There is only one alternative to Prime Minister Boris Johnson

Corbyn may not be a great or even a particularly good leader, but it seems few in the media recognise he is the only viable opposition to the far right we have.

While I have been critical of the Labour leadership’s Brexit stance for some time, and still do not think Corbyn has gone far enough to maximise Labour's chances of General Election victory, he has done enough to ensure one thing: his survival. While his Brexit stance, together with continuing problems with antisemitism, will have lost some members and made others luke warm, there is little appetite to replace him amongst most members. This view will only strengthen as the likelihood of a General Election increases. It is Labour party members who choose the party’s leader.

But what about antisemitism? Could this issue be the downfall of the Labour leadership? The answer is almost certainly no. As the poll discussed here shows, while 66% of Labour members think antisemtism within the party is a genuine problem, 77% think the problem is deliberately exaggerated to damage Labour and Corbyn himself. On the basis of current evidence, and that includes any rebuke from the EHRC investigation, Corbyn’s position among members on this issue is secure.

The only other factor that might raise questions among the membership about their leader is very bad poll ratings. But two factors mean this is not a risk factor for Corbyn’s leadership. First, the new Brexit policy will win some voters back. As Rob Ford notes here, there are signs that the electorate’s flirtation with four party politics is coming to an end, as both Labour and the Conservatives move their own Brexit position. Second, Labour under Corbyn have been there and done that in 2017, such that there will always be the hope of a pre-election surge for Labour.

Could Labour’s continuing antisemitism crisis create another serious split between MPs and the leadership, along the lines of the vote of no confidence in 2016 after the Brexit vote? A split of this kind would only make sense if Labour MPs believed that they had a chance of defeating Corbyn in a ballot of members, and as I have already suggested they would be delusional. MPs may demand this and that in terms of how disciplinary procedures are handled within Labour, but any attempt to unseat Corbyn, or mass defections by Labour Mps, seems unlikely.

The security of the Labour leadership’s position within the party is one of two key factors in which to evaluate the impact of continuing criticism of Labour within the mainstream media and elsewhere. The second is the threat we face from what has become the most far right and dangerous government the UK has experienced for decades if not centuries.

The Conservative party is looking increasingly like the US Republican party, and its likely leader increasingly looks like a UK version of Donald Trump. However the Conservative party has got itself into a far more dangerous position than the Republican’s have ever faced. The Tories have Nigel Farage and a right wing press pushing them to implement a No Deal Brexit that goes way beyond anything Trump might be contemplating with tariffs. Furthermore opposition within the Tory party towards Johnson’s leadership ideas and No Deal looks vanishingly small.

Two recent events have underlined how far the UK government has descended into far right territory. The first was of course Johnson’s failure to stand up for one of our own ambassadors in the Darroch affair. A corrolorary of No Deal is that a trade deal with the US becomes politically essential, and that in turn means that Trump’s not so polite requests become the UK’s actions. This is a President who tells non-white Congresswomen born in the USA to go back to “the crime infested places from which they came”. In practice a US trade deal that UK politicians desperately want will be disastrous for UK agriculture, UK consumers and many more, people already hit hard by the UK leaving the EU with no deal.

The second recent event was Amber Rudd preferring a job in any future Johnson government to her previous opposition to No Deal. It has been an object lesson to those who thought Conservative MPs would always stand up for business and the Union to see how quickly all but a few have chosen political expediency instead. Again parallels with the Republican party in the US are instructive. Just as the right wing media in the US was able to use the Tea Party movement to shift the Republicans to the right, so the right wing press have used Farage to shift the Conservative party in a similar way.

The net result will be the normalisation of a No Deal Brexit over the next few months. Leaving without a deal was not what all of the 52% of Leave voters in 2016 voted for, but virtually no one in the broadcast media will be brave enough to push this point. The lie that the 2016 vote provides a mandate for No Deal will go unchallenged. Broadcasters will balance the nonsense that the impact of No Deal on the UK will be, to quote Johnson, “infinitesimally small” against the truth that it is the biggest act of political and economic self-harm ever inflicted on the UK.

Allowing Johnson to become leader shows that the Conservative party has completely lost its moral compass. All of Johnson’s misdeeds in his past mean nothing, just as Trump’s behaviour means nothing to his supporters and the Republican party. Both individuals lie all the time, but it doesn’t matter to his own side. Johnson encourages a friend to beat up a journalist, but it doesn’t matter. Johnson uses racist language on many occasions, most recently comparing Muslim women wearing the niqab and burqa to letterboxes, but this was deemed acceptable by his party. Johnson gets advice from Steve (“Let them call you racist. Wear it as a badge of honour”) Bannon, and even the BBC does not think Johnson lying about these contacts matters.

