A presentation by Dr Graham Brownlow (QUMS) at NICVA's 'masterclass' event on 16 September 2011

1. Avoiding “Icebergs”: Changes and Continuities in Economic Levers NICVA “Masterclass” September 16th 2011 Dr Graham Brownlow (QUMS) graham.brownlow@qub.ac.uk

2. “There is nothing more difficult to take in hand, more perilous to conduct, or more uncertain in its success, than to take the lead in the introduction of a new order of things. For the reformer has enemies in all those who profit by the old order, and only lukewarm defenders in all those who would profit by the new order...”. Niccolo Machiavelli

3. IREP (2009) The 2009 report followed on from previous work. It identified a range of problems with Invest NI including: Poor productivity Over-reliance on subsidy (against backdrop of fall) Poor performance of Invest NI: not enough jobs created Poor performance of Invest NI: job quality not enough in those created Poor performance of Invest NI: 50% additionality

4. N. Ireland Here and Now (EAG, 2011) 3,000 jobs lost since 2008 (i.e. 2011 = 2005 levels). 150% increase in claimant count 2007-11. One in five (23%) working age adults have no qualifications which is nearly twice UK average rate (12%). Competitiveness has improved, but much more work needed.

5. The Institutional-Economic Situation 1 (Heald, 2003) Much of what was written in 2003 (and indeed earlier) remains the case as of 2011: Low policy capacity in 1999 not reversed? (Heald, 2003, p.75) -> CSR 2010? Populism/spending as a shared political ideology?-> CSR 2010? Path Dependence in Civil Service incentives after 1972 -> Emulation and/or “Green Book” Evaluation? Absence of Think Tanks ->EAG?

9. Some Headline Findings on Levers, Rebalancing and Rebuilding 2 After 1945, a range of fiscal levers unique to NI (or significantly modified) were developed; The record of these fiscal mechanisms was (for a number of reasons) decidedly mixed; HMT by 1964 was considering a new fiscal settlement, but this was never implemented; Hence civil unrest made an already difficult situation worse and postponed the development of levers that would promote economic progress.

10. Presentation Structure Some Empirical Evidence on the Long-Run Picture. Levers in the 1920 Act: a case of theory and practice. Some “Icebergs” from Outside: Depression, War and the Ratchet Effect. Some “Icebergs” from Inside: Civil Unrest and Levers. Q&A

11. Presentation Structure Some Empirical Evidence on the Long-Run Picture. Levers in the 1920 Act: a case of theory and practice. Some “Icebergs”: from Outside: Depression, War and the Ratchet Effect. Some “Icebergs”: from Inside: Civil Unrest and Levers. Q&A

12. Figure 1: Growth in per capita GDP since 1954: NI, SW, Wa and Sc

13. Figure 2: Net Output Per Head, 1912-92 (NI/GB, GB =100) (Birnie and Hitchens, 1999, p.34).

14. Table 1: Unemployment as a Proportion of the Civil Labour Force (expressed a multiple of the average UK ratio) Notes: Derived from British labour Statistics, 1886-1968 and later editions of the Department of Employment Gazette. Source: Simpson (1983, p. 82).

15. Table 2: Average Annual Percentage Increases in GDP (at constant prices) Notes: (a) 1958-62 for Northern Ireland Source: McClements (1981, p. 103).

16. Overall Lessons From Empirical “Time Travelling” A number of general points can be made about the long-run story of levers under Stormont (1920-72): NI was consistently the poorest UK region unclear if this was in spite of or because of devolution. Different answers pre and post 1945. Pre 1945 few levers at Stormont’s disposal; Post 1945 (especially post 1958/63) more effort/inputs; Mixed results in terms of efficiency.

17. The 1920 settlement 1 The 1920 Act was drafted for both Irish parliaments, but after the Treaty it was only implemented in NI (Green, 1979). The Act created three main categories: Imperial (aka excepted) services: Irish Parliaments had no authority (e.g. Making peace or war, foreign trade, trademarks and copyright etc) (public goods?); Reserved services: powers reserved to UK; Transferred services: powers transferred in theory to two Irish Parliaments.

