And at least in those days of Coalition, the government had a healthy parliamentary majority to push through unpopular measures. This Chancellor now faces being held to parliamentary ransom by angry Brexiteers, populist Tory backbenchers, and of course those hard men (and women) of the Democratic Unionists. In short, Philip Hammond has nothing to “giveaway”, and limited capacity to raise revenue.

“The Chancellor should be applauded”, Hammond himself told the Cabinet in 2012, for “finding a few old bones and cans of soup in the back of the kitchen cupboard and turning them into a rather impressive dish”[1.  David Laws, “Coalition”, 2016.]. Will Hammond (2017) be a re-run of Osborne (2013)?

However tempting, timidity would be a great mistake for the economy, for our social cohesion, for Mr. Hammond, and indeed for his party. Mr. Hammond needs to be bold – but to do this he also needs to be clever.

There are in my view four key tests of boldness:

• action on the budget deficit;
• decisions on public spending;
• the strategy for “ordinary working households”; and
• the preparations for Brexit.

Let us take each in turn.

The temptation on government borrowing will be to be timid at best, or dangerously profligate at worst. With the longer term borrowing figures likely to be inflated by the downward revision to productivity, Hammond could simply push the date of a balanced budget out even further or “go for broke”, by making a virtue of “borrowing to invest”.

But now is not the time to go “weak and wobbly” on the ambition to wipe out the deficit. The UK needs to restore strength to its public finances before the next downturn, and before the adverse fiscal effects of an ageing population begin to bite. And a fiscal boost is hardly what the economy needs at a time when (rightly or wrongly) the Bank of England has delivered its first notching up of interest rates for a decade. A bold Chancellor would respond to deterioration in longer term borrowing (the numbers for this year and next are likely to be fine) by raising more in tax revenue beyond 2020 (avoiding near term political pain and parliamentary risk) – by targeting those reliefs and allowances of most advantage to those on higher incomes. Meanwhile, the Chancellor should commission a review of government investment spending to identify that which truly yields a real return to the Exchequer (such as spending on housing and transport schemes). In the long term, a new fiscal rule allowing borrowing on such productive investments (but not on all public sector capital projects) would make sense.

That takes us to “test two” – public spending. It is obvious that there are at least two major priorities which need attention. The first is the NHS. The NHS was well funded by Labour prior to 2010, so when the Coalition put the brakes on spending, the health service could absorb the austerity for a few years. But ever since 2013, NHS service standards have been slipping, and health spending clearly now needs to grow again materially each year to meet inflationary pressures and higher demand, including from an ageing population. With the exception of Jeremy Hunt and NHS Chief Executive Simon Stevens, nobody in this government shows any sign of understanding that the NHS is heading for a brick wall very, very, fast. An extra £1bn here or there, drip fed out over the next few years, simply won’t make much difference. Unless the NHS receives a bold, multi-year, settlement in which real spending grows at somewhere between 2% and 4%, there will be serious consequences both for patient health and eventually for the government’s political health.

Housing needs greater priority too – which at last seems to be recognised. This is not just about money, but money is almost certainly part of the solution. And if the government’s target of 300,000 homes per year is to be taken seriously, Mr. Hammond must think big and be bold.

Test three is about those “ordinary working families” or the “just about managing”, or whatever the slogan now is. Remember them? They were supposed to be Theresa’s May’s great political priority, until someone realised that the government simply hasn’t got a clue what policies might help or much enthusiasm to make a difference. But what could be done? Plenty. Plenty that could actually be targeted very well. Why not raise the starting point at which low paid workers pay national insurance contributions? It’s currently barely above £8,000 per year. And raise the rates a bit on higher earners to claw back the money. Next, how about making council tax – that miserable, regressive, tax – a bit less regressive? Cut council tax by 25% for smaller properties – this will particularly help those on lower pay in work (who cannot claim council tax benefit). And with inflation higher than expected, how about moderating the Osborne inspired benefit freeze, that hits the low paid working and non-working families alike, and which will if unchecked propel poverty rates higher. Could any of this be afforded? Of course it could – Chancellors have a huge range of revenue options if they dare to be bold. And would not a truly bold Chancellor in a government that really cared about “ordinary families” prioritise these types of measures, as against existing plans to target inheritance and savings (ISA) tax cuts on relatively wealthy citizens?[2.  See my September piece for UnHerd in which I explore these options at greater length: “The low-paid get a lot of words from politicians. Here’s a plan to give them higher incomes.”].