And so, as the Conservative party loses its moral compass, the chances are that large sections of the country’s elite will do so as well, and our standing overseas will plummet even further. Although Tory party members may find Johnson’s insults acceptable, don’t expect other countries to take a UK run by Johnson as more than a bad joke. Don’t expect other countries to do business with a UK that proposes to destroy its trade relationship with the EU and many other countries at a stroke. An elite that treats threats to prorogue parliament as acceptable will not be respected by countries that value democracy, although some others will welcome the development.

Yet those who say not in my name need to ask themselves whether they are prepared to make the choice required to stop this happening. There is only one realistic opposition to a Johnson led government. Believing the Liberal Democrats could ever play that role was unrealistic, because Labour has enough loyal voters to ensure that the anti-government vote would be split. Farage along with the LibDems might also take away votes from the government, but it would be foolish to rely on an English vote split four ways just happening to go against a Conservative government.

The awkward truth for those who for whatever reason dislike Corbyn’s Labour party is that Labour is the only party that can defeat this government, and its leader in the next election will be Corbyn. Voting is always a choice between the lesser of two evils. Supporting smaller parties when that lets the Conservatives win, or supporting none, may make those who dislike Corbyn’s Labour feel better, but it is in effect a statement that Corbyn’s Labour party would be just as bad for the country as a whole as out current government, and that is simply not a credible belief. Corbyn is not going to leave the EU with no deal, and in practice will be unable to leave the EU in any way. Corbyn is not threatening to prorogue parliament, is not desperate to do a trade deal with Donald Trump, does not lie all the time, does not get friends to beat up opponents, and does not have a history of using racist language. Whereas Johnson promises tax cuts for the rich, a Corbyn led government would help the many, not the few.

Yet there are few in the mainstream media who seem prepared to recognise the choice we face for what it is. Even wise and perceptive commentators like Martin Wolf, who lament the situation the Conservative government has led us to, often feel it necessary to balance their piece with a derogatory remark about the Labour leadership. Those remarks may or may not be accurate, but a plague on all your houses just allows this Tory government to stay in place.

Worse still are those in the centre or centre-left who refuse to give up hope of getting ‘their party’ back and will do anything that in their view helps that cause. In the first year after Corbyn was elected many MPs and journalists waged a constant war against the left in the media. I said at the time it was utterly futile and self-destructive, and I was right. It led to an attempt to unseat Corbyn that everyone on the left calls a coup, and a clear majority of members saw it the same way. Polls suggest the same is true today. Those in the centre and centre-left need to realise that for all Corbyn’s faults and mistakes he will be Labour’s leader going into the next election, and if they repeatedly attack him they are helping Boris Johnson do terrible damage to our country.

Of course the right wing press will do anything to discredit Labour: that is what their owners pay them to do. But often their task is made easier by the non-partisan media who think they are making choices using simple journalistic criteria, such as going with the story. What we are in danger of seeing with 24/7 criticism of Corbyn is a repetition of what happened to Hilary Clinton in the US elections. As I showed here, the mainstream media spent much more time talking about her email server than any of the sins of Donald Trump, or indeed all those sins combined. In that sense the US media chose Trump over Clinton. It was of course not a thought-through or considered choice, but just the outcome of lots of individual decisions that seemed to make sense in journalistic terms, but were disastrous in political terms.

Of course the constant tunes the media play matter. One of the incredible poll findings of that US election was that more people trusted the serial liar Donald Trump more than Hillary Clinton. That makes no sense unless you note the constant stream of media stories suggesting Clinton had something to hide. No one is suggesting Labour’s failures over antisemitism should not be exposed, just as no one was suggesting that Clinton should not have been criticised for using her own email for government business. What is missing in both cases is a sense of perspective, as here for example, or here. Without that perspective constant attacks on Corbyn will have an impact. The impact will be to keep a destructive far right government in power.

Brexit: it’s the economics, stupid.

The Global Future report published about a week ago, and particularly the polls it contained, received some attention, but in my view not nearly as much as they deserved. Respondents were shown four possible Brexit scenarios, together with an estimate of what each would do to the amount of money available to spend on public services. One of these options was the government’s preferred bespoke deal. All the options were overwhelming rejected, by Leave voters.

The Jack of Kent blog had a take on something similar that could also be applied to this poll result, after a well known children’s book: ‘That’s not my Brexit!’. It is very apt for this poll because it makes clear that none of the four types of Brexit offered are remotely like the Brexit people voted for. What is wrong with EEA, FTA, WTO or Bespoke in the mind of these voters? They all imply substantially less money for public services. The Brexit people voted for involved more money for public services.

This fits with the finding that most Leave voters continue to believe that they will be better off in economic terms as a result of Brexit. Many voted for Brexit because they were told more money would go to the NHS. The Remain side said that would not happen because of adverse macroeconomic consequences, but many voters believed the Leave side when they said these claims were just Project Fear. They were told that the EU would not decrease the ability of UK firms to trade with the EU because it was not in the EU's interests to do so. 

