Trying to seal the deal

It has been a rough ride and one which at times did not look like it would ever be achieved, but the UK and EU have finally agreed a draft divorce treaty which sets out the bare bones of what will happen on 29 March 2019 (all 585 pages of it here). Naturally, this is not the end game: An awful lot of effort has been expended just so the UK can get to the start line for the marathon talks with the EU that lie ahead. But at least the UK has been able to agree a relationship that does not imply a hard border in Ireland, thus satisfying one of the EU’s key requirements and offers a glimmer of hope that a hard Brexit can be avoided.

The draft agreement involves a UK-wide customs backstop, thus removing the need for a customs border within the UK – which is the approach I have advocated all along. However, the EU has insisted that Northern Ireland remains in a deeper customs and regulatory relationship with the EU, which has so angered the DUP.  It is hard to digest the full implications of the document, given its dense legal language, and undoubtedly more details will emerge. But at a first glance, the UK will not be able to unilaterally end the backstop arrangement with Northern Ireland – the EU has a veto. The document also states “the institutions, bodies, offices, and agencies of the Union shall in relation to the United Kingdom, and natural and legal persons residing or established in the territory of the United Kingdom, have the powers conferred upon them by Union law. In particular, the Court of Justice of the European Union shall have jurisdiction as provided for in the Treaties in this respect.” In other words, the UK has to play by the rules established by the ECJ. 

EU27 ministers are scheduled to meet next week and are unlikely to raise any serious objections. All being well, it is possible that the UK government and the EU27 will hold a summit on 25 November to ratify the agreement. And then the fun starts. Any deal has also to be ratified by the UK parliament and various politicians and media commentators have spent the last 24 hours telling us how difficult it will be to get this done. Indeed, Theresa May’s negotiation efforts continue to unite hard-core Leavers, who believe that the plan as currently envisaged will turn the UK into a “vassal state”, and Remainers who believe the deal is so much less favourable than current arrangements that the only way to proceed is via a second referendum (a “people’s vote”). 

Let’s start with the voting arithmetic to assess whether it can pass through parliament. By my reckoning, there are 638 MPs eligible to vote (650 MPs in total, less 7 Sinn Fein MPs who have not taken up their seats; the Speaker of the House and his three deputies, who by convention do not cast a vote, and one MP is suspended). This means ratification requires 320 votes. We know that anywhere between 40 and 80 Conservative MPs are likely to vote in principle against any agreement with the EU (let’s round that up to 100 to account for other malcontents). The Labour leadership will almost certainly try to use the Brexit vote as an attempt to force a general election, though not all will necessarily follow. Assume, therefore, that 200 of 257 Labour MPs vote against the deal. What about the rest? The 9 DUP members appear minded to vote against, as do 4 from Plaid Cymru. If the 12 Lib Dems and 35 Scottish Nationalists also withhold their support, it is dead in the water. Even if each of the 7 independents supports the government’s position, the plan would be defeated by 360 votes to 278. However, if the Conservative dissidents can be limited to 55 or less, the plan has a fighting chance.

A more pertinent question is why would anyone vote against the agreement? Obviously, up to 80 Conservatives are irredeemable hardliners who have no interest in reaching an accommodation with the EU. The DUP objects to the prospect of differing EU customs relationships for Northern Ireland and the rest of the UK. But what is in it for Labour? The party leadership clearly wants to put pressure on the government and force an election but a large bloc of Labour MPs oppose Brexit on principle and are thus unlikely to vote for a policy which entails leaving the EU, despite the fact that their leaders are pro-Brexit. Thus, MPs from the same party can be expected to vote against the government for different reasons but the end result is still the same. In a similar vein, the SNP and Lib Dems are also opposed to Brexit and will vote against legislation that enables it. But gambling on the prospect of a second referendum, in the event that the government’s efforts to find a compromise have failed, would be an exceptionally risky strategy. We simply do not know what will happen if the agreement is rejected in Westminster.

