Demand and supply: why the Budget fails on A-level economics
Both of these measures, though, share the same fundamental flaw: they are attempts to address supply-side problems through demand-side measures. They will therefore at best deliver a very poor bang for the buck, and at worst, they will do no more than push up prices without improving access.
A demand-side subsidy can make sense when a product is easily accessible to the vast majority, but out of reach for a small number of people. Most of us can afford a phone, for example. Yet a few of us cannot, and trying to address this problem through the supply side – making the provision of phone services more competitive – would not lead very far: that market is already fairly competitive, and even though there are surely some efficiency reserves left, they would not be enough to make the product available to those who have no or virtually no income of their own. This is why in this situation, a demand-side instruments like income support can make sense.
Yet the markets for childcare services and homes are fundamentally different. Childcare costs in the UK are among the highest in the world. In most of continental Europe, a similar proportion of children are enrolled in childcare services, but parents’ out-of-pocket payments are substantially lower, and only Denmark spends more on childcare subsidises. Some countries have high levels of private childcare spending, others have high levels of public childcare spending, but the UK is almost unique in combining high levels of both private and public spending with mediocre outcomes. There is nothing intrinsically expensive about childcare. Costs are pushed up by restrictive staff-to-children ratios, combined with expensive safety inspections and complex requirements about day-to-day details of service provision. And while, to be fair, the government is doing something on that front, this budget makes clear that their main approach is to whitewash the problem through higher levels of subsidies.
The mortgage subsidy scheme represents an even worse variant of the same basic flaw. The childcare measure is merely cost-ineffective, but it might at least make childcare a bit more affordable for some families. This is because the interventions in the childcare market do not make supply inelastic – they just make it unnecessarily expensive. (Graphically speaking: the problem is not that the supply curve is too steep, but that it is too high up.) In the housing sector, however, supply has become virtually static. In 1995, the UK was building 36 new homes per 10,000 inhabitants, a risibly low rate by international standards. Then came a twelve-year-long surge in house prices, which, in any half-way functioning market, should have led to a construction boom. Yet the completion rate of new dwellings actually fell for a while, before recovering to reach a – still risible – 38 homes per 10,000 inhabitants by 2007.
It’s not the demand side of the housing market that needs sorting out. And there is no need to spell out the implications of pushing up demand under conditions of fixed supply.