And finally, there is Brexit. Now, we know that Mr. Hammond is no enthusiastic Brexiteer. I suspect his views about the costs of EU departure are similar to those of former Treasury Permanent Secretary Sir Nick Macpherson, who made an interesting speech on the subject last week. But Brexit still seems likely to happen, and the Chancellor needs to present an appealing and plausible vision of our trading future, to encourage investment and help retain businesses most at risk of moving offshore. Cancelling the £5bn per year of badly targeted future cuts in corporation tax would provide some useful revenue to target more effectively at Brexit-sensitive sectors.

***

The Chancellor may, of course, have decided to be much less daring than all this. He will know that it is easy to produce a Budget which looks “bold” and “exciting” for a day – all you need is the odd, crowd-pleasing, rabbit from the hat, paid for by a low risk package based on those trusty Treasury favourites – “tax avoidance” and “departmental underspends”. And it would be easy, too, to find reasons to justify a “steady as she goes”, content-free, Budget. But on Wednesday, for the country’s sake, Mr Hammond needs to be genuinely bold. If he fails this test, his party may soon be looking for someone else to occupy 11 Downing Street, and – in time – Number 10 too.

Policies on pay, productivity and taxation are under review – except, perhaps, in Brexit-distracted Britain. But when it comes to living standards, it’s generally assumed that there is little that can usefully be done to boost real incomes by cutting living costs. This assumption is mostly correct as politicians have limited power to control the non-tax price of a car or, for example, the weekly food shop.

This assumption, however, is not necessarily a sound one for one of the largest components of the household budget – housing.

Over the last 40 years, we’ve seen massive divergence in house price growth across the developed world. There’s been little to no real growth in countries such as Germany and France, but soaring value in the UK, Australia and Spain. Indeed, in 2014, The Economist calculated that if general inflation had kept pace with UK house price inflation since the 1970s, a British chicken would now be priced at £51.

These soaring prices have had a major impact on both real incomes and home ownership.

The Resolution Foundation has estimated that over the period 2002 to 2015 rising housing costs effectively “wiped out” most, if not all, of the modest real income gains made by the lowest earning 56% of UK working age households. And they calculated that a two-earner couple with one child have suffered a “housing costs loss” equivalent to putting 9 pence on the basic rate of tax, over the period since the early 1990s.

The extraordinary rise in UK house prices has had other undesirable effects.  Home ownership rates have plummeted – particularly for younger households. Astonishingly, home ownership is now at a 30 year low – and not necessarily from choice.  The proportion of working-age households owning a home with a mortgage fell from around 55% in 2000 to just 41% in 2015. The proportion in (generally more expensive and less stable) private rented housing has soared from 11% to 25% over this period.

The generational impact is acute – today’s 30 year olds are only half as likely to own their own homes as the “baby boomers” of the 1950s/60s. Four out of ten 30 year olds now live in private rented accommodation, compared with 1 in 10 just 50 years ago – and housing costs now absorb twice the share of income for this age group, compared with the “baby boomer” experience.

These trends are not only part of the living standards squeeze – they also pose considerable fiscal risks, if a large proportion of the population do not own their homes and remain reliant on housing benefit in retirement. And as young people are increasingly dependent on family members to help with the costs of house purchase, unequal housing access and housing inflation are also likely to become strong drivers of greater economic inequality.

