Osborne’s National Insurance plans – be sceptical of “efficiency savings” claims

George Osborne’s announcement that he intends to reverse the increase in National Insurance Contributions has rightfully received applause from a number of business leaders, who called the planned rise an additional tax on jobs.

                                                        

However, instead of saying which expenditure items they want to see cut in order to avert the NIC rise, Osborne and his supporters from the business world put up the old smokescreens of “efficiency savings” or “increasing public sector productivity”.

When politicians talk about “efficiency savings”, what they usually mean is that they need a large sum of money and don’t know where to get it from. Obamacare, too, will allegedly be co-financed through “efficiency savings” in Medicare, though nobody really believes it.  

In one of the IEA’s early Hobart papers, Gordon Tullock convincingly explained why “efficiency savings” (he does not call them such) don’t usually happen. Bureaucrats do not want their organisation to shrink, and they can use their superior knowledge about the internal workings of their own bureaux to block cuts. Tullock recalls various anecdotes about public or semi-public officials who saw their budgets cut and who responded by deliberately cutting out their organisation’s tenderloins while leaving the fat reserves untouched. The objective was to impair the organisation’s functionality in order to exert pressure on the government to increase the budget again.

Penalising work is about the last thing the UK economy needs at the moment, but “efficiency savings” are not a credible alternative. Osborne should have picked out a number of selected organisations or programmes of questionable value to the taxpayer, and declared his intent to scrap them altogether.

“Osborne should have picked out a number of selected organisations or programmes of questionable value to the taxpayer, and declared his intent to scrap them altogether.”Music to my ears!

The Arts Council; Health and Safety; In fact scrap the lot and start again with the bare necessities.

What Mr. Osborne is pretending is that the sums he needs can come from ‘inefficiency’ savings. The difficulty is that government is by definition inefficient, as it doesn’t have the benefit of market competition. Several questions arise. How did this inefficiency creep in? How can it be identified? How can it be eliminated? How can it be prevented from creeping back in again?Actually I rather like government to be inefficient. Just think how scary it might be if it were efficient!To ’save’ money from government spending, the best approach is for government to stop doing some things it is doing now. Do less. I don’t say ‘do nothing’ — that would be going too far!

Re Kristian Niemietz’s claim that the NI increase hinders job creation, can he substantiate this?It is blindingly obvious that an NI increase considered in isolation will destroy jobs (as will any tax increase) . But what do governments do with the money they collect from tax: they spend it! And that creates pretty much the same number of jobs as were destroyed by the tax.

Ralph,
you seem to interpret NI as a neutral transfer of resources from the private to the public sector which does not trigger any behavioural responses relevant for employment. Why? I would agree if we were talking about, say, a poll tax (which I would oppose on other grounds). But since NI is a tax that only arises when you behave in a particular way (sell labour, buy labour), you would adjust your behaviour to avoid the tax (sell less labour, buy less labour). An NI increase would have an effect over and above the resource transfer because some transactions would be prevented from happening. The deadweight loss of taxation would cause a net fall in employment.

Kris: Tax apples, and fewer apples are sold: that’s microeconomics. Applying micro laws at the macro level is dodgy. Re the NI increase, I just don’t see how the employment loss arises. To illustrate, say (to keep it simple) the whole cost is passed on to customers. Customers will then reduce their spending, in real terms, which destroys jobs. But the money collected from the tax is spent, say on schools and the NHS. That will create much the same number of jobs in schools and the NHS as were destroyed.Moreover, even if for some strange reason the number of jobs destroyed exceeds the number created, that means labour market slack, which can be dealt with by bumping up aggregate demand.

Ralph. So we transfer an investment banking job to that of a statistics gatherer for the Department Of Health. Who buys the statistics gatherer’s services, where is positive wealth generated? A trader in an investment bank can sell his/her derivative to another trader in the USA for example making a profit, or Lotus sell their engineering expertise to India. On a general point why are command economies so backward compared to raw meat capitalist? South Korea vs North Korea, West Germany vs East Germany, communist China vs capitalist China?

>>I just don’t see how the employment loss arises
Let’s say you are willing to pay me up to £X for picking apples in your garden. I am willing to do it if I get at least £Z. We agree on £Y, with X > Y > Z. Now the comes the NI-increase, fully passed on to the customer – you. You now have to pay me £(Y+NI). As long as X > Y+NI > Z, there’s only the direct effect of the tax. You have less money to employ me, but the government has more money, and the two effects cancel each other out. But over some range of your demand curve, Y+NI is >X. Some apples rot on your trees, I earn less money, and the government cannot tax a transaction that doesn’t happen. That’s were the net loss arises.

Dave: Your point, namely what share of GDP goes to the state, is incidental to the NI increase (though clearly the latter raises the state’s share ). The above question is essentially political: it is the point that differentiates political left from right. If the electorate votes for more roads, state schools, etc., the electorate is saying it values these more than the stuff produced by the market. There is no proof the electorate is wrong. I favour free markets, but with reservations. Re banks, there is an economics Prof who claims senior bankers are all crooks. Google “William Black” & vodpod. His book: “The Best Way to Rob a Bank is to Own One”.

Kristian: I agree that in your scenario fewer apples are picked, or in general terms: fewer widgets are made. But my point, to repeat, is that government spends the money it has collected. Ergo, total number of jobs is unaltered.Having said that, if the economy is booming and inflation looms when the NI increase arrives, government may spend the money paying off the national debt, which would have a deflationary effect. But in this case government is effectively confiscating money which in practice cannot be spent, because if it were, it would just stoke inflation. Again (assuming govt. gets it right) there is no effect on aggregate employment.

Ralph,
And my point is that total number of jobs is not unaltered. You are, in effect, saying that it doesn’t matter what the tax is levied upon, whether it’s the purchase of labour or the size of your windows, as long as the total sum of tax money paid is the same in both cases.
It does matter. You behave differently under both scenarios, even if you end up paying exactly the same amount to the tax man. A tax on windows will reduce your consumption; a tax on labour will, in addition to that, make you shift your consumption from something relatively labour-intensive to something relatively less labour-intensive.

Kris: I’m getting frustrated by the 700 character limit. I’ve taken the liberty of putting a reply to your last post above on my own blog.See: http://ralphanomics.blogspot.com/2010/04/great-national-insurance-row.ht... could continue the debate there. Or perhaps the IEA would allow us more than 700 characters?? Let me know what you think. I’m at ralph at fram dot ndo dot co dot uk.

Post new comment

The content of this field is kept private and will not be shown publicly.
Type the characters you see in this picture. (verify using audio)
Type the characters you see in the picture above; if you can't read them, submit the form and a new image will be generated. Not case sensitive.