Winner of the New Statesman SPERI Prize in Political Economy 2016

Monday, 14 September 2020

Whether its COVID or Brexit, this government is continuing to fail terribly at everything it does. Will Conservative MPs do anything about it?

Testing failure

So for many visits to grandparents are off. No one should dispute that the government needed to do something after a sharp increase in the number of positive tests. However there is also no doubt that one of the factors pushing them to act was the partial collapse of the test and trace infrastructure. Stories of people being told their nearest test was tens or even hundreds of miles away, or that no tests were available, abound, and now we have leaks of hundreds of tests being thrown away because they cannot be processed and cases returning to care homes.

The specific reason for this failure remains unclear. Keir Starmer tried repeatedly at PMQs to get some explanation from the Prime Minister, but the best Johnson could manage is that demand was high. Which of course was completely unforeseeable with schools going back and other forms of increased mixing encouraged by this government. Matt Hancock at one point blamed people who were not meant to get a test being tested, which is the first time he has ever suggested that some people should get tested and others shouldn’t. At least the director of NHS test and trace had the decency to apologise.

As an aside, the inability of the Prime Minister to either answer straight forward questions or handle any kind of detail at PMQs is a sign of his own personal incompetence. His initial response to criticisms of how his government is performing is to suggest that somehow the leader of the opposition is unpatriotic to even question such things, and he comes close to suggesting that to be an opposition is itself unpatriotic, which of course is the typical stance of a autocratic populist. In other words PMQs are a clear demonstration of the kind of administration Johnson runs and his severe inadequacies. No wonder Cummings makes sure he avoids scrutiny on a scale far in excess of any  previous Prime Minister 

The underlying reason for the failure of the UK’s testing system, just at the point it is most needed, stems from this government’s decision to outsource the whole operation to private companies (but still calling it NHS test and trace in their usual duplicitous way.) Starmer has been right to highlight testing failures, but so far has failed to link it explicitly to the privatised system which many voters will not be aware of. This privatised system is also a big reason why the source of the failure is unclear: when you farm things out to private companies who then delegate to other companies, getting to the truth quickly is hard. The money would have been much better spent increasing the budget of local authority public health teams, and backing that up with government oversight that could get additional resources to hotspots quickly.

Looking at France, Spain and some other European countries, it may be tempting to conclude that nothing could have stopped a rebound in cases. If you are tempted to think that way, consider New York, where there is no sign of any rebound. As Miguel HernĂ¡n suggests here, New York has so far avoided a rebound by having more tests, more tracers, and being more cautious in opening up social consumption like eating out. Sunak may come to regret his £10 off meals idea. But Spain and France, as with last time, were a warning to the UK. And just as last March, the UK government took no notice and made things worse, 

It is just so typical of this government that at the moment they are having to restrict individual freedom partly because of the failures with their own testing system, they announce a grandiose scheme to test everyone everyday, or something like that. At a cost of £100 billion, which is the same order of magnitude as the annual NHS budget. From the people who gave us a testing system that cannot get enough tests today, do we think that this £100 billion will be spent wisely? Even if it works, will it be value for money, will it detract from getting the current testing regime right, and will it be quickly superseded by a vaccine. Johnson’s record on these things (Garden Bridge anyone?) is not good, but like all autocrats he loves grand projects, and there is nothing we can do to stop him wasting yet more public money.

Breaking the law

The decision to break the Withdrawal Agreement (WA), an international treaty, is quite shocking but it shouldn’t come as a surprise. As I noted at the time, Johnson only got the ERG to agree to his deal because his partners in crime told them it could all be changed later. Either the ERG was being duped, or they were being told the truth, and with Cummings and Gove running the show it was always likely they were being told the truth. Of course it makes a nonsense of everything Johnson said during the election about his deal, but this is the Vote Leave team that lied through their teeth to get the result they wanted in 2016, so why not do it again in a General Election? If his track record counted for anything, the media would ignore every word he says. (Oh, and ministers are almost certainly breaking the ministerial code,but don’t expect that to worry them.)

What we don’t know is whether this is a piece of theatre to detract from pandemic failings and taunt Starmer at PMQs with being a Remainer, or their idea of a negotiation tactic, or the start of a futile and costly trade war. I think we can discount the first possibility. Although this government is in continuous campaign mode, this explanation seems unlikely because, as Chris Grey observes, this move has been in the planning for months, and as I suggest above was thought up before the last election.

