perhaps the most important of all) is that politicians should make silly promises at their peril. In the end, this comes back to the pre-election Conservative pledge not to raise the main rates of tax. That was always a preposterous promise – just like George Osborne’s surplus target and David Cameron/Theresa May’s vow to get net immigration down to the tens of thousands.

Such pledges might help you win an election. But they’re even more likely to help you lose the next one.

The real powerhouse of the UK economy

Which of the following sectors would you say has made the biggest contribution towards UK economic growth over the past two years: manufacturing, banking or domestic workers, such as cleaners and nannies?

The answer is domestic workers. That’s right: “Activities of households as employers of domestic personnel”, which means everyone from housekeepers to butlers, accounted for 2.1% of the extra UK national income generated over the past two years. The manufacturing sector, by contrast, accounted for just 0.2% of the extra growth, and the banking and finance industry generated only 0.3% of that growth.

Now, sub-sectoral estimates of UK economic growth are volatile, but this does underline something important about Britain’s economy. While we have presumptions about the most important constituent parts, the truth is much of the recent increase in gross domestic product has come from other places.

Consider the car industry. Much is made of the fact that Britain is making more cars than ever before. And indeed, over the past couple of years car manufacture accounted for 1.6% of total GDP growth. But far more important than that was car retail, which accounted for 7.8% of the extra growth.

All these figures, by the way, can be found by fiddling with this spreadsheet from the Office for National Statistics.

PS I spent the day asking members of the public the question at the top. Most people got it wrong (which is fair enough, so would I). I also asked the Chancellor. He got it right.

The Autumn Statement in seven charts

As Autumn Statements go, this was both thick and thin.

Thin in terms of the number of pages in the document itself – a mere 64 of them, which makes it more of a pamphlet than a major fiscal document, about half the length of its predecessors. But in terms of the changes to the official outlook for the economy, and the government’s own plans in the coming years, today was thick with changes.

Let’s go a through of them, told through the medium of some of the most important charts of the day.

chart1-obrbreakdown

And the best place to start is with this chart, showing you just how much government borrowing is due to increase in the coming years (£122bn in total, compared with the March Budget), and where all that extra borrowing comes from. As you can see, a fair chunk of it is down to the usual stuff: extra spending commitments from the Government (the green bit), forecast changes (red) and reclassifications of where the debt sits in the national accounts (yellow).

But as you can see, by far and away the biggest chunk of the increase in the deficit each year is down to Brexit-related effects. In short, the Office for Budget Responsibility (who do these forecasts) think the economy will be weaker in the coming years. That, in turn, means less income shared across the country, which means less income tax, which means a higher deficit.

In other words, the big story from the Autumn Statement this year is less about the extra money the Government is spending and more about the ginormous fiscal impact of Brexit – a cumulative £58.6bn or more than half of the total deficit increase.

chart-2-dissecting-the-brexit-effect

Which raises the question: why does Brexit cause so much fiscal damage. The answer can be found in this next chart, which I’ve put together from some of the figures in the OBR’s documents today. In short, most of the Brexit weakness is associated with three things: lower migration, weaker productivity (itself partly a consequence of weaker investment) and a likely cyclical economic downturn caused by uncertainty and a squeeze on wages. In other words, all the stuff those economists were warning about before the referendum will mean the UK economy will be significantly weaker (2.4% over the forecast horizon) and households will be left with a major chunk of extra borrowing (£122bn) to pay off in future.

Then again, these are still forecasts, so if you’re one of those people who’s inclined not to believe them, then that’s your prerogative.

chart-3-lordknowswhathappensnext

And that brings us to this chart, which shows you just how unsure economists out there in the UK are about the potential growth rate in the coming years. As you can see, the OBR has set its own forecast somewhere in the middle, but it admits that the room for error is far greater than ever before. Indeed, it revealed today that despite imploring the Government for more detail about the likely path of the negotiations, it knows about as much as the rest of us. Which is to say not a lot.

