A Few Thoughts on Rachel Reeves
The shadow chancellor plan focuses on exactly the right priorities and sends the right signals to investors. Whether it can revive the dire British economy is another matter
When Rachel Reeves becomes chancellor of the exchequer later this year, as now seems certain, she will inherit the most dire economic conditions facing any incoming government in decades. So it helps that the shadow chancellor is perhaps the best qualified and best prepared candidate for that role in decades. Her career as a Bank of England and Treasury economist, commercial banker and shadow minister has given her an acute understanding of the challenges facing the British economy and how best to address them. That much was clear from her wide-ranging Mais Lecture last week which was much more interesting and detailed than her critics will allow.
Contrary to excitable speculation that Reeves was going to claim the mantle of Thatcherism, her central argument is that Britain’s excessive faith in free markets and a small state under past Conservative and Labour governments left the country acutely vulnerable to shocks; that this lack of resilience, made worse by the recent combination of austerity, a calamitous Brexit and political chaos, has resulted in soaring public debt and the highest tax burden since 1948; that the way out of this mess is an active state that can foster investment and deliver supply side reforms to create the conditions for growth. Reeves came not to praise Thatcher but to bury her.
None of this should be controversial. Everyone accepts the era of hyper-globalisation is over. The financial crisis exposed the risks in over-leveraged banks; the pandemic exposed the risks in extended global supply changes and just in time manufacturing processes; Russia’s invasion of Ukraine highlighted the vulnerability of an energy system built around the spot price of imported gas; geopolitical tensions with China have already led to a focus on “friend-shoring”. No one seriously doubts, or no one serious doubts, that the urgent need to combat climate change requires a more active role for the state. America has Bidenomics, Reeves calls her version Securonomics.
The difference, of course, is that whereas President Joe Biden has been able to spend trillions of dollars at the task, Reeves will have very little to money to deploy. Her loudest critics say that this her fault, since she has boxed herself in by committing to stick to the current government’s fiscal rules. Given that the Sunak government only met those rules by pencilling in wholly unrealistic plans for deep future public spending cuts and an implausible rise in fuel duty, Labour will struggle just to fund its promises for increased health spending and to fix public services, let alone find new money to fund its green new deal and to repair crumbling infrastructure.
The truth is that Reeves didn’t have much choice. Not only does she need to reassure the bond markets. She also needs to appease the right-wing press which may have backed Liz Truss’s unfunded tax cuts but would attack any Labour plan to borrow more as the economics of Venezuela. One only need look at The Times’s evisceration of Sadiq Khan last week to see why Labour is right to be wary. In its determination to paint the moderate muslim Mayor of London as a dangerous radical, the paper forgot about its own recent Clean Air for All campaign and support for low emissions zones. Labour cannot count on editorial consistency standing in the way of partisan attack.
Public Net Worth
Yet despite these self-imposed constraints, Reeves took an important step towards correcting one of the great absurdities of the current fiscal regime, whereby all borrowing is regarded as the same, regardless of whether it is used to fund current consumption or long-term investment. Immediately after committing to keep the Tory fiscal rules, she said this: “I will also ask the OBR to report on the long-term impact of capital spending decisions. And as Chancellor I will report on wider measures of public sector assets and liabilities at fiscal events, showing how the health of the public balance sheet is bolstered by good investment decisions.”
This is a hugely welcome. A lack of attention to the public balance sheet helps explain why Britain consistently underinvests in infrastructure. Projects whose benefits lie beyond the five year budget forecast struggle to get funded. Meanwhile governments have sold off public assets and used the proceeds to fund tax cuts, creating the illusion of national wealth while in fact leaving the state poorer. The result is that Britain has the second lowest public net worth of any major economy after Italy, according to the International Monetary Fund: a staggering minus 96 per cent of GDP. Rather than accumulating capital for future generations, British governments have consumed it.
I’m a long-time advocate of incorporating a public sector worth target into the fiscal rules, as it has been for decades in New Zealand. But I can understand why Reeves may feel that investors and the public will need time to become familiar with a concept that they may suspect is just a ruse for higher borrowing, even though it is underpinned by robust international accounting standards. Nonetheless, in the short-term, talking about net worth should bring greater discipline to fiscal decision-making, leading to a prioritisation of capital spending. Over time, it may pave the way for new fiscal rules that take a more sophisticated approach to public debt.
Planning Reform
A second area where Reeves impressed concerns the planning system, which she rightly identified as “the single greatest obstacle to our economic success”. Most commentators are sceptical that Labour can overcome the powerful vested interests that have thwarted recent Tory efforts to boost house building. But housing is only one part of the problem. Crucially, Reeves also promised “a once-in-a-generation overhaul of the nationally significant infrastructure regime, updating all National Policy Statements within 6 months of coming into office, modernising the regime to reflect the types of infrastructure crucial in our changing economy, and cutting red tape by embedding principles of proportionality and standardisation.”
