State aid to attract new firms - that's got to be good, right?

 

An X Factor contest to attract a Tesla gigafactory sets the stage for crony capitalism

The big worry is that the Government will harness its state aid powers to tilt the deck towards politically favoured regions

RYAN BOURNE27 May 2021 • 4:00pm

You could say conditions are ripe in the UK for crony capitalism.

Brexit has precipitated a consultation on revising “state aid” rules, with the prospect of fewer strictures on subsidies or tax incentives to attract certain investments. The Prime Minister and his local champions in Parliament are keen for “ribbon-cutting” successes to show the “levelling up” agenda in action. Add to that the pressure of net zero commitments and the political need to offset job losses from decarbonisation, and the Government is desperate for high-profile inward green investment.

So news the Government’s Office for Investment recently called on regional agencies to submit rapid location proposals for a new car factory, coupled with Elon Musk’s UK visit, sent the rumour-mill into overdrive that the Tesla boss is looking to open a electric vehicle plant or “gigafactory” in Britain. Tees Valley Mayor Ben Houchen and Teesside MPs, in fact, seemingly fired the starting gun on a very public regional beauty contest to woo Musk, also said to include South Wales.

Musk’s entrepreneurialism on electric vehicles is exciting and revolutionary. It is understandable that local champions such as Houchen would want this cutting-edge industry and a massive investment in their constituency, not least given the surging demand for electric vehicles as anti-carbon incentives proliferate. The problem is using regional contests to determine factory locations tends to be economically destructive.

The US has seen a proliferation of these spectacles, with companies playing state governments off against one another to “attract” the factory. “Winning” sometimes boosts local job creation, but most evidence suggests the financial and other incentives fail to lift regional economic growth, while leaving taxpayers worse off nationally. Companies get bungs for investment projects that often would have happened anyway, but with socially wasteful rent-seeking and copycat behaviour the result.

Tesla has a particular history of exploiting this competition for factory locations. In 2007, the company flipped its proposed car plant from New Mexico to California after the latter promised bigger tax exemptions. During a location hunt for a $5bn plant to produce lithium ion batteries in 2013, the company invited Washington state economic development officials to discuss its idea. When the officials arrived, they realised six other states had also been invited. The company wanted the message to be clear: this was a competition.

In fact, the “urgency” sought by the Office for Investment for these UK location proposals could be straight out of Tesla’s playbook. Back in 2013, the company gave US states just three weeks to submit opening location proposals for its “gigafactory.” After twisting arms, touring 100 sites, and playing hot and cold in public and private negotiations, the contest eventually saw the company extract a total of $1.4bn of company-specific financial incentives, made up of tax abatements and free land, to settle in Reno, Nevada.

Nevada’s Governor celebrated the win, as no doubt Houchen would if Musk set up on Teesside. Yet while “winning” like this no doubt brings observable, well-paid jobs and political prestige, the regional incentives themselves tend to, at best, simply displace activity across the country, as higher taxes are imposed elsewhere. Economist Matt Mitchell of George Mason University likens the process to a gardener fertilising some plants by composting others.

“At best” because, usually, the specific incentives do not affect the final location decision at all. The skills of the local workforce, the benefits of being around other similar companies, and the broader conditions of the region are usually more important considerations. Research, again in the US, has suggested that just one-in-eight regional economic development subsidies change a plant location from what we would otherwise expect. Taxpayers usually lose out for nothing.

That is not to say the effects of Musk’s location shopping are all economically destructive. His recent move away from California has exposed how overzealous regulation and high taxation have bad economic consequences. If the UK is going to prosper post-Brexit, it will need a generally pro-growth tax environment, reasonably priced energy, supporting infrastructure, a high-skilled workforce and a much more liberal land-use regime, all of which would help secure major investments like Musk’s.

What we should not do, however, is have regional or national politicians grant companies sweetheart deals dependent on where they locate. Not only do these tend to disappoint as companies promise the world — analysis up to 2018 suggested Tesla in Nevada was $1bn short of its $5.5bn investment promise, and had only created two-thirds of the projected jobs — but tilting the deck leads to inefficiency and other companies seeking out similar favours.

British regions have much less resource autonomy than US states, of course. So, in reality, “regional contests” here would be more limited by definition. Good. The bigger worry is that rather than focusing on the overall environment for business, the Government will harness its state aid powers to tilt the deck towards politically favoured regions.

For similar reasons, this would be the wrong path for Britain to go down. Not only would the Government find itself needing to step in with bigger bungs to ensure “unattractive” regions get a piece of the action, but other major companies would start demanding incentives to fulfil projects they intended anyway.

