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Matthew Oakley: How's this for a deal? Regional pay fund regional infrastructure

Matthew Oakley is Head of Economics and Social Policy at Policy Exchange.  Follow Matthew on Twitter.

Screen shot 2012-08-21 at 17.56.05The last week has been a mixed one for the UK economy and the coalition. Labour market statistics published last Wednesday showed the labour market faring remarkably well with a hat-trick of good news in falling unemployment, falling inactivity and rising employment.

However, possible revisions to the GDP figures aside, it is clear that growth in the UK is not good. The Bank of England has recently cut its growth forecasts for the UK economy and in the context of the UK being in a technical double dip recession, this makes the performance of the labour market unusual. Unsurprisingly, this disparity has led some to question whether we may see significant levels of redundancies in months to come.

This paints a gloomy picture: if continued low growth is coupled with a further downturn of the labour market, living standards will fall further (they are already fallen to their lowest levels since the second quarter of 2005) and any kind of ‘Olympics bounce’ is sure to dwindle. This continues to make growth and jobs the top priorities for government policy. So what should be done?

Last Thursday’s headlines suggested diminishing support from economists and the Liberal Democrats for the Chancellor’s consolidation plan. While half abstained from comment, only one of the 20 economists who famously supported the consolidation plan before the 2010 election would reportedly now put their name up in support. Meanwhile senior Lib Dems are starting to waver and the Conservative Mayor of London is calling for more red-blooded approach to growth: cutting taxes and boosting infrastructure spending.

The problem of course is that stepping back from consolidation now would be politically difficult and will always come with a non-negligible risk to long-term growth. This means that if we want to boost infrastructure or reduce tax, we will need to find places where this can be financed through cuts in other, non-growth enhancing expenditure. The recent furore over cutting pensioner benefits or child benefit for those with already high earnings demonstrates the difficulty that this poses. Thankfully, there are some straightforward ways of doing this.

First, in a report published on Monday, Policy Exchange outlined a plan to recycle revenues from the sale of expensive and vacant social properties. Doing so would free up £4.5 billion each year to boost house building with no impact on Government finances. In the first year alone this could deliver at least 80,000 new homes and increase employment by at least 160,000. It would also cut social housing waiting lists and be a tool for delivering real mixed communities.

Second, another way of making the most out of existing expenditure is through reform of pay in the public sector. The IMF have recently commented that:

"Fiscal space for further growth-enhancing measures could be generated by… restraint of public employee compensation growth, and… used to fund higher infrastructure spending, which has a high multiplier and raises potential output."

In the context of the government’s consideration of how to reform the system of public sector pay setting, this provides an interesting argument. Many commentators have previously argued that moving the public sector away from a crude system of nationally set wages to one that better reflects the costs of living in different areas would take money and growth away from already disadvantaged areas. However, if instead, any savings from pay reforms were reinvested into growth enhancing infrastructure in the areas affected, this could actually be a tool for increased growth and jobs in the regions that are struggling the most.

Both of these policies have the potential to boost growth now and tackle underlying structural problems in the UK economy. Neither of them would put extra pressure on already stretched public finances. The growth answers are out there, the Coalition just needs to look harder.


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