Look who's sclerotic

A popular Continental misconception about Britain is that it is some kind of ultra-free economy where there is limited social welfare and where the market has been introduced into every aspect of life.

Britain is partly to blame for this misconception. The current British government has been only too happy to act as though market-led reforms are something for other European Union countries, Britain being the finished article.

There was always a gap between the myth of a lean, market-driven Britain and reality. This gap is now a chasm. Indeed, the size of Britain’s state along with its inefficiency caste a thick cloud over the country’s economic future.

High levels of inequality and poverty in Britain are widely attributed to low state spending. But Britain has long had a comprehensive welfare state and free public services, such as health care and, until recently, higher education.

Although overall state spending as a proportion of G.D.P. has tended to be lower than in the likes of high-spending France and Sweden, it has not been so different from other E.U. economies. And following very rapid growth in public spending over the last decade or so, Britain now spends more relative to G.D.P. than the euro zone average.

According to the Organization for Economic Cooperation and Development, total British government expenditure accounted for 41 percent of G.D.P. in 1997. This year it is forecast to be 52.4 percent and next year 54.1 percent. Britain already has a bigger state then either Germany or the Netherlands (47.7 percent and 49.2 percent respectively in 2009) and is not far off France (55.4 percent) and Sweden (57 percent).

The public sector has accounted for most of the employment growth in Britain since 1997, when the Labour Party came to power. Far from freeing the way for markets and private enterprise — as the British government has been quick to demand of other European governments — Britain has allowed the unchecked rise in state expenditure.

This would not be so bad if the British state was an efficient provider of public services — Sweden, for example, is one of the most flexible and competitive economies in Europe.

But the expansion of the British state has not been accompanied by a big improvement in social and educational outcomes or physical infrastructure. Most of the money has gone to increased employment and wages rather than better services. Attempts at reform of the public sector have been half-hearted at best. Unsurprisingly, given the stranglehold that the unions have on the public sector, public sector productivity has actually fallen since 1997.

Why does Britain combine a large state with poor social and physical infrastructure? Because contrary to received wisdom, Britain is wedded to socialized and centralized solutions.

Pretty much everything the British state does is managed and financed centrally, with little scope for managerial accountability beyond the meeting of centrally set targets. Of course, huge numbers of people are now needed to monitor compliance with these targets, much as was the case in Communist Eastern Europe. This produces some striking outcomes.

First, all tax-funded medical services are provided by one public organization: the National Health Service, which is the second largest employer in the world after the Indian National Railway.

There is nothing controversial about the private sector providing medical services in supposedly statist France, so long as everyone has access to those services. But no British government could introduce such a system, despite international surveys showing that the French system is superior to the N.H.S. on just about every measure. Indeed, for a British politician to criticize the N.H.S. is akin to a U.S. presidential candidate admitting to being an atheist and in favor of tighter gun laws.

Second, Britain has strict national public-sector pay scales, despite having the biggest regional variations of wealth among the older E.U. member states. As a result, the public sector in high-wage London and the southeast of England — the regions which generate a disproportionate share of British tax revenues — struggles to recruit and retain personnel, in the process undermining quality of life.

By contrast, in poor areas of the country high public sector wages bid up the cost of labor, making it hard for these regions to exploit their cost advantage. It is no surprise that there are depressed regions in Britain where the state now accounts for well over 60 percent of all economic activity.

Where does this leave Britain? Unlike the 1970s, Britain’s private sector is now dynamic and competitive, so it would be premature to dust off the “sick man of Europe” label.

But no matter how productive the private sector is, economic growth will be elusive if the state accounts for half of economic activity and productivity in that half is stagnant or even declining.

Faced with financing a huge state while having to contend with poor social outcomes and infrastructure, there is risk that private sector investment — and with it productivity growth — will be weak. Either the British state shrinks substantially or it must justify the share of economic resources it commands by doing a much better job.