High cost of living will make our competitiveness suffer

Published in Public Service Review: Central Government Issue 17 –  Tuesday, October 28, 2008

With Britain’s cost of living at an all-time-high, Dr Oliver Marc Hartwich, from the Centre for Independent Studies, asks whether our high cost and low satisfaction lifestyle will prevent those with skills from staying in the country or coming in the first place

Economists, so the saying goes, know the price of everything and the value of nothing. As one of them, I spend much of my time, as do a lot of people in my profession, dealing with prices. But, contrary to prejudice, I and the rest of my colleagues believe that most prices reflect the values that people assign to products and services. This sounds theoretical, but is actually common sense. The things we buy do not have any intrinsic values. There is no physical law that says that a banana must be ‘worth’ 40p, a pub lunch £8 or a pair of shoes £60. You could not put a product under a microscope or X-ray it to determine its price. A price is very much the result of what some people are prepared to pay for it on the one hand and what others are willing to sell it for on the other.

Whenever we talk about prices, we are actually discussing the results of subjective valuations of buyers and sellers or, to speak the economist’s language, supply and demand. In this sense, the price of any product is determined by market forces; it is thus rather futile to ask if it is too high or too low. From an economist’s point of view, all attempts to determine the ‘just price’ – something that scholars like St Thomas Aquinas tried to do for centuries – are doomed to fail.

Yet, true as this may be in economic theory, there are still reasons to be concerned about prices or, rather, the general level of them. It is a well known fact that Britain today is among the most expensive countries on the planet.

Anecdotal evidence for this thesis abounds. Just go to the port of Dover on any given Saturday and see how the drivers of big family cars test the load limits on shopping trips to France. An excursion to a French supermarket is so much cheaper than a visit to a British one that it is worth the effort (and the cost) of taking the ferry across the Channel. These trips are commonly known as ‘booze cruises’, but household items and clothing are also cheaper on the continent.

The prices of tickets at Madame Tussauds suggest that even impersonations are expensive in Britain. The famous wax museum now has branches in big cities around the world, which all show similar things, yet admissions charges vary dramatically. An adult ticket in London is £25; in New York the same exhibition is £18.85, in Amsterdam £16.65, in Berlin £14.65 and Hong Kong just £9.65.

A stay at an IBIS hotel is even more standardised. Customers know what to expect from a stay at the chain, namely a small, clean functional hotel room. Nothing fancy perhaps, but no nasty surprises either. A firm such as IBIS, which aims to build a worldwide reputation for a certain standard of quality, has to provide similar services wherever it operates. But the prices it charges still vary greatly. The London City IBIS will cost you £115 on a normal weekday, but in the equivalent IBIS hotels elsewhere you can lodge for much less: for £54.44 in Madrid, £63.90 in Vienna and £75.82 in Sydney.

The list of comparisons stretches to the price of getting a haircut or the cost of a bottle of beer and beyond. The cost of buying and running a car or the monthly ticket for the public transport network can be compared to the UK’s detriment, as can the cost of going to the movies or eating out at a nice restaurant. The picture is almost always the same: in nearly every possible category of goods and services Britain is very much near the top of the league. In other words: Britain is one of the world’s most expensive places to live.

The cost of doing business is also onerous. Comparisons of the cost of office space or industrial land, for example, show precisely the same results. Again Britain is on top for prices.

Mercer, a human resources consultancy, has compared prices internationally. Unsurprisingly, London ranked as the world’s third most expensive city after Moscow (which is actually cheap to live in for most Muscovites, but very costly for the small middle class) and Tokyo. On a scale that had New York’s cost of living (including housing) indexed at a level of 100, London scored 125 points.

Other major international centres like Melbourne (94.2), Frankfurt (92.5) and Stockholm (95.5) had significantly lower cost of living scores.

For the economists then, who like to think of prices as the most visible expression of the law of supply and demand, there are two questions to answer: first, why are there such big price differences between countries, and, second, do they actually matter?

Unfortunately, there is no single reason as to why prices are much higher in Britain than in most other countries. However, one factor has distorted our price level systematically: land. Since the Town and Country Planning Act was introduced in 1947, British cities have been constrained by a policy of limited land supply.

Where demand is growing and supply is restricted, prices have to go up, economic theory predicts – this is precisely what has happened. A hectare of land without planning permission will sell for an average price of about £10,000 in England, but residential land fetches a price of more than £2.6m – the result of artificial scarcity.

But it is not only land for residential development that has become expensive. Companies also have to pay high prices if they want to build factories or offices. This is where the problems for the British economy begin. If it is more expensive to build a warehouse in Birmingham than in Barcelona, and if office space becomes more costly in Leeds than in Luxembourg, the UK’s economic competitiveness will suffer. Last year Kraft Foods decided to move its European headquarters from London to Zurich. It cited the cost of accommodation as one of the main reasons for doing so.

To make matters worse, it is not only businesses that suffer from the planning system. It is all of us who have to pay the price. Our choice as consumers is limited when high land prices lead to high retail prices and only a few retail chains dominate the market – simply because higher land prices combined with a complex planning system act as a barrier to market entry.

This leaves the second question: does it matter that Britain has become a high-cost country? Perhaps it would matter less if Britain not only topped the league tables in terms of its cost of living but also for its quality of life. However, the very opposite seems to be the case. Far from offering superior public services and reliable infrastructure, dozens of international quality of life surveys paint a grim picture of life in Britain. So, if anything, quality of life in the UK, and particularly in London, is worse than in other major developed economies.

This makes the question of the cost of living even more important. A combination of high costs and poor quality is seldom a recipe for success – not for goods and services, and certainly not for countries. There is a danger that Britain will lose its most qualified people if they prefer a better and cheaper life abroad. It is equally likely that Britain will fail to attract highly skilled foreigners who are deterred by its reputation as an expensive and unsatisfactory place to live. Both would be equally disastrous for Britain’s economic future. And for this reason alone tackling the problem of Britain’s high cost of living is worth every effort.

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