If Musk’s Tesla gets subsidies to locate in a given UK region, then other firms will ask: why not us too? Reports already suggest Nissan is demanding tens of millions of pounds in support for its own gigafactory proposal, including help with energy costs. And if the US experience shows us anything, it is that once one factory investment decision becomes a gaudy X Factor-style location contest, other businesses demand similar treatment.

Level-up to level-down?

Boris should forget the levelling up agenda

Chinese style, big state interventionism is not the way forward for Western economies such as ours

JEREMY WARNER4 May 2021 • 6:51pm

It’s the Queen’s speech next week, with the Government promising to set the legislative stage for Britain’s post-Covid, “levelling up”, beyond-Brexit economy.

I’m not holding my breath. And nor should anyone else. For there is in truth no magic wand that can be waved, or levers the Government can pull, to make things better, especially when it comes to managing the economy in a way that delivers on Number Ten’s parallel “levelling up”, productivity, and zero carbon objectives.

I would go further, and suggest that the more interventionist approach the Government has all too plainly set its eyes on is almost certainly doomed to fail. We’ve been down that rabbit hole before, and it didn’t work.

The problem is endemic and deeply ingrained; confronted by almost any difficulty, we tend as a nation to look not to self help but to the Government for solutions.

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Culturally, it is a very different attitude in the US, one best characterised by Ronald Reagan’s famous remark that the nine most terrifying words in the English language are “I’m from the Government and I’m here to help”.

Joe Biden wants to shift that mindset with ambitious plans for extending both the size and reach of the state. Good luck with that.

Suspicion of federal government is still very much part of the American psyche, and indeed a large part of what makes the US economy tick. Call it the frontier spirit; the US departs from its ideals at its peril.

The UK Government’s levelling up agenda is in itself a worthy enough ambition, but it has never been entirely clear what it even means, let alone how it is going to be delivered.

Step forward Neil O’Brien, the former Policy Exchange supremo and a veteran Downing Street adviser, now charged by the Prime Minister with giving it a degree of definition.

That’s not going to be easy.

As for equalisation, it’s never going to be anything more than an impossible dream. If all parts of the UK were as productive and prosperous as London, Britain would, in per capita terms and by some distance, be the richest major economy on the planet; there would moreover be no budget deficit, and no burgeoning mountain of public debt to weigh heavy on the land. The danger is that in attempting to level up, we merely level everyone down instead.

That risk is well chronicled when it comes to the Government’s flagship “free ports” policy, a key element of next week’s Queen’s speech. Rather than creating genuinely new enterprise and jobs, free ports all too frequently divert them from the rest of the economy instead.

Research aired in a newly published report by the Covid Recovery Commission finds that the pandemic has further deepened inequalities in Britain, from physical and mental health to employment and financial resilience.

Nor are these differences just inter-regional; many of the most disadvantaged live in the most prosperous areas of the country. The Government’s focus on “red wall” grievances may therefore in itself be misguided (my inference, not the Commission’s).

Chaired by Tesco chairman and former CBI president, John Allan, and including a top-drawer array of other business leaders, the Commission sets the goal of creating at least one new globally competitive industry cluster in every region and nation of the UK by 2030.

That would indeed be nice, but even as an aspiration, it is almost wholly meaningless and certainly isn’t going to be magicked up by a mix of “catapult quarters”, regulatory changes to unlock patient capital, “help to export” schemes and any number of other suggestions the Commission offers.

That’s not to argue that the UK Government should reject these proposals, only that they will not in themselves spark an industrial renaissance. The miracle of Silicon Valley in California didn’t occur because the US government wished it, nor was the success of the City of London down to deliberately pursued central government planning.

City of London: to prosper like the US, Britain has to offer some of the same attributes, including the freedom to profit unhindered by political and cultural hostility

It is a long standing joke that the IT cluster that developed around Bangalore in India only happened because the government in Delhi failed to notice it; Bangalore succeeded despite the government, not because of it.

There is no great mystery behind what makes the US economy so dynamic. True enough, it is in part about critical mass, which the UK by itself can never hope to match. But it is mainly about simply creating an environment where business, enterprise, competition and markets can thrive.

By doing so, America makes itself a magnet for the best, brightest, and most inventive brains on the planet, hoovering up the available talent from Europe, the subcontinent and beyond. We used to call this the brain drain. To prosper, Britain has to offer some of the same attributes, including the freedom to profit unhindered by political and cultural hostility.

The UK is not going to succeed by fine tuning its state aid rules to the purpose of picking winners, investing in copycat enterprise, and supporting jobs in sunset industries.

