Dear readers,

Liz Truss, the new prime minister of the United Kingdom, is only nine years older than I am, and like me, she’s spent most of her adult life in a period when governments could borrow and spend with little macroeconomic consequence — interest rates were low and market demand for government bonds was apparently insatiable, and so there was little reason for “hard choices” like tax increases and spending cuts.

Of course, there were tax increases and spending cuts — the UK, like pretty much every other advanced country, enacted both in the years following the global financial crisis. Like most countries, they overdid it, and at the core of Truss’s new economic agenda is an idea that is correct at a sufficient level of abstraction: if the UK finds ways to grow faster, that will improve its long-run fiscal sustainability, and reduce the future need for painful austerity like it endured post-2008.

Unfortunately, she has it all wrong once you start adding in any level of detail.

The reason financial markets reacted so negatively to Truss’s “mini-budget” is simple: It’s a huge fiscal stimulus at exactly the wrong time. Truss is proposing over £160 billion of deficit-increasing policies over the next five years. To give you a sense of scale, since the US economy is approximately eight times the size of Britain’s, the equivalent would be if we implemented an additional $1.4 trillion, five-year stimulus package. And that actually understates the insanity of this policy for Britain, because Britain doesn't have the advantage of issuing the world’s reserve currency (and the inherent stability that comes from that), and because inflation in Britain is even higher than it is here.

While most of Truss’s plan consists of energy subsidies,

Truss’s policy announcement caused the pound to tumble against the dollar and the euro (because all that stimulus will be inflationary) and caused interest rates to spike (because the Bank of England will have to raise rates more aggressively than previously expected in order to beat back that added inflationary pressure). And that doesn’t bode well for the economy under Truss.

Forcing the Bank to raise rates higher will raise the cost of capital and discourage the very same business investment she says she’s trying to promote through tax cuts and energy subsidies. Added inflation will make people really angry. And this obviously unsustainable fiscal policy will undermine confidence that tax rates will stay as low as Truss is setting them — which will dampen whatever modest incentive the tax cuts create for businesses to make long-term capital investments.

Truss, and the Tory voters who chose her, can’t say they weren’t warned. Her main opponent in the contest to replace Boris Johnson as leader of the Conservative Party, former Chancellor of the Exchequer Rishi Sunak, said tax cuts would have to wait until after inflation had been tamed. “If we hand the mantle of economic competence to Labour, we’re finished,” he said. Tory party members were unmoved by that warning — they wanted their tax cuts now, as Truss assured them they could have. And, now you can see what has happened.

Truss clearly admires Margaret Thatcher, but when Thatcher took office in 1979, she started cutting Britain’s top personal income tax rate from 83% — the argument that tax cuts will unleash investment is a lot more plausible when tax rates are that high. The truth is that Britain does need to become more competitive, but it’s not the 1970s and taxes are not the main problem with its competitiveness. Britain’s biggest productivity problem has to do with its terrible housing policy — it is far too difficult to add housing units in London, which holds down job growth in the place where workers can be most productive, while burdening households with excessive housing costs.

London’s land-use regime is so destructive of economic value that the blitz was accretive: War damage that destroyed existing buildings made it possible to build new, larger ones where that were otherwise prohibited by policy. I do not advocate indiscriminate bombing of London to grow the UK economy. But if Truss wants to grow Britain’s economy faster, she needs to pursue regulatory changes that make it possible to make investments like the construction of new housing in the places where it’s most needed. In fact, pro-growth deregulation (the new supply-side policy) would soften the blow of the tax increases Truss should be imposing to offset the stimulative effects of the energy subsidy policies she needs to pursue now for geopolitical reasons.

Some of the comparisons going around that say Britain is like an emerging economy in a currency crisis are a bit overblown. I agree with Paul Krugman that “Britain isn’t Argentina” — their government is making a mistake that will hurt the economy and raise inflation, but they’re also a rich country

Hotels are the big price transparency offenders. President Biden and his Department of Transportation are proposing to require more price transparency from airlines — airlines would have to provide more detail about optional add-on fees, like checked bag fees, when they first quote an airfare.

I’m not necessarily opposed to a rule like this, though I think airline price transparency is already pretty good — airfares are routinely quoted inclusive of mandatory taxes and fees, and I think airlines (and even more so, third-party airfare booking sites) are pretty good about showing upfront which fares do and do not include checked bags. I take DOT’s point about it being sometimes too hard to figure out exactly what a bag fee will be — customers can be diverted to “confusing charts” showing how fees vary depending on, for example, a customer’s destination and class of service, rather than simply being told what fee will apply to them personally. It would be good to improve that.

I mainly want to note that the airlines are a paragon of fair and clear pricing compared to the hotel industry.

Not only are hotel prices routinely quoted exclusive of taxes and fees

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I’ll be back tomorrow with the Mayonnaise Clinic.

Best,

Josh