Putting down domestic legislation allowing the government to break the WA may be the government’s idea of putting pressure on the EU to get a better deal. In reality it will make the EU less likely to trust anything the UK says and determined to drive a hard bargain. Brexiters have never understood how you negotiate when you are the weaker partner. The damage to the UK from this negotiating tactic goes well beyond the EU negotiations, and includes what is left of our international reputation and a US trade deal.

The third and most worrying explanation is that Johnson has decided that no deal is his preferred option, and hoped this action would make the EU break off negotiations. The fact that they had every right to do so suggests he doesn’t fear no deal. The problem with blowing up the negotiations by revoking the WA is not just the short term disruption and the longer term hit to UK industry, although all that is bad enough. By breaking the WA the government is threatening to reopen the Irish border issue, and that could lead to a full blown trade war.

Everyone with any sense knows that there has to be customs checks between the UK and the EU. The Withdrawal Agreement puts those checks in the ports on the Irish Sea - between Northern Ireland and the rest of the UK. The only other place those checks can be is the border on the Irish mainland, and anyone who wants to retain peace in Northern Ireland wants to avoid that. (Gove, however, compared the Good Friday agreement that gave Northernn Ireland peace to appeasing the Nazi’s in the 30s, so he has no worries on this account.) But if the UK fails to impose the necessary checks on the Irish Sea, what is the EU going to do? They will not just give in and accept a border on the mainland.

The same applies to state aid. If the UK decided it was going to subsidize some part of UK industry to gain a competitive advantage over EU industries, the EU’s ultimate sanction is to impose tariffs on the goods or services that these subsidized UK companies produce. As Northern Ireland is in the same tariff zone as the EU, it cannot apply that sanction to any Northern Irish company, so any such company (whether based in Northern Ireland or not) has to be subject to EU state aid rules. If the government is saying they didn’t understand that at the time they signed the WA then they are not fit to govern, but in this case they are just lying as usual.

If the EU will not accept a border on the mainland, what will they do if the UK refuses to put one in the Irish Sea? The ultimate sanction the EU has is to restrict exports of UK goods into the EU in some way or other. Ending the WA in the absence of a deal can only mean the beginning of a trade war with the EU. The UK cannot win such a trade war, because the EU knows it will hurt the UK much more than it will hurt themselves. Perhaps that is the outcome Johnson relishes, so he can pretend to emulate his hero Churchill. But would the party that got rid of Thatcher over the poll tax really stand by as whole UK industries collapsed, and farmers dumped the produce they could not sell in Whitehall?

The Conservative Party

Johnson, Cummings and Gove are all very different from Trump, but their actions are similar to Trump’s. They are happy to override or destroy every element of our pluralist democracy, but are incompetent at government. Until now they have got away with it because they were popular with enough voters and very popular with their base. Most Conservative MPs will suffer most things to retain power, including a Prime Minister that likes suspending parliament. They chose Johnson knowing all his faults because he was the man who could save their seats and keep their power.

However the failures of government that occurred before recent events have had an impact on this government’s popularity among voters, and I suspect these latest events will continue to eat away at their support. Many Leavers will be annoyed that something they voted to get done is back in the headlines again, and voters can see the faults with the government test and trace system. If the government provokes a trade war, then we will see how far manufactured nationalistic bluster can carry voters through economic disaster.

Conservative MPs now have a choice. Do they go down with the sinking ship that is Cummings/Gove/Johnson as it destroys the fabric of UK democracy and becomes steadily more unpopular because of its failures, or do they call a halt to all this. Things are not going to get better, because these three are incurably incompetent as well as destroyers of democracy. The time to call a halt is now, by telling Johnson that Cummings has to be confined to campaigns and kept well clear of government, and the internal market bill that breaks international law must be withdrawn . If they don’t, the Conservative party becomes the party of law breaking that despises democracy. It will go down the rabbit hole that the Republicans have in their blind support of Trump.

There is some puzzlement about whether Johnson represents an end to neoliberalism as the dominant ideology of the party. I think that is the wrong way to think about what is happening. Neoliberalism contains a dynamic that tends to lead to autocratic plutocracy sustained by a culture war. Conservative MPs and the cabinet remain fundamentally neoliberal, as is evidenced with the UK’s test and trace system. If there is a change, it is from abandoning the attempt to squeeze the state to reduce taxes that austerity represented, to a belief that the state is a pot of gold that certain companies can plunder.

