FTSE 100 directors’ 21% increase in compensation: what to do about the widening UK income gap?

A rise in long-term incentives has meant that directors at FTSE 100 companies earned 21% more in the last financial year, a report has found. The study by employment research specialists Incomes Data Services (IDS) found that average annual earnings for directors was £2.43m, with chief executives picking up £3.34m.

IDS said that earnings pegged to long-term incentive plans, which include share options, rose by 44% and bonuses were up 14% in 2013/14. In contrast, basic salaries gained 2.5% over the period.

These figures highlight attempts, in the wake of the financial crisis, to end the potential for rewarding failure as share options are linked to long-term performance targets. But they still contrast sharply with levels of pay across the UK’s workforce, with official statistics showing a fall of 1.6% over the same 12 month period with annual pay growth, including bonuses, most recently being measured at just 0.6%. Since the 2010 general election the median total earnings for FTSE 100 chief executives has risen by 278% compared with 48% for full-time employees.

The solution to address the growing income gap is not to begrudge the high pay at the top, impose punitive taxes on high income earners, or increase the minimum wage levels, often the default options for the political classes and certainly for the labour unions’ policy advisors.

It should be acknowledged that low wages at the bottom are a drag on the public purse as the welfare bill for in-work benefits in the UK is huge. The UK firms tend to pay poorly compared their counterparts in other countries as the businesses here have grown accustomed to rely on welfare state’s benefit subsidies to low paid workers to get away by paying low wages. An increase in the minimum wage is often justified on the basis that it would end the indirect tax-payer funded subsidies to businesses. A rise in the minimum wage, however, is not a magic pill that would solve the increasing income inequality overnight. Higher wages would have an impact on employment levels and some businesses, especially small to medium enterprises, could struggle with increased wage bills.

It would be a mistake to apportion all the blame for low wages on to the businesses. The fundamental problem is that the British workforce does not possess the requisite skills to justify higher wages. Employers frequently complain that workers lack the requisite literacy and numeracy, and they do not possess the social skills needed to work in an economy that is increasingly dominated by the service sector. This skills shortage is also a major factor for demand for more highly qualified immigrant labour.

Efforts to manage boardroom greed are being addressed through remuneration committees and new rules that come into effect this month require that companies include a single total pay figure for top executives and binding shareholder votes on boardroom remuneration packages.

The serious policy problems and mistakes do not lie at the top but at bottom of the labour market. The only sustainable solution to reduce the growing income gap is to increase skills levels of the workforce that would merit higher pay awards. The UK does not have a credible “vocational” education policy in contrast to some of our continental counterparts. Germany, in particular, has a long-established system of apprenticeships and vocational colleges that we lack. The 1944 Butler Education Act was supposed to create a host of technical colleges but that policy was never implemented. If we are going to seriously address the growing wage gap then rising the skills level of the British workforce is the only viable, long-term solution.

Hands off my cupcakes Feds!

The idea of a “spontaneous order,” which emerges as result of the voluntary activities of individuals and not one which is created by a government, is a key concept in the classical liberal and free market tradition.  This idea is closely associated with Scottish Enlightenment writers: Bernard Mandeville, David Hume, Adam Ferguson, and Adam Smith.

Adam Smith, in his Wealth of Nations is famous for encapsulating the idea of spontaneous order in the phrase “the invisible hand” which suggests an ordering principle that lies behind the activities of many individuals buying and selling in a market place.

Adam Ferguson, in the Essay on the History of Civil Society used the phrase (later taken up by Hayek) “the result of human action, but not the execution of any human design”

Men, in general, are sufficiently disposed to occupy themselves in forming projects and schemes: But he who would scheme and project for others, will find an opponent in every person who is disposed to scheme for himself. Like the winds that come we know not whence, and blow whithersoever they list, the forms of society are derived from an obscure and distant origin; they arise, long before the date of philosophy, from the instincts, not from the speculations of men. The crowd of mankind, are directed in their establishments and measures, by the circumstances in which they are placed; and seldom are turned from their way, to follow the plan of any single projector. Every step and every movement of the multitude, even in what are termed enlightened ages, are made with equal blindness to the future; and nations stumble upon establishments, which are indeed the result of human action, but not the execution of any human design.