There is nothing accidental about high UK house prices – we simply aren’t building enough homes to meet population growth and shrinkage of household size. Annual house-building in the UK is roughly half the level of 50 years ago – with private house building failing to rise to compensate for the near ending of local authority building[1.  According to the Office of National Statistics and its quarterly report on new builds.].

The UK’s planning system is simply not as responsive to demand as that in many other countries, including those with a similar population density. And UK politicians have a tendency to rely upon ad hoc initiatives and large sounding but low delivering amounts of extra government subsidy to boost home building.

The present UK government seems willing to consider more radical options to increase home building, but as yet there are few signs that what is planned is on the scale to reverse recent affordability trends. Additional home building is often very unpopular, with strong “NIMBY”sentiment, even among those who are recent beneficiaries of new housing on greenfield sites.

To make a real difference to housing numbers, any policy shift needs to be big.

Firstly, more land needs to be made available for development and this may require a series of carrots and sticks:

• Local councils need to have strong economic incentives to approve additional development, and increased confidence that they can use powers of compulsory purchase where this appears necessary.
• The government could also consider further direct economic incentives on land-owners – applying a significant tax charge to land approved for development, and/or stronger incentives for landowners offering land up for development.
• In exchange, infrastructure requirements on new developments could be socialised – with the government funding these from its own capital investment budgets, rather than imposing an infrastructure “tax” on developers.

Secondly, the government needs to consider freeing up some of the existing “green belt” land, which is often sited where demand for new housing is greatest. Much of the green belt was established shortly after the Second World War, in wholly different demographic circumstances.  It accounts for a large part of the land area of England – 1.6m hectares or 13%.  It accounts for an even larger part of the land areas where there is greatest housing demand.

Clearly some of this green belt covers areas of outstanding natural beauty, where development should sensibly be resisted. But much green belt land, including around London, is really nothing special – and is arguably too extensive. London’s green belt is now three times larger than London itself.

Understandably, politicians are petrified of raising the prospect of axing green belt land. I remember the issue being discussed inside the Coalition government in 2014, with civil servants regarding the case for reform as unanswerable, while we politicians sat paralysed – envisaging the storm of well-heeled protest that would follow any announcement of change.

The only way to proceed is to establish a wide-ranging independent review of green belt policy – looking at what land might sensibly be freed up in areas of high housing demand, and possibly “swapping” this for new “green belt” in other areas.

Finally, we need to consider whether there is a role for more investment in social housing – possibly through shared ownership routes (and certainly while avoiding a return to a heavily subsidised housing type where the main route of entry was to demonstrate inability to self-house).  It is the collapse of social sector provision since the mid-1970s that accounts for a large part of the reduction in housing supply (see chart above).  It seems unlikely that we can reverse current trends without a greater social sector contribution.

Governments in developed capitalist countries now face a challenge to demonstrate, not least to low and middle income working households, that capitalism can go on meeting their economic needs. Tax reform can help. Pay and productivity are crucial – but the policy levers are less obvious. In countries such as the UK, with grossly inflated housing costs, governments have an excellent opportunity to improve real income growth by making the housing market work effectively. This will take some political courage. But if free market solutions cannot be made to work, it should be no surprise if voters are tempted to return to big government solutions.

Governments claim to be prioritising the interests of “hard working, low earning” people and Britain’s PM, Theresa May has even invented at least two names to describe them: first, “JAMs” (the Just About Managing) and, more recently, the “OWFs” (Ordinary Working Families).

It is unsurprising that politicians are focusing on the needs of this large group. Their earnings have stagnated over a sustained period. In the UK, for example, low to middle income working households have experienced no growth in real incomes since 2003 – according to the Resolution Foundation[1.  “Still just about managing” – the Resolution Foundation’s general election briefing of May 2017.].

What is more surprising is that all the political focus on this issue has resulted in almost no concrete policy actions. Indeed, in the UK, recent steps to raise the minimum wage have been more than cancelled out by larger cuts in welfare benefits (see that same Resolution Foundation report for details).