What about spending lots of money to create a tech giant, as Cummings seems to want? Does that represent an end to the idea that the state should not try to pick winners, which among neoliberals follows from a distrust of the abilities and motives of government. Not really, because it will be Cummings rather than any kind of government apparatus that is doing the picking, and it is the idea of an individual (Cummings) rather than a movement. It will be a bit like our privatised track and trace: a lot of money wasted in failure that will make certain individuals - including associates of Cummings - richer. Politics under a plutocracy always involves the mad ideas of those in charge: just look at Trump. The key question of the moment is whether Conservative MPs will allow this to happen.

Wednesday, 9 September 2020

In the UK Treasury cutting the deficit generally takes priority over the health of the economy

The UK Treasury bears some responsibility for the disaster of 2010 austerity, yet it has not accepted or understood the mistake it made. As a result it risks repeating the mistake, albeit in a milder form.

The problem is that fiscal prudence is basic to the way the Treasury operates, and with few exceptions other priorities, including the macroeconomic health of the nation, are not allowed to get in the way of that goal. Only the most determined Chancellor can change that. It is a longstanding problem. Back in the 1960s Harold Wilson tried to solve it by creating a separate ministry, but the Treasury maintained its power.

This was a key issue for the Kerslake review, of which I was a member. As we noted, the problem of prioritising the public finances over macroeconomic goals has got worse in recent decades, with outsourcing stabilisation policy to the Bank of England and fiscal forecasting to the OBR. This transfer of powers has weakened macroeconomics within the Treasury, because the idea was that macroeconomic stabilisation had been delegated to the Bank of England. The possibility that fiscal policy would need to be used for macro stabilisation when interest rates hit their lower bound was not on the raidar, and remains alien to Treasury thinking.

Of course politicians are ultimately in charge, but the Treasury can have a powerful influence on ministers' thinking. In 2009 the Labour government was, to its great credit, determined to combat the recession that followed the Global Financial Crisis (GFC) with fiscal stimulus, but the Treasury convinced Alistair Darling to publish forecasts that included substantial fiscal contraction during the recovery phase. If Labour had remained in power and the recovery had faltered as it did in reality (less likely because Labour's austerity was not front-loaded), it is unlikely that these austerity plans would have been enacted. However the key point is that it should not have been part of any fiscal plan for at least the first few years of the recovery. Its political impact was to give ammunition to deficit panic in the media.

In 2010 it was a briefing from the Treasury that helped convince the Liberal Democrats that the harsh austerity in the Cnservative programme was necessary, even though it wasn’t in the Liberal Democrat manifesto.

Despite all this, and many suggestions made to us, the Kerslake review did not recommend splitting off macroeconomic policy from the Treasury. Instead it recommended greatly enhancing its macroeconomic capability, as part of a general remit to look at major risks to the economy. The obvious risk at the moment, besides the resurgence in the pandemic itself, is that premature tax increases will stifle a full recovery from the pandemic (when the pandemic ends), and some of what should have been just a temporary fall in demand gets hard-baked into a permanent fall in the size of the economy. There is a strong case that this happened after the GFC as a result of austerity.

It is important to distinguish between two different questions, and mixing the two can lead to the kind of confusion I highlighted in my last post. The first question is whether taxes will have to rise at some point as a counterpart to politically essential higher levels of public spending. My guess is that it will to avoid interest rates going too high, but it’s a guess and I could be wrong.The second question is whether taxes need to rise anytime soon. The right answer to that question is no, because interest rates remain low as we are early in the recovery phase following the pandemic. Any increase in taxes before significant increases in interest rates will reduce the strength of the recovery.

In some respects the damage is already happening. Consumers that can will look forward when planning spending, such that expectations of future tax rises will have some impact on consumption today because of consumption smoothing. (An exception is expectations of a future VAT increase, which can stimulate consumption before the tax rise.) The Treasury and the Chancellor have let it be known that tax increases are coming since May (e.g. here, and more recently here), creating exactly those sort of unhelpful expectations.

In addition, the Chancellor is also showing little flexibility over the furlough scheme, in contrast to neighbouring countries. Once again the justification appears to be the financial cost (a larger deficit), which puts that above the cost of large increases in unemployment. As I have noted before, an obsession with re-opening the economy as fast as possible after the first COVID-19 peak is also counterproductive.

As Chris Giles has noted, there is an obvious motive for the Chancellor to raise taxes sooner rather than later, and that is the election in 2025. The Chancellor is among those who think taxes will need to rise eventually, and he would rather increase them sooner rather than a year before the election. As is often the case, the politics is not helping the economics. We have been here before of course. Osborne front loaded austerity for the same political reasons, which stopped the post-GFC recovery in its tracks.

