British Prime Minister David Cameron is heading into negotiations with the European Union, and curbing freedom of movement within the bloc is a priority. Yet despite the hyperbole of tabloid headlines, much of Britain's post-crisis recovery is from more people coming to work than economists had expected.
A new report by Bloomberg Intelligence economists Jamie Murray and Dan Hanson suggests that shrinking the flow of migrants into the U.K. could take as much as 1 percent off potential GDP by the end of the current Parliament in 2020, while sharply increasing the country's debt-to-GDP burden over the next few decades.
To understand the problem, understand the impact of higher migration on the economy. As a whole, migrants are more likely to be of working age, have (on average) higher skill levels and are net contributors to the treasury. Indeed since the financial crisis the stagnation of labor productivity has meant that Britain's recovery has been driven by people working more hours, rather than boosting the amount each employee produces. This, in turn, has been helped by higher net migration.
As the Office for Budget Responsibility, the government's fiscal watchdog, noted its review of the U.K. economy last year:
Net migration in the year to September 2014 rose to 298,000, up from 210,000 in the year to September 2013. Our previous forecasts have been underpinned by the assumption in the ONS low migration population projections that net migration will move towards 105,000 a year by mid-2019. A reduction over time seems consistent with the international environment and with the Government’s declared efforts to reduce it. But in light of recent evidence, it no longer seems central to assume it will decline so steeply. So we now assume that net migration flows will tend towards 165,000 in the long term, consistent with the ONS principal population projections. Relative to our December forecast, this raises potential output growth by 0.5 per cent over the forecast period via 16+ population growth.
Murray and Hanson note that "of the roughly 5 million net inflow of foreigners to the U.K. between 1990 and 2014, those from other EU countries account for about a quarter." But the composition of the influx is changing, with a significant increase in the number of migrants coming from Europe, perhaps explaining the newfound interest in them.
So what are the implications of cutting migration?
Although much has been about immigration and local wages, there's little evidence that it has a large effect in practice. The evidence suggests that migrants tend to marginally increase the wages of high skilled workers and equally marginally depress those of lower skilled workers.
A 2008 paper by Christian Dustmann, Albrecht Glitz, and Tommaso Frattini found that much of this is attributable to a "downgrading" of migrant skills when they enter the U.K.. If they were distributed according to observable skill levels they would likely restrain higher skilled wages while providing a boost to lower skilled professions.
At any rate, the overall impact is broadly neutral.
Far more significant is the impact that higher migration could have on growth and public finances. The Office for National Statistics expects an additional 2.3 million people to be living in the U.K. over the course of this Parliament. According to Murray and Hanson, on that forecast the U.K. economy is expected to be about 2.2 percent bigger in 2020 than it was at the end of last year, with a full percentage point of that due to EU migration (assuming current flows are maintained).
If Cameron succeeds in reducing net migration, then the implications for the government's finances are stark. A fall of 120,000 people per year, roughly what might be expected if migration from the EU is stemmed, then debt-to-GDP could be around 1 percent higher by 2020 compared to the baseline. By 2040 that figure could swell to 13 percent of GDP higher than would be the case under a higher migration scenario, making it much harder for any future government to rein in Britain's public debt burden.
In other words, this is one aspect of the Brexit negotiation that the Prime Minister might be better off losing.