Why the Government Should Spend More on Capital Graham Gudgin, Warwick Lightfoot, Gerard Lyons and Jan Zeber Foreword by Lord Darling of Roulanish
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Why the Government should spend more on capital Graham Gudgin, Warwick Lightfoot, Gerard Lyons and Jan Zeber Foreword by Lord Darling of Roulanish Why the Government should spend more on capital Graham Gudgin, Warwick Lightfoot, Gerard Lyons and Jan Zeber Foreword by Lord Darling of Roulanish Policy Exchange is the UK’s leading think tank. We are an independent, non-partisan educational charity whose mission is to develop and promote new policy ideas that will deliver better public services, a stronger society and a more dynamic economy. Policy Exchange is committed to an evidence-based approach to policy development and retains copyright and full editorial control over all its written research. We work in partnership with academics and other experts and commission major studies involving thorough empirical research of alternative policy outcomes. We believe that the policy experience of other countries offers important lessons for government in the UK. We also believe that government has much to learn from business and the voluntary sector. Registered charity no: 1096300. Trustees Diana Berry, Alexander Downer, Pamela Dow, Andrew Feldman, David Harding, Patricia Hodgson, Greta Jones, Edward Lee, Charlotte Metcalf, David Ord, Roger Orf, Andrew Roberts, George Robinson, Robert Rosenkranz, William Salomon, Peter Wall, Simon Wolfson, Nigel Wright. Why the Government should spend more on capital About the Author Dr Graham Gudgin is Policy Exchange’s Chief Economic Adviser. He is currently Honorary Research Associate at the Centre for Business Research (CBR) in the Judge Business School at the University of Cambridge. He is also visiting Professor at the University of Ulster and Chairman of the Advisory Board of the Ulster University Economic Policy Centre, and was senior Economic Adviser at Oxford Economics from 2007 to 2015. He was Director of the ESRC-funded Northern Ireland Economic Research Centre from 1985 to 1998 when he became Special Adviser to the First Minister in the NI Assembly until 2002. Prior to this he was economics fellow at Selwyn College, Cambridge and a member of the Cambridge Economic Policy Group under Wynne Godley. He is the author of a large number of books, reports and journal articles on regional economic growth in the UK, the growth of small firms and electoral systems. He is currently working with Ken Coutts on a macro-economic model and forecasts for the UK economy and on the economic impact of Brexit. Warwick Lightfoot is Head of Economics and Social Policy at Policy Exchange. He is an economist, with specialist interests in monetary economics, labour markets, and public finance. He has served as Special Adviser to three Chancellors of the Exchequer, and a Secretary of State for Employment. Warwick was a treasury economist at the Royal Bank of Scotland, and has also been Economics Editor of The European. His many articles on economics and public policy have appeared in the Wall Street Journal, the Financial Times, The Times, The Sunday Times, the Daily Telegraph, the Sunday Telegraph, and in specialist journals ranging from the Times Literary Supplement and The Spectator, to the Investors Chronicle and Financial World. His books include Sorry We Have No Money — Britain’s Economic Problem. Dr Gerard Lyons is a Senior Fellow at Policy Exchange. He is a leading expert on the world economy, global financial markets, and economic and regulatory policy. Formerly he was Chief Economic Adviser to the Mayor of London, Boris Johnson and he also has 27 years’ experience in The City in senior roles with leading international banks, including Standard Chartered, DKB International, and Swiss Bank, where he had an excellent forecasting record. He is also Chief Economic Strategist at Netwealth Investments, and sits on the advisory boards at both Warwick Business School, and the Grantham Institute at the LSE and Imperial College. He co-founded Economists for Brexit, and his ebook, The UK Referendum: An Easy Guide to Leaving the EU, was released by Amazon. His first book,The Consolations of Economics, was serialised in the Daily Telegraph, and he is a regular press and television commentator. He frequently speaks at major domestic and global economic and financial conferences. 2 | policyexchange.org.uk About the Author Jan Zeber is Deputy Head for Economics and Prosperity at Policy Exchange, where he primarily works on the Prosperity programme, helping to lead on a range of topics including corporate governance, competition and regulation. Prior to his current role he was a Policy Analyst at the TaxPayers’ Alliance. He has worked for a number of other think-tanks as well as the private sector, producing legal and economic analysis in fields as diverse as the regulation of sharing economy in the UK and administrative justice reform in Kenya © Policy Exchange 2020 Published by Policy Exchange, 8 – 10 Great George Street, Westminster, London SW1P 3AE www.policyexchange.org.uk ISBN: 978-1-913459-31-4 policyexchange.org.uk | 3 Why the Government should spend more on capital Contents About the Author 2 Foreword 5 Executive Summary 7 Introduction 11 Chapter 1: What is the scope for public spending? 