Tuesday, 1 September 2020

Will taxes have to rise?

That is the question addressed in this debate between Jonathan Portes and Bill Mitchell. I found the discussion very frustrating, because it is really a debate about medium term inflation forecasts dressed up as something more fundamental. Both Mitchell and Portes agree that there is no need for taxes to rise to ‘pay for’ the fiscal costs of the pandemic. In an age of ultra-low real interest rates, shocks to the debt to GDP ratio like the Global Financial Crisis and the pandemic should be allowed to gradually wither away as growth outstrips interest rates on that debt. Trying to reduce debt by running deficits close to zero, or even surpluses, as Osborne tried to do, threatens to derail a full recovery.

I think it would be fair to say that the argument from Jonathan Portes is that we should increase the share of current public spending in GDP in various ways over the next few years, and without higher taxes, or substantially higher interest rates, that will at some point lead to a permanent rise in inflation above target. To prevent that, taxes should rise. Bill Mitchell would agree that public spending should rise, but he doesn’t think inflation will rise as a consequence. If inflation did rise, it is standard MMT (at least according to Stephanie Kelton) that fiscal policy should be the “primary tool for macroeconomic stabilisation”. Thus the debate between the two on whether taxes should rise is essentially a disagreement about medium term inflation forecasts.

This point is illustrated in the final statement from Bill Mitchell. He writes:

Should the government seek to command a far bigger share of productive resources—say, for a green transition—then, yes, perhaps tax rises would have a role in offsetting the extra spending and warding off inflation.”

Jonathan Portes might well respond that his argument is premised on just such a situation. In his opening statement he writes:

And as well as more on the NHS and social care, structural economic shifts—from the aftermath of Covid-19 to decarbonisation—will mean more is needed for education and training. We don’t need higher taxes to pay for the virus; but the virus has exposed, economically, socially and politically, that we need them to build a better future.”

This illustrates that there is no disagreement in principle here, but just a disagreement about what levels of public spending increase would tend to lead to above target inflation. Indeed as these quotes suggest, there may not even be a disagreement here, but just a distinction between what should happen to public spending (Portes) and what is likely under current or prospective governments (Mitchell).

I want to argue that the whole debate about whether taxes should rise to pay for additional public spending is unnecessary. We can afford to wait and see. If inflation does appear to be permanently rising above target, you can be sure that the central bank will raise interest rates to bring inflation back down. Exactly when central banks should act is a live issue right now in the US, where the Federal Reserve has decided it will allow inflation above target for some time to ‘make up’ for inflation being below target in the past. But important though this change is, it remains the case that no independent central bank worth its salt is going to allow inflation to permanently rise above the inflation target.

It is only when central banks start raising interest rates in earnest that governments need to think about raising taxes. By raising taxes they reduce the pressure on aggregate demand and inflation, and therefore moderate the extent to which interest rates need to rise. It would be foolish for governments to make the same mistake that central banks made before the pandemic hit, and try and anticipate what might happen to inflation based on outdated ideas about the NAIRU. [1].

What about deficits? Isn’t good fiscal policy all about trying to achieve sustainable deficits (deficits that stabilise the government debt to GDP ratio)? As Jonathan Portes and I have argued, those rules should not apply when interest rates are stuck at their lower bound. When interest rates are at their lower bound, fiscal policy should become the primary tool for macroeconomic stabilisation. When interest rates are at their lower bound, standard academic macro and MMT should be on the same page.

While academic macroeconomists now generally accept that fiscal consolidation is a bad idea when interest rates are at the lower bound, the UK Treasury appears to think otherwise. There is much talk of tax rises or spending cuts to 'pay for the (fiscal) costs of the pandemic'. No doubt this will be justified by OBR forecasts and talk of structural deficits, just as it was in 2010. But whether its spending cuts or tax rises, fiscal consolidation coming out of a recession where interest rates are at the lower bound risks turning what should be a temporary downturn into a permanent fall in output.

[1] The changes at the Fed are welcome, because they address an error that central banks have been making since the Global Financial Crisis (GFC). Before that crisis, they tried to guess where inflation would go in the future by looking at forecasts and indicators like unemployment, and they were pretty successful at that. But, as some of us argued at the time, after the GFC it was foolish to continue in the same way, because the crisis had fundamentally changed the way the economy worked and because the risks of getting it wrong were asymmetric.