What explains this gap between benign rhetoric, and benign neglect? Perhaps it is a matter of political bandwidth? May’s government is preoccupied by the complexities of Brexit, while Trump is hardly short of political challenges, from North Korea to healthcare reform. But given the scale of this economic and a political challenge (and with many votes at stake), it’s hard to regard political bandwidth as a sufficient alibi. Most governments can do more than one thing at a time.

Perhaps a lack of deliverable policy solutions is the real issue? In both the US and UK, the lack of productivity growth appears a central part of the problem, but the solutions – investment in human and physical capital – are necessarily long term in nature.

Meanwhile, in a continuing era of public sector austerity, governments struggle to pursue any remedies that carry a price tag. When Mrs. May’s Conservative Party presented its recent General Election manifesto, the search for more savings led them to propose policies which would actually worsen the position of lower income working households (such as scaling back entitlement to free school meals).

Some policies seem to fail both affordability and desirability tests. Paying out more money in means-tested tax credits can, for example, undermine work incentives[2.  Stuart Adam and James Browne, “Redistribution, Work Incentives and Thirty Years of UK Tax and Benefit Reform”, Institute for Fiscal Studies, 2010].

One policy which the UK government has been pursuing since 2010 and continues to pursue – that of raising the starting point for income tax – might help. Since 2010, the UK “personal allowance” has been significantly increased, taking 2.6 million low earners out of the income tax system and delivering a tax cut worth around £600 per year for each basic rate taxpayer[3.  “The Coalition Government’s Record on Tax” published by the Institute for Fiscal Studies in March 2015].

The problem with this policy? It isn’t cheap. Moreover, as the allowance is raised it becomes a blunter instrument to target the lower earners. Only 57% of UK adults now pay income tax, and further increases in the allowance will significantly benefit two earner couples (often relatively well off) and pensioner households (as the personal tax allowance has now caught up with the pensioner threshold).

Nonetheless, there is surely more that could be done to reduce the tax burden on low to middle income working households, without damaging work incentives? After all, the UK tax system is hardly generous to lower income groups. The progressivity of the income tax system (where the richest fifth pay 23% of their gross incomes in tax, while the poorest fifth pay just 11%) is still fully offset by the regressive nature of the indirect tax system (where the bottom fifth of households pay 27% of their disposable incomes in tax, versus 14% for the richest)[4.  “Effects of taxes and benefits on UK household income; financial year ending 2016”, April 2017, published by the Office for National Statistics].

Lower income groups pay a particularly large share of their incomes in council tax (which helps fund local government). For the bottom fifth of households, council tax is actually a considerably larger burden than income tax – and accounts for over half of all their income related taxes[5.  Same source as above].

Council tax has fallen in real terms over recent years, largely because of repeated freezes as part of government policy, but it rose dramatically faster than inflation before 2010.  Council tax is set locally, but the relationship between the level of charges for houses of different values is set nationally. The lowest council tax band (A) has to charge 67% of the Band D amount. Meanwhile, a multi-million pound property in top band G can only be charged at double the Band D amount. Council tax is therefore a regressive tax.

The very lowest income households (often non-working) will receive council tax benefit – potentially paying almost nothing. So reductions in council tax focused on lower income working households would be highly effective in targeting exactly the groups which politicians say they want to prioritise. This could be achieved, for example, by cutting council tax by 25% for lower banded properties. More radically, the Mirrlees Review[6.  “Reforming the Tax System for the 21st Century: The Mirrlees Review“, Institute for Fiscal Studies, September 2011] recommended that council tax should be transformed into a simple percentage of property value. Either way, the lost revenue could be recovered by hiking the rates for the largest properties or shifting the tax burden onto higher income groups (see below). This seems a more sensible approach than that favoured by some UK political parties, which have proposed an entirely new “Mansion Tax” on high value properties.

