Deficit spending (2)

Let us rethink entrenched positions, and seek an intelligent and humane middle road.

My old school friend Howard is boldly, proudly, consistently, and cogently left of centre in his politics. Family background placed him there at an early age, but PPE at Oxford did not deflect him from the path of the 'honest citizen'. I, on the other hand, born and brought up as a Liberal and thus uncomfortably astraddle the fence all my life, have been struggling with the balance between labour and capital ever since I became politically aware with the advent of Thatcherism. "I still hate that woman" said Howard the other day. "Well, we wont fight over that", said I, "but she did curb the unbridled power of the unions that was holding the country to ransom".

Back in 1979 I spent many hours trying to work out which argument was correct; the Tories thought that 30 years of full employment had handed power without responsibility to the unions who were forcing up prices with irresponsible (leapfrogging) wage demands and thus pricing Britain out of world markets. I could see the truth of that. On the other hand, deliberately to contrive unemployment in order to break a strike seemed to me a dirty trick as it imposed real hardship on hundreds of thousands of innocent people who could surely have been won over by simple logic. I resolved my dilemma at that time by concluding that there was no single correct policy; both policies were correct; it depended simply on who you were. If you owned a factory it was 'right' to keep wages low. If you were a worker it made perfect sense to bargain collectively; the 'right to strike' seemed to be the country's only protection against slavery. That solved, I could return whole-heartedly to my professional work as a scientist.

However, in retirement, I can see that I had not resolved the dilemma, but simply ducked it. The country does in fact have to be steered down that delicate line. Our quaint "first-past-the-post" political system in Britain tends to flip-flop the country sloppily across the line every 7 to 11 years. (No doubt in response to, and in synchrony with, the business cycle; though I have not heard anyone say that.) Can we not do better than that? Should we concentrate on cutting the deficit to below zero, and start to pay down the National debt? Or do we attempt to re-stimulate the economy with further deficit spending. Is this just another political football which you boot to left or right on simple class principles? Does anybody understand the economy sufficiently, and in a sufficiently scientific and disinterested way, to persuade all political parties to a common economic policy?

The Conservative way out of a recession is to let rising unemployment weaken unions and lower wages till business can once again turn a profit. This attitude so angers the workers that they demand a Welfare State safety-net and, if pushed too far, the nationalization of the mean of production. Liberal opinion, in my eyes, epitomizes the best aspects of tolerant, caring, humanity (the sort of humanity that staged a sugar strike not for its own benefit but for that of the plantation slaves). Liberals should seek to understand the business cycle, and use that understanding to anticipate and minimize the boom years, and minimize unemployment and hardship in slump years. Not because enforced unemployment is bad for the economy, nor bad for their own 'class'; but because it is bad for people. As, of course, is the Welfare State.

Textbook Keynesian monetary theory points out that when Saving exceeds Investment (because business prospects are poor), money is lost from the system and a recession becomes a depression. Applied to the business cycle, it further suggests that the State should run a deficit when the private sector contracts, restoring its reserves during the preceding and subsequent boom years. Classical monetary theory replies that deficit spending hurts business more than it helps; it raises wages (or prevents their fall), and it raises interest rates.

Should liberals therefore side with Labour and demand deficit spending in the current (2012) recession? I am afraid I do not trust the depth of analysis of Labour's call for deficit spending. I fear that they are re-playing Keynes' own depression of the nineteen thirties. Consider:-

[a]  Britain did not build up reserves during the preceding boom years; it built up debt, (and ran down its gold reserves: http://blogs.telegraph.co.uk/finance/tag/gavyn-davies/ ). A glance at the pie-chart of UK government spending shows that not defence, not education, and not even health is running away with the money; it is the welfare budget that dwarfs all the others [1]. We are little better than the Greeks. Currently we spend as much annually on servicing the national debt as on housing and the environment (4% of GDP). Woe if that should double!

[b]  Keynesian deficit spending is indeed damaging to business if there is insufficient slack in the labour market. And indeed, there is no great unemployment in the UK. The British public has shown every indication that it would buy more foreign goods if it had more money.

[c]  British household are not stashing spare money under the bed. The average British adult is harbouring a massive £30,000 debt! If the State wished to borrow money to deficit-spend, it would have to borrow off the Chinese on the money markets; not from its own citizens (as is the case in Japan).

[d]  Most commentators agree that some government spending on infrastructure would be beneficial in the long run. On carefully chosen projects it might also help in the short run, if the allocated wages lower welfare payments and raise tax revenues. Some highly experienced economists are beginning to murmur about possible Government spending [2], and a possible delay of the planned 'fiscal tightening' [3]. But my own assessment is that we do not have high unemployment, and the money markets currently seem surprisingly satisfied at the longer term stability of Sterling. So steady-as-she-goes seems the right course at present. Continue to build houses, roads, and railways; sponsor apprenticeships, tighten welfare payments, and collect taxes.

References:

[1] http://en.wikipedia.org/wiki/File:UKExpenditure.svg

[2] Richard Lambert on 26^th July -  http://www.ft.com/cms/s/0/09225846-d67c-11e1-ba60-00144feabdc0.html#axzz235Q7baLL

[3] Gavyn Davies on 9^th Aug - http://www.ft.com/cms/s/0/07a0e260-e20e-11e1-b3ff-00144feab49a.html#axzz235Q7baLL

L. Cawstein
cawstein@gmail.com