Tuesday, 11 August 2020

The political economy and psychology of COVID rebounds

You can call it a second wave, or a resurgence of the first wave. But whatever you call it we are seeing in some European countries a steady (and occasionally rapid) increase in new cases after a longer period when new case numbers have been coming down or been stable.

A good reason to not call this a second wave is that the first wave never went away. Changing social behaviour, aided by government support and a lockdown, reduced new case numbers rapidly. However governments relaxed the lockdown before new cases fell to almost zero, and so domestic transmission continued at a low level. But why have the number of new cases started increasing in the last few weeks in many countries, after a period of apparent stability?

The simplest answer to this question is why shouldn’t they. The natural development of the virus is to create an explosive increase in cases. The first wave didn’t come near to creating herd immunity, so if people started to behave as they did before the virus emerged a second explosion is the inevitable result. What governments and those advising them must have hoped is that

  1. social behaviour had been sufficiently scarred by the pandemic that people didn’t relapse into pre-virus behaviour, and instead that they continued to social distance, wash their hands etc

  2. changing social behavior was sufficient on its own to keep R at or below one, even though the economy returned to normal, and most social restrictions had lapsed.

  3. the country’s track, test and isolate (TTI) technology was good enough to deal with any local outbreaks.

Even if (b) and (c) are correct (and there is no certainty they will be), there is the danger that (a) is a function of the length of time since the initial pandemic. This will be true particularly for an age group where the virus is much less of a personal threat. It is therefore quite possible that the economy remains depressed because a large group of people worry about resuming their previous levels of social consumption, and at the same time another group of people are happy to forget about the pandemic altogether.

Another factor that may account for the recent pick up in new cases is the increased social mixing that generally comes from taking holidays. Someone who has an asymptomatic case of COVID-19 could possibly infect not just their usual social circle, but also all the people they meet on holiday. Such cases, because they transcend local areas, may be more difficult for TTI to deal with.

Why were governments so keen to end the lockdown? The political economy here is pretty obvious. Governments are under pressure from business, together with individuals.who fall through or are substantially disadvantaged by the government’s support apparatus. Because social consumption is such a large part of the economy, this pressure from social consumption sectors can be intense. For the holiday industry, almost a whole year’s business may be lost over a few summer months.

In addition governments start worrying about the cost of the support they are giving. Just the hint that the current level of support may be reduced is also enough to get individuals and businesses putting pressure on governments to relax the lockdown as soon as possible. National Treasuries may add to that pressure. Finally there is the ideology of neoliberalism, which can elevate the economy to become an entity that is more important than the people within it. That influence is very clear in the UK. (Whether the UK is on the point of joining other countries suffering a COVID rebound is difficult to tell, but in some parts it probably is.)

At some point the rise in cases in some countries may force them to reimpose elements of lockdown, particularly when schools reopen. There is a danger of a cycle of periodic lockdowns as cases rise and then fall, at least until a vaccine is available. One possible alternative is to make elimination of COVID-19, rather than just its suppression, the goal of each national government. Few governments have made elimination of COVID-19 their goal, with three exceptions being New Zealand, Scotland and Northern Ireland.

Why might elimination be a better strategy? Individual psychology is shaped by social (in this case government) goals. Most governments have focused on changes (the first derivative), then people and so typically the media has done the same. If cases are rising you throw everything you have at the problem, if cases are falling you can steadily relax any lockdown, but if cases are steady (and governments tolerate that) COVID drops down the news lineup. So (a) above is more likely to fail if governments focus on changes rather than elimination.

If instead the focus becomes eliminating any new cases then initial lockdown might be a little longer, but you could achieve some positive results. First, those that are naturally cautious know that it is safe to resume social consumption, and so the economy recovers more completely, although with bigger short term costs. Second, you would save more lives. Third, and this is much more speculative, if new cases start to emerge that becomes headline news and it receives the full attention of government and TTI resources (see very recent developments in New Zealand). However New Zealand’s success with this strategy owes a lot to enforced quarantine for anyone travelling from overseas, which would be more difficult for most other countries.

I do not know whether an elimination strategy would be more successful at avoiding the kinds or rebounds in cases we are seeing in many European countries, but what is very surprising is that there seems to be little public debate on this question outside Australia. There should be a lot more debate in the UK beyond the pages of the Lancet, given the different strategies pursued by the different nations within it. With previous administrations we would expect some kind of strategy document from the UK government on something so important.

Still knee deep in boxes, so next post will be in a few weeks time.