For all the sound and fury, I cannot envisage that the UK will be able to improve on the current deal. It is far from perfect: Financial services are clearly not going to get any preferential treatment which from a professional perspective is not good news. And as I have long pointed out, an arrangement in which the UK is a rule-taker is massively sub-optimal compared to the status quo. But it is perhaps the closest economic relationship that the UK can possibly achieve if it wants (foolishly) to curb the free movement of labour. Agreement is all about compromise – as the journalist Paul Waugh put it, this is the Rolling Stones solution (“you can’t always get what you want / but if you try sometimes / you might find you get what you need”). It remains to be seen how much compromising MPs are prepared to undertake.

More to the point, pro-Brexit supporters have never been honest with the electorate about the choices that leaving the EU entails. Jacob Rees-Mogg and his cronies simply cannot obtain a better deal than any compromise offered by the EU. Brexiteers claiming that the UK has capitulated to Brussels are, to be blunt, barking mad. I have more sympathy with hard-core Remainers but short of halting the Article 50 process, which will give the UK more breathing space to decide how it wants to proceed, voting down the compromise agreement risks a no-deal outcome. As the IMF pointed out today, a no-deal Brexit could be expected to cost around 6% of GDP in the long-term versus the no-Brexit baseline (figures which accord with my own simulation exercises).

Much as I do not want the UK to leave the EU, I fear the motives of those who would vote against the agreement even more. It would almost certainly spell the end of Theresa May’s career, and whilst many might say that is no bad thing, who in their right mind would want to take on the poisoned chalice that is the PM’s role? And if it leads to a new election, it is likely to result in another hung parliament as the electorate punishes those parties which used the Brexit process for their own political gain. There are bad deals and there are bad deals. If the UK really must leave the EU, then the terms set out today appear to be the least-worst option. As bad as the terms are, the alternatives are far worse.

Austerity matters

I happened to dip into a TV programme the other day that looked at the life of a school over the course of an academic year (here for anyone able to view it). Aside from shining a light on the increasing pressure which teachers face in the wake of significant social change, what was particularly striking was the financial burden under which schools are constrained to operate. It really highlighted the extent to which eight years of fiscal squeeze are now cutting into the bone of public services now that the fat and muscle have been stripped away.

One of the teachers expressed particular concern at the extent to which pastoral care has been hard hit. Pupils were reported to have demonstrated rising levels of misbehaviour and anxiety, and there is increasing concern that schools simply do not have the resources to cope with the stresses that these issues pose to the smooth running of the school. Since I was at school, more years ago than I am prepared to admit, the pressure on students to pass exams has increased exponentially and not surprisingly a much greater support network is required to help them cope. If it is not there, the well-being of the students is not being supported in the way that it once was with adverse consequences for performance.

As an aside, it is notable the extent to which performance is very much at the heart of the education system today. One teacher openly admitted that his prospects for a pay rise depend on generating a certain level of performance from pupils in their exams. This in turn creates a series of perverse incentives whereby certain pupils may be steered away from particular subjects for fear that their exam performance drags down the school average. Indeed, there are many stories of schools which refuse to teach certain subjects for fear that they will drag down the overall performance. This is particularly the case for subjects where the marking is subjective. One example is the teaching of literature, where the marking system is so variable across geographical locations that schools cannot be sure of the outcome.

But it is the cost squeeze on the education system that is the biggest problem. Despite claims in the budget two weeks  ago that the age of austerity is over, the Department of Education’s capital outlays will fall by 20% over the next two years though this offset by a rise in current spending. According to analysis by the Institute for Fiscal Studies whilst total spending per child is 42% higher than it was 20 years ago, much of the increase has been spent on the most severe cases. Almost half of the £8.6bn children’s services budget in England is now spent on 73,000 children in the care system, leaving the rest to cover another 11.7 million. Spending per head on the most vulnerable children is more than 100 times that spent on the rest. Small wonder that teachers in “normal” schools feel hard done by.

