At the beginning of 2007 inflation was in excess of its upper threshold of 3 per cent and the Governor of the Bank of England had to write a letter to the Chancellor explaining why this had happened and what measures were to be taken to remedy this. It was our opinion that interest rates had been too low for eighteen months. It was also our opinion that the Bank had kept them too low because it anticipated wrongly that inflation would have accelerated if interest rates had been inappropriately set. In August 2005 the Bank of England cut interest rates by a quarter of a point, and held them at 4.5 per cent for around a year, before introducing five interest rate increases in the subsequent twelve months.

This paper evaluates the probability density forecasts reflected in the Bank of England's real GDP growth fan charts. Evaluation is carried out using tests that allow for data dependence and using two GDP growth estimates. Results suggest there are problems with the shorter horizon forecasts, but conclusions about the performance of longer-term forecasts depend to some extent on the GDP estimates used in the assessment.

This article traces the development in the British gas industry of pressures to innovate and of the industry's response, not in any great depth but as an illustration of the complexities of the innovation process and of the variety of factors which may typically be involved in bringing it to fruition. Innovation occurs within a given system; in order to understand why it occurred and the reasons for its success or failure it is important to observe the working of the system as a whole, the connections between the industry concerned and other sectors of the economy and the factors which encouraged or delayed innovative activity.

The National Employment Savings Trust (NEST) is a new pension scheme that will be introduced for employees on modest incomes in the UK from 2012. This paper draws out the implications of the NEST, focusing upon low-paid employees and their employers using data from the Annual Survey of Hours and Earnings. The results suggest that the NEST will increase labour costs by between 0.6 and 0.8 per cent on average, and have a disproportionate effect on low pay industries and private sector firms employing fewer than 25 employees. The analysis highlights the potential role of the minimum wage to shield low pay workers from paying a share of the subsidies that the NEST will afford to its members.

The UK National Debt measured as a fraction of GDP has declined sharply since the war. However the large budget deficit and adverse demographic trends mean that the budgetary position is likely to remain of concern. High budget deficits lead to a debt which cannot be serviced and fear of this may lead to higher interest rates. Even when the national debt is kept under control it crowds out domestic and foreign assets and the taxes needed to service it may distort the economy. A policy of holding tax rates virtually constant reduces distortions to the intertemporal pattern o f consumption, but means that government loses control of the path on which the national debt is stabilised. Estimates are provided of the burden imposed through crowding out, and the interaction of monetary and fiscal policy is discussed.

How much influence does the UK have in Europe? How has this changed? We argue that the UK has tended to view its relationship with the EU in transactional terms, and that this has led to a dominant understanding framed in terms of ‘costs’ and ‘benefits.’ However, thinking more broadly gives a more nuanced picture of British influence. Thus, we approach this question from two directions: examining the historical record of the UK's role in the development of the EU and the single market; and looking at the ways in which British politicians and officials exert influence in the current political structure. We argue that although the UK has generally had a good track record of success, this has often been threatened by domestic political difficulties – as the current referendum debate shows.

Early years education has been attributed as having benefits for the public good, avoiding social stratification and acquiring human capital. Although these outcomes appear social, the focus on value for money highlights their economic undertones. However, an assessment of value for money in early years education has a number of tensions, not only in relation to how and for whom value is assessed, but also with regard to the marginalisation of the economic position of early years education providers and emerging evidence of both hidden and masked costs within the sector. Drawing on interviews with a range of stakeholders, it will be demonstrated, therefore, that there is a need to acknowledge wider contextual issues when making an assessment of value for money in early years education.

Risk-sensitive capital requirements, such as those established in Basel 2/3, and loan loss provisions based on incurred losses or on short-horizon expected losses, increase procyclicality in the banking system. They could, therefore, contribute to fuelling credit bubbles in good times, as rising risks are not properly covered either with capital or provisions, and credit crunches in bad times, as requirements are sharply increased to compensate for the former undercapitalisation and under-provisioning, and banks respond by cutting credit to households and firms. This paper shows that the procyclicality of current and envisaged capital requirements and loan loss provisions is a serious concern. But, at the same time, it can be dealt with using countercyclical macroprudential tools, first, by smoothing minimum capital requirements using a very simple and intuitive formula based on GDP growth and, secondly, by using forward-looking provisions such as the Spanish dynamic provisions, a working macroprudential mechanism for more than a decade and a full lending cycle.