18. The 1920 settlement 2 Green (1979) has noted that in theory NI was to have a balanced budget the idea being that revenue would first be applied to an Imperial Contribution, then to the cost of reserved services and only after this transferred services. In addition, after this was supposed to be paid a residuary share. JEB would decide the size of Imperial Contribution.

19. Reserved Services Reserved services included Post Office, Archives (though creation of PRONI not precluded), land purchases, policing (initially). Irish Parliaments lacked control over the scale or form but had to meet their costs. The rationale for what was reserved was ‘political’ rather than ‘economic’ (Gibson, 1996, p.16).

20. Transferred Services This was a residual category (i.e. What wasn’t excepted or reserved was transferred). It covered services in relation to agriculture, industry and commerce, employment and unemployment, insurance and pensions, health, housing, local government, education and law and order (police initially Supreme Court excepted). Not Public Goods (as excludable) but mixed goods/private goods.

21. Tax Assignment 1 Westminster retained power to levy existing taxes. This covered reserved taxation e.g: Income Tax Customs and Excise Duties Profit/corporate taxes Initially the Act (s.36) suggested Customs and Excises might be decided by an all-Ireland Parliament, but creation of Irish Free State made this redundant.

22. Tax Assignment 2 The co-existence of a land border with a lack of customs harmonization/co-operation -> inefficiencies. Corporation taxes levied at UK level: “Because of capital mobility, and the likelihood of competitive bidding between jurisdictions, efficient resource allocation suggests this [corporation tax responsibility] should fall to central government, as under the 1920 Act” (Gibson, 1996, p.20).

23. Transferred Taxation Examples of these transferred (devolved) under 1920 Act: Death duties; Stamp duties; Entertainment duties; Motor vehicle duties etc In theory the 1920 Act legally allowed to diverge, but in practice free trade in goods and need for harmonization: ‘...the desire to avoid friction, impels Ulster towards uniformity. Higher rates of tax in Northern Ireland could be partly avoided by transferring movable assets and activities to Great Britain, while lower rates could have the opposite effect’ (Lawrence, 1965, p.89).

24. Joint Exchequer Board (JEB) JEB was: Established under the 1920 Act; It was given the power to resolve operational and related fiscal/financial questions; It would decide the cost of a reserved service, suitability of a new tax. Three members one NI, one HMT, one Crown. Activities not made public.

25. Imperial Contribution Imperial Contribution always positive. However, most of the time this was due to accounting rather than economic outcome. Green notes that it was ‘genuinely positive’ in WW2 £36m in 1944-45, but slipped back post-war. Post 1945 further adjustments.

26. Equalization The Act did not discuss the adequacy of funding. Hence there is no discussion on bringing services into line with GB. In the context of NI issue of emigration/sectarian balance linked to public services (Gibson, 1996, p.27).

27. A Weak Start 1 NI government was financially in trouble from June 1921 as unemployment ↑ -> revenues ↓, expenditures ↑ Unemployment growth due to recession and decline of the staples (Johnson, 1985; 1989). ‘political imperative’ to pay benefits at GB levels (Green, 1979, p.6).

28. A Weak Start 2 NI government lobbied for equal ‘in step’ treatment. Deficits initially met by borrowing (deficit on the Unemployment Fund of £3.6m in 1925). A new settlement was negotiated on social services and this was based on the ratio of insured populations.

29. Could They Have Done Better? “Could the province’s government have done more to persuade business to come to the province? This is doubtful. The Stormont administration perpetually teetered on the edge of financial insolvency [between 1921 and 1939]...Under the impressive sounding New Industries (Development) Acts of 1932 and 1937, with the exception of Short and Harland whose establishment in the province had very little to do with the government, only 279 jobs were created” (Johnson, 1989, p.35).

30. NI Slips Behind School expenditure in NI lagged GB (Green ,1979). Human capital legacy? Backwardness in housing, social services, hospitals, water and sewage etc. Agriculture an exception (politics?).

