Here’s a bonus ~ now go and spend it please

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Gloomy predictions only reinforce economic stagnation. A pleasant surprise is in order

We need to talk about Mervyn. Economics is one third maths and two thirds psychology. Yet before he departs his post next June, the Governor of the Bank of England seems set on singlehandedly undermining the British economy with his morbid psych-ops. In the past few months alone he has forecast “storm clouds” over Britain as Europe “tears itself apart”, predicted decades of depression, warned of further bank collapses and spotted numerous “zombie” companies all waiting to go bust. Buy the man a sandwich board — the end of the world is nigh.

Successful economic policy is as much about managing human behaviour as it is numbers. It’s about guiding individual choices about where and whether to spend, to invest, to save, to waste and to work. One thing is for certain: we can’t tax and scare our way back to robust growth.

A cocktail of fear and anxiety is economically toxic. You can build all the bridges and railways and houses you want, but if people are frightened or uncertain about the future, that’s what will drive their behaviour. Banks won’t lend (no matter how much cheap money you throw at them, Mr Governor), business won’t build or hire, and people won’t spend or invest.

And Sir Mervyn isn’t the only one messing with our heads. Coalition politics has turned tax policy into a soap opera with more twists than Dallas, so that anyone with some spare cash (to start a business perhaps?) prefers to hang on to it until we find out who shot JR. If you need evidence, look at the household saving rate, which shot up during the crash from an historic low in 2007 and has stayed higher since 2010 as those who’ve got it hoard their cash. UK businesses are sitting on more than £700 billion just waiting for the fog to clear.

Finally, moving the goalposts too often doesn’t help with decision- making either. Can we go back to one budget a year, please?

All the uncertainty and doom-laden predictions combined with worries of falling asset and house prices have paralysed companies, consumers and entrepreneurs. During the spring, though, almost unnoticed, in the UK we were given a lesson in the psychology of money. Cheques for about £9 billion set aside by the banks to compensate customers for mis-selling payment protection plans were finally about to land on doormats across the nation. By the end of May around £5 billion had been paid out and was already having a stimulating effect on the economy, according to the Office for Budget Responsibility. That’s in stark contrast to the massive sums pumped in by the Bank of England, with little discernible economic impact, according to the OBR.

Why the difference? For most recipients, the money had come as an unexpected bonus, so the likelihood they’d spend it was much higher. Porches were built, roofs were fixed, new kitchens were fitted and holidays were booked. This was “found money” so people felt it was OK to spend, despite the economic gloom.

Australians know this phenomenon well. In 2008 their Government decided to issue a series of tax and benefit rebates to keep demand flowing. These one-off cheques for around A$1,000 were sent automatically to taxpayers, and getting the psychology right was critical to their impact. They were called “bonuses” and were targeted at low and middle-income earners with children, who have a higher propensity to spend. And spend they did.

In Australia debate has raged ever since about the rights and wrongs of the package, but unlike the UK Australia avoided recession and has fared better than expected during the past few years. Singapore soon followed suit with a stimulus package that included the same one-off income tax rebates, and also avoided recession.

But surely these bonuses are just another form of tax cut? And if you want to affect consumption patterns permanently for the better, shouldn’t you cut income tax? After all, according Milton Friedman, people only respond to long-term increases in expected earnings rather than temporary changes.

I couldn’t agree more. The trouble is that everyone is so spooked by tales of “eurogeddon” and uncertainty over tax policy, I’d argue that the only way to jolt them into spending or investing is to take them by (pleasant) surprise.

The capacity is there, the energy is there, the entrepreneurs are there and there’s plenty of private sector cash idling in UK deposit accounts. These forces won’t be unleashed without a strong positive signal of economic life. A tax bonus for low and middle- income earners might be just the shot of adrenalin the economy needs.