chart-4-fiscal-rules

Still, we are where we are. And with the deficit and the national debt now much higher than before, that means the Treasury has already broken the three fiscal rules set by George Osborne to keep borrowing in check. Philip Hammond’s solution? Get another three fiscal rules. His new rules (which, as you can see from this helpful checklist from the OBR) are all being met at the moment. That’s not a surprise, since they’re so much easier than the previous ones. In fact, by some measures they’re easier to meet than those proposed by Labour Shadow Chancellor John McDonnell. Interestingly, despite this sudden fiscal lurch, markets remain relatively sanguine, and while the UK’s cost of borrowing increased a touch, it’s still well, well below recent levels. Which just about tells you how much they care about missing fiscal rules (or indeed needing them in the first place).

chart-5-wheres-the-money-being-spent

Anyway, now for the question you’re all no doubt asking: who gets all the money? Well, such as it is (this was not a big rabbit-out-of-hat moment), the vast majority of it will be spent on infrastructure: roads, railway, broadband and all that. That’s the grey-blue chunk in this next chart from the OBR. That’s leavened out by some small tax rises (stuff like an increase in insurance premium tax (again) and removal of salary sacrifice and other such loopholes) and sits alongside some smallish increases in welfare spending.

chart-6-netinvestment

But, and this is important, note that in the grand sweep of things, Government spending on investment will remain very low in the coming years. Indeed, as this long-run chart shows, public sector net investment (eg with depreciation subtracted) will still, in 2021, be lower than it was in 2010. So not as big as it looks at first.

chart-7-distributional

Finally, the Treasury did something welcome and honest in this Autumn Statement (how often can we say that?) and provided a bit of detail about winners and losers. This chart shows you which income groups will benefit and suffer most as a result of the policies both in today’s statement but also in the announcements we’ve had since last year’s election. As you can see, the wealthiest 10% of the population are by far and away the biggest losers. However, they are followed by the poorest 10% of the population, who of course will bear the brunt of the benefits freeze introduced by Mr Osborne.

And that raises one, big, unanswered question from today’s announcements: why is the Government not addressing the one policy that will cause most pain to the Just About Managing families and reconsidering this freeze? The upshot is that for many people, working and reliant on benefits to keep them financially afloat, the coming winter and spring will be very chilly indeed.

The Why, not the What. Could we Brits learn something about exit polling from the Americans?

Who voted for Brexit and why?

Did the Leave vote ultimately come down to a battle between old and young? Was it largely down to the white working class or was it a wider movement? Was it motivated by people’s dislike of EU laws, of regulation, or of free movement of the people. Or was it more broadly a protest vote?

The fact of the matter is we don’t know, and we will never know. Sure, we can get a hint of the answers from surveys produced by private pollsters both before and after, but as for understanding what was really in peoples’ heads as they went into the polling booths: forget about it.

We’ve all spent most of the past six months attempting to interpret the motivations of that single yes-no question, working out whether the leave vote meant people wanted a hard Brexit, wanted to maintain EEA membership and so on. Knowing why people voted the way they did would potentially change everything.

What, you might ask, does this have to do with the US presidential elections? The short answer is that when we come to analyse the reasons behind that result, we will be far better equipped than we are on equivalent UK elections (or referendums). And that comes down to the quality and depth of the way we conduct exit polls on either side of the Atlantic.

Broadly speaking, when we do the big exit polls on election day here in the UK we ask only one question: who did you vote for? In the US, voters are asked a whole range of things: about who they are (age group, race, gender etc), what they think were the most important issues in the election (the economy, immigration etc) and a whole load of other questions: how strongly do they favour the candidate they voted for, what are their attitudes towards trade, towards immigration, towards the role of government, towards each candidate and so on.

In other words, for decades the UK exit poll has sought to answer one question and answer it as well as possible – what’s the result? By contrast, when it comes to the US exit poll, the ultimate result is almost secondary. Instead, the exit poll (to give it its full name, the National Election Pool national survey) tries to explain why the country got the result it did.

So, first off, a tip for those of you watching our coverage over the course of our US election programme. I’ll be at our big screen running through the results as they come through, but I’ll also be doing something we don’t normally do in UK elections – exploring detailed poll data.