This is why polls that ask “In hindsight, do you think Britain was right or wrong to vote to leave the European Union?” only show a narrow majority for staying in the EU. In answering that question most Leave voters still believe they will be better off after Brexit. When presented with specific options that show we will not be (i.e. when presented with likely reality), you get quite different answers.

Forget those who say that the Brexit vote was all about sovereignty and not about economics. Economics matters, and the poll shows that in this case it matters a lot more than sovereignty or immigration. What Project Fear achieved, with considerable help from the media, was to take the economic factors that mattered off the table, or even replace them with mythical economic gains. [1] Voters went for what they saw as certain: £350 million a week, plus less immigration reducing pressure on public services. Both were lies, but Leave voters did not know that. Which is why most Leave voters continue to believe they will be better off, and why none of the four options they were presented with in the Global Future poll was the Brexit they voted for.

In short, half of the voting public bought snake-oil believing the claims made for it. Most continue to believe the claims, and put down the fact that the government appears not to be delivering what they were promised to something other than that they were sold a pig in a poke. If you think that is implausibly foolish, your main source of news is probably not a pro-Brexit newspaper or even the BBC.

The implications of this are huge. The Global Future poll shows that most Leave voters, and certainly most voters, do not want any Brexit deal that is actually possible. They only want the impossible deal they were promised by Brexiters. That means that any referendum on the final deal that included the government’s own realistic assessment of its economic consequences would result in a massive majority to Remain in the EU.

This is why Brexiter claims that everyone (and for the maths to work it has to be almost everyone) who voted Leave knew that meant leaving the Customs Union are beside the point, as well as being as economical with the truth as most Brexiter claims. Most Leave voters probably had only a hazy idea of what the Customs Union and Single Market were, but most clearly wanted a Brexit that delivered more money for public services. As it is now quite clear that the Brexiters cannot deliver that, then there is no mandate for Brexit. That is what these polls show.

I do not normally disagree with Martin Wolf, but I do when he says another referendum would tear the country apart. Instead, it would be the opportunity for most of those that voted Leave to realise that what they voted for is not on the table because it is not possible, and for them to gracefully retreat by changing their minds in the privacy of the voting booth. On the other hand to continue with Brexit would do far more harm to the UK’s body politic. We would have allowed politicians to put forward a fantasy and get away with it, which means every election from now on will involve claims more and more divorced from reality. The government, desperate to avoid the disappointed expectations of Leave voters, will resort to ever more populist tactics. The lurch towards an anti-pluralist democracy that we have seen since the referendum result could become entrenched in the UK.

Governments have been elected making impossible claims before, but when it turns out that they cannot deliver they can get voted out after 5 or less years. We have to think of the referendum in the same terms. We will have had two years to see if the government can produce the Brexit people voted for, and what these polls show is that they have failed to do so. That may be no surprise to many, but it is news for Leave voters. These polls show that Leave voters do not want the Brexit that is likely to be delivered. To deny people the chance of recognising that the Brexit they voted for is not possible in a referendum on the final deal is deeply undemocratic.

[1] I argue Trump did something very similar.

GE2017 and the stages of Leaver grief

After the Brexit vote, various people had fun talking about the stages of Remainer grief, going from denial through bargaining (we can still reverse this) to acceptance. But I think there is an analogous process for Leavers, where they begin to regret their decision and realise that they have made a serious mistake. For many of them we are in the bargaining stage, where somehow the situation can be retrieved as long as the negotiations with the EU are handled well. For them this is what the election is about.

We have to start with one interesting fact that should be noted more often. As YouGov’s Brexit tracker shows, the UK remains as divided on the issue of Brexit as it was a year ago. As I have noted before, this is slightly surprising, because over the last year it has become clear to most Leavers that Brexit will involve a cut in their standard of living, whereas before the vote most Leavers did not expect this and furthermore reported that they did not regard a cut in their living standards as a price worth paying to reduce immigration. But voting Leave was about much more than economics, so people are likely to be reluctant to admit they made a mistake that quickly. As Mark Twain said, “It's easier to fool people than to convince them that they have been fooled.”

Hence the stages of grief for Leavers. They have been led to believe, by newspapers and politicians, that as long as the negotiations are played right all will be well: the bargaining stage of grief. Unfortunately for them they are still living in the fantasy world created by the Brexit media and unchallenged by the broadcast media. The fantasy is to view the forthcoming EU negotiations as some great battle of wills. As Stephen Fisher notes, the negotiations are constantly framed in pugilistic terms. This is why the Conservatives are polling at around 45%, despite all the mistakes of the Tory campaign.