31. NI Public Expenditure By 1939 total expenditure was £11.5m. £7m on unemployment benefits, pensions and deratings etc only £2m on total education. Imperial Contribution payments made despite 20% unemployment.

32. Equity Trumps Efficiency “Government [in Northern Ireland] ...seemed more preoccupied with constitutional and equity aspects of cash social services than their consequences for economic efficiency and local economic activity” (Gibson, 1996, p.31). Westminster worried that cutting NI benefits (below GB levels) would lead to emigration to GB.

33. And Politics Trumps Equity... Public expenditure growth no longer linked to GB (pari pasu/in step) abandoned. As rates after 1934 made to pay for education (previously had been London). Token ‘Imperial Contribution’ paid and rates↑! Green argues that the damage done to the region’s ‘social capital’ lasted until the early 1960s and by 1979 he stated that ‘the effect on housing has never been overcome’ (p.8).

34. Simon Declaration 1 Named after the Chancellor this 1938 announcement made the UK exchequer foot the bill for agriculture and social services. Followed end of the ‘economic war’. Agricultural subsidies though a transferred service Charged to Whitehall.

35. Simon Declaration 2 Social service based more on needs than revenue. Consequently, this and other changes, stopped the Imperial Contribution being first claim on revenue. Little scope in the economic circumstances for greater autonomy (Johnson, 1985; Gibson, 1996).

36. WW2 as a Ratchet Effect The war demonstrated NI lagged in terms of housing, child welfare and TB prevention. Leeway was added to parity (i.e. Catch up expenditure allowed) as a principle. JEB formalised ‘leeway’ in 1954. This lasted until 1972.

37. The Development of an Expenditure Based System (1950-1972) 1 After the war NI saw leeway ensure the steady equalisation of public services and social standards as between NI and GB. By 1969-70 on one measure NI public expenditure per head was £284, higher than Wales though lower than Scotland (£339).

38. Table 3: Revenue, 1946 and 1963 (£million) (source: Lawrence, 1965, p.80). *Social Services Agreement, £6.95m. Agriculture Act, 1957, £1.1m

39. Table 4: Expenditure, 1946 and 1963 (£ million) (source: Lawrence, 1965, p.80).

40. The Development of an Expenditure Based System (1950-1972) 2 In theory (as 1920 Act) NI had a revenue based system. In reality NI had an expenditure based system (Green, 1979, p.17; Gibson, 1996, p.65). “The principal criterion [in determining public expenditure after 1945] was whether a particular development was justified in itself, rather than the pressure exerted by the notional idea of balanced Northern Ireland budget” (Green, 1979, p.17).

41. Leeway in Action Examples of public expenditure growth (an input) 1945-63 (Green, 1979, p.15): Education (x3) Health and Welfare (x nearly3) Industrial promotion expenditure (x5) But in terms of efficiency (i.e. allowing for the relationship between inputs and outputs) we should be more careful (Brownlow, 2007).

42. A Greater Awareness of Economic Backwardness? After Isles and Cuthbert (1957) a range of reports produced considering the economic backwardness of NI (Birnie and Hitchens, 2001): Hall (1962) Matthew (1963) Wilson (1965) Matthew, Wilson and Parkinson (1970) But political interference was ever present (Gibson, 1996; Brownlow, 2002).

43. Green’s Assessment of Devolution, 1920-72 “...there were few Stormont policy initiatives that were genuinely innovative, and cost money. One thinks of incentives to industrialists or the problems of specific major firms. But normally Northern Ireland programmes involved spending more on what was already conventional: more secondary modern schools, for instance, rather than a decision to go comprehensive in advance of Great Britain. Northern Ireland was perpetually adapting policies which had some years earlier been adopted in Great Britain.” (Green, 1979, p.17).

44. But... Since 1979 a lot of archival material released and it would suggest that more innovative pressures did exist than Green would claim (Brownlow, 2002). Concentrated benefits/diffused crucial (as in public choice) -> scope for rent-seeking↑ E.g. “linen lobby” (Brownlow, 2007). HMT was increasingly fed up with NI’s public finance problems and reform was mooted in 1960s.