How else might low/middle income working households be effectively supported? Well, although the starting point for paying income tax has been raised, this has not been the case for another, less visible, tax – national insurance contributions.  While Mrs. May’s government has pledged to raise the income tax threshold to £12,500, the national insurance starting point is presently around £8,200. Raising this threshold would therefore be a more effective way of targeting support on lower-paid workers, and because employee NI contributions are not paid by pensioners, this “giveaway” is also better targeted.

But how can all this be paid for? An obvious answer would be to raise the higher rates of both council tax and national insurance contributions.

But if the government does not want to raise council tax for larger properties or national insurance for higher paid workers, there are many other possible revenue sources which would avoid hitting low and middle earners…

• How about reducing the capital gains tax exempt amount?
• Or cutting back “Entrepreneurs relief”, which the IFS regards as “complex, distorting and arguably unfair”[7.  “Taxes and Benefits: The Parties’ Plans”, published by the Institute for Fiscal Studies, April 2015].
• What about greater alignment of dividend taxation with income tax, or cancelling part of the reduction of corporation tax rates (the 2010-2015 Coalition government spent almost as much reducing corporation tax as raising the personal allowance – [8.  “The Coalition Government’s Record on Tax”, Institute for Fiscal Studies, March 2015])?

The point is that if governments really want to make a difference, they have plenty of workable and immediate policy levers.

One final point: the present UK government has imposed a freeze on most benefits – cutting them significantly in real terms. This policy seems in part aimed at improving the work incentives of those not in employment. But around £1 in £5 of the incomes of “low and middle income working households” come from benefits. This includes housing benefit – as almost 30% of this group now rent privately – up from just 11% two decades ago [9.  From the Resolution Foundation’s “Living Standards Audit” of July 2017”].  This has two implications: firstly, that the government needs to re-think the impact of its benefit cuts on these families; secondly, we need more affordable homes to buy.

Longer term policy should prioritise better education and skills training, improved housing supply and affordability, and productivity enhancing infrastructure investments. But governments are judged over the short and medium term.

It’s surely time for ministers to turn the rhetoric about hard-working but low-paid workers into practical action. In the UK, the Chancellor Philip Hammond has an opportunity to blaze a trail in his Budget on 22nd November – he could start by slashing national insurance contributions and council tax for “ordinary working families”.

The question is both topical and for some nations, pressing. Following America’s election of Donald Trump and the United Kingdom’s decision to quit the European Union, many policymakers are considering how best to respond to the backlash against a free market in border policies.

Britain, in particular, is having to respond to a majority’s desire to “take back control” of borders – while business worries about national prosperity if immigration is simply “shut down”.  The Brexit negotiations seem likely to involve a clear trade-off between a willingness to retain “freedom to travel” for EU citizens and securing a “free trade” deal for British goods and services.

Any rational government needs to start off by recognising some of the huge benefits of immigration flows. Even the most pro-Brexit ministers have struggled to identify parts of the economy in which there is a clear case for stopping migrant labour. Whether it is top business people, health service staff, or seasonal agricultural workers, developed economies usually benefit significantly from foreign labour.

Large sections of the public in developed countries have nonetheless reacted badly to the recent scale of immigration – feeling that it represents a “loss of control”. It’s no wonder that immigration is particularly unpopular with less skilled and lower income groups. Some economic evidence[1. “The Labour Market Effects of Immigration“, published by the Migration Observatory at the University of Oxford, February 2017] suggests that they have most to lose from wage competition. While immigration is most beneficial for high and middle earners it can reduce living standards for the poorest citizens of “host” nations.

Lower income groups also experience more of the negative social impacts of high immigration – including pressure on low cost housing and a sense of alienation from seeing the character of their neighbourhoods change as a result of “outsiders”, often speaking other languages.

So, if we were designing an immigration system from scratch – as the British government now must do – how might we do so?