Hence, also, the attraction of the ‘no deal is better than a bad deal’ line. Leavers need to believe that walking away is a credible threat that will unlock the benefits of Brexit. But the reality is painfully different. If you want an eloquent explanation of this read Martin Wolf if you can, otherwise here is the short version. The EU knows that No Deal would be a disaster for the UK. It would be painful for the EU too, but not so painful as to make them offer the UK any significant favours. Their overriding objective is to ensure the UK will be worse off under Brexit, not as some punishment but to ensure EU survival. Given that No Deal will be so much worse for the UK than the EU, and as the clock is already ticking, the EU are in a position where they can pretty well dictate terms. To the extent that this is a game, we lost it the moment Article 50 was triggered.

The EU negotiations are still very important, but for the UK it is more a matter of making choices rather than extracting concessions. There are many kinds of Brexit. In thinking about who would be the best negotiator for the UK, the most important question to ask is who would make the right choices. Theresa May, by focusing so much on immigration and the European court, has already made two very bad decisions. She seems to be rather good at bad decisions. Personal qualities matter to a lesser extent, but success involves empathy and trust, not obstinacy. [1]

Unfortunately much of the country is still lost to the fiction that the negotiations are a battle of wills where the UK can emerge victorious if it is stubborn enough. While the ‘strong and stable’ line did not survive inspection, I suspect the ‘coalition of chaos’ mantra will begin to work in the last week of the campaign if the polls tighten. Hugo Dixon makes a strong case that in reality a hung parliament would actually be a good thing in many ways. However it is a case that is very difficult to get across in short soundbites, and the fact that there are a multitude of permutations will sound like chaos to many. In addition, the various possibilities are the stuff political commentators love talking about (see GE2015), so this apparent chaos will get plenty of airtime. That, despite her best efforts, should see May through to a decent majority on 8th June.

But this will not put an end to Leavers grief, but just delay and heighten it. Depression is likely to follow as the reality of the negotiations become clear. In all likelihood the economy and real wages will continue to stagnate, and the improvement in public services promised by the Brexiteers will not materialise. Theresa May once warned that the Conservatives had become known as the nasty party. Her actions now are ensuring that it forever becomes known as the party that embraced a disastrous Brexit.

[1] Her lies are also getting worse. At least ‘I’m calling the election because I need a strong mandate’ sounded plausible until you thought about it, but ‘I’m not joining a debate because I’m busy preparing for the negotiations’ wouldn’t fool a 10 year old.

Economists versus bankers

Nearly a year and a half ago I wrote a post about encouraging dialogue between economists and other social scientists. I concluded with the following three paragraphs:

“Let me take a real world economic problem: the response to the financial crisis. Some have suggested that banks have become too large and need to be broken up, or that the activities of high street banking need to be separated from the activities of the casino. Your economic analysis tells you that networks of many small entities can be as subject to crises as networks involving a few large banks. You are also able to devise a system of Chinese walls that mean that the activities of the casino can be separated from those of the high street even within the same company, and your political masters seem to prefer this approach. You recognise that different assets differ in their liquidity, and so you devise complex weighting algorithms for computing capital ratios. Your suggestions form the basis of negotiations between officials and bankers, and a set of rules and regulations are agreed.

Over the next few years you watch in dismay as your complex system begins to unravel. The CEOs of the large banks seem to constantly have the ear of politicians, who in turn gradually compromise your elaborate controls to render them less and less effective. Those in charge of administering the rules find it much more lucrative to work for the banks, and so regulators gradually lose expertise and resolve.

And you realise that right from the start you made the wrong choice. You decided to focus on what you knew, which was how to design systems that worked well as long as those systems remained unchanged, but which were not robust to intervention by self-interested parties. In short, they were too open to rent-seeking. You realise that actually the best thing to have done was to break up the banks so that their political power was forever diminished. And you recall a conversation with your social science colleague when this all started, who might have been trying to tell you this if only you had understood the words he was using.”

I was afterwards asked whether I had one particular UK economist, John Vickers, in mind when I wrote this. He chaired, at the government’s request, a commission on banking reform. He has become increasingly vocal about how his original commission’s proposals (pdf) are being watered down and how the Bank of England appears to be putting public money at risk once again. (For his detailed assessment, see this paper. And here is what another commission member, Martin Wolf, thinks about the financial sector. Adam Barber details how the attitude of the UK government has changed. In the US this very issue became an important point of difference between Clinton and Sanders.)

The honest answer is that I did not have him in mind. It was a fictional account designed to make a point, and so I took elements from different debates which together apply to no one country or individual. The point is that in finance good reforms are those that can best resist political or economic manipulation by banks, and perhaps economists in general have been slower to see that than some of their colleagues in other social sciences..

It would probably be fair to say that before the financial crisis economists got on pretty well with the financial sector. There was a common interest in monetary policy (although the motivation for that interest might have been different) and the sector was a useful source of funds for conferences and (for a few) consultancy. Most economists did not look too hard at what the financial sector was actually doing, although those that did often raised serious questions. Behind this nice piece by Ben Chu is an army of academic research which suggests that fees paid to manage funds are a waste of money.