Tuesday, 21 July 2020

The reality behind fiscal scare stories, or mediamacro is alive and well

If you listen to the broadcast media, you will have almost certainly picked up the message that at some point in the near future the Chancellor is going to have to raise taxes or cut spending to ‘pay for’ all the support to the economy during the pandemic. At least the Financial Times has learnt the lesson of 2010, and notes in this editorial that the Chancellor
“must hold the line and resist attempts to push the UK into a premature fiscal retrenchment. Cutting spending in the middle of the worst recession since the creation of the country would be a historic blunder and make Britain poorer in the long run through unnecessary unemployment and business failure.”

If only they had said the same in 2010.

But they add “Eventually the bill for the crisis-fighting measures will come due.” This is also the message of the latest report from the OBR. We can see what they have in mind from this chart.

The upper dotted line is the OBR's worst case scenario. Next one down is the central scenario, followed by another dotted line which is their best case scenario. The other lines are previous forecasts.

All the scenarios, including previous pre-pandemic forecasts, show the same underlying instability. The difference is that as a result of the pandemic, this instability kicks in around the end of this decade rather than sometime in the next decade. Here we get to the crucial point I want to make. For the next five years, in its central forecast public debt moves either side of its projected level for 2020/1 of 104% of GDP. (For each year thereafter: 104, 105, 106, 102.)

The implication is that there is no immediate need for large scale fiscal tightening when the economy recovers. The deficit will be higher than we are used to, but with a higher level of public debt and very low interest rates the level of the deficit that stabilises this debt is also higher. Thus there is no immediate need for substantial tax increases or spending cuts immediately after the recovery is complete. According to the OBR something will need to be done after the general election, but I doubt any Conservative Chancellor will raise taxes substantially ahead of a general election based on OBR forecasts alone.

So the big news from the OBR’s report is not only that there is no immediate need for fiscal consolidation, but if the economy recovers according to its central scenario and it has got its fiscal numbers right, there is no need for substantial fiscal consolidation once the recovery is over. A permanent hit to UK output, which in other circumstances would lead to an unsustainable deficit, has been offset by the impact of low borrowing costs and a higher level of debt. Of course the OBR may turn out to have been too optimistic, and their pessimistic scenario does show debt rising through debt rising a bit between 2020/1 and 2024/5.

So why all the talk of fiscal gloom? (Not quite all. Ben Chu at the Independent has made the points I make above.) Are they reflecting what the OBR says? The report is called the “Fiscal Sustainability Report”, so you would expect them to flag the long term instability. But the final paragraph in their summary ends with this:
“in almost any conceivable world there would be a need at some point to raise tax revenues and/or reduce spending (as a share of national income) to put the public finances on a sustainable path.”

It seems that too many ignored the crucial three words “at some point”.

All this illustrates how deep seated the “deficit up = taxes will rise or spending will be cut” meme is. Of all the important economic stories that arise from this stage in the pandemic, the consequences for the deficit and future consolidation is not one of them. I guess one reason these stories are popular is that they are potentially relevant to everyone. Another is that they are so easy to write. Let us just hope that this time around politicians on all sides are not taking them seriously.

Posting may not happen for two or three weeks, because we are finally moving house..

Tuesday, 14 July 2020

Why the election for a new Liberal Democrat leader could be the key to voting Johnson out

I would normally have commented on what the Chancellor announced last Wednesday, but much of it was covered in my post last Tuesday where I talked about vouchers, VAT cuts on social consumption, green investment, and unemployment support. The only issue with what he did was that he should have done more of all those things. 

I did not, in that review of interesting policy options, talk about his cut to stamp duty or his £1000 bonus if firms re-employ a furloughed employee, because the former is tried and tested and the latter is not a good policy. The number of firms where that £1000 will make a difference is likely to be very small. The main beneficiaries are companies that do not need help to continue, rather than those who are in trouble because of the pandemic. Which is why the head of the HMRC does not think it is value for money.

Some criticised Keir Starmer for saying the country cannot afford such a costly measure with so little effect, because he implicitly dared to suggest that there was a constraint (beyond inflation) on what the country could afford. The implicit suggestion from some is that there are no limits to what government debt can be. When interest rates control inflation that suggestion is in my view incorrect. While a government that issues its own currency can never be forced to default, it can choose to default (or more likely force the central bank to raise inflation) because the tax burden required to service debt gets too great. While that is a remote possibility today, particularly while real rates are so low, it is prudent not to increase government debt for no good reason. One day real interest rates will rise and then it will be costly to adjust debt quickly. Don’t mention the deficit is a kind of overreaction to austerity. Which brings us to the contest to be next Liberal Democrat leader.

