Budgets are about much more than fiscal sustainability

 

Ben Zaranko of the IFS has just published a paper on fiscal rules. It is well researched and well written, but I disagree with its conclusions. For those interested in the subject I strongly recommend reading the paper. Here I will restate his main argument, and say why I disagree with his solution. I will also add what I think is the main problem with the current fiscal debate, and it has nothing to do with fiscal rules.

Problems with the current system

For clarity, let me focus on the current situation where the golden rule (taxes match current spending) is binding, and ignore the other fiscal rule (falling debt to GDP) which is terrible and should be abolished. This also happens to be the fiscal set-up that I prefer. Ben has a section (“Why not focus solely on the current budget balance?”) where he notes two potential problems with this set-up. I will add a third, which he mentions in his introduction.

1. The golden rule does not ensure ‘sustainability’ because it excludes public investment.

2. Volatility in the forecast will lead to volatility in policy.

3. In practice this rule is supplemented with a variable amount of headroom which leads to various problems.

I will deal with each problem in turn.

The first disappears when you recognise that there is nothing magic about zero for a target for the current budget deficit. It could equally be a target for a 1% surplus or deficit. Which it should be is governed by the society’s long term goals. Suppose, for the sake of argument, that everyone agrees government debt should be around 50% of GDP in fifty years time in the absence of major shocks. [1] The target for the current balance should be consistent with that long term objective.

Working out what current balance target corresponds with achieving that longer term objective involves various assumptions, like what the average real interest rate will be over the next fifty years. It will also include what the average level of public investment will be. It really is irrelevant in this respect whether that investment is partially ‘self-financing’ or not. Once those assumptions are made, working out what the current balance target should be becomes a calculation that can be done on a spreadsheet, but it would be good if the government could periodically (every few years) show that calculation. [2]

The second problem sounds more serious. To quote Ben:

“the framework and the way it has come to be operated mean that when forecasts move around – as they inevitably do – policy has to respond, often in a rush and with a spurious degree of precision. This does not make for good policymaking ….”

A core principle of fiscal policy is that taxes and spending should be smooth, letting changes in borrowing absorb short term volatility. If forecast volatility is leading to spending or tax volatility, we have a problem.

However I’m not at all sure forecasts are volatile in the sense of moving randomly either side of an underlying trend, particularly if they relate to the medium term that excludes cyclical variation. (Which is one reason why targets should be for quantities five years ahead, not three.) My impression is that often forecasts respond gradually to real shifts in the economy (like changes in productivity, for example), leading to years where the fiscal corrections due to the forecast are of the same sign. For this reason, I think adjusting the public finances once a year to achieve a fiscal rule seems about right to me. (Doing this every six months was silly, as I said at the time.)

Which brings us to the third problem, which is headroom. Everyone seems to agree that it is sensible for the government to go beyond its fiscal rule and add a certain amount of headroom: a buffer to absorb shocks. But if medium term forecasts are not erratic, why do you need a buffer? Why not set policy to hit the fiscal rule exactly? The answer has to be that tax rates are round numbers, so it is never possible to hit a fiscal rule exactly, and trying to do so by adjusting minor tax rates or allowances would lead to distortions.

My own preferred solution to the problem of headroom is to have none, and treat the fiscal rule as symmetrical rather than as some upper limit. As I explained, headroom is a concept that makes sense at the individual or company level but makes no sense for a government. However the political reality is that although central banks are seen as being responsible even when they forecast inflation two years out a bit above their target, we seem to live in a media climate where a government occasionally allowing itself to have a bit less than 50% chance of meeting its fiscal rule is deemed unacceptable. As a result, governments will allow themselves headroom.

As Ben explains, headroom has only become a problem when it started to be set at persistently very small levels (his Figure 3.1), an ‘innovation’ introduced by Jeremy Hunt. (Hunt was a terrible Chancellor for many reasons.) As Ben also notes, Reeves has now gone back to something more like pre-Hunt headroom levels, so hopefully the problem of headroom has also now gone away.

A traffic lights approach

Ben’s solution to these perceived problems is to move from a single fiscal rule to a multi-indicator approach, where a number of measures would be looked at and they would be assessed with a traffic light system. It’s like having multiple fiscal rules, but where none is binding, so policy can fail on some as long as it meets others.

One problem with this is that it makes the problem of fiscal sustainability sound like a complex issue when it is not. I don’t need lots of indicators to work out whether my bank balance will go into the red in a few months’ time, and sustainability is really just a similar matter of arithmetic, albeit over a much longer time period and without a bank manager or overdraft. We have fiscal rules because politicians are not very good at raising taxes or cutting spending, leading to deficit bias, and one simple rule should be sufficient to correct this bias.

In addition, if you in effect have lots of targets, then how do we know when the government is avoiding ‘difficult decisions’ by spending too much or not taxing enough? You need an expert to interpret all the traffic lights. Traffic lights are great for people like me or the IFS, who will be called on to interpret all the red, yellow and green, but it is not good for public transparency.

With many targets you have a whole new set of problems. Are the targets consistent with one another, or are the assumptions that make them consistent plausible? In addition many indicators allow politicians to cherry pick the targets that happen to look OK even though sustainability is not being achieved, or alternatively it can allow the media to insist that most of the targets are hit, resulting in too tight a fiscal stance.

As I noted above, all you need to ensure governments are trying to ensure sustainability and avoiding deficit bias is one simple rule, and periodically the spreadsheet calculations that lie behind it. I think a good deal of the dissatisfaction that Ben and many others have about fiscal policy at present is that this issue of sustainability gets far too much focus, from the media and (therefore?) politicians. Ironically having a traffic light system rather than one simple rule will mean more, not less, focus on sustainability.

The real problem with fiscal policy is the focus on sustainability

But I do have some sympathy with Ben in that having a single target does make it appear as if the forecast is determining fiscal policy. But the fault here is with the media and politicians and not the target. Fiscal sustainability is just one aspect of fiscal policy, and in many senses the least interesting aspect. It may appear far more important than it really is because politicians have ignored or downplayed other key aspects of fiscal policy.

The most important microeconomic objective of fiscal policy changes is to achieve a coherent and fair system that provides appropriate incentives in the simplest possible way. We should be asking the Chancellor each budget what have they done to achieve this, rather than obsessing with how much headroom they are allowing for fiscal rules. Unfortunately the media typically only touches on the issue of fairness, by talking about winners and losers, and largely ignores issues of incentiives, efficiency and simplicity.

Just as there is a tendency for politicians to avoid difficult political decisions which then lead to deficit bias, there is also a tendency for them to go for tax changes that are popular in the short term but make the tax system both complex and inefficient and which provide the wrong incentives. For example Labour in opposition pledged to not raise taxes on working people, so it put up taxes on employment thereby reducing output. Not raising petrol duty gets favourable headlines, but as a result over the last decade the cost of driving a car has risen by less than the cost of rail travel and by much less than travelling by bus, which hardly provides an incentive for greener travel.

Creating fiscal rules and fiscal institutions like the OBR has helped reduce the problem of deficit bias. I don’t know how you incentivise politicians to focus on creating a more efficient tax system, but making achieving sustainability more complex is not the way to achieve that.

In addition, sustainability is not the only macroeconomic goal for fiscal policy. In the last budget the Chancellor had a clear aim to reduce short term inflation using various fiscal measures, with the goal of reducing both short and longer term interest rates. While the media picked this up, I saw very little discussion of the macroeconomic merits or otherwise of this strategy. Furthermore in a recession, of course, fiscal policy should be expansionary to support or replace monetary policy, and the fiscal rule should be suspended.

More generally, the stance of fiscal policy has implications for aggregate demand and therefore short term interest rates. While it is true that there is a broad relationship between financial fiscal rules and aggregate demand, it is not an exact equivalence. Hitting the golden fiscal rule will often imply a neutral medium term fiscal stance in aggregate demand terms, but not always. [3] In addition, there may be scope for influencing (in either direction) aggregate demand in the short run while keeping to fiscal rules in the medium term. By thinking about the impact of fiscal policy on aggregate demand the government is not trying to duplicate the Bank’s role in controlling inflation, but instead is trying to influence what short term interest rates the central bank will end up setting to control inflation over the forecast period.

Summary

The idea that the OBR forecast determines what a Chancellor does is understandable given much of the media’s coverage of this event. But it is also a big misunderstanding of what is going on. That the Chancellor has recently had to raise taxes to meet her spending plans and fiscal rule shows that the goal of ensuring fiscal sustainability is being achieved. In that sense it represents a success story. Replacing that fiscal rule with a set of traffic light indicators could put that success at risk by adding considerable confusion. However a Budget involves much moe important microeconomic and macroeconomic issues than fiscal sustainability, and if that doesn’t receive enough attention that is the fault of politicians and the media, not a simple fiscal rule.

[1] Whether that long term objective is reasonable would require far too much discussion for this post. Note, however, that a major justification for such a goal is that it allows space for debt to rise after major shocks, like a pandemic or a major recession.

Another point is if reducing debt over fifty years is a reasonable objective, what is wrong with the falling debt to GDP rule. The answer is simple, if you ask what this rule adds to the current deficit rule? What it adds is public investment, thereby undoing the good that is done by excluding it in the current balance rule. 

[2] Such a calculation is quite different from the 50 year projection done by the OBR. The OBR’s projection assumes current policies for spending and taxes, and calculates the implications for the government’s current balance. The calculation the government would do would assume the current balance target was met in each year beyond the five year forecast.

[3] In this sense there is no great contradiction between a focus on a medium term fiscal rule based on the government finances, and setting fiscal policy to eliminate inflationary pressure in the medium term. The financial reflects the real. MMT prefers setting fiscal policy to control inflation in the short term rather than using changes to interest rates to do this job.

How Labour makes fighting right wing populism harder

 

I must confess that this post will be very similar to one I wrote a fortnight ago. The big difference is that this is about this Labour government rather than the current Conservative party. Another difference is that while the trajectory of the Conservative party seems reasonably clear under its current leader, things are potentially more fluid with Labour. One commonality is that, up until now at least, the leadership of both parties have got their strategy seriously wrong.

You might think what right have I, a macroeconomist by trade who just dabbles in political economy, to make such a claim. [1] Well I could point out that many others who know much more about these things have been making broadly the same points as I have. I would also point out that over the past year or so what I and others predicted would happen has come to pass. Labour’s core socially liberal voter base has continued to either not vote Labour, or vote for the Green party, Liberal Democrats or nationalists. The argument that these voters will come back to Labour in a general election was flawed in part because it ignored what would happen before then. The events of the last two weeks alone have proved that criticism to be correct, with the architect of Labour’s strategy now out of his job. [2]

Another commonality with the Conservatives is the belief that if politicians sound, and in the case of this government act, like Nigel Farage on immigration and asylum seekers this will win them votes that are currently going to Reform. This is a colossal mistake. As I said two weeks ago, Farage owns these issues, and in Labour’s case there will always be enough asylum seekers crossing the Channel for Farage and the right wing press to suggest to social conservatives that the government isn’t doing enough. By sounding like Farage and acting as if what Farage says is true, all Labour is doing is giving Farage’s message additional airtime and credibility.

Furthermore there is an economic dimension that adds what Jonathan Portes describes as a doom loop. Restricting immigration has negative economic and fiscal consequences, which intensify not only dissatisfaction with the government but also adds to the anti-immigration views of many voters.

So Labour sounding and acting like Reform on immigration and asylum was likely to increase rather than decrease the Reform vote and reduce the Labour vote, which is what has happened. But it has been far worse for Labour, because sounding and acting like Farage is anathema to Labour’s core vote, which is socially liberal. This problem is particularly acute now because of the popularity of Reform.

The idea that Farage could become Prime Minister, and then start acting like his hero Donald Trump, is horrifying to Labour’s base. The elevated nature of the threat from socially conservative populism makes Labour’s base that much more sensitive to Labour behaving like Reform. In addition, Reform’s success means that ideas that were once seen as so inhumane as to be inconceivable are now on the agenda. In those circumstances, if instead of aggressively combating those policies the Labour government spends its time telling voters how problematic immigration is and asylum seekers are, and why cruelty is necessary to deal with these problems, then much of Labour’s base will not vote Labour. Continuing to supply some arms to a regime engaged in ethnic cleansing, and a failure to recognise that ethnic cleansing, does not help either.

Diagnosis of why Labour have lost their core base is crucial to understanding how to get it back. It is not just a matter of Labour ‘tilting left’, and sounding or acting more left wing on some economic issues (or bothering to promote the areas where they actually are left wing). The way to win their core base back is to start acting like a party that at least protects socially liberal ideals, even if it also recognises socially conservative concerns that are not imaginary. Another commonality with two weeks ago is that analysis that treats politics as one dimensional (left/right) misses this key point. Labour has lost much of its base not so much because it hasn’t been left wing enough in economic terms, but more because it has sounded and acted in an illiberal way.

Which brings us to Shabana Mahmood, Labour’s home secretary. Judging by both her rhetoric and actions, she is as committed as McSweeney was to the strategy that has been such a failure for Labour. Mahmood has recently asked for comments on proposed changes to settlement rules: how long immigrants have to live here, and under what conditions, before they would be granted indefinite leave to remain (ILR). A very good summary of the proposals is given by the Migration Observatory here. One noteworthy change is that refugees granted asylum in the UK would face a baseline waiting period of 20 years (!) before becoming eligible for settlement. Many have suggested that such measures, as well as being immensely cruel to those currently waiting for ILR, will also severely damage integration, which compared to some other countries has up until now been a UK success story.

These changes will undoubtedly find support from many Reform voters, but with the Conservatives and Reform bound to offer ‘tougher’ proposals it seems unlikely this will attract many Reform voters to vote Labour. As I suggested above, by keeping immigration and asylum seekers in the news as ‘a problem’ it will gain Reform votes. In contrast these proposals are pretty unpopular among Labour, Liberal Democrat or Green voters. Add to this Mahmood’s apparent wish to cut immigration numbers whatever their level, the Farage type rhetoric coming out of the Home Office, and Mahmood’s determination to keep proscribing Palestinian Action and therefore locking up grannies for holding placards, and there is plenty here to keep former Labour voters voting for socially liberal parties at least until the General Election.

It is a good sign that this Labour government is at last actively opposing extreme reactionary statements like those from Jim Radcliffe. But given the damage that has already been done, the occasional socially liberal statement will not be sufficient if the government’s actions continue to be illiberal and in some cases simply inhumane.

Many on the left may think that a continuing drift of Labour’s core vote to other parties is a good thing, because Labour under Starmer or either of the two leading contenders to succeed him is probably beyond repair. In a system where all elections are based on a proportional voting system this argument has some force, because then power reflects voting numbers and social liberals make up a powerful voting block. Broadly the Greens would take economically left leaning socially liberal votes, the Liberal Democrats right leaning socially liberal and some centre votes, Labour would take some left leaning socially conservative and many centre votes, and the Conservatives and Reform would fight over the right leaning socially conservative vote. Even in this case, however, social liberal parties are unlikely to be in the majority, with at best Labour holding the balance of power

Unfortunately under a First Past The Post (FPTP) voting system such an outcome is a recipe for the next UK government to be a Trump tribute act. Under FPTP, it is highly unlikely that a combination of socially liberal parties (the Greens, Liberal Democrats and nationalists) can win a majority of seats in the House of Commons, even if these parties could form a perfect pact between them to divide up seats before a General Election. According to current polls their combined vote total is around 30%, similar to Reform. But the FPTP system is biased towards social conservatives, because the social liberal vote is heavily concentrated in cities (partly because it is relatively young). [4]

Even if the Labour vote stayed at around 20%, it would still attract some voters in the political middle, allowing right wing social conservatives to win critical marginal seats. In addition we have a media environment that is heavily tilted towards right wing social conservatism. As a result, in any General Election many socially liberal voters will need to vote Labour to prevent socially conservative populists winning an outright majority.

To prevent a right wing, socially conservative party coming to power in the UK, many social liberals will not vote Labour in by-elections or council elections before the General Election to put pressure on the government to sound less like Farage on key social issues, but then many of them will need to vote Labour tactically in the General Election. That they will manage to do so is of course why the Labour government is highly unlikely to change FPTP for General Elections.

The important point to stress for this post is that Labour gains nothing by delaying this move to a more humane and liberal stance on social issues, but has a lot to lose. The more modest any change is, and the longer it takes, means it becomes more difficult for social liberals to convince themselves to vote tactically in a General Election. It also makes deciding who to vote for tactically more confusing. Imagine the problem many voters have in the forthcoming by-election multiplied by hundreds of seats without much media coverage on those seats. And finally the longer a government remains very unpopular in the polls the more difficult it is for it to generate the positive media coverage it needs to win votes from low information voters.

Unfortunately all the signs are that the Labour government under any likely leader will be too slow to recognise the depth of the strategic error they have made and are continuing to make. While those on the political right have generally understood the need to protect their core vote, Labour has a tradition of doing the opposite that goes back to the factional wars that began in the 1980s. This makes the battle against socially conservative populism in the UK that much more difficult.

[1] Most political journalists are too absorbed in the moment to ask these strategic questions. All too often it is like trying to ask a market trader what they think the medium term impact of a particular macro policy will be. Even the ability of some of them to do short term political analysis seems questionable. It seemed to me pretty obvious that both of Starmer’s main challengers for the leadership would prefer to take over after the party’s drubbing in the May elections rather than before those elections. (A third was not even in play.) As a result, there would be no attempt to remove Starmer right now. But if your incentive is clicks rather than being right, then I guess the fever of the last two weeks makes some sense.

[2] Of course the proximate cause was Mandleson, but Labour’s dire position in the polls colours everything. In addition, as the current and recent by-elections show, any general election will be all about keeping Reform out, and crucial to that assessment is which party is most likely to achieve that. If before a general election another party (e.g. Greens or nationalists) have had considerable success in local elections in many areas, those parties rather than Labour will have a strong claim to be the party that can keep Reform out. Many might consider that a good result, but as a strategy for the Labour party it is not clever.

[3] I don’t like the kind of voter grouping that seems popular among pollsters and which NatCen does here, but the latter does have some correspondence to these four categories of voters. Most of ‘Urban Progressives’ and ‘Soft-left Liberals’ will be left leaning social liberals, ‘Left-Behind Patriots’ are left wing social conservatives, ‘Well Off Traditionalists’ will be right wing social conservatives, with ‘Apolitical Centrists’ and ‘Middle Brittons’ forming a large group in the centre.

[4] This is one of the reasons why Johnson won a large majority in 2019 despite a majority voting for parties supporting a second referendum.

Fiscal watchdogs, pluralist democracy, technocracy and evidence based policy

 

When I write about fiscal watchdogs like the OBR in the UK, I generally get some comments along the lines that these watchdogs produce technocratic policy and limit the freedom of democratically elected governments and that they should therefore be abolished. Such comments come from both the left and right. This reflects public discourse in the UK at least, where many have called for the OBR’s reform or abolition over the last year. In this post I want to suggest that this argument is inherently populist, and would have the effect of suppressing the influence of knowledge on decision making.

People use the term ‘pluralist democracy’ in different ways, but the definition that fits what I want to talk about here is as follows. “Pluralist democracy is a political system where power is dispersed among various groups and organizations, allowing for multiple voices and interests to influence decision-making.” For example, on some issues local authorities have power, while on others the central government has power. Judges, not politicians, make decisions about interpreting the law or constitution, if one exists. Universities and the academics within them in as a collective, have power in terms of authority, because most of the public believe that they will have looked at and interpreted evidence in a reasonably unbiased way.[1]

Populists almost by definition oppose pluralist democracy. For the populist, the people should have all this power, and the populist is the expression of the people’s will. They appoint judges who they hope will side with them rather than with the law. They interfere with the governance of universities and cut funding in areas where academics have different views to those of the populist administration.

A fiscal watchdog, like the OBR in the UK, is part of a pluralist democracy. It gathers information on the state of the economy and public finances, and tries to assess their likely trajectory over the next few years. The OBR is like a university in the sense that it works in the open, publishing as much as it can, and draws conclusions (forecasts) from evidence (data) and theory (economics). It should be no surprise that one of Victor Orban’s first acts as the populist leader in Hungary was to abolish their fiscal watchdog.

Nigel Farage, populist leader of the Reform political party, is giving “serious thought” to abolishing the OBR. In typical populist fashion, he says that the OBR is “effectively dictating to elected politicians”. All the OBR does is a forecast. Would you rather the OBR or Nigel Farage produce the forecast on which fiscal policy is based? Farage would like to do away with the OBR because he would like to pretend he can deliver the impossible: lower taxes, more public spending and lower borrowing.[2]

One particular feature of the OBR’s set-up that critics seldom mention is that the government is not formally bound to follow the OBR’s forecast. It can either ignore it (as the Truss government did) or produce a budget based on a more optimistic forecast and give its reasons why it disagrees with the OBR’s forecast. In that formal sense, any power the OBR has can easily be overridden. That this option is never used or discussed is very revealing.

If a government can ignore the OBR’s forecast, why do some claim the OBR hinders the operation of a democratic government? It is because the OBR uses and publicises knowledge, in this case about what is likely to happen to the economy and public finances, in a way that is difficult for the government to dismiss. You might say I am being naive here. It would be politically very difficult for the government to ignore what the OBR forecast: just look at what happened to the Truss government. But that is my point. Why is it politically difficult? It is because the public and the markets are more likely to believe the OBR than the government. The markets in particular are in the business of using information like everyone else, and if they believed the government was right and the OBR was wrong they would react positively, not negatively.

The government overriding the OBR is problematic because the chances that the government knows better than the OBR are extremely small. When I asked above whether you would rather the OBR or Nigel Farage produce the forecast on which fiscal policy is based, I think you could substitute any politician for Farage and get the same answer. It is of course possible that a politician could get advice about the economy that had nothing to do with their wishful thinking or political advantage and only involved knowledge the OBR had erroneously ignored, but that possibility is pretty small. At best it could duplicate what the OBR does, but almost certainly with a lot less transparency.

The reality is that most governments do not ignore or dispute the forecast presented by the OBR because the public and markets would rightly suspect that it was doing so not because it knew better than the OBR’s economists, but because it was politically expedient to take a different view. Truss’s government ignored the OBR in part because they thought that tax cuts would spur non-inflationary growth sufficient to generate additional revenue that would pay for most of the tax cuts. That was wishful thinking, and the markets reacted accordingly.

Of course institutions like the OBR, or other elements of a pluralistic democracy, have to be accountable in a way that ensures they do what they are supposed to do without surrendering their independence to the government. That can be tricky but it is not impossible. In the case of the OBR, accountability is pretty strong. Past mistakes are examined and lessons learned. Of course economists like myself will sometimes disagree with their judgements, but the OBR is generally careful to ensure its judgements are not wide of the mark in terms of the academic consensus. The argument that the OBR is not fit for purpose because it gets its forecasts wrong simply reveals that the person making that argument knows little about macro forecasting. Another example of the OBR’s accountability is that the head of the OBR recently resigned because of a technical computer error.[3]

This is why, as an academic, I am naturally very supportive of institutions like the OBR, an independent central bank, or a body like NICE, because I see them as means to ensure policy decisions are based on evidence and knowledge. Of course such institutions can in theory be replicated by a government and a very efficient and open civil service, but in practice government based decision making is rarely as open and transparent as it is in these institutions.

It is of course important to ensure that such institutions are limited to obtaining and using evidence, and do not stray into making decisions which are rightly the province of elected representatives. There are inevitably grey areas. Again the OBR is a useful example because it is hard to think of any way the OBR currently oversteps this line. Independent institutions like the OBR, Bank of England or NICE are hardly examples of technocratic government. For example the Chancellor decides the inflation target, not the Bank, and it is in my view right that she does so. To say that too much policy is based on evidence rather than values is a confusion, because good policy uses both.

The rise of populism has made evidence based policy that much more unlikely. Populists want total power, and one of the many things that might frustrate that is people putting facts and evidence to the public that contradicts their preferred narrative. The best way for populists to avoid that happening is to control the media, but institutions that by their nature automatically have a voice remain a threat.

For this reason, while we still have a government that says it sees populism as a critical threat, I think we should be talking about strengthening bodies like the OBR, not abolishing them. One proposal that received some attention in the past but which is hardly mentioned nowadays is to follow the Netherlands and have the OBR cost opposition policy proposals before a General Election. (I discussed this here.) While this might make Farage even more antagonistic towards the OBR, it might help to stop him getting elected.

[1] Of course any individual academic has less authority, although still probably more than a typical politician in this sense.

[2] To their credit, the Conservatives have not followed Farage.

[3] Was his resignation accepted by the Chancellor because the OBR published facts about the budget process that contradicted the spin coming from the Treasury?

The Conservatives need to embrace the Centre Right

 

Chris talks about the death of the centre right, but I would argue the centre right in the UK and US died a long time ago, with the advent of neoliberalism. The centre right that I can still dimly remember in the UK was a Conservative party that accepted the need for a sizable state, strong trade unions, the nationalisation of essential utilities and high rates of taxation on top incomes. These were the governments of MacMillan and the the views of the Tory ‘Wets’ that were horrified by the unemployment Thatcher’s monetarism created.

Now you could argue that since those days what is thought of as the centre has shifted, so what is centre right now is different from what was centre right in the 1960s, 70s and early 80s. That is true to some extent. But I think the real misconception comes because what many currently mean by centre right is much better described as the socially liberal right. Things are much clearer if we think in two dimensions, separating (as far as possible) the economic and social.

Have a look at the new Prosper group within the Conservative party. Under ‘what we believe’ we have “free markets give consumers choice and foster innovation”, “businesses create that growth, not government” and “too much regulation stifles growth”. So where does this group believe in things that might upset Kemi Badenoch? It is with things like “we should allow people with the skills our economy needs to come here” and “we should reduce barriers to trade, especially with our closest neighbours”. It is socially conservative populism, introduced into the Conservative party by Johnson and Farage, that Prosper along with one nation conservatives want to stand apart from.

It also seems clear from Badenoch that she doesn’t want a broad church Conservative Party that includes people that might be part of the Prosper group. On social issues like immigration she is in a race with Reform to see who can promise to deport the most. She wants to take the UK out of the ECHR, and she wants to repeal the Climate Change Act. In terms of policy it is getting very difficult to tell Reform and the Conservative party apart.

To many this seems crazy. Why abandon the centre ground if you want to win elections? But under one particular view of where voters currently are this positioning makes some sense. Suppose we believe that the electorate is increasingly split into two blocs, left liberal and the socially conservative right, and that nearly all the changes in party popularity come from movements within rather than between those blocs. There is a lot of evidence to support that idea. If this was absolutely true, with no voters crossing the divide between the two blocs, then Badenoch’s strategy makes some sense.

The reason why is nicely laid out in a recent post by Peter Kellner, where he reminds us of how two ice cream vans might position themselves on a long beach front. While it would be best for those on the beach if these two vans positioned themselves well apart from each other, competition will put them side by side in the middle of the beach. If one van takes pity on those at the their end of the beach and moves closer to them, they will lose some customers in the middle of the beach who are now closer to the other van, even if the other van doesn’t move. But the other van will move, to be right next to the van that first moved, capturing even more of the beach market. Using economics jargon, both vans next to each other in the middle of the beach is an equilibrium.

So if voters in the socially conservative bloc only ever vote for one of the two socially conservative parties, then it makes sense for Badenoch to put her party as close as she can to Reform. Like the two ice cream vans, they will be next to each other in policy terms. In particular because Reform is pretty socially conservative, so will the Conservative party. Any social liberals in the party should either keep quiet or leave.

Note, however, that exactly the same reasoning applies to those in the socially liberal left bloc. If we ignore the Liberal Democrats for just a moment, then Labour should be adopting policies very close to the ideas promoted by the Green’s Zack Polanski. Which they clearly are not doing.

The reason why Badenoch’s strategy is wrong is that not all electoral movements take place within both blocs. Most might have done in recent years, but even then not all. It used to be the case that we had two dominant parties, and elections were one or lost by voters moving between these two parties. Part of the reason for that is that many voters position themselves close to the centre in both economic and social terms, and these voters will switch between the socially conservative right wing bloc and the socially liberal left wing bloc at each election. [2]

Which is where we do need to talk about the Liberal Democrat party. Most of their seats, including those won at the last election, are where the Conservatives are their main challengers. The majority are in what used to be the Conservative’s southern heartlands. As a result, in economic policy terms the Liberal Democrats are much more right wing than the preferences of their membership. But in social policy terms they are liberal. They are filling the gap left by the Conservative party’s march towards social conservatism, just as the Green’s growing popularity is a result of Labour’s attempt to sound more like Reform than the socially liberal party most of its voters want it to be.

What about the argument that the Conservatives have lost far more votes to Reform than the Liberal Democrats or Labour, so their focus should be on Reform. While this is undoubtedly true, the analysis above was about policy positions. There is a big difference between ‘focusing on Reform voters' and copying their policies. Neither Labour or the Conservatives have learnt that the more they talk about socially conservative issues like immigration and asylum in a way that seems very similar to the way Reform talks about these issues, the more they boost Reform’s support rather than their own. Farage owns these issues, because the Conservatives are tainted by the ‘Boris wave’ of post-Covid immigration and because the boats will keep coming under Labour.

In contrast, as Owen Winter outlines here, the Conservatives are ideally placed to take Reform voters who are on the economic centre or right, as well as centre or right wing voters on economic issues who are in the centre on social issues, because of rising concerns over higher taxes. On economic issues they have (surprisingly given their period in government) a relatively positive image among voters. (Liberal Democrats policy positions outside elections are less well known.) So Badenoch should be embracing the Prosper group, not giving them a cold shoulder. They could even paint recent defections in a positive light. [1]

You can make the same point by looking at attitudes to Trump. Badenoch has largely followed Reform in supporting Trump, and Trump-like policies like deportation. Yet Trump is disliked by Conservative voters even more than Labour voters dislike Trump. Many Reform voters have a negative attitude towards Trump. (Even among Conservative party members, more dislike than like Trump.) Badenoch could gain votes by using Trump and Farage’s attachment to him to attack Reform, but she doesn’t.

The same point can be made another way. As I have noted before, the main political parties in the UK are neatly lining up with the four segments of economic and social policy space. The Greens are socially liberal and left wing, the LibDems are socially liberal and (mildly) right wing, Labour are socially conservative and (mildly) left wing. The anomaly is that we have two major political parties in the socially conservative, right wing space. Both want to eliminate the other. Farage’s comparative advantage is on socially conservative issues, and Conservatives are stronger on economic issues. The Conservatives should play to their strengths, not their weaknesses, and set policy on social issues with one eye to voters in the centre.

For these reasons, Badenoch should be embracing politicians like those in the Prosper Group, not giving them a cold shoulder. If she continues to pursue her current course the more socially liberal but economically right wing Conservative voters the politicians of Prosper represent will not disappear, but instead they will move in even greater numbers to the Liberal Democrats. [3]

Does any of this matter to voters in the other bloc: left wing socially liberal voters? A more broad church Conservative party will be a tougher opposition to both the Liberal Democrats and Labour, and will therefore mean a government from the left liberal bloc is less likely to be elected. For that reason Labour and the LibDems will be happy with Badenoch's cold shoulder for Prosper. But there is a counter argument.  As I have said many times, the biggest threat the UK faces is a socially conservative populist government in Trump’s image. That will happen if Reform wins, or if the Conservatives win at the cost of turning themselves into a socially conservative populist party in Trump’s image. One danger is that a Conservative leadership that does their best to ostracise more socially liberal Conservatives will mean one of these two outcomes will occur. 

[1] Many many years ago when I was working in H.M.Treasury I left my CV in a photocopier. Luckily a friend found it. On these grounds I might feel some sympathy for someone whose mislaid documents were used against him, but I cannot feel any sympathy for someone like Robert Jenrick.

[2] Labour and the Conservatives are making the opposite mistake right now, although it means they end up going in the same direction. Labour are too preoccupied with voters switching blocs (Labour to Reform or the Tories), which means they are haemorrhaging votes to the Greens and LibDems. In contrast the Conservatives are trying to match policies with those in the same bloc, and therefore are losing votes in the centre (and particularly in key seats to the LibDems).

Postscript: Why are the Conservatives focusing on voters in their bloc, but Labour are trying to attract voters outside their bloc? One obvious answer is the media environment. A right wing media can make it seem as if your voting bloc is either the world, or irrelevant. 

[3] Why is Badenoch making this mistake? I think part of the answer is Brexit. Brexit was a policy largely supported by social conservatives and opposed by social liberals. As long as the Conservatives continue to support Brexit despite all the evidence that it was a disaster, and oppose Labour’s attempts to soften its negative impact on UK prosperity and international influence, then they tie themselves to Reform and against the liberal right of Prosper. Given what Johnson did when he took over the Conservative party, it will probably require more than one election defeat to change the Conservative party’s position on Brexit. Another reason is the defection of Conservative MPs and former MPs to Reform. When your constant worry as leader is yet another Tory defection to Reform, it is very difficult not to think that any attempt to distance your party’s policies from Reform’s will only encourage further defections. But of course yet another reason may simply be that Badenoch, knowingly or not, is putting her own policy preferences ahead of party popularity.

How Liberal Democratic Countries will cooperate without the US

 

I sometimes get things right and sometimes wrong, but I cannot remember one of my posts being proved right within two days of publication. Europe stood up to Trump’s bullying over Greenland, and Trump backed down for all the reasons I gave in last week’s post. It was a big failure for Trump, and a big victory for European politicians including Starmer, although media coverage did its best to hide the fact. [1] The past week may well be seen in retrospect as a turning point, and that turning point was marked by a speech as well as Trump’s humiliation.

As speeches go, Mark Carney’s to Davos was very well written. It was also I think the first time a Western leader outside the US has publicly stated so clearly that the old world order has gone. The idea that a US based world order has come to an end is hardly new (even I argued as much a year ago), but for it to be stated so directly is striking. That this should come from Carney in part reflects that US threats to Canada helped get him elected, but more importantly as Adam Tooze notes, Carney had been thinking about the role of US hegemony for some time.

What is implicit in the speech is that the rupture, not transition (to use his words), in the old world order is a result of a change in the stance of the United States. It is no longer the leader and protector of the old order, but is instead acting in its leaders own personal interests which includes confrontation with and even invasion of European countries, and a total disregard of existing rules and institutions.

One of the unusual features of the speech is that it was honest about its subject matter. To quote:

“We knew the story of the international rules-based order was partially false. That the strongest would exempt themselves when convenient. That trade rules were enforced asymmetrically. And that international law applied with varying rigour depending on the identity of the accused or the victim. This fiction was useful, and American hegemony, in particular, helped provide public goods: open sea lanes, a stable financial system, collective security, and support for frameworks for resolving disputes.”

In contradiction, it could be argued that the change is just Trump treating Europe and Canada in the way the US often treated South America. But this would be a mistake because the nature of US meddling in other countries has changed. Whereas during the Cold War in particular the focus was on ‘discouraging’ left wing governments and backing US business interests, the aim of the current US regime is to promote governments in its own image: populist, anti-democratic, authoritarian.

A question that the speech does not address is whether this rupture is permanent. I suspect many Labour politicians in the UK hope that it isn’t, and that when Trump goes something like the old order can be rescued. I addressed that in my post a year ago. First, there is a strong chance that Trump will defy the US Constitution and stay as effective President for more than his second four year term. Second, while the Republican party is now almost completely under the thumb of Trump, the MAGA movement that now dominates that party will outlast him. The structural factors that allowed a majority of voters to make a known fascist the President have not gone away, and instead have intensified as right wing oligopolists have taken over much of the means by which most US citizens get information.

Carney’s speech is a plea for ‘middle powers’ like Canada that retain liberal democratic governments not to retreat into national sovereignty but also to cooperate with each other. When middle powers “negotiate bilaterally with a hegemon, we negotiate from weakness. We accept what is offered. We compete with each other to be the most accommodating.” On this he is absolutely right. The decision by the UK to leave the EU to gain additional national sovereignty can now be seen clearly as the colossal error many of us knew it always was. To quote Chris Grey:

“The Brexiter insistence that the EU was irrelevant to UK security, which they claimed was entirely catered for by a US-led NATO, which was always ill-informed, is now exposed as the greatest strategic miscalculation in modern British history.”

What kind of coalition building are we talking about? Carney and Canada are “pursuing variable geometry— different coalitions for different issues, based on values and interests. On Ukraine, we are a core member of the Coalition of the Willing and one of the largest per-capita contributors to its defence and security. On Arctic sovereignty, we stand firmly with Greenland and Denmark and fully support their unique right to determine Greenland’s future. Our commitment to Article 5 is unwavering….. On plurilateral trade, we are championing efforts to build a bridge between the Trans-Pacific Partnership and the European Union, creating a new trading block of 1.5 billion people.”

He describes this approach as

“principled and pragmatic. Principled in our commitment to fundamental values: sovereignty and territorial integrity, the prohibition of the use of force except when consistent with the UN Charter, respect for human rights. Pragmatic in recognising that progress is often incremental, that interests diverge, that not every partner shares our values. We are engaging broadly, strategically, with open eyes. We actively take on the world as it is, not wait for a world we wish to be.”

Of course principles may not be applied consistently. Canada still provides arms and support for a right populist wing populist government in Israel that has, according to most experts, been committing genocide in Gaza.

For a middle sized power like Canada this “variable geometry” could be described in another way: seek alliances where you can to replace a historic dependence on the US. On the assumption that rejoining the EU is unlikely to happen anytime soon, the UK in this respect is a middle sized power in a very similar position to Canada. Yet Starmer’s initial response to Trump’s Greenland threats was very different in tone, stressing the importance of the US to the UK’s security in particular. It was more a ‘colleagues will differ’ talk rather than Carney’s ‘the world has changed’ speech. Whether this represents a lack of honesty facilitated by not wanting to provoke the beast, or a hope that the old order can be restored once Trump is gone, is not totally clear.

If it was the former, subsequent events showed the nature of the problem that the UK and all the remaining liberal democracies around the world face with the Trump/Vance/Miller regime. Starmer was ‘rewarded’ for his praise of the US/UK alliance with an attack from Trump over the Chagos islands deal. Trump did this not because the US opposes the deal, but simply because it helped the UK's right wing populist parties. I suspect Carney is right in understanding that when your very existence provokes the Trump regime, worrying about how what you say will be received by Trump may matter less than being honest with your own voters.

Starmer’s response to Trump’s Chagos attack was much better, where he was direct about what Trump was trying to do. Then last Friday he directly attacked Trump’s remarks about British soldiers in Afghanistan, and said Trump should apologise. Once again we may be seeing the consequences of Trump overplaying his hand, turning Starmer within just a week from an appeaser into someone not afraid to use attacks on Trump for electoral advantage. [2] I fear it is more likely that after this week Starmer will revert to his original stance.

The EU is in a rather different position to Canada or the UK. It could potentially become a global power to match the US, China and Russia. Indeed, it is possible to imagine that the old world order survives, simply refashioned with the EU replacing the US as the dominant power. There are two obvious problems with this. The first is that the EU is a group of member states rather than a single country. The second is right wing populism is already dominant in a few EU countries, and as a result one of these at least, Hungary, appears closer to Russia and the US than the EU. This particular problem may go away in April, where Orbán’s Fidesz party may well be defeated, but a more serious challenge comes in 2027 with the French Presidential elections, where the right wing populist candidate has according to current polls a good chance of winning.

Until then, at least, the EU will continue to limit its dependence on the US as far as it can. The ‘variable geometry’ that Carney talked about will mean that trade with the US will continue, despite tariffs, but those European companies and some US exporters wanting stable and secure markets or supply chains will over time try to avoid the disruption of unpredictable tariffs by avoiding the US. [3] Through the Digital Euro the EU will try to reduce its dependence on a dollar payments system. The dollar’s share of global foreign currency reserves is falling rapidly. Needless to say, none of these are quick processes. 

On security Europe and Canada will endeavour to keep NATO ties because that hinders potential US aggression towards Europe, as the Greenland resolution showed. Like NATO, other institutions of the old order, like the IMF and the World Bank, will continue as a means of trying to anchor the US as far as possible to normality. It is unlikely that we will see new institutions emerge involving the middle powers that remain liberal democracies. Instead we are likely to see more ad hoc groupings of nations aimed at tackling specific issues, such as Greenland, or the ‘Coalition of the Willing’ helping Ukraine fight Russian aggression and already replacing the assistance that the US used to provide. In the longer term major European countries, especially the UK, will have to divorce themselves from the US inspired ‘war on terror’ whose disastrous consequences include, at least in part, Western complicity in the genocide in Gaza.

[1] True, I didn’t prophesy the market reaction to both Trump’s tariff threats and the EU’s robust reaction, but the point of the post was that he resorted to the weak threat of tariffs precisely because his political ground was much more fragile than Europe’s.

[2] The best thing Trump could do for Starmer right now is threaten some part of UK territory, as elections in Canada and now Denmark show,

[3] It is tempting to believe that the US administration's obsession with tariffs will not outlive Trump, and that even with Trump negative market reaction may limit their use in the future. However populists governments do seem to often put impediments in the way of trade in goods. As a result trade between liberal democracies may be less hazardous than trade with right wing populist governments.