The situation changed after the financial crisis, for obvious reasons. Since then economists have increasingly questioned whether the whole business model behind banking is sound. In particular they have questioned why banks should be so different from other companies in terms of the amount of equity capital they hold in relation to their assets. These economists include the previous governor of the Bank of England, Mervyn King. They have also questioned whether one of the side effects of current regulation is to maintain the monopoly power of big banks.

If all that was not bad enough, we have the influence that the financial sector has on monetary policy. Mainstream macro has put a lot of emphasis on the importance of day to day monetary policy being independent of politicians, and far too little on it being independent of the influence of finance and bankers. Paul Krugman has talked about the links between interest rates and bank profits and how that might ‘guide’ the views of bankers. If you want to see a clear case of that, read this FT op-ed by David Folkerts-Landau, chief economist at Deutsche Bank.

The article could not be more wrong. The reason the Eurozone has performed so badly compared to the US, Japan and even the UK is not because of lack of structural reform, but because of the relative reluctance of the ECB to stimulate the economy. Rates were raised in 2011, and Quantitative Easing delayed until 2015. The article is full of hopeless lapses in logic. If there is any sense here at all, it is that high unemployment is required as a political incentive to undertake structural reform. So the ECB “has become the number one threat to the eurozone” because it has allowed politicians to put that reform off.

Here I can do no better than quote Adair Turner. “Vague references to “structural reform” should ideally be banned, with everyone forced to specify which particular reforms they are talking about and the timetable for any benefits that are achieved. If the core problem is inadequate global demand, only monetary or fiscal policy can solve it.” In the Eurozone the core problem is lack of aggregate demand, as below target inflation shows.

Why this hostility from German bankers to low or negative rates? What the author does not tell you is that the profits of German banks, and the viability of other parts of the German financial system, are particularly (IMF pdf, box 1.3) vulnerable to low rates. (For those that can access it, Wolfgang Münchau in the FT provides an excellent summary.) And also that the profitability of Deutsche Bank is not great right now, as Frances Coppola notes. In the UK or US if this kind of nonsense from bankers appears in the press it gets a lot of kick back from economists - in Germany perhaps less so.

So who cares if economists have crossed swords with bankers? It matters because finance gets away with so much partly through a process of mystification. Mystification is how banks can perpetrate widespread fraud on consumers and businesses. When bankers say that being forced to ‘put aside’ more capital keeps money out of the economy it sounds plausible to many, even though it is completely false. (Admati and Hellwig (pdf) list 30 other similar false claims.) There is also a belief that because bankers are involved in financial markets, they must know something about how the macroeconomy works, a belief which the FT op-ed shows is clearly false. In all these cases, economists can provide demystification.

If we are ever to cut finance down to size (metaphorically, and perhaps also literally), economists are going to be vital in the battle to do so.

Spain, and how the Eurozone has to get real about countercyclical policy

Matthew Klein has a good account of how Spain’s macroeconomic fortunes are improving, but only from a very bad place. I’m not that knowledgeable about the Spanish economy, so I cannot add any detail. However I do want to pick up on one point, which he and others (including Martin Wolf - see below) have made, which I think is wrong and misleading.

Before I do that, I just want to make a general point about the current recovery. At its heart it is export led, which is exactly what you would expect. Just as this post which compares Greece to Ireland shows, the Eurozone does have a natural correction mechanism when a country becomes hopelessly uncompetitive as a result of a temporary domestic boom (whatever its cause). The mechanism is a recession and what economists call ‘internal devaluation’: falling wages and prices. The problem with this correction mechanism is that, on its own, it is slow and painful, particularly when Eurozone inflation is so low.

So the key question is what could Spain have done to avoid having such a painful period of correction. The cause of the problem was the excess private sector borrowing of the pre-crisis period, and the associated capital inflows. This was part of an unsustainable property boom that led to a large current account deficit and rising inflation. (I liked the point that Matthew Klein made about how export orientated firms have recently increased their borrowing. Extra borrowing is not bad if the investment is sound.) What could Spain have done to cool things down? As Matthew Klein points out, Spain already had some sensible macroprudential monetary policies, and it seems likely that more of the same would not have been enough.

Which brings us of course to fiscal policy, and it is here that so many commentators go wrong. They say, correctly, that Spain’s problem was never a profligate government. They say, correctly, that the actual budget was in surplus from 2005-2007. Of course the relevant number is the underlying (cyclical adjusted) balance, and the IMF now thinks that shows a persistent although small deficit. But as Martin Wolf points out, again correctly, the IMF in 2008 thought very differently. As I have said many times in the case of the UK, ex post numbers for pre-crisis cyclically adjusted deficits can be very dodgy because of the depth and persistence of this recession.