In the 19th century the idea was pursued by Frederic Bastiat and Gustave de Molinari in France, and Herbert Spencer in England. Later in the 19th and the early 20th century the Austrian school economists Karl Menger, Ludwig von Mises, and Friedrich Hayek made the idea central to their reformulation of economic theory.

Fast forward to the present day to find out that our political elites have summarily dismissed over three hundred years of wisdom.  We all have become used to the neoclassical Keynesian economic dogma that purports to know how to maximise social welfare without relying on market signals, but extending this thinking to cupcakes takes the biscuit, if you pardon the pun.  Human action is being replaced by human design.

A friend of mine alerted me to a recent Wall Street Journal article that must be the craziest piece of social engineering legislation that I have ever seen. Bake sales have always been a major fundraising activity by schools.  Enterprising teachers, parents, and students get together to raise funds for school trips and other projects.  I remember taking part in a number of cake sales to raise funds for my kids’ school refurbishment projects in London.  But thanks to the initiative spearheaded by the First Lady Michelle Obama’s “Let’s Move” campaign has resulted in an absurd federal overreach in the US.  A federal law that aims to curb childhood obesity means that, in dozens of states, bake sales must adhere to nutrition requirements that could replace cupcakes and brownies with fruit cups and granola bars.  As Jeff Ellsworth, principal of the kindergarten through eighth-grade school in Chapman, Nebraska put it: “The chocolate bars are a big seller,” so he’s not quite sure how to break the news to the kids.  Well, I am not sure how to put to the kids, but I can tell what the consequence of this silliness is:  fewer bake sales, less money raised.  

The diversity of modern Austrian thinking

If you wish to learn more about the Austrian school of economics then click the link in this post. Institute of Economic affairs today published my slightly wonkish review of Randall Holcombe’s new book “Advanced Introduction to the Austrian School of Economics.”



Art Laffer lecture on taxes

Yesterday I wrote about the ridiculous wealth tax that was proposed by the UK Green party to be levied on wealth over £3M.  But as anybody who has ever taken Econ 101 knows that no government and country can either tax or spend itself into prosperity.

Art Laffer recently gave a lecture at the Institute of Economic Affairs about this fallacy. But then again, good economics makes poor politics.

Art one of the leading economists of our generation and a wonderful showman to boot. If you want to be informed and entertained do take the time to view the video below.

Art Laffer on taxes and stimulus spending

tax the rich

The Green party calls for wealth tax on assets

The UK Green party has called for a wealth tax of up to 2% on the assets of “multimillionaires” that it believes could raise more than £40bn a year.

Presenting the proposal, Natalie Bennett, the Green leader, said other political parties only offered minor tweaks to the UK’s failed economic system, instead of major changes to deal with inequality. Baroness Jenny Jones, Green’s London Assembly member, stated on LBC radio interview that this tax will create a “fairer” society and the policy is based on an analysis to identify a tax level that the wealthiest would not have an incentive to circumvent. When challenged about this, Baroness Jones stated that ‘Green party has a detailed understanding of economics.’  If so, it is a branch of economics that I have not heard about, not certainly market economics.

The party said the tax would affect around 300,000 people with assets of more than £3m – the richest 1% of people in the UK. In a report on possible rates, the party suggested the tax could be set between 1% and 2%, which would annually raise £23bn at the lower end or up to £43bn at the higher end of the spectrum. Perhaps the Green’s understanding of economics is not that hot anyway as the variation in the proposed tax rate between 1 and 2 percent is 100%, or perhaps they assume that 100% difference in the proposed tax rate does not make one iota of a difference for the “multimillionaires” who may be able to cover this penal tax out of earned income. However, the tax will make a massive difference to those whose wealth is based on illiquid assists such as property. Not to worry, the Green party economists have everything worked out. One can pay the tax after you are dead from the estate, once death taxes have been taken off the top, of course.

In justifying the tax, the Greens point to wealth taxes of different kinds that are already in countries like France and Spain, surely not good role models of prosperity and sound economic management. The party also cites the work of French economist Thomas Piketty, who posits that the rate of return on capital outstrips the rate of growth and that inherited wealth will therefore always grow faster than earned income. Ummm…perhaps the Green party economists should read a bit more economics literature and research to learn that Piketty’s data and findings are circumspect at best.

Does Inequality Matter?