This is important. It is what the National Infrastructure Commission and infrastructure investors have been urging for years, as I noted here. Under the 2008 Planning Act introduced by the last Labour government, infrastructure projects included in National Policy Statements are eligible for fast-track approval, typically getting the green light in around a year. But thanks to Tory Nimbyism, many of these statements were not updated for over a decade. The result is that the process has largely broken down, with some approvals now taking four years, bringing added cost and uncertainty. Irrespective of what progress Labour makes with housing, ambitious national policy statements could unlock a tide of investment in infrastructure.
Strategic State
A third area where Reeves’s plan stacks up is in the new institutions that Labour says it will establish to ensure that the state is “smart and strategic”. These include a new British Infrastructure Council, which Reeves has already established in shadow form with representatives from some of the biggest UK and global investment funds, and a revived and strengthened Industrial Strategy Council, both of which will be put on a statutory footing. Public investment is to be driven by a new National Wealth Fund and Great British Energy which will be able to take stakes in new ventures.
This too makes sense. There is an urgent need to fill the void left by Britain’s exit from the European Investment Bank, which used to help derisk large projects, thereby helping crowd in private sector investment. Since Brexit, the Tories have thrown plenty of public money at everything from steel works, to gigafactories to freeports. But Labour’s approach promises greater transparency, accountability and discipline and offers better protection against cronyism and corruption. It is hard to see how else a cash-strapped Britain can hope to compete for investment with the kind of lavish subsidies being lavished by America and the European Union.
That said, there is one area where Labour would do well to tread warily. Reeves has promised a review of the pension system “to ensure it is serving British savers and UK PLC.” This is troubling. Any reforms that can reduce the cost of pensions and provide savers with access to more diversified and potentially higher returning assets is of course welcome. But the sole purpose of a pension should be to fund the retirement of savers, not to serve the interests of UK plc. Attempts to divert pension savings into UK assets are unnecessary and potentially counter-productive. There is no shortage of global capital for infrastructure. Meanwhile one of the biggest risks to national resilience is that too many pension pots are woefully inadequate.
Not enough?
Of course, the danger is that none of what Reeves is proposing will deliver fast enough growth quickly enough to avoid some very difficult decisions. Thanks to the Sunak government’s scorched earth strategy, taxes will almost certainly have to rise after the election, making growth even harder. As always with tax the challenge will be to find a way to pluck the goose with the least hissing. There is speculation that she may be tempted to go for a stealth tax on banks by cutting the interest rate that the Bank of England pays on reserves accumulated as a result of quantitative easing. That could backfire, further damaging Britain’s reputation for stability.
What’s more, there is a trade-off at least in the short term between security and growth that Reeves is reluctant to acknowledge. Requiring the Bank of England to incorporate climate risks in its regulation of financial firms and quoted companies to publish net zero plans may be sensible but will carry costs. A case can be made that weak employee rights and the adversarial nature of UK industrial relations is a factor in Britain’s weak productivity record, removing incentives to invest and making it harder to reach deals with employees. But despite Reeves’s assurances, businesses will fear that Labour’s new deal for working people will mean higher costs for them.
Nonetheless, Reeves’s strategy is about as sensible as one could hope, given the financial and political constraints. It focuses on the right priorities and sends the right signal to investors. Those demanding more detailed or radical plans, whether disappointed left-wingers hoping for big state socialism or hypocritical right-wingers desperate for a stick to beat Labour with, are being neither realistic nor fair. Not even Margaret Thatcher had detailed plans when she took office at the last “inflection point” at the end of the 1970s. Many of her most radical reforms came later as pragmatic responses to immediate challenges, though rooted in a robust underlying analysis. In this respect at least, Reeves may be a true Thatcherite.
Thatcher may not have had detailed policies but she had a simple message, which I think Reeves is still struggling to articulate. A few observations. Friendshoring is harder when you’ve just erected barriers with your biggest trading partner, she said disappointingly little on rebuilding state capacity, especially in local government (which is important for delivering a lot of the agenda but takes time, money and political capital to fix) and there’s not much here to help address regional inequalities. More houses in the SE might mean fewer jobs in the north. Another trade off which needs acknowledging.
I agree that she’s well qualified for the role. I just hope the ‘treasury view’ doesn’t take hold of her too soon.
On the other side of the fence, is Jeremy Hunt the mother of cynical politician in the cabinet? Salting the battlefield before the election, rather than doing what’s best for the country?