The Government’s green energy agenda does admittedly hold some promise for job creation. Those jobs should moreover be well spread throughout the regions, given that the required transition requires nationwide investment in home installations, electric vehicle refuelling stations, and the like. That makes them almost perfectly suited to the levelling up agenda.

Unfortunately, all that green investment will also involve employment displacement in the hydrocarbon based industries it makes obsolete. As for Artificial Intelligenceand automation, these technologies are by definition going to be jobs destructive before they become employment creative.

It is delusional to think that China’s top down approach to economic success offers any kind of a way forward for the West; a country playing catch-up holds no lessons for a post-industrial economy such as the UK. Yet our rediscovered political fascination with big state interventionism suggests just such a strategy

No signs of wage inflation in Europe (yet)...

Europe’s largest private employer VW faces no pressure to raise wages 

German automaker’s view reinforces ECB policymakers’ forecasts that sustained inflation is unlikely

VW’s chief executive told the FT that despite sharp rises in input costs, the company is not under pressure to raise wages - Joe Miller and Martin Arnold in Frankfurt 

4 HOURS AGO 

 Europe’s biggest private-sector employer Volkswagen has said it is not under pressure to raise salaries, reinforcing central bankers’ forecasts that the region’s economic rebound from the coronavirus pandemic is unlikely to fuel sustained inflation. 

 “We don’t see signs of wage inflation pressure in our major markets,” Arno Antlitz, VW’s chief financial officer, told the Financial Times. “It is difficult to say from today’s perspective if this will change, but we don’t expect that.” 

 His comments echo those made earlier this week by the ECB’s chief economist Philip Lane on whether companies will pass higher costs on to consumers. He said: “The fact that pricing power may have been rediscovered by some global firms is not on its own enough to generate persistent inflation — you need a strong labour market.” 

 Investors are anxious that the massive fiscal and monetary stimulus rolled out on both sides of the Atlantic since the pandemic hit early last year could cause inflation to soar as lockdowns are lifted and the US and European economies rebound. A rise in inflation would erode real-terms bond market returns. Eurozone inflation turned negative in the final months of last year but rebounded to 1.6 per cent in April. The ECB expects it to top its target of below, but close to, 2 per cent late this year, driven by soaring supply-side price pressures and resurgent consumer demand. 

The US Federal Reserve also expects US price growth to top its 2 per cent target this year. However, most economists think these inflationary pressures will fade in 2022 because labour markets will take time to recover from the shock of the pandemic, delaying any significant rise in wages. 

The ECB forecasts that eurozone inflation will fall back to 1.4 per cent by 2023. Unemployment in the eurozone has risen from just above 7 per cent before the pandemic to 8.1 per cent in March, but millions of people have dropped out of the workforce and millions more are still on state-subsidised furlough schemes. Eurozone labour slack, a broader measure of labour market softness which includes involuntary part-timers and discouraged workers, rose to about 16 per cent of the extended labour force in the final quarter of last year, up 2 percentage points from pre-pandemic levels. 

 Only one in 10 eurozone businesses in both the manufacturing and services sectors reported labour was a factor limiting production according to the latest quarterly survey by the European Commission in April. In contrast, insufficient demand was a concern for more than one in three services providers and 27 per cent of eurozone factories. “We do think the labour market is going to lag behind the overall recovery and we notice the sectors that have been most hit by the pandemic are quite labour intensive,” said Lane. 

VW, which employs more than 660,000 staff worldwide including almost 500,000 in Europe, resisted recent calls from Germany’s most powerful union, IG Metall, for a 4 per cent pay rise. Instead it agreed to a one-off annual 2.3 per cent increase from 2019’s remuneration levels, to take effect next year. At the time the deal was announced, local union leader Thorsten Gröger said the deal meant that “the VW workforce will find a noticeable plus in their wallets”. 

 While VW’s labour costs are little changed, it has been hit by sharp increases in the cost of raw materials. “We feel a lot of pressure on the materials side, steel is one thing, but even more concerning are precious metals . . . aluminium is on the increase,” said chief executive Herbert Diess. “Wherever possible we will pass it on to our customers and we will make sure that the increases will be as low as possible with our purchasing power.” 

 Additional reporting by Claire Jones and Valentina Romei 

The conditions needed for a broad increase in investment and growth

A 21st-century green Marshall Plan may help us to enter a new golden era

Philip Aldrick

Saturday May 01 2021, 12.01am, The Times

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Capitalism’s high point came in the two and a half decades after the Second World War. The years between 1948 and 1973 were the “golden age”, a period of high growth and low unemployment, “a world in which everything was shiny and new”, as Alan Greenspan and Adrian Wooldridge write in Capitalism in America.