2014-07-23 13.01.09Does inequality matter was discussed today at Institute of Economic Affairs/Bloomberg conference. The conclusion was that it does if it hinders social mobility as a meritocratic society should seek to provide people equality of opportunity. In addition, income that is accrued by rent seeking behaviour where individuals, firms, and unions exploit the state for personal gain should be targeted by appropriate policy interventions.

However, in terms of after tax income inequality and wealth inequality, not a lot. After tax income inequality in the UK is about the same as 25 years ago measured by Gini-index. In real terms top 20% have income roughly that times that of the lowest 20%. Moreover, the top 20% bracket is dynamic. In terms of UK wealth inequality the top 10% owned 90% of the wealth in 1910. Today the percentage is 70%, somewhat higher than in the 1980’s.

Policy uncertainty and economic growth – lessons from the Great Recession for the US and UK

Professor John B. Taylor, Mary and Robert Raymond Professor of Economics at Stanford University and the George P. Shultz Senior Fellow in Economics at Stanford University’s Hoover Institution, gave the 2014 IEA Hayek Memorial Lecture on “Policy uncertainty and economic growth – lessons from the Great Recession for the US and UK”.

Professor Taylor’s academic fields of expertise are macroeconomics, monetary economics, and international economics. He is known for his research on the foundations of modern monetary theory and policy, which has been applied by central banks and financial market analysts around the world.

John Taylor proposed the following rule designed to guide monetary policy:

i = r* + pi + 0.5 ( pi – pi*) + 0.5 ( y – y*)

where i is the nominal federal funds rate, r* is the “natural” real federal funds rate (often taken to be 2%), pi is the rate of inflation, pi* is the target inflation rate (for example, 2%), y is the logarithm of real output, and y* is the logarithm of potential output.

The two basic ideas here are to raise the federal funds rate to one-half the extent that inflation exceeds its target and to lower the federal funds rate to one-half of the percentage that real output falls below its potential. Implicit in this formulation is that a reasonable rule of thumb applied consistently over time is more likely to achieve a good outcome than is aggressive manipulation of monetary policy. It is widely believed that central banks have paid close attention to variations on this Taylor Rule in recent years.

Link to Professor Taylor’s lecture is below:


CityAM’s editor Allister Heath’s parting column

I have been a big fan of Allister Heath, the editor of CityAM.  Allister is a journalist who has an admirable command of economics and he writes with lucidity and conviction.  The following is his last column as he steps down from CityAM, one of the UK’s few free market papers.

Britain needs to learn to love capitalism

THERE is one change, more than any other, that Britain needs to undergo if we want to fulfil our true potential. We must learn to embrace capitalism, individual liberty and the awe-inspiring wealth and job creating potential of business, and ditch our ambivalent attitude towards free markets. It is time for a cultural revolution in the UK and across the Western world, where far too many people object to far too many of the institutions and practices that have generated the astonishing wealth and prosperity we take for granted.

It ought to go without saying that I am an advocate of a genuine, competitive and open capitalism, not of the ersatz, corporatist variety. Learning to differentiate between the two would be a great first step.

In a real market, losses and gains are privatised; in a rigged market, losses of some politically well-connected players are socialised while their profits remain private (though are often taxed heavily as a quid pro quo). Subsidies are granted to favoured players; industries are bailed out, directly or indirectly through overly loose monetary policy; barriers to entry are erected left, right and centre; and small challenger businesses find themselves at a great disadvantage when pitted against entrenched incumbents. These sorts of economies can still plod along but they are inefficient, inequitable and riddled with unfortunate side-effects.

The great bailouts of 2008-09 turned out to be a disaster for the moral credibility of capitalism and helped usher in a new corporatism. They broke the link between success and reward, failure and loss. With freedom should come responsibility. People must always face the consequences, good or bad, of their actions – it is not sustainable for businesses to benefit when times are good but to come crying for protection when times are bad.

Of course, what actually happened at the height of the panic was complex and nuanced, and it was bondholders, not shareholders, who were bailed out. But the authorities had made a tragic error during the good years, for which we are all still paying the price: there was no plan B to manage rationally the failure of major financial institutions. It was a case of either bail them out or let them go bust in a completely uncontrolled manner.