You can frame this contest in many ways (see first hustings here), and one is about the legacy of austerity. Ed Davey was a cabinet minister in the Coalition government that embarked on one of the biggest post-war macroeconomic policy errors since WWII. The other remaining candidate, Layla Moran, was first elected in 2017, and is on the left of the party. Austerity is no longer de rigueur in the Conservative party of Brexiters, but its legacy is still very much with us. Among voters on the left, those who were in positions of power during the austerity period will not be forgiven.

It is not just among the left where the realisation is growing that austerity was a massive error. As a result of the pandemic the government’s deficit is likely to rise well beyond levels seen during the recession that followed the Global Financial Crisis. Yet, if you believed the LibDem leader back in 2010 that we were on the verge of a funding crisis, it is odd that no one is talking about a funding crisis today. It looks increasingly likely that the only material difference between the two episodes is that back then Labour were in power when the deficit rose, and today it is the Conservatives. Either the LibDem leadership at the time shared the Tory desire for spending cuts, or they were duped.

Why does that matter? After all, in most of the contests where the LibDems have a realistic chance of winning or losing it is a Conservative who is the realistic alternative. Following the logic of triangulation, the LibDems just need to be a little to the left on economic policy compared to their Conservative opponent. Anyone further left is less likely to win over voters who would otherwise vote Tory. I have seen this logic used by many supporters of Davey, and I think it is best incomplete

The triangulation logic is based on there being two parties in the relevant contests. In reality there are at least three. As a great believer in tactical voting against the Conservatives, I am always struck at each election at how many Labour votes there are in many LibDem target seats. One of the problems I consistently found in trying to persuade Labour voters to vote LibDem in LibDem target seats in the last election was austerity. More than once I was told ‘I cannot vote for the LibDems when their leader was part of the Coalition austerity government’. Winning target seats is about winning over ex-Labour voters at least as much as it’s about winning over ex-Tory voters.

There is a further point to make. I really doubt that many of those who might switch from Tory to LibDem are going to be familiar with the details of the LibDem manifesto. As long as that manifesto is safe in not containing anything the Tory press can effectively use to frighten voters, whether the LibDem leader is to the left or right in LibDem terms probably matters little. What matters much more is their record. To quote Wera Hobhouse:
“Anyone who voted for coalition policies and, more importantly, anyone who directly served in the coalition government, has a record of supporting and steering a centre-right agenda. Andrew Neil and the wider media were all too quick to point this out when, as leader, Jo Swinson attempted to position herself as progressive.”

Whatever Ed Davey may call himself today, his voting record is not centre-left.

Historically the LibDems have done well when there is widespread dissatisfaction with the incumbent government, particularly Conservative governments. In 1964 their vote share almost doubled compared to the previous election. It more than doubled in 1974 compared to 1970. It rose from just under 14% to over 25% in 1983 relative to 1979. It rose from just under 17% in 1997 to 23% in 2010. Its share today is now well below those heights in part because it is still associated with the Coalition government. The new LibDem leader needs to offer a clean break from that past.

It might seem attractive to some to put aside all thoughts of influencing the government (even Davey has rule out another coalition with the Tories) and try to become the Conservative party that Johnson/Cummings either expelled in 2019 or sidelined in 2020. However there is no future for such a party. As we saw with UKIP, the Conservatives are very good at absorbing any opposition to their hegemony on the right. For the Conservative party Johnson/Cummings are an aberration caused by a referendum gamble that didn’t pay off, and as long as our pluralist democracy survives that aberration is unlikely to last long, and certainly will not survive an election defeat.

The big picture is that the priority for any LibDem or Labour party member, or indeed anyone in the centre of UK politics, should be to preserve our pluralistic democracy and get rid of the Johnson government at the next election. The LibDems need to be part of helping speed the demise of this government. If the Tory lead before the next election is as solid as it is now, then some form of cooperation between opposition parties will be vital in defeating the Conservatives. Whatever form that cooperation takes, it will be made much easier if a minister from the austerity government is not leading the Liberal Democrats. Tribalism prevented cooperation happening in 2019, and leaving the EU plus tens of thousands of unnecessary deaths have already been the consequence. Repeating the same mistake again would be unforgivable.

Tuesday, 7 July 2020

Sabotaging the recovery

I wrote last week about how a premature easing of lockdown in the UK would cost many more lives. This post will be about how it is also likely to create a weak recovery where some businesses will go to the wall and many jobs will be lost.