16 1.1 Background – a brief history of public spending in the UK – current & capital 16 1.2 Capital Stock and Infrastructure 21 1.3 How does UK Infrastructure compare with other advanced economies? 23 Chapter 2: Does Capital Spending Improve Productivity? 28 2.1 How does infrastructure boost economic growth: Productivity? 30 2.2 How does infrastructure boost economic growth: Keynesian stimulus 33 2.3 Is infrastructure the best way of boosting regional growth? 34 2.4 Conclusions 43 Chapter 3 - Infrastructure Spending in the UK 44 3.1 Managing Infrastructure Projects Effectively 44 3.2 What Are the Government’s Plans for Infrastructure? 45 3.3 Current Expenditure on Infrastructure Investment 51 3.4 National Infrastructure Assessment 55 3.5 Conclusions and Recommendations: Changing infrastructure priorities after Covid-19 58 Chapter 4 - Financing Public Expenditure 65 4.1 Monetary Policy has become Ineffective. Fiscal Policy Should be Revived 66 4.2 Implications of a Changed Context for Borrowing 71 4.3 Are the government’s fiscal rules fit for purpose? 76 Chapter 5 - Macro-economic impact of higher spending 81 5.1 Introduction 81 5.2 Pressures on public services are due to slow economic growth 82 5.3 Predicted economic growth 85 5.4 The CBR Model Forecasts 88 5.5 Conclusion – How Much Fiscal Headroom? 90 Conclusions 91 Annex 1 - Difficulties in Measuring Capital Stocks 93 Annex 2 - The Debate Over Fiscal and Monetary Policy in the UK and USA 97 Annex 3 - Accuracy of OBR and CBR Forecasts? 100 4 | policyexchange.org.uk Contents Foreword by Lord Darling of Roulanish, former Chancellor of the Exchequer When I was Transport Secretary in the early 2000s, I spent nearly every day thanking the Victorians for their genius and their foresight. Without engineers such as Brunel and Bazalgette, the UK wouldn’t be nearly as well connected and engineered as it is, from our railways to countless tunnels, bridges and sewers. They, better than any generation of Britons before or since, understood that infrastructure – though not always glamorous – was vital to growing and improving the economy and that you had to plan years, sometimes decades, ahead. In recent times, I worry that we have forgotten this important insight. Economists recognise that infrastructure spending can boost GDP and eventually deliver genuine returns on investment. Successive Governments have from time to time cut investment as it is easier to do than to cut current spending on public services. The period after the last crash was one of extraordinary challenges and there was an urgent need to reduce the budget. But as the economy reels from an even more profound shock, the Covid-19 crisis, I sincerely hope that the Government’s approach this time must be different. Even before the pandemic, it was generally recognised that infrastructure spending should be a priority in the UK, and that the quality of our roads and railways has not been rated highly by international business. We also need to invest in broadband and in meeting our carbon reduction targets, for example. If we are to attract investment and improve connectivity for British businesses and everyday commuters, we must be prepared to spend more. I would suggest two guiding principles. First, wherever possible, central government should hand funds and control to regional and local powers. For the largest projects, there is of course a role for central Government in keeping costs down, project managing and delivering on time. But Policy Exchange’s proposal that central Government should not control any project costing under £500 million should be vigorously pursued. If the Government is in favour of levelling up the economy, ministers must recognise that this cannot be done from the top down. The second principle, as explored in this paper, is to prioritise shovel- ready, and usually smaller, projects. The sort of infrastructure that the Victorians built, along grand designs, takes years to get planning approval and legal sign-off today. Even medium-sized projects have a habit of getting delayed. I noted recently that the Government had unveiled plans to upgrade the A66 between Cumbria and Yorkshire, with a preferred route finally being settled on. This is not a huge project – it’s about the policyexchange.org.uk | 5 Why the Government should spend more on capital dualling of a 50-mile section of a single carriageway between Penrith and Scotch Corner. Alas, I remember almost exactly the same announcement being made in 20041, when I was Transport Secretary. Local people must be losing patience and faith in Government to deliver. The difference now is an even greater sense of urgency and, in macro- economic terms, far more favourable conditions for borrowing.