We need to make sure that policy-makers are never confronted with such a choice again. The international authorities are still working on plans for a completely new bankruptcy code and system for large, systemic financial institutions; such resolution mechanisms – complete with bailinable capital, living wills and a toolkit to dismantle and unwind failed banks while protecting the rest of the economy – cannot come a moment too soon. When they are finally in place, the state’s implicit guarantees, and the accompanying hidden subsidies, will be finally removed from the system, and the risk-taking and moral hazard that they can generate will disappear.

Reinjecting the fear of bankruptcy into the system is the solution: it will mean that market mechanisms will be able to start disciplining finance again, and that we will no longer need to rely as much on heavy-handed and often flawed regulations. Real free-markets balance out greed and fear: people want to make money, but they are scared of the consequences of going bust. In the case of banks, employees and shareholders need to be kept in check by bondholders and depositors. Global regulators all agree about this; the ball is now in their court.

On that note, dear readers, I bid you farewell. This is my last column as I am stepping down as editor of City A.M. after a wonderful six and a bit years at the helm; the paper is in great shape and will continue to go from strength to strength. Thanks for all your comments, messages and tweets over the years; it has been a great pleasure writing for such a sophisticated, loyal and superbly-informed audience. Goodbye, and thanks again.

Richard Epstein on Piketty’s Capital in 21st Century


In an interview with ieaTV, Prof Richard Epstein, Professor Emeritus of Law and Senior Lecturer at the University of Chicago Law School, assessed the impact of Piketty’s recent bestseller, Capitalism in the Twenty-First Century, on the US debate on inequality. Epstein highlights his belief that in the long-term it will not prove persuasive and that capital markets are far more complex than Piketty implies.

Freedom economics

Much ink has been spilled on lamenting or celebrating the demise of capitalism, depending on one’s view, of course.  I don’t particularly like the word ‘capitalism’ as it has become laden with negative connotations.  Rather, I prefer talking about economic freedom and liberty, or “freedom economics,”  that is based on the system of free markets and Smithian moral conduct.

There is a difference between “freedom economics” and 21st century capitalism.  The former is based on a policy of non-interventionism that allows price signals to regulate efficient market conduct free from political interference and cronyism. This is contrary to the latter where many extol the virtues of free markets but their actions are anything but; often vying to influence political decision-makers for favourable treatment that limit free competition and the operation of markets.

I recently wrote a short think piece about the crisis of capitalism for Adam Smith Institute where I explored some of these concepts. I was pleased that the article was also picked up and posted in the thought leadership section of the Inclusive Capitalism conference held in London in May 2014.

The link to the article is below:


How to create trust in organisations?

Trust within organisations and of organisations is in short supply.  Trust could be a basis of competitive advantage. The first step is to get your people to trust you and making them feel safe is the first step.

Safe is not cutting people as soon as there is a dip in the economy. Safe is not giving raises to a few executives while colleagues languish with small or nonexistent increases. Safe is not producing extraordinary profits while failing to develop a clear career path and development plan for every employee.

How to become a trusted leader?

For whom the bell tolls: Does is toll for Apple?

All firms will become disrupted at some point in time.  Historical evidence shows that only 20% of companies are able to maintain above average industry level profitability over an extended period of time.  Moreover, once a firm loses its leadership position only 6% of these companies will ever be able to regain their lost industry leadership status.

A question that has been asked of late is whether Apple’s innovation rate is slowing down.  All the signs are there.  The firm has magnificent cash reserves which may indicate that Apple has run out investment opportunities.  Moreover, the company’s market share in tablet devices has declined rapidly, and the introduction of the latest iPhone 5 was a major disappointment, to say the least.

In the book Haunted Empire: Apple After Steve Jobs, to be released later this month, Wall Street Journal reporter Yukari Iwatani Kane wonders if Apple and its new CEO Tim Cook is up against the “sky-high expectations that Jobs had conditioned the public to have for Apple.”

The company’s immense success was based on a record of delivering more than just good and reliable products, Kane writes.  However, markets Apple operates in are changing fast, and competitors like Google, Microsoft and Samsung aren’t standing still, and they are all run by very talented people.  All eyes are now on Apple to see whether the company can follow its previous trajectory as a market disrupter or whether it will become disrupted itself.

Link to a full article on the forthcoming book can be accessed here.

The UK government wastes £120 billion of your money

Yesterday I wrote to question Ed Balls’ and the UK Labour Party’s call for 50% top income tax rate as a tribalist political move that was completely divorced from any sane economic justification.  The post generated a great deal of debate.

