Rupert Darwall: Osborne’s Low-Energy Economy

  • Date: 10/12/13
  • Rupert Darwall, The Wall Street Journal

Improving productivity is the key to raising British living standards. Yet the government is doing the opposite.

The stars were in alignment for Chancellor George Osborne last week in his autumn statement on the U.K.’s fiscal and economic outlook. Higher growth has propelled the U.K. to the top of the G-7  growth league. Government debt is forecast to peak one year earlier at 80% of GDP, rather than 85% as assumed in his March budget.

It’s an outcome his Labour opponent, Ed Balls, argued could not happen. Whatever else, Mr. Balls’s Keynesian critique of the chancellor’s fiscal consolidation has run out of road. The truth, as Mr. Osborne recognizes, is that Britain still has a long way to go.

A more justified criticism is that budget tightening has been too slow. The International Monetary Fund estimates that the U.K. will be the last major economy to stabilize its net debt, and the Institute for Fiscal Studies reckons that Britain’s debt workout is less than half done.

The political risk of such a protracted time scale is that voters will tire of austerity when their living standards are being squeezed. Alert to the politics, Mr. Osborne loosened the purse strings to cancel a planned increase in fuel duty, extend free school meals and switch £500 million of green levies from electricity bills to the taxpayer. Bowing to local pressure, he even canned a proposal to finance a £1.5 billion road project with tolls. The tab will be picked up by taxpayers instead.

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None of these will improve the performance of the British economy. Nor will the damaging distortions to the personal tax code, with spikes in marginal tax rates to more than 60%. The same might be said of the stamp duty on property sales, expected to raise £7.7 billion of tax revenue this year, which impedes labor mobility.

Serious tax reform, Prime Minister David Cameron implied shortly before the autumn statement, would have to wait until the deficit was dealt with. This highlights the biggest risk with such a lengthy consolidation, and the biggest downside of Mr. Osborne’s economic policies: The U.K. economy could weaken before his fiscal consolidation is completed, sending public finances way off track again.

Although British economic growth has accelerated, it is still sluggish by comparison with past upturns, and as Mr. Osborne acknowledged, productivity growth remains too low. According to OECD data, annual labor-productivity growth (defined as real GDP per hour worked) rose during the recession of the early 1990s and peaked at 5.9% as recovery got under way, staying largely above 2% until the 2008 recession.

Similarly, total factor productivity rebounded sharply at the beginning of the 1990s, its annual growth averaging 1.6% until 2008. These productivity gains gave the subsequent expansion its long legs, carrying it through temporary weakness at the turn of the century. By contrast, U.K. productivity growth since the 2008 recession has been poor. Output per hour is below where it was before the recession, and multifactor productivity has flatlined.

Thus a clear imperative for economic policy should be to help improve productivity, boosting wages and living standards and making the recovery durable. Yet the government is doing the opposite. Along with the autumn statement came the government’s National Infrastructure Plan, articulating its “overall vision” for British infrastructure. It argues that improved infrastructure “will allow the economy to function more efficiently.” At more than £215 billion, the energy sector accounts for well over half the spending in the plan, with most of that going to low-carbon electricity generation and associated transmission networks. Danny Alexander, the chief secretary to the Treasury, claimed that lower electricity prices depended on this investment.

Both claims are wrong. Investors in renewable-energy projects are assuming the inflation-adjusted wholesale price of electricity will rise from £50 per kilowatt-hour to £80 per KWh before inflation over the next 20 years—a 60% increase. The type of investment mandated by the government to generate expensive electricity is intended to prevent global warming, not to improve economic efficiency and cut energy prices.

The Committee on Climate Change, which monitors the government’s compliance with its decarbonization targets, says that “an ambitious and comprehensive” global deal to cut global emissions “will be essential” for the U.K. to shrink its carbon footprint, which has grown 10% since 1992. That failed to materialize at the Copenhagen climate conference four years ago, so it’s betting that the world will reach one at the Paris conference in two years’ time.

There is a growing shortage of generating capacity to cover for the intermittency of wind and solar power. There is little prospect of investment coming forward before the general election in 2015. For the Conservatives, the party least wedded to green energy, this offers the prospect of making the best of a bad situation: If there is no effective global agreement at Paris, it can promise a rational energy policy driven by the market, not by central planners. Otherwise Britain is embarked on a dystopian energy future of high-cost electricity while outsourcing its carbon emissions to China. That’s not a formula for economic growth and higher living standards.

Mr. Darwall is the author of “The Age of Global Warming: A History” (Quartet, 2013).

The Wall Street Journal, 10 December 2013