US gross domestic product grew at an average of 3.8 per cent a year between 1946 and 1973 (3 per cent today would be a cause for celebration) and real household incomes rose by 74 per cent, three times as much as in the past 25 years. America dragged the rest of the world behind it. Britain roughly matched the boom in US productivity, such that Harold Macmillan, the prime minister, was able to say in 1957: “Let’s be frank about it, most of our people have never had it so good.”

Catch-up growth in the defeated nations of Germany, Italy and Japan was even more remarkable. Globally, GDP per person in advanced economies grew by 3.8 per cent a year between 1950 and 1973, more than treble the rate in the previous century, data from the CORE digital economic textbook shows.

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What made those years “golden” wasn’t merely the pace of growth but that the bounty was shared. It was a capitalism in which everyone had a stake. Behind the benign economics was rampant productivity, which enabled employers to raise wages in real terms, while protecting profits. Living standards soared. Everyone was a winner.

Today’s economic thinking is drifting back to those postwar glory years, when taxes were high and governments were big. “Trickle-down economics has never worked. It’s time to grow the economy from the bottom up and middle out,” President Biden said this weekas he promised to raise taxes on business and the wealthy. He wants to share out capitalism’s proceeds, but, as the past decade has shown, the problem has been less one of redistribution and more one of failed growth. Productivity has been weak everywhere and without it there is no way to lift the living standards of the poor other than taking from the rich.

The lesson from the golden age was not that equality delivers success — the low level of inequality was a consequence of growth — but of the power of productivity and investment. Globally, the capital stock — all the houses, factories and machines built — grew by 5.5 per cent a year on average between 1950 and 1973, almost twice as fast as between 1870 to 1913. But what drove the investment?

That question is perhaps the most important one of all, as the answer could unlock the magic of a self-reinforcing productivity spiral. A simple answer might be aggregate demand. Thatcherism was an experiment with that, cutting personal taxes and democratising debt to put more money into consumers’ pockets. It had a degree of success. More recently, governments have tried cutting corporation tax, but evidence suggests that the impact is limited at best. Wendy Carlin, professor of economics at University College London, has another idea; that investment is driven by optimism and certainty.

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In one sense, the point is so obvious that it almost doesn’t bear mentioning. But the golden age taught us that optimism is not just a lucky break. It can be generated. The backdrop to the 1950s, after all, was war and, before the war, the Great Depression.

What lifted the world economy in the 1950s was a single-minded and globally co-ordinated objective; to rebuild. In America, President Eisenhower launched a programme of public works. The US Marshall Plan, an aid package that totalled more than all foreign US aid until then combined, laid the foundations for western Europe between 1948 and 1952. Global institutions such as the International Monetary Fund were created to co-ordinate the project.

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Today we have another single-minded objective that has global backing and a muscular “golden age” fiscal mindset behind it; tackling climate change. All leading governments are committed to reducing emissions and most plan to do so through infrastructure investment. “When I think about climate change, I think jobs,” Biden said, channelling Eisenhower. So does Boris Johnson, as do leaders across the world.

Businesses know exactly what the parameters are, the Paris accordand net zero pledges have defined those. Investment in green projects, or decarbonising existing ones, will be rewarded. Green innovations will make people’s fortunes. A Treasury impact assessment estimates that the bill for net zero will come to £651 billion for Britain over 30 years. But rebuilding the west was not free and, more importantly, the investment may boost productivity.

Carlin’s work with David Soskice, of the London School of Economics, has shown that increasing consumer demand is not enough to raise investment. It “expands employment, [but] without a shift to the optimistic scenario about future growth, investment and productivity do not revive”. What’s needed is a narrative shift to change the “co-ordinated beliefs of firms around expectations for market growth”.

The 2008 financial crisis may have embedded a cautionary pessimism, the authors wrote. Capital deepening, the rate of increase in produced capital per worker, has crashed everywhere since 2010 to a fraction of levels seen in the two decades before the crisis and productivity has fallen in tandem. UK data this week showed that “total produced capital stocks”, everything from homes to machines to research and development, doubled between 1995 and 2007 but has increased by only 50 per cent since.

The pandemic may make things worse by entrenching uncertainty. On the other hand, governments have shown that they will be an insurer of last resort. That should give households the confidence to spend and businesses the confidence to invest. For what is insurance if not risk transfer?

For a new golden era, Carlin and Soskice argue that businesses need something to believe in collectively, and that when they do investment will shift upwards, irrespective of borrowing costs, taxes or consumer demand. That something, whether you believe in climate change or not, could be a 21st-century green Marshall Plan.

Philip Aldrick is Economics Editor of The Times