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Rebuilding Public Investment

The Institute for Fiscal Studies says Labour's plan to invest in Britain is impractical - but when faced with climate crisis and a failing economy, there's nothing more impractical than inaction.

This week, the Institute for Fiscal Studies (IFS) published its assessment of the party manifestos for the general election. The media’s favourite think tank took aim at all the major political parties, but reserved its sharpest criticisms for the Labour Party. 

Among these was the claim that “Labour would not be able to deliver investment spending increases on the scale they promise. The public sector doesn’t have the capacity to ramp up that much, that fast.”

It is true that Labour’s investment plans represent a decisive break from the recent past. They include a £250bn Green Transformation Fund to power a “green industrial revolution”, and £150bn Social Transformation Fund to upgrade schools, hospitals, homes and infrastructure across the country.

The below chart from the Resolution Foundation shows how Labour’s investment plans compare with recent history.

Public investment as a proportion of GDP has declined significantly from its peak in the 1960s. This was driven the privatisation of key sectors, the withdrawal of the state from housebuilding, and the shift away from direct public investment towards off-balance sheet private sector financing schemes like PFI. 

Captive to market logic, successive governments have left the task of investing in the economy to the private sector and the profit motive. But despite having one of the largest financial sectors in the world, the rate of investment in the UK remains lower than almost anywhere else. While billions of pounds are lent into the economy each year, most of this flows into property and financial markets, inflating asset prices and enriching a few at the expense of the many. It’s clear that the private sector is failing to deliver the investment we desperately need. 

Looking ahead, the climate crisis demands an unprecedented mobilisation of resources to shift patterns of production, consumption and distribution towards a new sustainable path. As with previous transformations, the speed and scale of the task means that it must be state-led. So instead of debating whether we can afford to increase public investments, we should really be debating whether we can really afford not to.

But what about the IFS’s claim that the public sector doesn’t have the capacity to deliver such a rapid increase in public investment?

Here there is more than a grain of truth. After four decades of neoliberalism, the state’s capacity has been drastically hollowed out. Key public functions have been outsourced to management consultants and private service providers, while the application of private sector management techniques to the public sphere has placed civil servants in an administrative straightjacket. Tasked with delivering such a large increase in public investment tomorrow, it’s likely that what’s left of the public sector would struggle to invest on the scale and pace required. 

But this is not an excuse for inaction. As the above chart shows, the public sector has delivered much higher levels of investment in the past, and many countries around the world continue to do so today. Many of humanity’s boldest advances – from the internet and microchips to biotechnology and nanotechnology – were only made possible by strategic public investments that were made by dynamic, mission-oriented public institutions. In many of these areas the private sector only entered much later, piggybacking on the advances made possible by long-term, high-risk public investment.

If the next government is to transform its economy on the scale that is required to meet the challenges of the twenty-first century, it’s clear that it must urgently rebuild public sector institutions, and increase their capacity to think and act big. 

Labour’s manifesto contains a number of proposals to kickstart this process. A new Sustainable Investment Board will bring together the Chancellor, Business Secretary and Bank of England Governor to co-ordinate investment, together with trade unions and business. A new National Investment Bank, backed up by a network of Regional Development Banks, will finance £250bn of investment across the economy. A new Post Bank, operated through the Post Office network, will breathe new life into communities that have long been neglected. 

Plans to move key parts of the Treasury to the North of England will help tackle some of the deep rooted institutional problems that lie at the root of the UK’s unbalanced economy. 

For the IFS, the possibility that a future government might increase the public sector’s capacity to deliver investment is ignored, along with the significant macroeconomic ‘multipliers’ that such investments would generate. Unsurprisingly, they do worry about the impact on the public finances, claiming that Labour’s plans “would see the national debt rise by around 3% of national income”.

It is true that new borrowing will increase the national debt. But a balance sheet has two sides: assets on the one side, and liabilities on the other. As I’ve written about before, when it comes to the public sector’s finances, we only focus on the liability side of the balance sheet: the ‘national debt’. But what about our ‘national assets’? Focusing exclusively on one side of the balance sheet creates an obvious bias against public investment and ownership.

Recognising this, Labour’s new fiscal rule targets Public Sector Net Worth, which includes the value of the assets created by public investment as well as the liabilities incurred to finance them. This is a welcome step towards a more rational approach to managing the public sector balance sheet.

None of this is to say that Labour’s plans are perfect. But dismissing the party’s investment plans because the “public sector doesn’t have the capacity” misses the point. We can develop these capabilities, and indeed we must. Our future depends on it. 

About the Author

Laurie Macfarlane is economics editor at openDemocracy, and a research associate at the UCL Institute for Innovation and Public Purpose. He is the co-author of Rethinking the Economics of Land and Housing (Zed Books, 2017).