The acrimony surrounding any issue linked to Brexit has proved to be especially challenging to the economics profession. The Society was therefore fortunate to hear two widely respected economists present the results of resent research on the potential future which awaits the UK after a departure from the EU.
Dr Rain Newton-Smith, chief economist of the CBI and SBE Council member„ leads a team of 15 economists conducting research for the employers’ organisation of 190,000 businesses. She began by highlighting a few facts about Britain’s trade situation. First, the EU will likely remain over three times the size of our next largest export market in a decade - regardless of trade negotiation outcomes. Second, 60% of our trade is with the EU or via EU-negotiated deals. The US at 20% is the only major additional prize. This, she argued, explains the CBI’s insistence on a transition period inside a customs union.
The CBI has also studied sectoral impacts within the goods market and noted that some areas, such as food and drink would be far more deeply affected than others. Estimates of non-tariff barriers are poor, but “frictions” can affect goods trade far more than tariffs. Border delays could be a severe challenge to the UK auto industry, for example, but more specialised goods such as MRI scanners also rely heavily on cross border supply chains.
Trade data show the importance of services, but if anything underestimate the scale of cross border services supply. Newton Smith indicated examples of missing channels through which services are supplied – services delivered by having a commercial presence abroad, and services embodied in goods – for example the repurposing of the auto industry towards mobility services and electronic diagnostic and driving services. It is likely that services flows are understated in both directions for these reasons.
The CBI decided to investigate the various channels by talking to companies, and found that the overseas subsidiary channel was one of the most significant. Companies expressed the view that freedom to move data and staff through Europe was most important to their ability to generate service revenues. CETA, the EU’s trade agreement with Canada, showed that the degree of liberalisation available through such deals was patchy, with highly regulated industries such as financial services expected to liberalise relatively little. For the UK, services openness could have a feedback to goods trade. The OECD has reported a correlation between services barriers and FDI flows.
Attention is increasingly turning to contingencies and worst case preparation. Surveys of companies indicate that we are now at the stage where contingency planning is expected to increase materially. This comes with accompanying inefficiency and cost, but companies feel that prevailing uncertainty leaves them with little choice. The evidence is that government is itself finally ramping up its own contigency spending.
Newton Smith concluded with a discussion of the opportunities highlighted by engagement with member companies. Technology could be a solution for skills shortages, but manufacturers are increasingly citing skills shortages as a barrier to investment, so some realism is required. The bigger opportunities on offer are not so much free trade deals as trade facilitation in services and the chance for a comprehensive review of overall UK economic strategy. Many such opportunities have been spurned in the past.
Professor Alan Manning of the LSE and chair of the Government’s Migration Advisory Committee (MAC) reported on the Committee’s latest recommendations presented to government about migration policy design after Brexit. MAC provides evidence based advice and recommendations to inform the Government. In July 2017 the Home Secretary commissioned a report on the impact of EU migration on the UK, and broad principles for post 2021 policy. Areas of focus included the labour market, investment and productivity, prices, social measures and wellbeing.
The key conclusions were that EU migration has had effects positive and negative, but none especially large. There is no clear indication that benefits from lower migration can offset weaker trade ties with the EU. The reason for small impacts despite large migration flows over time is that the primary impact has been to increase the population, so supply and demand effects balance in the first order. Regional and sectoral impacts are present but necessarily second order.
From this descriptive starting point, recommendations were made to maximise welfare for the existing population by altering policy. For example, a selection policy could consider impact on the public finances. EEA migration since 2004 was, accidentally, largely low-skilled, and therefore only moderately beneficial for public finances. The recommendations which followed are that skills, rather than nationality, should be a focus, as this drives the public finance impact, and that the system should be made easier for high skill workers rather than low skill workers to arrive and settle.
In detail, the proposals would mean abolishing tier 2 (general) skilled work permit caps, increasing the range of eligible skill jobs and retaining a salary threshold at £30,000 (£20,800 for inexperienced hires), as well as the Immigration Skills Charge on employers. It was not thought that an explicit low skill route was needed, with seasonal agricultural worker and youth worker schemes covering key areas of need. In practice, there are numerous other routes for low skill workers, and existing workers would have the right to remain.
The MAC did conclude that lower skill migration has placed pressure on public finances and social housing, as well as reducing productivity and wages (slightly). The positive side of the ledger may include consumer prices in certain specific sectors. But Manning concluded it does not include sectoral “special pleading” that the “needs of the economy” require minimum levels of migration into certain industries. This is a reverse form of the “lump of labour fallacy”.
Skill shortages are not the same as generalised shortages of labour. A skills based migration policy can address the former; the latter is better served by adjusting real wages to match productivity. Increasing labour supply is an unusual approach economically, and in any case has aggregate demand effects. Manning explained that empirical evidence suggests strongly that labour supply growth drives employment growth and not the other way round. The relationship is essentially 1-1 since 1970 across many countries. There is also little evidence of a relationship between labour force growth and gdp per capita growth.
It has been argued that a ageing population may need migration to address a rising dependency ratio. Manning countered that while the population is ageing, migration is a short term fix until migrants themselves age. It is much more effective to raise retirement ages.
In concluding, Manning conceded that first best solutions such as raising real wages to balance sectoral skills shortages may encounter structural constraints such as upward real wage rigidity. This should not blind us to the possibility that many policy proposals which are presented as an economic necessity may themselves be sub-optimal, taking the form of quick fixes rather than tackling issues at their root.
Both presentations dared to argue for conclusions which others contest. But they did so in a calm, measured and evidence-based manner. The good natured debate which followed illustrated how at its best, the profession can advocate for better policy, and deliberate over the options, with a tone that is neither bland nor shrill.
Many thanks to Ashurst for hosting the event.
Sunil Krishnan, SPE Council Member
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