Nobel prize winners’ findings are a wake-up call for UK economy
This year’s Nobel Laureates in economics’ warning that growth cannot be taken for granted must urge the UK to act, writes Ben Ramanauskas
Economic growth. Most people understand that it’s important and our politicians are eager to convince us that they can deliver it. But how can we actually achieve sustained economic growth? This year’s Nobel Laureates in economics have shown that sustained economic growth is not inevitable. This should serve as a wake-up call for UK policy makers.
The Prize was awarded to Joel Mokyr, Philippe Aghion and Peter Howitt for, in the words of the Nobel Committee, “having explained innovation-driven economic growth”.
Mokyr did this by demonstrating that you need borth huge breakthroughs and incremental change in order to drive growth. He goes on to demonstrate that for innovation to occur, you need a theoretical understanding of how the world works coupled with having the know-how and the ability to actually make things. According to Mokyr, for most of human history there was a disconnect between the two.
That is until the Industrial Revolution. He points out that there was a ‘Republic of Letters’ in Europe during this period. Very creative and intelligent people could correspond with each other and challenge and refine their ideas. Britain was uniquely placed given its culture, institutions and the large proportion of highly skilled people who could turn the ideas of creative people into reality.
Thankfully, the growth and progress which emerged from the Industrial Revolution was not a one-off. The Industrial Revolution is significant as it is the first time in history when growth and progress have been sustained. Aghion and Howitt’s research demonstrated that this growth has been sustained due to what Joseph Schumpeter called ‘creative destruction’. Jobs, firms and sometimes even entire industries are completely destroyed during this process, but these tend to be replaced with jobs which are safer and better paid, and firms which produce new goods and services which improve our lives. While some people do lose out in the short term, the vast majority of people are better off as a result.
Aghion and Howitt showed that where economic growth has been sustained, creative destruction has been an ongoing process. What is crucial is that there is an openness by most of the players involved for competition, disruption and change, while having the right policies and a flexible enough labour market to be able to absorb the shocks and adapt to them.
Lessons in growth for the UK
So, what are the lessons for the UK?
We need to remember that sustained economic growth is never guaranteed. The period of history in which we live now is something of an aberration. The default state for the overwhelming majority of human history has been poverty and stagnation. Many periods of economic growth have been short-lived and quickly snuffed out.
The UK and Europe are currently experiencing low economic growth and no meaningful improvement to living standards. However, growth is still on an upward trajectory and has not been checked by wars, pandemics and financial crises.
This is remarkable. The experience of most people throughout history has been a life of poverty, subsistence, back-breaking labour and an early death. But it shows that sustained growth cannot be taken for granted and we should not assume that we can simply muddle on.
In the UK we have many of the conditions necessary to see sustained growth. We rank highly in terms of human capital with lots of smart and ambitious people who are constantly thinking up new ideas and developing new products.
Unfortunately, there are significant barriers facing the creative and industrious people of the UK. We have a tax system which places a considerable burden on individuals and firms and a regulatory system that does not support innovation and all too often supports incumbents.
Moreover, the country’s incredibly restrictive planning system, as set out in Policy Exchange’s report ‘The UK’s Broken Housing Market’, has meant that housing is prohibitively expensive in and around our major cities. This is not only a bad thing in and of itself, but it also means that the UK is missing out on the benefits which stem from agglomeration of having lots of intelligent, industrious and innovative people living and working near to each other.
The UK continues to produce people who are thinking up innovative new products and undertaking groundbreaking research. However, the current climate is not conducive to sustained economic growth.
If the country is to avoid simply muddling along and actually start to enjoy high levels of growth once again, then the government needs to take action. It must drastically cut public spending so that the tax burden can start to be reduced. It must slash the red tape which often favours large and well established firms at the expense of startups. Finally, it needs to liberalise the planning system so that the best and brightest can move to our major towns and cities.
The UK has so much potential, but it needs to learn the lessons of history and this year’s Nobel Laureates. Growth and progress are not guaranteed. Without fundamental reform the country is on track for stagnation.
Ben Ramanauskas is a senior research fellow in economics at Policy Exchange