It is not uncommon for politicians to declare their determination to change the economic model. This is a staple of left-leaning platforms, going back to Franklin Delano Roosevelt’s New Deal in the 1930s.

But proposals come from the right as well. In 2009, George Osborne, then shadow chancellor, spoke of his plan to shift the economy “away from debt and towards saving and long-term investment”, putting the theme of fiscal responsibility at its heart. The idea was that more fiscal control would allow lower interest rates, growth in investment and higher exports, which would fill the gap left by government spending.   

I found myself thinking of Osborne’s speech when pondering what the current chancellor may think of the prime minister’s proposal for another shift in the economic model – away from high immigration and low pay to higher wages, skills and productivity. Like Osborne, Boris Johnson is claiming that a single high-level factor is overwhelmingly significant in explaining the structural shape of the economy. For Osborne, the government’s macro-economic approach biased behaviour towards consumption and debt. For Johnson, a highly supplied labour market, primed by immigration, is blamed for lower skills, less investment and weak productivity.  

George Osborne saw that his macro-economic programme needed micro-economic support. Lower interest rates and government spending would not alone unleash a private sector boom, so he suggested banking reform, lower corporate taxes, and (largely unspecified) supply side measures. Johnson’s new model is less theorised, looking more like an improvised response to the shortages Britain is going through this autumn. This leaves us to guess at the policy programme intended to underpin this latest attempt to “change the model”. 

There needs to be one. British workers will not become more productive simply by removing the threat of overseas competition – in fact, less competition usually produces the opposite effect. Shortages of labour, goods and energy certainly alter economic incentives, but they create problems as much as opportunities. There are several clear areas where the chancellor should turn his attention.  

1. The Bank of England and rising interest rates  

In 2009, Osborne argued that the Bank of England’s inflation-fighting goal would automatically bring support to his new model because, under a constant inflation target, tighter fiscal policy leads to looser monetary conditions. The challenge the Bank faces today is different. Soaring gas prices, higher wages and goods shortages threaten to push inflation well beyond the Bank’s mandated 2% target. If these are all part of a plan to change the shape of the economy for the better, in the immediate future they might force the Bank to raise rates and dampen activity.

There is a lively debate about how transitory the current inflation surge might prove, and the right monetary response when price rises happen because of shifts in the pattern of demand – as has happened throughout the covid pandemic.[1] If the government’s hoped-for journey to a higher-wage nirvana has any chance of succeeding, Mr Johnson will want the Bank to take the most accommodative stance it can; if they do not, tighter policy could smother any benefits before they arise. Osborne said one of his first meetings upon becoming chancellor would be with the Governor of the Bank; considering the noises coming from the Bank about possible rate rises, Sunak’s next one may be awkward.[2]

2. The chancellor needs to know the policy for helping workers that lose out  

The government’s model appears premised on a simple idea: a cut in the supply of workers to a particular industry will raise the value of those that remain, through sheer scarcity, enhanced bargaining power and changed incentives to train and improve. But these labour shortages do not land evenly, creating a political problem. A policy that raised the pay of a tenth of the workforce and cut that of everyone else leaves most worse off and would not seem like a success to the majority. This a particular problem for workers in public sector or similar jobs, who do not see the same market forces raising their pay, but still suffer from inflation, and also those living on benefits. 

The Treasury frets at every Budget about decisions that affect one section of society more than another. Losers are louder than winners. If the prime minister intends a policy with such uneven and hard-to-predict distributional outcomes, the chancellor needs to know, and needs to know what the policy will be towards helping those who lose out. 

3. Raising productivity is not easy – workers will need training, capital and technology

Conventionally, higher wages are the result of rising productivity, not a tool to achieve it. (There is some evidence that a higher minimum wage can spur worker performance, but the prime minister’s new model is meant to extend across the pay range). Superior productivity is generally sought through improvements in specific economic inputs, such as infrastructure, skills, management and technology. Yet it is the policy of every government to seek higher productivity, and through these means – this is what the department for business, energy and industrial strategy exists to do or coordinate.   

If the new model requires a smaller number of UK workers to generate what was hitherto produced by a larger workforce, these workers will need to be better supported with capital, training and technology. The Treasury is already committed to a large increase in the capital and R&D budget. But despite this, the last set of forecasts from the Office for Budget Responsibility showed no sign of a surge in productivity, nor a lasting increase in business-funded investment to support.[3]

Johnson’s new economic model relies on implausible optimism

To conclude, what we know of the putative economic model requires we believe one of several implausible scenarios.

A first one is that UK workers will leap forward in productivity, earning those higher wages, without any significant change in productivity policy, beyond more restrictions on immigration and a higher minimum wage.

An alternative is that wages will rise without productivity improving in tandem, but that inflation, distributional issues and hits to company profitability will be somehow handled by the Bank and the Treasury, while most households shrug at the cost.

Another alternative is that the government has a plan to raise productivity, but it is one we have not seen, soon to be unveiled in the Budget and spending review. This is challenging, in light of the spending pressures piling up.

The government’s optimism bias makes me think the first of these is their most likely hoped-for outcome. If the chancellor is sensible, he should be thinking about the others.


  2. See Financial Times, 17 October 2021, “Bank of England chief warns it ‘will have to act’ to curb inflation”,
  3. see tables 2.9 and 3.14

Original source – The Institute for Government

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