The Economics of Covid and Brexit

Julian Jessop

@julianHjessop

15th January 2021

1. Agenda• Covid

- why might state intervention be needed?- should we put a price on a human life? - why has UK GDP been hit relatively hard?- what will be the long-term economic impacts?- how much should we worry about public debt?

• Brexit- what Brexit is about- what are the economic costs - and benefits?- how are we doing so far?

• Q&A

• Protection from a deadly virus is a good example of a ‘public good’: people cannot easily be excluded from the benefits

• Spreading a virus is also a good example of a negative ‘externality’: individuals have very little economic incentive to avoid putting strangers at risk

• Hard to get private insurance against a nationwide lockdown (too expensive, if available at all)

• Large transactions costs involved in closing and restarting businesses, or firing and then rehiring (so government needs to provide bridging finance and furlough subsidies)

2. ‘Market failures’ that justify state intervention

3. Should we put a price on a human life?

• Health economists often put a monetary value on people’s lives based on the number of years they have left, and the quality of that life (‘QALYs’). This is simply about using limited resources in the fairest way.

1. Suppose it would cost £1 billion to prevent just one premature death. Would this be worth it?

2. Imagine you are allocating the last seat on a lifeboat as the Titanic sinks, and have a choice between rescuing a healthy child or a sickly old man. Whom would you save, and why?

4. Pitfalls in cost-benefit analysis

• The ‘counterfactual’: uncertainty about what would happen if the government failed to take particular actions

• The ‘identifiable victim’ problem: putting too much weight on preventing Covid deaths and not enough on other harms

• The time horizon: locking down harder and sooner may increase the short-term hit but reduce it in the long term

• Many of the fiscal costs are ‘transfer payments’ that are not necessarily a net loss to the economy as a whole…

• …but they may distort incentives and have other costs, including the ‘opportunity cost’ of not using the money for something else

5. The importance of the counterfactual

• You cannot judge the value of lockdowns (as some do) by looking only at the number of deaths while Covid restrictions are in place

• You also need some idea of how many more would die prematurely without a lockdown

6. Benefits of the lockdown

Most visibly

• the reduction in illnesses and deaths from Covid itself

But also

• The prevention of other deaths and harms (to young and old) if the NHS is overwhelmed with Covid patients

• Reduction in other communicable diseases, e.g. flu

• Fewer deaths from traffic accidents, pollution, and so on

• A stronger economic recovery in the longer term from getting on top of Covid more quickly

7. Costs of the lockdown

Most visibly:• The collapse in economic activity, including business

closures, job losses and lost income• The impact on the public finances

But also:• Harms done to people with other conditions (e.g.

cancer patients) not receiving the care they need• Costs to mental health and wellbeing• Harm to education and job opportunities• Damage to civil liberties and confidence in government

8. Are lockdowns worth it?• A very difficult judgment, but three factors probably now

tip the balance in favour of ‘lockdown 3’ (and tightening the rules further if health data fail to improve):

1. Easier transmission of new Covid variant has increased the benefits of locking down (greater threat to NHS)

2. Rollout of vaccines has reduced at least some of the costs (people and businesses can now be more confident that this is the ‘final push’)

3. Economy has adapted well and better than most had expected (‘lockdown 2’ did far less harm than ‘lockdown 1’)

• Huge hit last spring (GDP fell 25% in just two months), but strong recovery in the summer (before second wave)

9. What’s happened to the economy?

• UK’s relatively flexible economy and labour market has adapted well

• Fiscal and monetary policy has also played its part by protecting (most) jobs, businesses and basic incomes during the lockdowns

• UK GDP has fallen more than in most comparable countries

10. UK economy does appear to have been one of the worst hit

• Nonetheless, there have been bigger hits in Spain and Greece (both dominated by services, especially tourism)

• Despite the larger fall reported in GDP, UK employment has held up relatively well

• Population (e.g. average age, household types, underlying health of the nation, population density)

• Behaviour (e.g. use of facemasks, familiarity with technology, compliance with rules)

• Economy (e.g. international openness, dependency on services and tourism)

• Quality of government response (e.g. ‘track and trace’, availability of PPE, clear messaging, vaccine rollout)

• Stringency of government response (e.g. timing and extent of lockdowns, closing borders)

• Data differences (how public sector output is measured)

11. Why some economies suffer more than others

12. What will be the long-term economic impacts?

↓ Lost education and an increase in unemploymentcould lead to permanent skills loss

↓ Business investment has fallen sharply

↓ Austerity and higher taxes?

↑ ‘Creative destruction’ might finally finish off ‘zombie firms’ that are holding back productivity

↑ The pandemic is accelera ng some posi ve trends, e.g. flexible working and use of technology

↑ Chance to ‘build back better’?

• Public debt is at a record high in cash terms, but it has been much higher as a share of GDP (national income)

13. The jump in debt in context

• Most of the debt taken on in previous crises has been rolled over, rather than repaid

• The burden of debt as a share of nominal GDP has still fallen, as the economy has recovered and inflation picked up

14. How will we pay for all this?• We’ve already ‘paid for it’ by selling loads of debt at

negative real interest rates (a ‘wealth tax’!) • There’s no rush to do anything else

- longer-term impacts of pandemic are too uncertain- tax rises (or spending cuts) would slow the recovery- borrowing should fall back as the economy rebounds- the level of debt will fall too – at least as a % of GDP- in the meantime, debt is cheap and easy to finance

• For more (including on the role of the BoE) see my IEABriefing on the public finances, published in December

www.ukandeu.ac.uk

www.briefingsforbritain.co.uk

15. Two good sources for Brexit analysis

1. ‘Borders’: end free movement of people from the EU

2. ‘Laws’: leave the EU’s Single Market and end jurisdiction of European courts

3. ‘Money’: stop paying large amounts into the EU budget

16. Brexit means ‘taking back control’ of…

And we should probably add…

4. ‘Trade policy’: leave the EU’s Customs Union5. ‘Fish’!

17. Brexit uncertainty has led to slower growth

• The vote to leave the EU has already had some significant impacts on the UK economy:

1. The value of the pound has fallen, making imports more expensive and leading to an increase in inflation, partly offset by a boost to exports;

2. Business investment has stalled;

3. Some loss of business from the City;

4. Migration to the UK from the EU has slowed, partly offset by an increase from RoW

• Potential costs- new tariffs and non-tariff barriers for trade with EU- knock-on effects on investment and productivity- fewer rights for UK citizens in EU (and vice versa)- problems at Irish border

• Potential benefits- lower barriers to trade with rest of world- freedom to determine own laws and regulations- greater control of immigration (could be a cost!)- savings on contributions to EU budget

18. Brexit long-term costs and benefits

• Tangible costs- problems for UK citizens living in EU- disruption to UK-EU supply chains and deliveries- new barriers to trade between NI and GB- continued uncertainty over financial services

• Tangible benefits - ending VAT on sanitary products (‘tampon tax’)- simpler rules on tax reporting (dropping ‘DAC6’)- tighter regulation of animal welfare- faster rollout of vaccines *

* this is disputed!

19. Brexit: how are we doing so far?

20. To end on a positive note: Covid tide is turning?