Why aren't we richer

The UK is a lot poorer than it should be. Here's why...

The UK isn’t as rich as it should be. If we became one of the United States, then we would be the 2nd poorest of all of them. Even within Europe, we’re nowhere near as rich as others. Germany is about 8% richer than we are, France is only slightly poorer despite having a much more regulated labour market. Clearly, something is going wrong here. 

The first assumption I’d explore to explain this is that the UK is too regulated. Free markets are said to be the best way to create growth, therefore by liberalising the economy we should be able to increase nominal incomes. However, this doesn’t hold up. A recent index compiled by the Bruno Legoni Institute found that the UK’s economy was significantly more liberal than any nation in the European Union. Even the United States has a more regulated economy than the UK, as the Cato Institute found in their annual Human Freedom Index. 

At this point, I should be at a loss. The United Kingdom is freer than its competitors. It has enjoyed free trade and movement with Europe for decades, it has a relatively okay welfare state and universal healthcare. The United Kingdom should be richer, so why aren’t we?

One theory is the housing crisis. For those who don’t know me, this may seem odd. For those who do, you’re probably rolling your eyes at the moment given this is my favourite topic to talk about. But it is my obsession for a reason - it is the biggest crisis affecting this country. Our housing shortage is the principal cause of poverty, homelessness, and it helps to increase crime. However, one thing that deserves more attention is its effects on growth.

A fantastic paper by Chang-Tai Hsieh and Enrico Moretti looked at the impacts of the housing crisis in the United States. They found that the highest productivity cities, like San Francisco and New York, have some of the highest levels of housing constraints in the country. This has the effect of keeping the most productive people away from each other, preventing them from benefiting from each other. This harms the workers themselves by ensuring they do not live to their fullest potential, but it also hurts the nation by not being able to reap the benefits from maximising each worker’s productiveness. The effect of this was aggregate growth being 34% less between 1964 and 2009. 

This should be a familiar story to most British people. Here, the areas with the highest housing constraints (London and the South East) also tend to have the highest productivity. We can, therefore assume the impacts of this would be similar - a huge constraint in GDP. However, our planning regulations are even larger harsher than the US’s and so is our productivity crisis. Indeed, during the 2010s output per worker only grew by 0.3%.  This implies the effect could be even greater in the United Kingdom. 

Indeed, John Myers (@LondonYIMBY) estimates the sizeable damage below with the red area showing potential GDP growth without the housing crisis.

Housing not only has helped make us poorer than our competitors; it will also make us richer if we fix the shortage. This can be shown through the example of our recovery from the Great Depression. Here, low interest rates and high unemployment meant building new houses was really easy. Labour was cheap, and credit was easy so you had lots of potential buyers, spurring a housebuilding revolution. In London alone, over 80,000 houses were built in 1933. This sounds impressive, and it was - it played a huge role in our recovery from the Depression. For example, house building accounted for 17% of the increase in GDP in 1932. 

By reforming the planning system we can do a lot to make Britain richer. It would lead to much higher levels of growth, whilst ensuring everyone can have a house to live in. Is this the only policy we should be doing? Probably not. However, if we never had this problem then it’s likely we would be a lot richer today.