It is not just the education system that is struggling to keep its head above water. A report three weeks ago from the House of Commons Home Affairs Committee highlighted the strains on the police force as a result of a persistent budgetary squeeze. For example, the time taken to charge an offence rose by 25% between March 2016 and March 2018. The Committee concluded that the current system that determines police funding is “not fit for purpose” and requires radical reform, including reduction in the reliance on Council Tax receipts (a local property-based tax) and must recognise “the true cost of policing.”

A recent series of reports by the Times journalists Rachel Sylvester and Alice Thomson (summarised here) highlights the extent of the rise in poverty over recent years which has raised the numbers of working poor. When even The Times is pointing out the extent to which people trapped in the welfare system are being left behind, you know there is a problem. As Sylvester points out “the education system has made matters worse because the focus on test results has fuelled a rise in exclusions as schools ease out pupils who might bring down their league table rankings.” And as is now being recognised, one of the biggest problems with the current system is that Universal Credit, which is being patchily rolled out across the country, only pays out in arrears whereas previously applicants were entitled to benefits immediately. Consequently, those with little to no savings who are entitled to benefit (a large proportion of them), find that their problems are not over once they are accepted for Universal Credit.

Even though the government has promised that “austerity is finally coming to an end” it will take a long time to undo much of the damage caused by eight years of slashing the public sector. For one thing, the economy is growing more slowly than in the past – partly due to secular factors, which I will deal with another time, but in recent years as a consequence of Brexit-related uncertainty. Consequently, the government cannot simply turn on the spending taps. As a society, we need a proper debate about the levels of taxation required to fund the level of public services we demand. But Brexit itself has absorbed so much of the government’s own time and energy for the last two years – and is likely to continue to do so for some time to come – that it has taken its eye off the ball on social policy.

I do not wish to sound like a broken record on either fiscal policy or Brexit but they happen to be two important policy areas where the government has failed to cover itself in glory. As I pointed out in my previous post government efforts a century ago to slash the public sector exacerbated many of the economy’s underlying weaknesses. Given this historical lesson, the increasing headwinds now facing the economy suggest that a little bit less austerity would go a long way.

Reflections on policy errors

On this of all days, when we remember the centenary of the Armistice that ended World War I, it is worth reflecting on policy errors and their consequences. War is perhaps the ultimate policy error. No rational country chooses to go to war. The decision can usually be linked to a chain of circumstances which, if they had been dealt with differently, could have produced an entirely different outcome.

Unsurprisingly big conflicts generate the biggest headlines which explains why the western world still remembers the two global conflicts that scarred the twentieth century, whilst the US was scarred by the experience of the Vietnam War: For anyone who is interested in the scathing criticism of the errors of that campaign from the people who were there, the film by Ken Burns and Lynn Novik is a must-see (currently available on Netflix). There again, whilst history focuses on the consequences of events that went wrong, there are some instances where things went right that otherwise could gone tragically wrong. For example, history suggests that had the Cuban missile crisis of 1962 not turned out the way it did, we might not be here today to tell the tale.

We tend to remember wars in terms of the human cost. Anywhere between 15 and 19 million were killed during WW I and a further 23 million were wounded. Estimates of global fatalities during WW II are even higher, at over 60 million (3% of the world population in 1940). But there are also significant economic costs associated with wars. According to an authoritative study by Stephen Broadberry and Mark Harrison, World War I cost France and Germany more than 50% of their pre-war national wealth. In Germany’s case, this was primarily the result of the huge reparations bill imposed after the war, which is now perceived to have been a major mistake. Indeed, the economist John Maynard Keynes wrote a best-selling book in 1919, The Economic Consequences of the Peace, in which he warned of the adverse consequences of a punitive settlement.