The mistake everyone here makes is to judge the appropriate fiscal policy by the size of the deficit. That is like saying that a bigger fiscal stimulus in the US in 2009 was impossible because the deficit was already very large. For an individual country in a currency union the deficit is not the appropriate metric to judge short term fiscal policy. Unless there are very good reasons for believing the economy is too competitive, the appropriate metric is national inflation relative to the Eurozone average. From 2001 to 2007 the GDP deflator (the price of domestically produced goods) for the Eurozone as a whole increased at an average rate of just over 2%. In Spain it increased at an average rate of nearly 4%. 2% excess inflation over 7 years implies a 15% loss in competitiveness. So forget the actual budget deficit or any cyclically corrected version, fiscal policy was just not tight enough.

I have been told so many times that for Spain to have a tighter fiscal policy before the crisis was ‘politically impossible’. If that really is true, then Spain has little to complain about when it comes to the subsequent recession. If you cannot do any better, you have to leave the natural correction mechanism to do its slow and painful work. But I suspect what is ‘politically impossible’ is in part a reflection of the Eurozone’s flawed Stability and Growth pact itself, which focused entirely on deficits.

It seems more than likely that the existing monetary but not fiscal/political union is here to stay for some time. Many in Europe’s political elite plan to move quickly to greater union (see Andrew Watt here), but there are serious obstacles in their path. The current system can be made to work better, and strong countercyclical fiscal policy is an obvious part of that. Combining this with medium term deficit reduction is technically trivial. Just how many years and recessions does it take before what is obvious textbook macroeconomics can become politically acceptable?

Scottish Independence

Martin Wolf is quite right when he says that the debate about Scottish independence should not focus on relatively short term macroeconomic costs and benefits. I personally would be very sad if Scotland became independent, but that has nothing to do with money and (just as for Martin) everything to do with a British identity of which Scotland is an important part. But I also understand, having lived and worked in Scotland for five years, how these issues are more difficult when you are a minority part of a bigger nation.

Nevertheless my expertise is in macroeconomics, so I should say something about recent claims by both sides. It seems fairly clear to me that the Treasury report is right when it argues that, for the next decade or so at least, people in Scotland will be significantly better off by staying in the Union. The main reason is that additional public spending in Scotland as part of the union exceeds any benefits Scotland would get from having more of the revenue from the North Sea. This is also the conclusion of independent bodies like the IFS or NIESR, and it is only avoided by the Scottish government because they have unusually optimistic projections, particularly for North Sea revenues.  

What the exact benefit is, who knows. The set-up costs assumed in the Treasury report look too high (although Brian Ashcroft would like to see the Scottish government's figures), but they are only a minor component of their £1,400 per person dividend. In the longer term the trends for Scotland do not look favourable: North Sea revenue will decline, but public spending needs will not. So on present plans the Union dividend will not disappear. It is true that the UK government could change its funding formulas in the future to ensure Scotland gets a smaller dividend, but I suspect the threat of independence is quite a powerful incentive against that happening.

So what about the Scottish government’s claims that Scottish people will be better off with independence? Basically these amount to the belief that on its own Scotland will be able to become more productive, work harder and attract more migrants than as part of the union. These are discussed in Chapter 4 of its recent report.

The one area where this chapter has something going for it is with migration. The UK government’s desire to halt net migration will harm the UK’s public finances. If an independent Scotland took a much more positive attitude towards immigration, this could have beneficial macroeconomic effects. (Brian Ashcroft makes the same point here.) But elsewhere the report amounts to little more than hopeful guesses. In terms of productivity improvements, it simply says that the Scottish government has some good policy ideas, and here is a number for the higher productivity growth that these could generate. Is that number based on any detailed economic analysis? Not as far as I can see - it seems to be plucked out of the air. What about the benefits of greater participation of women in the labour force? The Scottish government wants to make better child care provision a priority, but the impact that this might have on participation rates again appears no more than a guess.

However this does mean that speculation about factors that might influence long run macroeconomic trends is pointless. As the migration example illustrates, where UK policy appears to have negative effects on output or growth, and an independent Scottish government would avoid this policy, this is a plus for the yes side. Besides migration, the obvious example is Europe. There has to be a significant probability that the Conservatives will win the next UK election, and despite his efforts, Cameron could lose the referendum he is committed to. An exit from the EU would almost certainly be harmful to the UK, and an independent Scotland would avoid those costs.  

To set against that are the insurance benefits of being part of a larger union. An independent Scotland would be a small open economy heavily dependent on a commodity with a volatile price. Standard precautionary savings theory says that a country dependent on a resource with a volatile price needs a form of insurance as a buffer. For an independent country that insurance has to come from building up a financial fund, which implies lower current spending. As part of a much larger union, however, the union can provide the insurance. And then of course there are the benefits of being part of a currency union which, without going into all the ‘will they do what they say they will do’ stuff that I have talked about before, will be put at risk with independence.

One final consideration involves options. Rejecting independence now does not preclude independence in the near future. For example, if the UK did vote to leave the EU, the case for allowing Scotland another vote shortly thereafter would be difficult to resist. In contrast, if Scotland became independent, the new nation would be unlikely to want to consider union again for decades, and even if it did the terms the UK would impose would almost certainly be less favourable to Scotland. So, for this reason alone, the risks in voting yes are higher.

