Massaging capitalism rather than managing the crisis

Brown is proposing tax cuts in order to avoid making tough decisions about the economy. We should demand more honesty from our leaders.

Rob Lyons
Columnist

13th November 2008

Yesterday, the UK government announced a sharp rise in unemployment. In September, the number of people out of work reached 1.82million, an 11-year high. The governor of the Bank of England, Mervyn King, declared that Britain was likely to see a painful decline in output over the next year or so. He predicted that British gross domestic product (GDP) could fall by two per cent – the biggest drop for 30 years – in 2009. ‘I think we probably are in recession now’, he said (1).

Today, British Telecom announced 10,000 job cuts, most of them in Britain. And just to prove that Britain has no monopoly on misery, the German government announced that its nation was officially in recession, too. For those old enough to remember the last two major recessions in Britain, these are gloomy times. On both occasions, unemployment eventually rose to over three million. So, what is to be done?

The UK government did little to prevent a banking crisis, dithering for a year until the financial faeces hit the fan with the collapse of Lehman Brothers in September. Since then, it has taken to firefighting to try to solve the multiple problems facing the economy. It has provided enormous quantities of credit and guarantees to the major banks, and has effectively part-nationalised many of them. But these problems had, by then, already started to affect the rest of the economy. When businesses and individuals find it much more difficult to borrow, the result is reduced spending and job losses.

The UK prime minister, Gordon Brown, looks set to borrow even more money to solve the problem, using the cash both to cut taxes and bring forward public spending planned for later. In an interview on GMTV on Monday, he said: ‘What I am determined to do is to get all countries around the world trying to get their economies moving again and one way you can do that is by putting more money into the economy by tax cuts or by public spending rises.’ (2)

This has prompted a bidding war amongst Britain’s political parties about who will cut taxes most and how these cuts will be funded. The Conservative shadow chancellor, George Osborne, said that tax cuts should be funded by savings in public spending, refusing to ‘follow Mr Brown down the road of irresponsibility’ by increasing borrowing (3). The Conservatives’ big pledge is to offer a £2,500 incentive to firms that take on new staff. The Liberal Democrats’ proposals (an academic exercise since there is little chance of them ever taking power) also call for tax cuts, but funded by increased taxes on the higher paid and green levies.

There is some logic to cutting taxes. We are, we are told, in the midst of an emergency. If there is to be any kind of ‘fiscal stimulus’ to the economy, then the sooner the money is in people’s pockets the better. It takes time to crank up public spending of the kind that is traditionally associated with ‘pump-priming’ the economy. Tax cuts have an immediate impact on people’s ability to spend money.

Many commentators believe that if we can just get over the current financial shock, we’ll be in a position to deal with the fundamental problems of the economy in the longer term. Writing in The Times (London) today, Anatole Kaletsky argues that there are two kinds of sickness ailing the UK economy at the moment. ‘The slow-moving cancer that the world economy was suffering until August was caused by excessive borrowing, property speculation and reckless and dishonest banking practices. A still-deeper cause of this credit cancer was the global imbalance between exuberant consumption and house-price speculation in America, Britain, Spain, Scandinavia and Eastern Europe, on one hand, and excessive saving and austerity, on the other, in China, Germany and Japan.’ (4)

But for Kaletsky, while the cancer still needs to be dealt with, the economy has a more acute problem, too. ‘The sudden collapse of the global banking system that followed the bankruptcy of Lehman… was a separate affliction. Like a heart attack in a patient previously weakened by chemotherapy, it required a different clinical response.’ (5) While the patient will need that chemotherapy eventually, he argues, right now we need an economic defibrillator – a quick injection of cash into the economy to prevent a more serious collapse.

Kaletsky’s analogy is a neat one. It may be that in the current circumstances, when the normal operation of banks has failed, the economy needs assistance until such time as the financial system gets going again. But, to return to his analogy, it is far from clear that the government has accepted the chronic, ‘cancerous’ part of the diagnosis. Nor is it clear that the kind of ‘Keynes-lite’ stimulus that is being discussed will actually have the desired effect. Rather, it may just be a symptom of a government trying to avoid the messy, painful reality of economic restructuring.

When Alastair Darling, the UK chancellor of the exchequer, declared in August that the economic situation was the worst for 60 years, he was widely ridiculed for an excessively gloomy interpretation of the situation. Clearly, he had some inkling of the financial problems that were about to explode, though his and the government’s gloom and doom helped to shape events, too. But the day after his interview was published, Darling declared that while the credit crunch was bad news, ‘I am also clear that the fundamentals of our economy are strong’ (6). Criticising Brown’s tax-cutting plans in the Guardian this week, Larry Elliott attacked the wilful ignorance of the underlying picture: ‘Brown seems to believe it is possible to return to the world as it existed before August 2007, in which individuals, financial institutions and governments can live now and pay later, if at all.’ (7)

But whether a stimulus could work is another matter. Elliott notes that, in the light of the borrowing already undertaken to bail out the banks, ‘[t]o make a real difference, Darling would need to announce tax cuts of at least one per cent of GDP in his pre-budget report this month. That would mean a tax-take reduction of £15billion – out of the question given the state of the public finances. The financial markets have been softened up for tax cuts, but they would be surprised and alarmed if the package was worth more than £3billion.’ (8)

This looks like a displacement activity, not a solution. And it comes in the context of UK government spending of £620billion per year. It would be more accurate to say that an anaemic British economy has been kept ticking over by a fiscal stimulus for the past few years, which will be difficult to sustain. Ultimately, the government will have to cut public spending and/or raise taxes to avoid the state’s finances being called into question. Given the liabilities that the government has taken on, the notion of the British state itself defaulting on its debts is now no longer considered a complete fantasy, even if we are still a long way from that situation. But spending ever-increasing sums in a foolhardy effort to postpone the inevitable could bring a fiscal crisis a lot closer.

As Fraser Nelson notes in the Spectator today, spending cuts need not mean austerity. He argues that £40billion could be saved without cutting essential services but by simply pegging the growth in spending on many areas to the level of inflation and by getting rid of a variety of failed government schemes that often duplicate each other (9). There are plenty of other areas where money could be saved without any real impact on welfare. Cutting the budget for moralising health campaigns would be a good place to start.

Tough times lie ahead. For the government to base policy on simply postponing this pain is symptomatic of a wider failure of leadership at the top of society. That does not mean, however, that we should welcome austerity with open arms. Far from it. What is required is that the economy once more becomes a site for political and social struggle. It need not necessarily be the masses who bear the brunt of this recession. How events unfold depends on us.

Rob Lyons is deputy editor of spiked.