Unlike any of the other UK broadcasters, we will have access to the US exit poll data – so our coverage won’t just be about who has won North Carolina and Florida (to take two of the key battleground states) but why. If there is a Clinton landslide, where did her votes come from? If Trump swings things, how did he do it?

We hope to have these answers on the night itself – rather than leaving it for the following days.

This kind of thing matters. An election, or for that matter a referendum, is a blunt instrument: we get a binary answer, often distorted by unrepresentative electoral systems. Discerning from this the scale of a politician’s mandate is art rather than science. But having detailed polling data from (in the case of the US election) a hefty sample adds back a little dose of science.

As it happens, Britain used to collect details like this in its exit polls, until the disastrous poll of 1992, after which priorities, ahem, shifted. More money and time was spent on getting the result right than the background to that electoral decision – and, for what it’s worth, predicting the UK result is far more difficult than the US (more parties, more constituencies, more variables).

Anyway, it’s not as if the US polls are especially reliable; in fact, they have been plagued with problems in recent years – although that mostly came down to the fact that people were trying to rely on them to predict the result rather than explain it.

All the same, a glance at the way the Americans do things does raise a question: why don’t we spend more time on the day attempting to poll people to find out why they voted?

PS A disclaimer is probably necessary: Sky is one of the organisations that typically pays for the official UK exit poll. But decisions about scale are taken jointly together with the other members of the pool.

The dangers of the R word

Even if you weren’t following the referendum campaign closely you’ll probably remember a few of the economic highlights (lowlights?): the Vote Leave £350m bus; the “punishment Budget” and George Osborne predicting that there would be a recession if Britain left the EU.

Now we know that all three of these claims were, in their own way, wrong.

There will be no £350m a week public finances dividend (in fact the latest statistics, out today, imply the deficit this year will be even bigger than expected, before any discretionary giveaways the new Chancellor wants to add).

Even Mr Osborne ditched the idea of an emergency budget (punishment or otherwise) before he was booted out of 11 Downing Street.

And now it transpires that Britain looks like it will avoid a recession.

Now, in practice, this final point should be neither here nor there. The definition of a recession – two successive quarters of economic contraction – is, to say the least, pretty arbitrary. Other countries, most notably the US, prefer to declare recessions based on a whole range of other factors – but for some reason in Britain the convention of two quarters of contraction stuck.

So, for instance, if UK GDP shrinks by 0.1% for two quarters, that is a recession. If GDP is -0.9% one quarter and 0.1% the next, that is not a recession. Barmy – and totally misleading, since we are considerably poorer in the latter example (remember that gross domestic product is simply a measure of how much income the country is generating).

And yet, if only in public discourse, the distinction matters. People take much more notice of the R word than the threat of an “economic slowdown”. So, when, a month before the vote, the Treasury published its forecasts for the short-term impact of a Leave result the Chancellor made much of the fact that the HMT models suggested there would be a recession. The press office mocked up various placards saying the UK “would fall into RECESSION”, with the R word in a terrifying horror movie font.

This was, as I said at the time, misleading. In fact, the Treasury’s central forecast was for a 0.1% contraction for four quarters. This would, had it transpired, have been the shallowest recession in economic history. Moreover, in economics, 0.1 percentage points is essentially neither here nor there.

None of that seemed to matter to the Chancellor. He had his recession forecast and he spent the next month warning that the economy would indeed tip into it.

Roll forward to today, almost three months after the vote, and it simply doesn’t look as if the UK economy is in recession. The OECD has cut its forecast for growth next year, but has actually raised its projection for this year. And as Joe Grice, chief economist of the Office for National Statistics says, “the referendum result appears, so far, not to have had a major effect on the UK economy. So it hasn’t fallen at the first fence but longer-term effects remain to be seen.”

Indeed, whereas last month the average forecast from City economists was indeed for a recession, they now expect zero growth this quarter and next. So no recession.

forecastevolve

Now in practice, what matters is that, if you believe the economists, this is nonetheless much weaker than the 0.5% a quarter growth rate that was anticipated before the referendum. In other words, our national income is still forecast to be much weaker than previously. However, because of our fixation, because of the Treasury’s fixation with the r-word, the economic fraternity has been discredited again.