Government post-Brexit will face sustained and difficult challenges as the UK adjusts to its new situation. Yet these challenges risk being exacerbated by fundamental changes in UK political debate that are affecting the perceived legitimacy and effectiveness of the system and structures of government. These include erosion of the clear distinction entrenched for the last 150 years between political choices by elected representatives and impartial administration by the civil service; the disruption of traditional deliberative processes by digital and social media; and increased centralisation of decision-making in No. 10 Downing Street combined with inadequate scrutiny of that decision-making either by the Cabinet or by Parliament.

The centralisation of executive power reduces its perceived legitimacy across the UK, with devolved government in Scotland and Wales seen as contingent on the Westminster Parliament and Northern Ireland under control by central government. Fiscally, the UK has become the most centralised democratic country in the world. As government faces up to the challenge of unwinding membership of the legal and regulatory framework developed during 45 years of EU membership, it is vital that the UK's political structures restore their legitimacy and efficiency.

Necessary reforms start with greater transparency about how government really works today. A PM's Department should be created, separate from the Cabinet Office; senior appointments including the Chief of Staff and ‘Advisors’, as well as instructions from No. 10 to departments, should be subject to effective Parliamentary scrutiny. Legally entrenched structures are required to confirm that devolved powers cannot simply be overridden by the Westminster Parliament. Greater fiscal autonomy should be guaranteed to local government.

Finally, politicians should choose either to recommit explicitly to the original system whereby the civil service remains separate from politics and take steps to make it effective; or acknowledge the drift towards greater political control of the civil service and introduce safeguards to minimise political abuse, for example by taking steps to increase scrutiny of appointments and expenditure.

The Institute has long examined overseas developments in order to understand better domestic macroeconomic dynamics. The organising principle for much of the postwar period was simply the impact on net trade with an implicit view on whether the exchange rate was at an appropriate level and, as such, the external sector was viewed as a constraint on domestic activity. Increasingly integrated factor markets in the modern era of globalisation means that the overseas sector plays a fundamental role in the evolution of both aggregate demand and supply in the UK economy and it is increasingly hard to disentangle the overseas from the domestic sectors. It is not so much that we should reverse this integration but more how to design policy to limit any undesirable consequences on regional and income distribution, as well as aggregate fluctuations in activity.

Discussion of the UK's housing crisis is of long date, and tends to focus on a simple story about a mismatch in housing supply and demand and the consequent need to build more homes. Yet the reality is more complex with multiple sub-plots including social housing, stress in the private rented sector, benefits, subsidies and ultimately taxation of home ownership.

At the bottom of the market, the crisis is real and acute, as manifested in a sharp increase in homelessness and rough sleeping. The inescapable answer is to increase the depleted stock of social housing and widen eligibility criteria. An increase of 100,000 social units a year in England would help address this problem, as well as alleviate the financial squeeze on tenants of the private rented sector, whose number has grown sharply in the past 15 years in tandem with a steep rise in the housing benefit bill. Recent efforts to curb housing benefit have further increased distress, so it will be necessary to consider increasing benefits again alongside regulatory interventions with private landlords.

In the home ownership market, recent government intervention has taken the form of the much-criticised Help-to-Buy Equity Loan scheme. This market policy to support new-build homes should be wound down and replaced by a scheme to endow all young people with a capital sum that they could use for second-hand homes as well. More generally, a more sophisticated approach to planning home-building is needed, both for assessing overall numbers and their regional distribution and in financing the supporting infrastructure.