45. Figure 3: Estimating counterfactual per capita GDP for Northern Ireland

46. Estimating the Gap The gap shows the% reduction in GDP associated with violence. The results indicate a “V shape” (i.e. the gap ↑ then ↓) Early troubles 5% followed by recovery. 1975 onwards the gap ↑ steadily. Gap gains size and gathers pace 1985-90 peaks at 10%. Thereafter gap closes rapidly.

47. Figure 4: The estimated per capita GDP gap as a percentage

48. Some Tentative Points While violence did impact the economy it did simply do so in a I↓ way. The discrepancy between GDP gap and violence. provides clues. Delay of Thatcher reforms in NI. Public spending growth accelerated/displacement.

49. Calman (2009) Independent Expert Group downplayed it because of profit-shifting. They also noted that tax competition and compliance costs an issue (IEG, 2009, p.12). Corporation Tax ↓ -> (because of ECJ Azores ruling) -> block grant↓ Corporation Tax 1

50. Corporation Tax 2 Varney (2007, p.4, 46) was sceptical £300m ‘up front cost’ in terms of lost receipts and compliance costs. ERG NI (2010) far more supportive, but ERG uses a long range of assumptions (pp.50-62). Compliance costs etc not developed in this analysis. Assuming zero displacement/profit shifting (ERG NI, 2010, p.37) alone makes a difference.

51. Comparing Annual Tax Estimates in Varney and ERG NI (£ million)

52. Corporation Tax 3 PWC (2010c) driver is unemployment rather than a commitment to fiscal federalism. No “silver bullet” : 1958 and all that. PwC have suggested that headline tax parity with ROI is not necessary, but that matching the IDA focus on R&D and intellectual property is (PWC, 2010a, p.9). Similar to IREP approach.

53. References 1 Birnie, E. and D. Hitchens (1999), Northern Ireland Economy: Performance, Prospects, Policy (Aldershot, Ashgate,). Birnie, E. and D. Hitchens (2001), ‘Chasing the Wind? Half a Century of Economic Strategy Documents in Northern Ireland’, Irish Political Studies, Vol.16, pp.1-27. Brownlow, G. (2002), 'Institutional Change and the Two Irelands 1945-1990: an application of North's institutional economics‘ (Unpublished PhD thesis, Queen’s University Belfast, 2002). Brownlow, G. (2007), ‘The Causes and Consequences of Rent-Seeking in Northern Ireland’, Economic History Review, Vol. 60, pp.70-96. Economic Advisory Group, Annual Report, August 2011.

54. References 2 Gibson, N. (1996), ‘Northern Ireland and Westminster: Fiscal Decentralisation. A Public Economics Perspective’, in NIEC, Decentralised Government and Economic Performance in Northern Ireland (Belfast, NIEC), pp.10-90. Green, A.J. (1979), ‘Devolution and Public Finance: Stormont from 1921 to 1972’, Studies in Public Policy, No.48 (Glasgow, University of Strathclyde). Harris, R.I.D.(1991), Regional Economic Policy in Northern Ireland, 1945-1988 (Aldershot, Avebury). Johnson, D.S. (1985), ‘The Northern Ireland Economy, 1914-39’ in L. Kennedy and P. Ollerenshaw (eds.) An Economic History of Ulster, 1820-1940 (Manchester, Manchester University Press).

55. References 3 Johnson, D.S. (1989), The Interwar Economy in Ireland (Dublin, The Economic and Social History Society of Ireland). Lawrence, R.J. (1965), The Government of Northern Ireland: Public Finance and Public Services 1921-1964 (Oxford, Oxford University Press). McClements, L. (1981), Economic constraints’, in D. Watt, ed., The constitution of Northern Ireland: problems and prospects (London , Heinemann, 1981). Simpson, J. (1983), ‘Economic Development: Cause or Effect in the Northern Ireland Conflict’ in J. Darby ed., Northern Ireland: the Background to the Conflict (Belfast, Appletree Press).