I have already posted about the need to cut government expenditure is a more rounded way through focusing on 7 major areas. There is an important adjunct to this. The ability of the economy to climb out of the recession will be hampered by
1) High Taxation
2) Onerous Regulation
The burden of these twin factors was able to be borne in the boom. They may have reduced profitability, but other factors such as low interest rates and the ever-increasing public expenditure more than offset these factors. In addition, the house-price bubble was helped by the planning constraints on new-build. This shortage of supply increased the house price inflation. Coupled with easy money and low interest rates it also helped the consumer boom.
The opposite will apply in the recovery. This is through,
1) The high costs of the regulation will limit the ability of firms to lower prices, whilst still remaining profitable – break even is higher.
2) More importantly, the time taken in meeting regulatory requirements, whether in house building or in putting in place new investments, means that the payback period is lengthened.
3) Regulations to protect workers rights means that taking on new employees is similarly discouraged (Protecting the employed in the good times means protecting the unemployed from gaining employment after the bad times – see much of Western Europe during the 1990s).
Sustained recovery with real jobs will therefore be impaired.
Reducing the deficit requires not only cuts in government expenditure. It means removing the impairments of the private sector to adapt and grow.
John Redwood seems to be grasping this point when he recognizes that the car scrappage scheme just offsets some of the high taxes on the car industry. Here is my comment posted earlier.
You make a very valid points here about trying to undo the harm of high taxes on the car with a subsidy for new car purchases. However, I would take issue with you on the government having encouraged new housebuilding. You have said before that house buying was encouraged house buying in the past with low interest rates from 2000 to 2005 (only then to raise them too high). However, tough planning laws have meant that during the boom the numbers of new homes being built were at record lows, with much of the new build being in apartments and not the more desirable houses. This shortage of new build when demand was (artificially) strong, further exacerbated the house price inflation.
However, you do point to a general principle for a quick, sustainable and affordable recovery – Undo the harm done by higher taxes and more regulation.
In the boom, these extra costs were largely absorbed. They have encouraged a steeper downturn and the increased costs will slow down and diminish the recovery.