A good starting point in thinking about the kind of recovery we could have is to think about synchronized holidays, like Christmas or the summer holiday in much of France. Most of the economy closes down for a few weeks, but starts up again without any long term harm done. You get a V shaped recovery, which we never notice because it gets seasonally adjusted out of the data.

A few months is not fundamentally different from a few weeks, if the government provides sufficient support to firms, the self employed and individuals? The absence of such support gives us the first reason why a recovery might not be V shaped. Yet the UK government’s support over the last few months has been reasonably good, albeit with some notable exceptions.

After a holiday involving a few weeks, consumers’ preferences will be unchanged. Is the same true of a pandemic? If the virus has disappeared for good, or immunity against the virus is complete (with a vaccine, say), there seems no compelling reason to believe otherwise, although overseas travel will require the virus to have disappeared in other countries as well. Perhaps some consumers might initially not believe the virus has disappeared, but this might be offset by other consumers spending more time on social consumption than normal in celebration that the pandemic has ended. In some sectors this second effect could even lead to a larger recovery than the initial recession.

The main reason a V shaped recovery is not going to happen in the UK is because the virus has not disappeared. Compared to other European countries the number of new infections remains high, and as a result many consumers will be understandably reluctant to resume their normal patterns of social consumption. If the government also withdraws support from social consumption sectors, this inevitably means firm closure and firm downsizing, leading to a large increase in unemployment. Restoring confidence in countries where the virus has largely disappeared will not be easy, but that task is much harder when the risks of catching the virus are non-negligible.

There is a further hurdle in the face of a recovery that this government has created. Whatever the new number of infections are, will consumers trust the government when they are told they should resume social consumption? Almost everything the government has done to combat the virus has been a failure. The latest is withholding until recently Pillar 2 data from local authorities and the public. When people are told it’s their civic duty to resume social consumption, rather than simply being told what the risks of doing so are, they are bound to be suspicious of the government’s motives, and who can blame them.

The continuing high level of infections and lack of trust mean that many consumers will not resume social consumption. This poll shows that people’s perception of the risk from the virus has recently increased. This is the inevitable result of prioritising the economy rather than getting new infection numbers right down.

So what can be done? The government is not going to drive new infections down much lower by opening up pubs! It is not going to get trust back anytime soon. Can the Chancellor encourage reluctant consumers to resume social consumption by some means? A general fiscal stimulus, in the form of a tax cut, is unlikely to do much in this respect, because most of it will be saved. Furthermore what is spent is likely to go into sectors that can make a reasonable recovery, like clothing and consumer durables. Other forms of standard fiscal stimulus, including a VAT cut, are unlikely to avoid large scale redundancies from social consumption sectors.

The Resolution Foundation has a more interesting proposal, which is to give vouchers that are time limited that can be spent in vulnerable social consumption sectors (and which are switched off if a second wave appears and we have to go back into lockdown). This is the kind of sector specific stimulus we need. Another possibility would be a temporary cut in VAT on social consumption goods.

Even with such schemes, we are unlikely to see a full rebound in social consumption for some months to come. In a few specific areas social distancing means venues will inevitably be operating at a loss. Subsidies of various kinds to keep firms going and to avoid as far as possible large scale redundancies will be necessary.

While a general fiscal stimulus will not solve sector specific problems, if interest rates remain at their lower bound there is strong a case for economy wide fiscal support. Aggregate demand may remain low as investment is depressed by Brexit and uncertainty about a second wave. If the Chancellor is looking at ideas for what this stimulus could be, or more generally in how to meet our climate change goals, here is a report from NEF.

However unemployment will inevitably remain too high. As Paul Gregg notes, this prolonged recession will be much more unemployment intensive than the recession after the Global Financial Crisis. But just as fiscal stimulus can be regarded as an opportunity, so job losses can be seen as a chance to reskill the UK workforce, along the lines suggested by Jonathan Portes and Tony Wilson. However some of those working in areas where social consumption is low because of the pandemic may wish to remain in those sectors once demand picks up because new infections decline significantly or a vaccine is developed. It is worth noting that a Job Guarantee, if such a scheme existed, would provide an excellent chance for these people to do something useful in this enforced break in their careers.

These are all policies that will have much more work to do because this government made yet another error in their handling of this pandemic, which was to ease the lockdown while the number of new infections was still quite high. Most experts, and indeed most academic economists, understood it would be an error before it happened. It is an error that could sabotage what might have been something close to a V shaped recovery.