the times | Thursday May 26 2022 41

CommentBusiness

Ed Sheeran helps boost

British creative industries

Sunak’s changes in policy have had

little impact on investment in Britain

A

president invoking the

Defense Production Act

to appropriate

ingredients from

businesses to supply

manufacturers. The military

airdropping 32 tonnes of emergency

supplies from Germany. Desperate

parents concocting homemade

recipes or rationing their children’s

feeds. No, these aren’t dispatches

from war-torn Ukraine, but news

from the United States, which is

suffering a baby-milk formula

shortage.

Parents have floundered as the

out-of-stock rate for baby milk grew

throughout 2021 before suddenly

surging from 17 per cent in January

to 45 per cent (and rising) last week.

Pandemic disruptions to labour

and ingredient markets hampered

production initially. Then in

February came a voluntary product

recall and the closure of a large

baby-formula plant in Michigan,

owned by Abbott Nutrition, after

concerns of possible contamination

by dangerous bacteria.

In light of the resultant barren

shelves and induced panic, the

American government and the baby-

formula industry have scrambled to

encourage new production and

secure supplies to ensure that babies

get fed. Suppliers, though, can’t “flip

a switch and just make more”, says

Laura Modi, the head of Bobbie, a

formula maker. Even when the

Abbott plant reopens, it will take

months for the formula to return to

shelves. Hence the extraordinary

measures, such as President Biden’s

“Operation Fly Formula”.

This would be a much smaller

problem were the US not wholly

reliant on domestic production.

Long-standing 17.5 per cent tariffs on

imported baby milk, mind-boggling

Food and Drug Administration

(FDA) safety and labelling

requirements, and the American

government’s role as majority baby-

milk purchaser through a nutrition

programme have deterred European

brands from entering the market.

Some might even say they delivered

US “self-sufficiency”.

Before this crisis, US production

accounted for 98 per cent of formula

consumed there.

In this story of America’s

struggles, there’s an important

lesson for British policymakers.

During the pandemic, many extolled

policy-created self-sufficiency. If

only past governments had used

industrial policies to boost

manufacturing capacity for vaccines

and ventilators, or encouraged

production of domestic food and

energy, they said, we could have

avoided the supply-chain problems.

UK governments were slaves to free-

trade tales of economic efficiency,

the argument goes, but the

downside was a lack of resilience.

Well, the US formula crisis

reminds us that disruption can be

domestic in origin, too. Sometimes

you get outbreaks of mad cow

disease, or meat-packing worker

cohorts laid low with Covid-19, or,

yes, baby-formula plant closures.

Then you realise that openness to

trade doesn’t just lower prices and

expand choices. Providing

alternatives reduces exposure to

domestic shocks and diversifies

supply-and-demand sources across

countries to mitigate localised

foreign disruptions, too.

American parents, certainly, have

been desperate to import European

milk online, but customs agents and

the FDA have been unforgiving,

destroying products good enough

for French and German babies at

borders and shutting down import

sellers. Mercifully, the approval

process for legal entry of European

products is now being streamlined.

Whether foreign businesses will

endure the costs of establishing

supply lines for temporary sales in a

market so tilted towards domestic

producers is another matter.

One can certainly dream up

scenarios where self-sufficiency is

desirable, such as during full

blockades or when the whole world

is suffering collapsing global trade.

Outside of these unlikely instances,

though, our governments cannot

easily predict which crises will hit or

when, and it would be wasteful to

prepare domestic production for all

eventualities.

If these formula shortages teach

us anything, it’s the folly of putting

all your eggs in one basket. Shifting

towards “self-sufficiency” can leave

a country more exposed and less

resilient, even for products as

important as baby milk.

Simon Nixon

Ryan Bourne

Foundation earlier this year found

that Britain had its greatest

comparative advantage in three main

areas: financial and professional

services, the creative industries and

life sciences, such as pharmaceuticals

and biotechnology. Of these, only the

last has a high requirement for

traditional capital investment in the

form of plant and equipment and

R&D, though the crucial factor is

likely to be access to Britain’s world-

class universities. Much of the capital

in the creative industries, for example,

is intangible rather than physical.

Musicians such as Ed Sheeran are not

produced in factories or grown in

laboratories. What’s more, the report

found that comparative advantage is

more likely to be a product of history

rather than policy.

Of course, the other factor that

plays an important role in investment

decisions is certainty, or in Britain’s

recent experience, the lack of it. For

example, trade in high-value services

businesses of the sort that Britain

specialises in hinges on regulatory

permissions and access to a large

talent pool; manufacturing businesses

need to know whether they can

import intermediate goods and export

finished products and on what terms.