Will the financial crisis lead to another revolution in macroeconomics?

This question was prompted both by an earlier post, and by reading Martin Wolf’s excellent 2013 Wincott Memorial lecture. (The response by Robert Skidelsky is also worth reading.) In the lecture he in characteristic style tries to demolish the idea that we have permanently lost a large amount of productive potential, and also argues that we need to fundamentally rethink the role of the financial sector. Bravo to that. He also says that the financial crisis “calls for an intellectual upheaval reminiscent of the response to depression in 1930s and then to inflation in the 1970s.” It is this last idea that I want to explore here.

That the depression led to Keynesian economics, and that this revolutionised macroeconomics, cannot be disputed. If the great inflation of the 1970s did a similar thing, then we might indeed expect something similar to follow from the financial crisis of 2007-9. Yet it is far from clear to me that it did. It greatly increased, for a while, the popularity of monetarism, but in theoretical terms that was hardly revolutionary (it used IS-LM), and its popularity died out pretty quickly. The adoption of monetary policy as the stabilisation tool of choice owed something to monetarism, but it probably owed much more to the move to flexible exchange rates when Bretton Woods collapsed. Friedman’s reinterpretation of the Phillips curve was important, but it was not revolutionary.

There was a revolution in macroeconomics in the 1970s and 1980s, but it was a counter revolution, as the name New Classical implies. It was essentially a revolution inspired by theory (rational expectations, and microfoundations more generally), rather than external events. There is no obvious link with the great inflation of the 1970s. Indeed, the RBC model that embodied most of the ideas of that revolution had essentially nothing to say about inflation.

So, in this straightforward sense, the great inflation of the 1970s did not lead to a revolution in macroeconomic thought. This suggests that there is no inevitability that the financial crisis will lead to any revolution in macroeconomics. Everyone admits that mainstream macro analysis took finance for granted before the crash, and those economists that did worry about such things were marginalised. (I would want to add Greenwald and Stiglitz to the usual list.) But now ‘financial frictions modelling’ is the growth area within the discipline. However this explosion of work does not appear revolutionary, but just another example of adding particular ‘frictions’ or ‘market imperfections’ to standard models.

As yet there is no sign that the financial crisis is about to lead to any paradigm shift in macro, even if some might wish it so. I can think of three ways the reaction to the financial crisis could lead to major evolutionary changes over time. First, it may end the tyranny of the consumption Euler equation, and finally give agent’s asset positions the key role they deserve in understanding their behaviour. (See this earlier post of mine, or this more recently from Noah.) Second, the need to incorporate financial frictions, and other balance sheet effects for households and firms, while retaining the many essential features of the macroeconomy (e.g. labour market search, sticky prices) may require (for tractability) a gradual softening of the microfoundations methodology. I doubt that this will involve any sudden change, but just the increasing use of tricks like Calvo contracts that allow modellers to use aggregate equations that work empirically. Third, and most speculatively, I suspect we will see real attempts to model in a behavioural way changing attitudes to risk.

So, just as the great inflation of the 1970s in itself led to an evolution rather than a revolution in macro, we might see something similar following the Great Recession. However, to be a little controversial, perhaps there is a more indirect link between the great inflation and the New Classical revolution, which involves ideology. I think you could argue that the events of the 1970s led to an intellectual revolution in the sense of promoting neoliberalism and questioning the value of collective action in the form of both state intervention and trade unionism. That did not require any revolution in economics, because it came from (a selective reading of) the existing economics playbook. However you could argue (in a rather functionalist way) that Keynesian economics was too great a counterexample to the neoliberal view of the world, and therefore had to be overturned. A counterrevolution was required. I’m not sure how important this is, because I still think the main reason New Classical ideas won out against traditional Keynesian theory was that they won the intellectual argument. However I have also learnt in the last few years not to underestimate the role of ideology in economics. 

If you think this argument has some merit, then you might continue as follows. Although the financial crisis may not have exposed fundamental flaws in macroeconomics (just fundamental gaps), it should have exposed the failure of neoliberalism as an ideology. Finance was the poster boy of neoliberalism, where unfettered rewards and deregulation would generate innovation that helped fuel economic growth. The financial crisis led to the complete collapse of that story, with the whole sector having to be rescued by the state, and causing a prolonged recession. Yet the growing rewards continue regardless. It is now clear that these excessive rewards come not from innovative dynamism but either from rent seeking, or from risk taking supported by an implicit state subsidy (pdf). While the political forces that benefited from neoliberalism are strong, the bankruptcy of that ideology, and the harm done by the inequality it generated, are too great a truth to be resisted for long.