A first obvious, but crucial, point is that if policymakers want to restore confidence in the immigration system, half-measures won’t do. When I was a government minister in the 2010-2015 Coalition, I was staggered to be told by a leading civil servant that immigration was simply “not a priority”. More surprisingly, I was informed that the then Home Secretary and now PM, Theresa May, didn’t want a functioning system of entry and exit checks because she feared a public backlash when it became clear how many people failed to leave the country at the end of approved stays. It is understandable that the hard-pressed border police will want to focus on stopping terrorism and serious crime but if this is at the cost of basic immigration monitoring it is hardly surprising that public confidence is low.

The second point is to segregate and differentiate between immigration flows:

• Tourists are generally not an immigration problem. They are an economic opportunity and controls should only focus on countries from which there are frequent over-stayers.
• The same is true for genuine students – UK education is a crucial export[2. “UK revenue from education related exports and transnational education activity 2010-2014”, UK Department for Education, July 2017] which helps attract world class talent to our universities and research institutions. Moreover, it cross-subsidises the education of UK students. Developed countries should make life easy for students – provided they stick to the rules.
• We should also clearly distinguish asylum seekers from other immigrants – and design a system which is generous to those fleeing persecution, while treating others humanely, but firmly. UK asylum numbers are now relatively low.

That brings us to the most controversial category of immigrant – those who want to work. Where there are open borders with large pay differentials, flows of workers can be expected to be large, as we have seen with the entry of lower income countries into an enlarged EU.  Arguably, the EU acted hastily and naively in sanctioning effectively an “open borders” policy, while allowing in new member states with domestic pay levels at very significant discounts to the richer EU nations[3. “EU wages and labour costs”, from Eurostat, April 2017]. This was always likely to lead to historically large flows of people and by allowing EU citizens to claim welfare benefits at the “host country” level, workers had strong incentives to move to high pay, higher welfare jurisdictions.

Simply closing off borders to migrant workers would be economically insane. Many of our biggest and fastest growing businesses depend upon high skilled workers from overseas. Public services would find it impossible to train the required workforce in a sensible timeframe. And those recruiting for unfashionable, low paid, manual, jobs would find their task impossible – and some businesses would as a consequence likely move abroad. Of course, the UK could simply extend to EU citizens a work visa scheme that would prioritise employees in “shortage” occupations – a system already used to control non-EU labour flows.

But bureaucratically designed schemes are open to all the deficiencies and inflexibilities that are involved when government officials rather than employers are required to make employment decisions. And rules rightly designed to control immigration from countries where the population earns a few dollars per day may be unnecessary and inappropriate for managing worker flows within a group of countries with less dramatic variation in wage levels. EU freedom of movement wasn’t a big issue when income per head was similar across a small group of nations.

Finally, a rational government needs to anticipate how other countries might react to different forms of immigration control. If, for example, a more closed labour regime led to higher tariff barriers and less freedom to trade the costs might outweigh any benefits.

One possible answer that a rational government should consider is to remove entitlement to welfare benefits from migrant labour. EU citizens currently working in the UK have (reciprocal) rights to, for example, child tax credit, housing benefit, and child benefit. For low-paid workers in particular (always the most controversial category), this can make coming to more generous welfare countries such as the UK highly attractive. Removing these benefits, or at least denying entitlement for a qualifying number of years, would make the economic returns to working in the UK much less attractive, as a 2014 proposal[4. “EU free movement: make it fair to keep it free” published by Open Europe, November 2014] from the UK think tank, “Open Europe” showed. For an EU member, such a change would seem to be unthinkable but for a non-EU nation, it is not impossible to imagine the freedom to travel to work being divorced from the freedom to access a welfare system. Such a change would also command significant public support – as opinion polls indicate widespread concern about immigrants’ ability to access welfare systems without having made prior financial contributions.

If politicians have the determination and imagination, it is possible to redesign immigration systems to meet both economic needs and legitimate public concerns. The British government now has a strong incentive to seek to lead the way in striking this new balance.