All of this has been thrown into the

air in recent years by the pandemic

and the war in Ukraine, but above all

by Brexit, which has left a cloud of

uncertainty hanging over the British

economy that persists to this day with

the government’s threat to

unilaterally repudiate the Northern

Ireland Protocol, raising the spectre

of a trade war with the country’s most

important trading partner.

There’s not a great deal that Sunak

can do about any of this. This

government set Britain’s economic

course when it decided to rip the

country out of a single market of

450 million people, thereby shrinking

the domestic market to 60 million.

Businesses are adapting to this

profound change in Britain’s economic

model. Faced with a loss of

comparative advantage, some sectors

may have to disinvest rather than

invest. Perhaps Sunak’s promised tax

breaks will help encourage new

industries to take their place, better

adapted to the new trading conditions.

Whether they are as

productive or fast-

growing as the one’s

they replace remains

to be seen.

The last thing that

Rishi Sunak wanted

to be doing today

was delivering an

emergency budget

that raises taxes and spends more on

welfare. The chancellor made clear

where his priorities lay in his proper

budget a few weeks ago. He wants to

be seen as a Thatcherite tax-cutter.

That is why he resisted calls to

increase benefits for the least well-off

and instead cut fuel duty and made

the bizarre decision to pre-announce

a 2p cut in the basic rate of income

tax in two year’s time. But that was

little help to many facing a choice

between heating and eating. Hence

the need for a second go.

But if Sunak got the politics badly

wrong in March, he is not wrong on

the economics. As a result of the tax

rises he has introduced in the past

two years, Britain has the highest tax

burden for more than 70 years, with

tax revenues forecast to rise to

36.4per cent of GDP. Reducing that

should be a priority for any

chancellor. But Sunak also knows that

to cut taxes in a responsible way, the

economy needs to grow faster and

become more productive, which

requires increased investment. Yet

Britain is forecast to have the slowest

growth in the G7 next year and

investment is flatlining. Sunak is

determined to do something about it.

The lack of investment by British

business has become something of an

obsession for the chancellor. In his

recent Mais lecture in February and

in a speech last week to the CBI, he

lamented that capital investment by

British firms is well below the

Organisation for Economic Co-

operation and Development

average. He noted that lower

capital per hour worked

accounts for half of our

productivity gap with France

and Germany and that UK

employers spend half the

European average on

training their employees.

Meanwhile, investment in

research and development

by British firms is less

than half the OECD

average.

Sunak is right to

insist that the

government is doing its

bit. Public sector net investment is

reaching its highest level since the

1970s, while public spending on

research and development is due to

rise by 50 per cent to £20 billion. The

problem lies with the private sector,

which despite generous tax

incentives, has not delivered the

expected investment. For years,

Conservative chancellors made great

play of cutting corporation tax.

George Osborne was obsessed with

cutting the headline rate to compete

with small economies such as Ireland

and the Baltic states. On his watch, it

was cut to 19 per cent and was due to

fall to 15 per cent, with no discernible

impact on investment.

Sunak has tried a different

approach, committing to raising the

headline rate to 25 per cent next year,

but introducing a 130 per cent super-

deduction for capital investment. Yet

this has not delivered the expected

surge in investment either. Business

investment has continued to flatline

while the Office for Budget

Responsibility has downgraded its

forecast for business investment for

this year from 15.6 per cent to 10.6 per

cent, much of which it expects will be

investment shifted from previous

years. Meanwhile Britain’s poor

record on R&D is despite having one

of the most generous tax regimes for

R&D in the world. Sunak is therefore

promising that in his next budget

there will be a major overhaul of tax

incentives.

But will tinkering with tax

allowances solve the problem? That

seems unlikely. As the record of the

past 12 years has shown, tax is only

one of a number of factors that

businesses take into account when

making investment decisions and not

even the most important one. From

a financial theory perspective, the

effective tax rate will have some

bearing on the overall cost of

capital and so will have an

impact on investment

decisions, but hardly a

decisive one.

Much more important are

considerations such as the

quality of

infrastructure, the

legal and

regulatory environment, the

availability of skilled labour and

access to capital.

Besides, investment needs

vary from sector to sector. A

study by the Resolution

‘‘

’’

Ryan Bourne is R Evan Scharf chair for

the Public Understanding of Economics

at the Cato Institute and author of the

recent book Economics in One Virus

America’s baby formula

crisis exposes danger of

the self-sufficiency ideal

es

pment

t lower

d

r

France

tUK

he

es.

t in

ment

s

makinginvestment

even the most imp

a financial theoryp

effective tax rate w

bearing on the ov

capital and so

impact on in

decisions,b

decisive on

Muchm

considera

le

regulatory env

availability of s

access to capit

Besides, inv

vary from sec

study by the