It is interesting to note the contrasting British and German approaches to dealing with the huge debt incurred as a result of WWI. Both had debt-to-GDP ratios in excess of 100% in 1918. But the German government printed vast quantities of currency, and the resultant collapse in the value of the mark led to hyperinflation and a sharp decline in the value of public debt relative to GDP (see chart). The British approach was to deflate the economy, with the Geddes Axe of the early-1920s designed to slash public spending. It became a byword for how not to conduct fiscal policy, since the huge cuts  were made all at once rather than being phased gradually, with the biggest falls in social security spending, defence and education rather than ‘equal misery’ across all policy areas. It succeeded only in exacerbating the already-sluggish economic performance and the high levels of unemployment it was intended to mitigate, and had no impact on the debt burden.

Fortunately, most policy errors have less grave consequences but the economic costs can still be enormous. The bubble economy that developed post-2002 in the western world was largely the result of policy failures, driven by a laissez-faire attitude towards debt/credit creation that eventually produced the biggest economic crisis in 80 years. It is also notable that many European governments have subsequently adopted a 1920s-style UK approach to fiscal management (including the UK) by tightening fiscal policy at a time when the economy least needs it. In an economic sense, it is as though we have learned nothing from past experience.

They do say that those who cannot remember the past are doomed to repeat it. If nothing else, the day of remembrance across Europe serves to remind us of the futility of war and that it should only ever be the last option. On the whole, generations of Europeans have absorbed the lessons of history well. Whether economic policymakers have been quite as diligent is a matter for debate.

A gambling man

Getting in on the act

The phone message had been brief and to the point. “Show up by 10 pm; bring lots of cash and your A Game. This is a card game for big boys with cojones. Minimum entry requirement £100,000. Be there or be somewhere else. And be lucky.”

I was intrigued. After all, I played a bit of poker in my youth and had kept my hand in over the years. And I wasn’t bad either: I worked on the basis that statistically a good hand always came around once in a while and the trick was not to lose too much on the bad ones. Of course, I had never played for anything like these stakes and I didn’t have £100,000 to splash around. But I knew people who knew people, and could probably get hold of the cash. I reckoned I could win enough to pay them back with a bit of interest. The thought of losing never entered my head. Probably just as well: The folks putting up the money would not hesitate to make life difficult if I didn’t pay them back.

The motley crew

So it was that I arrived at the flat in the backstreets of Westminster at 9.55 pm, carrying an anonymous looking bag containing 100 grand. After confirming my identity, I handed the money over in exchange for gambling chips and entered the room where the event was to take place. I was the last to arrive and my opponents were already seated around the table. The dealer was a Frenchman called Michel and unusually he insisted that all players identify themselves before play commenced. Immediately to the dealer’s left was Dave, a pink-cheeked well-spoken gentleman who said with typical understatement that he liked a flutter. To his left sat Bozo, a journalist who worked – in his words – “for the gutter press.” Going further round the table, DD was a hard-bitten used car salesman from the East End of London, whilst Jake was a languid city banker whose cut-glass accent made him sound like a pantomime villain. The circle was completed by Nige, a gentleman of no fixed occupation who seemed very fond of alcohol and the only woman present, Tessa, who it transpired, was a geography teacher.

Michel brought proceedings to order by announcing we were to play seven card stud: The initial hand would consist of two cards face down and one face up with a minimum bet of £100. “Good luck everyone,” he said as play commenced. As is usual in any poker game, the first few rounds consisted of checking out the strength of the opposition and assessing their tactics. After a couple of hours things were starting to take shape. Dave was an impulsive player, who took some big risks but generally was looking good and had significantly increased his pot over and above his initial stake. Bozo, Jake and DD played safe, exploiting opportunities as they opened up and making small gains as a result. Nige was pretty hopeless, having funded most of Dave’s gains, whilst Tessa clearly tended to fold under pressure by avoiding entering into a bidding war when the stakes were raised. I was breaking even and bided my time, content to see how things panned out. 