For the record, as an academic I do not earn more than £150,000 per year.  My opposition to a 50% income tax has nothing to do with my personal circumstances.  I am opposed to punitive taxes as anti-business, anti-aspirational, and anti-wealth creation.  It may make good class-warfare politics but it’s poor economics.

Governments are poor money managers as they are not subject to the same commercial standards as private businesses. Therefore, the amount of our hard-earned cash that gets wasted by the governments of all colours is truly mind-boggling.  By increasing the tax rate without reining in wasteful spending is the height of irresponsibility, or at best a means to provide employment for a cadre of public sector bureaucrats who create no economic wealth.

Recent work undertaken by the UK Cabinet Office’s Efficiency and Reform Group found that taxpayers’ cash is wasted in tune of £120 billion, or £4,500 for every UK household, or almost the same amount as the current UK deficit.  A number of wasteful areas that were identified included:

  • £53 billion – Additional cost of funding pay and pensions for public sector workers over and above the private sector average, based on analysis of figures from the Office for National Statistics and the Pension Policy Institute.
  • £25 billion – Amount wasted through inefficient public sector procurement and poor use of outsourcing, based on an authoritative report from the Institute of Directors.
  • £20.3 billion – Cost to the economy of public sector fraud, according to the National Fraud Authority.
  • £5 billion – Amount paid in benefits to those with an income in excess of £100,000.
  • £4 billion – Losses to the taxpayer from Royal Bank of Scotland and the sale of Northern Rock to Virgin Group.
  • £2.9 billion – Amount spent needlessly by the Department for Business, Innovation and Skills and Department for Culture, Media and Sport, which should both be scrapped.
  • £1.2 billion – Annual subsidy to foreign farmers through the EU’s Common Agricultural Policy.

A rigorous assessment of the public sector efficiency commissioned by the European Central Bank found that if the UK’s bloated  public sector was as efficient as that in the economies of countries like the US, Australia, and Japan, no less than £137 billion could have been saved.

So there we have it.  The government should be held accountable for our money and the electorate should send a clear message to the political classes that they must get their house in order, and any political party that argues for hiking up taxes should be shown the proverbial door.

The ‘fairness’ of the UK 50 % tax rate

The UK Labour Party’s shadow chancellor Ed Balls announced yesterday that the party would reinstate the 50% tax level imposed by Gordon Brown at the height of the financial crisis should they win the 2015 general election.  Mr Balls stated that the new top-level of tax on earnings above £150,000 would “help balance the nation’s books and create a “fairer” tax system.”

Most economists agree that this level of tax would be detrimental to the nation’s enterprise sector and economic recovery.  The only basis that Mr Balls can justify such a crippling tax level is his party’s sense of ‘fairness’ based on a deeply redistrbutaive political dogma.  Although the top 1% of earners, 150,000 people, already pay 30% of the nation’s total income tax bill, and the top 10% of earners over 50% of all income taxes, this doesn’t seem to be enough for the Labour party.

Labour party has clearly reverted back to its socialist roots of the late 1920’s.  The next election will be fought on the basis of political ideology including the debate about the size of the state.  For the Labour party the welfare state is sacrosanct and the ever-increasing tax levels are the only answer to balance the nation’s books.  Of course, the Labour party strategist know that as long as there a more Pauls who benefit from robbing Peters the party can always count on the votes of the former.  In economic terms this is when the state sector counts for more than 50% of the GDP.

Therefore, the first question that the socialists who currently control the Labour party is to answer the question on how ‘fairness’ is  define.  Thomas Sowell, a Princeton-based economist, articulated this fundamental question well: “Since this is an era when many people are concerned about ‘fairness’ and ‘social justice,’ what is your ‘fair share’ of what someone else has worked for?”  So, the UK Labour party what is your moral justification for the 50% tax rate, why not go whole hog to 70% or beyond?

I am not sure how many socialists read my blog but as Mr Balls will need all the help he can get, I would happily pass on your comments.

Larry Summers attacks UK austerity programme in Davos 2014

Larry Summers attacks George Osborne’s austerity programme in Davos.  According to Summers the UK austerity programme lacks credibility and the Chancellor should have followed US lead in deficit reduction.  Ho hum….let facts speak for themselves.

More about this here: