Winner of the New Statesman SPERI Prize in Political Economy 2016

Tuesday 20 October 2015

Linking tax credits and the fiscal charter

I have made fun in the past about Labour politicians and supporters who in public trip up once the word borrowing is mentioned. An interviewer only has to ask ‘but if Labour reverses this cut it will mean more borrowing’ and the interviewee stumbles around in a way that shouts to anyone watching that Labour have a vulnerability here.

It is a vulnerability that helped lead to the disastrous decision under the interim leadership not to oppose Osborne’s cuts in tax credits, and to McDonnell’s embarrassing initial decision (now reversed) to support the charter. But now that Labour has sorted itself out on both issues, it needs to stop avoiding the borrowing question. Take this otherwise assured performance by Owen Smith on Newsnight last night (27 minutes in, HT Owen Jones).

Here is what Owen Smith should have said when asked whether reversing the cuts to tax credits would lead to more borrowing.
“The Chancellor has said he needs to cut tax credits to meet his new fiscal charter. Labour oppose this charter, because it makes no economic sense. Osborne cannot find a single economist who supports his plan. Imposing a work penalty to pay borrowing off more quickly is just counterproductive, because discouraging people from working makes the economy weaker. This was supposed to be a government that encouraged work, yet here is the Chancellor doing the opposite in order to meet a charter that only his MPs support.”

If the interviewer persists with “so you will borrow more”, say
“Labour would not need to cut tax credits because we would balance current income and spending, leaving room for the country to invest. Labour would borrow to invest, whereas Osborne is paying for the little public investment he is doing by cutting tax credits. What matters is government debt in relation to GDP, and our policy would mean that debt relative to GDP would fall under Labour.”

I am sure those skilled in spin could sharpen this, but you get the idea. The days when deficit fetishism gripped voters are coming to an end. Labour needs to change its rhetoric to reflect this, and paint Osborne into the ideological corner he occupies.  


  1. This is excellent, and timely too, I heard Seema Malhotra struggle through this line of questioning this morning. It also might be a good opportunity for Labour to sneak it the odd reference to the zero lower bound, with the possibility that it might push the idea a little further into the public consciousness.

    Whatever happens, I think Labour should set out it's stall and get it's message clear asap and this post is a good guide to how this might be done.

    1. To be honest, I think sneaking in the ZLB is going too far on most occasions. Labour MPs should know about it for sure, but in public they should talk about taking risks with the economy (do NOT say fiscal charter WILL lead to another recession), and leave the ZLB for the unlikely event that an interviewer says surely monetary policy will cover risks.

    2. I agree re the ZLB 'over-complicating' the basic proposition. I feel the 'we will borrow to invest' needs to be illustrated with concrete examples such as 'Rail electrification in the north west and social housing developments generally could have been started in 2010 with money borrowed at almost no interest with an expectation of a positive ROI'. Labour needs to keep asking why this was not done.

    3. Please, please, give me an example of how and by what mechanism, the UK government "borrows" its "unit of account" (the Pound Sterling).

      Clue: I have not used the word "money" in the above.

    4. Until you understand the difference between a currency ISSUER and a currency USER, you will not understand how a FIAT currency economy, like the UK, actually works. Have a listen to . Play it over and over, the sound is not good. After that, you will understand more than any MP does about the UK economy. You may also get a clue as to why the EURO does not work. (Everyone in the Eurozone USES someone else's currency).

      When you have done that, have a read of . It may start a conversation on this site about the EU, "in or out" referendum. It is fundamentally a macroeconomic question about the unworkable design of the EURO fiat currency system. Until the EU adopts a US Federal Treasury system and, (if you insist) a US Federal Central Bank; the Eurozone is doomed to fail.

  2. Sadly the evidence that "the days when deficit fetishism gripped voters are coming to an end" is (to put the matter neutrally) disputed. And, given Labour's competence problem, they're poorly placed to advance that narrative.

    1. Of course its disputed (see Labour Party), but that does make it wrong. I don't quite understand how advancing incompetent ideas would increase Labour's reputation for competence.

    2. I'm confident you'll beat your straw man to death, Simon. But you'll search in vain for the bit where I say Labour should major on anti-austerity.

    3. Jolyon - what's the straw man you're referring to?

  3. Citing, as you do above, the Canadian Liberal Party as adopting your preferred political strategy is not accurate.

    The Liberal Party promised a balanced budget by 2019

    They promised 'fiscal prudence' and to "end the Harper legacy of chronic deficits". Yes they promised investment, but within that framework. (Amusing to note that they used Larry Summmers as their economist to provide political cover).

    The party with the political strategy closest to Corbyn and McDonnell (although still very far to their right) was the NDP

    They won 44 seats, down from 95, with a 10% swing against them.

    I don't think the line you drafted for Owen Smith could possibly work. He would never get to the end of the second sentence, and if he did the audience won't understand it (I don't think the shadow Chancellor understands it either, and so expecting more from the casual TV viewer is a bit much).

    You need a simple message. That won't capture what will be done once in office, but that doesn't matter. As Osborne proves every day.

    1. On Canada, Gary Silverman in the FT today writes "The politics of austerity took a beating ...." Remember its perceptions that matter in this game. The simple message is that we need to increase public investment, and like all firms borrow to do so. But if you can do better I'm sure we would like to hear about it.

    2. The reason the Liberal party line on investment worked, and yours wouldn't, was :
      -their promise to invest was short term only (two years)
      -they promised a 'balanced budget' by 2019

      Neither makes much economic sense in my view, and I expect you agree(who knows what they economic circumstances will be in two years?)

      But, in political terms the Liberal position was understandable and successful. It promised to defer further pain today but also an end to increased borrowing. It wasn't very different from Balls' promise to increase investment spending

      Of course the Liberal party had two enormous advantages that Labour in the UK did not have

      1. They were not in power when the GFC hit

      2. It was Harper's Conservatives who had had to respond, so the Liberals could criticise, and promise to end, his 'chronic deficits'.

      Again, the lesson is that what works in political terms has only a vague relation to economics.

      If a politician wants a line drafted as a snappy response to a question on Newsnight, don't ask an economist is my advice.

    3. I am not sure SpinningHugo's note is a fully accurate portrayal of positions or their perceptions. See for example

    4. I was quoting from the Liberal manifesto.

    5. "They promised 'fiscal prudence' and to "end the Harper legacy of chronic deficits". Yes they promised investment, but within that framework. (Amusing to note that they used Larry Summers as their economist to provide political cover).

      The party with the political strategy closest to Corbyn and McDonnell (although still very far to their right) was the NDP"

      Using investment and narrowing the deficit pretty much is the Corbyn/McDonnell strategy. Not sure where you get your implication that they have a far-left economic plan.

  4. I'm no Keynesian, but I agree that it makes sense to borrow to invest when the return on investment - that is, the increase in tax revenues which will result from the investment - will pay for the borrow (interest and principal). If this is the standard that Labour will use, then it will find it will have far more people on board than it would for Keynesian economics.

    1. Why are you not a Keynesian? Keynesian theory is just standard macroeconomics, taught to every undergraduate. Honest question.

    2. He is not a Keynesian and he is not an economist. The standard macroeconomics he has been taught is of the Daily Mail variety.

  5. Good comment: as Andreas says above, the Labour spokesperson this morning was in similar trouble. Interesting that no one would have asked her how Labour was going to make up the expenditure on tax credits if Osborne had not decided to modify/abolish (I'm honestly not quite clear) them. Another example of 'making the weather'.

    I also think this is the time for a concerted pushback against the BBC's apparent mission to trivialise. Again and again, particularly but not only on the Today programme, the interviewee is interrupted by a pretty ignorant presenter insisting on a three-word summary of a complex issue. If all Labour (and Lib-Dem, SNP and for that matter UKIP) interviewees responded with something sarcastic on the lines of "If you know what the answer is, don't bother asking me" or, more politely, "you may think there is a simple answer but the economy/Middle East/steel industry is more complicated and if there was a simple answer we wouldn't have the problems we do now" we might get some better behaviour. We might not, of course, but the BBC really needs allies now, and it won't get enough by kowtowing to the Sun/Mail tendency all the time.

  6. How about we try to come up with some simple analogies between household financial decision making and the country's?

    This kind of thing has worked well for the Tories with their "you've got to balance your own household budget, so the country has to do the same" line of spin, so it seems like a good idea for us to come up with alternatives that are much more realistic and meaningful.

    I came up with the following as a starter, but please note that I'm not an economist, so it's unlikely that it will hold up to any close scrutiny:

    "Imagine that, thanks to bad advice from your bank's mortgage advisor, you've got yourself into a debt spiral with your bank.

    Your level of debt keeps increasing every day because of the interest payments on your missed mortgage payments, and you've worked out that you can't cut your spending enough to cover this debt spiral without going hungry or homeless.

    You work out that you need to get a second job as a taxi driver to pay off the debt problem, but you don't own a car.

    Some of your friends have offered you a loan of 0.1% APR to buy the car, and you can pay it back in ten years, or longer if you need to.

    Wouldn't it be a good idea to take them up in their offer?"

    So in this analogy I'm comparing the 2008 banking crisis to a bad mortgage deal (which seems fairly on the nose) and the leveraging of gilts to other institutions to a loan from friends (which might be valid if I could get my head around what a gilt actually is, and what the term 'leveraging' actually means).

    So, what do you all think of the analogy, and how would you improve it to make it more understandable or more similar to the actual situation?

    1. I've often thought this. People that understand economics are fond of saying that an economy is not like a household budget. But that doesn't help the public grasp the issue, and it allows the Tories to keep saying it is. Yanis Varoufakis on QT a few weeks ago was a prime example: offering a complicated explanation to the man in the audience who said something like: "I have ten pounds, so when I go to the pub, I buy ten pounds-worth of beer, no more, and when I run out of money I don't spend it; why can't politicians balance our budgets in the same way?"

      Rather than offer a convoluted response, Varoufakis should just have said: "do you have a mortgage, sir? If so, then you don't just stick to your ten pounds. Because you recognise that there are some things that, if you don't buy them on credit, you will never have them, and they rise in value over time and will eventually be worth than you paid for them. A university education is the same. So is a new car, if it helps you drive to a better job. An economy is like that: there is good borrowing, and bad borrowing. As long as we borrow mostly for things we're investing in, which will help our economy to grow, rather than borrowing to pay wages, or to subsidise corporate theft of public assets like the Royal Mail, or to let very rich people pay even less tax, then that borrowing is good and we should do more of it, especially when interest rates are so low".

  7. If every economist opposes Osborne's theory, then which taxation method did he use to come up with said theory that no other economist used.

  8. Not sure that taking the fiscal charter seriously rather than as a silly shibboleth is the right way to go.

    After all, McDonnell was supposedly planning to 'support' it (on a particular 'basis') at one point, though notably not in his conference speech, in which he clearly stated it was a 'stunt' and a 'game'.

    I should have thought it would be better to express incredulity that even masochist-by-proxy Osborne actually intends to be constrained by it. After all, it seems very likely that the Conservatives will adopt their usual tactic of front-loading the harsh measures then quietly U-turning 2-3 years before the next election.

    1. But the whole point is that he is using the fiscal charter to justify cuts to tax credits. It is not silly shibboleth at all.

  9. Maybe so but the fiscal charter is only a marker of the underlying ideological commitment to shrinking the state ('Austerity'). Appealing to it for justification is only an indirect way of appealing to that.

    How about:

    [How will you pay for reversing the tax credit cuts?]

    Well before the election, David Cameron promised he wouldn't cut tax credits. No one asked how he would pay for that. [ignore interruption] But now the government says it's going to take that money away from the low-paid and put it somewhere else. We'll reverse that change.

    [Interviewer listens to earpiece, reply along lines of: well the money will be used to reduce the deficit]

    Or maybe for more tax cuts for the very rich. It doesn't make much sense to look at one line of the budget on its own. We're still waiting to hear whether the government dares to let the OBR approve our budget proposals. But what I can tell you...

    [Interruption: "but it will cost X", "but you will need to borrow more" etc]

    The real question is: how will the Chancellor pay for weakening the economy with a counterproductive and short-sighted work penalty? [interruption, ignore] These cuts won't just penalise work, they'll take spending money out of the economy.

    [But but but] Let me explain. [But but] Let me explain.

    Tax credits to the lowest paid go straight back into the wider economy. [interruption] Household spending - that's the lifeblood of the economy. [interrruption] Cuts have knock-on effects, as we're seeing in Redcar. [interruption] The Chancellor is penalising work, and cutting off the economy's circulation.

    [But how will you pay etc]

    We don't think the question makes sense. These cuts are a false economy. [interruption] Austerity isn't working. Unnecessary belt-tightening is cutting off the economy's circulation. The Chancellor is like a small business owner who suddenly decides to pay off the mortgage by selling the van and sacking the staff. It's not necessary, it's short-sighted and it doesn't work.

    [So you will borrow more]

    Not at all - what I'm trying to get across is that cuts don't necessarily save money. [Continue until cut off:] But for now, nothing is off the table - whether it's peoples' QE or taking advantage of near-zero real interest rates, or retrieving really serious sums from tax dodging corporations. We'll balance the books in a reasonable time frame, but we're not going to sell off public assets or put ordinary people into poverty to do it. And we're not going take risks with the economy by cutting off its circulation. The recession and the large deficit came from an out-of-control banking system. We agree with Ed Balls that New Labour took a wrong turn in continuing Conservative deregulation policies. But this government refuses to learn and is actually loosening regulation*, increasing that threat of economic chaos. We aren't going to penalise ordinary people to put right those mistakes. [Vamp to fade...]

    [If challenged over McDonnell's Graun interview & intended 'support' for fiscal charter, reply: the austerity narrative has quite a strong grip, as you're showing. There was a wobble there before conference, were we siad we could support it on a particular basis, but I'm glad we chose to trust the voting public to see beyond the soundbites and silly games. No-one takes the charter seriously, certainly not economists.]


  10. Today programme. Q - what will you do about the deficit?
    A - the deficit is your savings, your pension, your security. Osborne would endanger your future by seeking to cut spending now.
    Q - are you really saying the deficit is good?
    A - The government spends so you can save. We desperately need: housing health infrastructure education R&D energy etc so that when you call on those savings the economy can produce real goods. Osborne is failing future generations.

    Now wouldn't that be nice to hear at 7am

    1. Osborne: we will abolish government bonds. Punt your pension on the stock market!

  11. To my surprise I find myself largely in agreement with Spinning Hugo for once, especially on the chances of the casual TV viewer (or even radio listener) understanding the recommended line to take. I'm not sure the problem can be solved by better spinning, although I'm not against the attempt. In a comment on an earlier post I alluded to a lone example of a Labour spokesperson under Ed Milliband's leadership who tried to use a story about an individual borrowing to invest in the means to travel to take up a new job, as a way to illustrate that borrowing for the purpose of generating higher income can be sensible. As I recall, that didn't even work with the interviewer, let alone the watching audience. I fear that Slackboy2007's analogy would also fail: to use the dreaded (hateful) jargon of spinners, it's not "punchy" enough.

    This would not matter if those who perpetrate the distortions and deceptions could be shamed into changing their behaviour. Attacks by individuals or bodies that have independent public standing (and so are difficult to dismiss) would help provided they took the right sort of form - where I agree with comments about ridiculing the relevant misstatements and those who make them, using sarcasm, biting humour etc. For example, when QE started David Cameron as Leader of the Opposition tried to initiate what I am sure was intended to be a persistent line of attack on the then Government by claiming that the policy showed Labour was cavalier about inflation. Mervyn King quickly came up with an absolutely withering response, pointing out with the utmost scorn that Cameron didn't know what he was talking about if he claimed to support an independent monetary policy authority but then attacked QE as a Government initiative. The BoE Governor didn't actually use the words "QE is monetary policy, you idiot" but he didn't need to. That Cameron line on QE was abandoned.

    But sometimes it should be possible to correct misleading or simply wrong statements without having to go in for such clashes eg. the BBC ought to be open to correction where it simply commits an error. I am thinking here of the appallingly ignorant descriptions of the fiscal charter, across various BBC news outlets, as binding on future Governments - in more than one bulletin I have heard phrasing such as "...this will force future Governments to run Budget surpluses in normal times." The fiscal charter is of course not even legally binding on the present Government in that it may choose (with Parliament's agreement) to modify it through further legislation, and it is a basic tenet of UK governance that a new Government must be free to change such a law. The BBC should issue an apology for misleading the public and explain the correct position, which simply cannot be disputed so there's no question of interfering with editorial independence. But "should" begs the question "how would you make this happen?" - which takes us back to finding effective shaming mechanisms.

  12. Here is a real world, topical example why increased deficit is good.

    If we financed a £25bn Hinkley C power station with a deficit, rather than French/Chinese getting twice market rate electricity, we would have electricity at around half the price from Hinkley C.

    Hinkley C as proposed: no deficit but electricity twice market rate
    Hinkley C financed by deficit: electricity at market rates

    1. I know this is veering dangerously near being off-topic, but I can't seem to find an answer to what seems an obvious question, so if anyone can help I'd be very grateful.

      As I understand it, the Hinkley output is going to have a fixed 'strike price'. This is to be achieved via payments to/from govt under a 'contract for difference'. But as far as I can tell, the plan is that all of these payments (+ or -) are to be passed on to consumers via the price they pay for energy.

      I won't go into detail about why I find this baffling. My question is, am I right that this is the plan, and if so what is the mechanism whereby it is to be achieved?

      Sorry again for veering a bit and possibly lowering the tone with a stupid or ignorant question, but I just don't seem to be able to find an answer anywhere.


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