What's the catch?

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A survey was published last week showing that voters want income tax cuts to help with the cost of living crisis. Shorn of context, that’s hardly a surprise. To the bald question, “Would you like more money?”, “Yes, please” is a wholly rational response. As far as I can see, though, people weren’t asked about how that should be funded. There is, as has been pointed out many times here, no necessary direct relationship between tax raised and government expenditure, but since both Tory and Labour claim that there is and will act on that basis, it’s reasonable to ask how they would fund it.

If the people getting the ‘extra’ money in their pockets found that they were also expected to pay more for school stationery and materials, or that NHS dentistry became even harder to access, or that cash-strapped councils would raise parking charges to try and balance their books, or that people would have to pay for their own bin bags in future, (add to the list as you will: all of these reflect what is currently happening in various places) would they still want that ‘extra’ money in their pockets? Because a tax cut only leaves people with more money to the extent to which they don’t then have to pay for things which were previously being paid for out of that taxation.

It's regressively selective as well. Those receiving the biggest benefit from any tax cut and those facing the biggest increase in expenditure as a result of cuts in services or higher prices for those services aren’t the same people. And those most in need are the ones who are most likely to find out that the cost of that tax cut outweighs the benefits, whilst the most well-off bank the cash. “Yes, please”, is an entirely rational and reasonable response to the question, “Would you like a tax cut?”, but a more appropriate response would be “What’s the catch?”. It’s a question to which you will not find an answer in a survey designed to show that tax cuts are popular. And increasingly it appears that the colour of the rosette doesn’t tell you which ones are selling the snake oil.

Stimuli, jobs, and multipliers

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The latest figures for unemployment once again bring to the fore the question of whether the UK Government is following the best economic strategy or not.  And the fact that a different approach in Scotland has apparently led to a different outcome will add to the demand for a change of policy, although I’d be cautious about reading too much into one set of figures – people who claim to have the answer too quickly can all too easily be proved wrong a month or two later.

There are some economists who favour one approach, and others who favour another – it sometimes seems that politicians are vying to see who can come up with the biggest name economists in support of their position.  But ultimately, the question is more a political one than an economic one, and has as much to do with the question of who wins and who loses during the process of recovery as it does with recovery itself.

In that context, recovery through fiscal stimulus rather than recovery through fiscal rectitude will inevitably be the favoured approach of those of us who see economic fairness as an objective, rather than merely looking at the overall bottom line.

There is a danger, though, that in advocating a particular approach we overstate the potential impact.  I don’t doubt that a stimulus, in the shape of spending on government capital projects, will benefit the economy, but the extent of that benefit depends on the multiplier effect, and some of the claims for the numbers of jobs likely to be created from a given stimulus seem to be assuming an extremely high multiplier.

What the size of the multiplier effect is – or even whether there is one – is a matter of some debate, as this article from the Economist demonstrates.  An estimate of between 1 and 2 is probably reasonable; yet some claims for jobs created seem to assume a multiplier of up to 10, a figure for which I can see no substantive supporting evidence.

There seems to be little dispute that an expanded programme of spending has a greater impact than a tax reduction of the same amount – because the multiplier is higher.  Although a temporary cut in VAT might be politically popular, it’s unlikely to have as much effect as investing the same amount of money in capital projects.  Those who are serious about wanting a stimulus should really be concentrating on capital spending rather than tax cuts; concentration on tax cuts looks more like propaganda than economics.

But they should not be overstating the impact of their proposals, particularly in terms of the numbers of jobs likely to be created.  Creating false hopes may look like good politics in the short term, but it inevitably leads to disillusion over the long term.