If that turns out to be true, then there may be some implications for macro. Theories that find support not from evidence but from the neoliberal positions they help justify may begin to be seen as the unacceptable face of the discipline. Conformity with most rather than just some of the evidence may start to matter more than conformity with a simple microeconomics that idealises the market. But this sounds too much like wishful thinking, so I suspect there is something wrong with the argument!

Austerity, growth and being economical with the truth

OK, I know that those more seasoned in trying to present simple economic ideas in a politicised environment know this happens all the time. And damn it I knew it was going to happen too, as I clearly predicted in one of my early posts. But still, despite my attempts to mock, the argument that positive growth proves critics of austerity wrong continues to annoy me. So here is my attempt to say why it bothers me so much, but after this post I really will try to move on.

Just in case you have not been convinced by my earlier posts of just how ludicrous this argument is, think about this. US growth became significantly positive at the end of 2009, and has remained so in nearly every quarter since then. So if positive growth proves critics of austerity are wrong, then the austerity debate in the US would be well and truly dead by now.  Those that refused to admit this would be completely ignored. Yet the opposite is true.

So the amazing thing is how the idea that the emergence of growth after years of stagnation proves austerity was just fine could gain a moments traction. Do not get me wrong. There are some arguments in favour of austerity that should be seriously debated. But this is not one of them. Instead the argument is just silly. So how can people get away with making it?

The first point to make is that although the argument is obviously silly to anyone with a modicum of macroeconomic knowledge, to interested people without that knowledge, but who get to listen to (or even interview) people like George Osborne, it is not immediately obvious. It becomes pretty obvious once it is explained (my example of deliberately shutting down part of the economy was designed with that in mind), but you need to be exposed to someone who can explain that. So, for those just interested in scoring political points, there is a temptation to make the argument if they think they can get away with it.

However I do not think that excuses George Osborne, or European politicians who have done the same for the Eurozone. We may pretend to believe that all politicians lie through their teeth all the time, but actually we do expect people like the UK or German finance ministers to avoid talking economic nonsense. At the very least we expect their civil servants to stop them saying things that are nonsense. Well not this time.

But there are limits to what politicians can get away with.  The interesting question is what those limits are, and what governs those limits.

Sometimes politicians can get away with bad arguments because they are based on half truths. The example that comes to mind is the idea that current austerity is required because of fiscal profligacy on the part of the past Labour government. While that myth annoys me because (a) it is used to support a damaging policy, and (b) because having crunched the numbers I know it’s untrue, the existence of the myth does not surprise me in the same way. As I have said before, the half truth here is that Gordon Brown was a little imprudent by being overoptimistic about tax receipts. Furthermore, if he had known in advance that the global financial sector was going to blow up he would have been much more cautious before that happened, so any data that is by construction wise after the event will suggest he was not cautious enough. This all means that for those who want to mislead there is the seed corn with which to grow this myth.

Nothing like this is true for the ‘growth proves austerity right’ idea. Instead it is an example of completely misrepresenting the argument of your opponent. The overwhelming majority (maybe all) of the economists who criticised austerity said that fiscal contraction would reduce the level of output in the short run. They may also have been concerned that this short run deflation might have negative longer term consequences. The deception is to morph that into ‘critics of austerity said that the economy would never grow again as long as austerity lasted’. Now I’m sure you could find some person (call them X) who was foolish enough to say the economy would never grow while austerity lasted. But everyone knows that Paul Krugman, or Brad DeLong, or Jonathan Portes are not X. Yet those making the ‘growth proves austerity right’ argument deliberately talk as if all critics of austerity were like X. It is a deliberate deception. It must be particularly galling for Martin Wolf to find his own newspaper doing this to him.

Economists whose job involves communicating with others, and media organisations that purport to have some economic expertise, have I believe the equivalent of a duty of care. It is their job to make sure people are not misled by arguments that they know are obviously wrong. What makes me cross is seeing some who choose not to exercise this duty of care.

Let me use an analogy. You are a science reporter for a newspaper, or even a reporter working for a magazine like the New Scientist or Scientific American. You have to comment on a politician who claims that because it snowed a lot this winter, climate change is clearly rubbish. What you would do in those circumstances is patiently explain why the politician was talking nonsense, discussing trends and noise and the like. You would not say as a prelude that the politician ‘makes a serious case’. You would certainly not write a leader in your paper saying the politician was absolutely right!

Just imagine it. A leader in the New Scientist or Scientific American saying that politicians have won the climate change argument because of recent heavy snow. So why is that idea inconceivable, but a leader in the Financial Times saying that recent UK growth proves critics of austerity are wrong goes without comment? It has nothing to do with economists being divided about the wisdom of austerity: as I said, there are arguments on austerity that should be debated, but this is not one of them. It cannot be because austerity is so politicised, because climate change is also highly politicised. It cannot be excused by saying that leaders are just opinions: you do not expect opinions in serious newspapers to be based on deliberate misrepresentation. So what is going on here? Would anyone from the FT care to comment?