Sorting the men (and women) from the boys

Shortly before 1 am, the first significant move took place. Dave had a full hand of seven cards, with a pair of nines; a ten and a Queen face up on the table and three in his hand. He was betting heavily. Bozo’s two Queens, a Jack and a King looked strong to me and I dropped out of the betting, as everyone else did soon afterwards. But Dave kept raising the stakes until the pot stood at £75,000. Finally, Dave called Bozo’s hand: Three Queens and two Kings versus Dave’s three nines and assorted rubbish. Bozo’s three of a kind plus a pair was stronger than Dave’s three of a kind. All his gains from the night were gone and his cash reserve was below his initial stake. This need not have been a problem if he had played judiciously, but after a small loss in the next hand, Dave went for broke again and this time was wiped out by a concerted effort from Bozo, DD and Jake. “Thanks for the game chaps. No hard feelings.” said Dave as he left the room.

“Probably going back to the family estate,” grunted DD after Dave had gone. “Now we can really play.” Nige was the next to fold. He had played dreadfully all night and was clearly out of his depth. I was just about hanging on as Bozo, DD and Jake really piled on the pressure, winning hand after hand. After having initially appeared to be playing as a team, it was obvious the threesome were now competing against each other, which allowed Tessa and me to stay in the game. As the hours ticked by, it was evident that Bozo bluffed more than was good for a decent card player and we were reeling him in. Tessa’s caution was paying off and after a few more hands, Bozo was clearly losing a lot of cash. Surprisingly, it was DD who folded first. Tessa had played him well, allowing him little wins in some hands but generally taking more off him in others. He was far from bust but his pile of chips was worth far less than his initial £100k, and he had evidently decided that enough was enough. A flushed and apparently panicked Bozo dropped out soon after.

A losing streak

So it was down to Jake, Tessa and me. Jake was a good player. He took calculated risks but didn’t give much ground, and he was an excellent bluffer. But I was confident and told myself that you just have to trust the numbers: the good hand always arrives eventually. Jake also had a weakness: He occasionally – just occasionally – pursued a doomed cause, which left him vulnerable. Six hours in, and we were all feeling pretty tired. At this point, Jake’s face-up cards were showing two tens and two nines. Two pairs – a pretty strong position. Tessa had nothing on show. Nor, on the face of it, did I. Queen of spades, 10 of spades, 8 of clubs and a four of hearts. But I had three cards that Jake could not see.

I had been fairly cautious all night, so when I called Jake’s hand and raised another 100 he must have thought I was bluffing. Tessa immediately dropped out whilst Jake responded by raising the call by a further 200, which I countered by raising him another 500. In a bid to test my mettle, he raised by 1000. I appeared to hesitate to give the impression that I was reluctant to bid. In reality I was anything but, and raised the call by 5000 which Jake promptly doubled. He had a good hand, but I trusted in what I knew and doubled his call. Jake didn’t like losing, especially to an oik like me. So he promptly raised the pot by 50,000. I gasped. Surely he was not going to be that stupid. But I raised to 100,000 and awaited his response. Jake tossed five 20k chips into the pot and drawled “call.”

I turned over my three hidden cards one at a time. First the Jack of spades followed by the King of spades. Jake blanched: He knew what was coming next. And sure enough, it was the Ace of spades – the death card. I had a straight whereas the best Jake could manage was three nines and a pair of tens. He was so fixated on the strength of his own cards that he had failed to see that others might have a stronger hand, and was wiped out as a result.

At that point, Tessa remarked that she was also done for the night and although she had expended a considerable amount of her initial capital, she was smiling broadly as she departed into the darkness of a cold early morning.

“Well done, my friend” said Michel who had played an important but low-key role throughout the night. As I cashed in my chips, I turned to Michel and said “I believe this is yours,” handing him £100,000 in cash. “A great pleasure to do business with you,” he replied. “You are not merely a gambler. You calculate the odds and act accordingly and I always knew we would get our stake money back. Now if you are interested, I have some friends in Washington DC who are keen on a high stakes game in the US. Here is the number. Just ask for Don.”