But none of these measures is a panacea for a housing crisis that is in large part a symptom of problems in the wider economy, such as low relative wages for young people, a lack of clarity about environmental issues, and failing places. A successful policy package to address the distorted structure of the housing market must also grasp the most difficult nettle of all – namely the way the tax benefits of owner-occupation incentivise overconsumption of housing and a widening wealth gap between renters and home owners, and between owners in different parts of the country. If we spend more to help those who struggle to afford decent housing, then it is only just to raise more taxation from those who benefit from restrictions on housing supply – whether through reform to council tax, a wider wealth tax or a limited form of Capital Gains Tax on principal residences.

Populist responses to matters of social concern are considered in a framework like that of Acemoglu and Robinson’s ‘narrow corridor’ that supports liberty and justice. We discuss the risk that such responses could result in a country being pushed out of this narrow corridor—and, if so, with what long-run consequences. We conclude that a political system of ‘checks and balances’ can play a key role in keeping the society within the narrow corridor; but it is incumbent on the existing political system to confront the issues of populist concern so as to come up with creative solutions.

The Institute periodically reviews the accuracy of its macroeconomic forecasts. Pain et al. (2001) compare the performance of NIESR output forecasts to a naïve forecast that uses a simple rule to predict growth next year. They find that between 1980 and 2000 the National Institute forecast performed better than a naïve, or random walk, forecast in two years out of three. Poulizac et al. (1996) consider a sequence of quarterly economic forecasts published by NIESR between 1982 and 1995 (beginning with that produced in February for the growth of GDP and inflation in the following year and finishing with the forecast produced in November for growth in the current year). They show how the reliability of the Institute's forecast improves as the forecast horizon approaches and conclude that errors to GDP and inflation forecasts are normally distributed. In a similar vein, Mitchell (2005) shows that the Institute's point forecast of inflation is reliable whilst its measure of uncertainty has been exaggerated.

This article was prepared by Miss D. C. Paige of the National Institute of Economic and Social Research. It is part of a wider study of the long-term prospects for the British economy, which is under the general supervision of Mr. Wilfred Beckerman. The article refers throughout to England and Wales only, unless it is stated otherwise.

This paper reviews the impact of financial globalisation on credit dynamics. In particular, it argues that financial globalisation fundamentally alters credit demand and credit supply, since borrowers and lenders have foreign options as well as domestic options in terms of the selection of projects and funding sources. The rapid accumulation of large cross-border debt positions was a central feature in the boom phase of the European credit cycle during 2003–8 and has influenced the nature of the post-2008 financial crisis. Finally, the paper considers the range of policy reforms needed to improve macro-financial stability under international financial integration.

This paper revisits a literature on the links between unionisation and performance-related pay (PRP), which offers a disparate set of results. Part of the reason for this is the usual inability to distinguish between different types of PRP and the lack of rich panel data containing such measures. Analysis of panel data containing six separate PRP schemes reveals that union members are less likely to receive PRP in general and less likely to receive bonus payments, stock options, or profit sharing than non-members. Furthermore, profit sharing is negatively related to both union membership and coverage. However, union members or those covered by a union contract are more likely to be paid piece rates, providing further evidence that piece-rate pay differs from other forms of PRP.

There is a widespread view that official estimates of the capital stock in the UK may be subject to substantial error. However, until recently making any major improvement would have incurred costs beyond any reasonable budget, so the Central Statistical Office has only been able to make relatively marginal changes despite its continuing concern about the problem. Now, as the result of the computerisation of asset records and modern accounting requirements, a radical change from existing indirect estimates towards direct estimation is possible. This note, drawn from the results of a recent research project, appraises the problem, suggests how the estimates of the capital stock in the UK might be improved using existing methods and then shows how direct estimation could be used to derive improved current and retrospective estimates.

In designing an expansionary fiscal package, a key consideration is the exchange rate. This is because undue and possibly destabilising movements in the exchange rate in response to domestic expansion could trigger expectations that the policy will be reversed, and such expectations might indeed be fulfilled. An understanding of the consequences of domestic expansion for the exchange rate is therefore crucial.