Osborne has trapped himself and the economy is suffering
Yesterday, writing on LabourList, Edward Carlsson Browne argued that Labour world borrow more and should say as much. Over at the Spectator’s Coffee House blog Isabell Hardman noted some of the practical political difficulties with making an explicit case for public borrowing.
Whilst this debate about the intersection between economic plans and political point scoring is very interesting, I think the focus on Labour’s own plans somewhat misses an important point.
A few weeks ago, before the loss of the AAA rating, Benedict Brogan noted that many voices within the Conservative Party are now arguing for a change in plan, as he wrote:
The Chancellor must decide whether the time has come for a big play that gets everyone’s attention and applies the defibrillator paddles to the economy. The arguments against are being knocked down like ninepins. More borrowing? It’s going to be higher anyway. Don’t want to borrow? Cut spending, you’re behind on reducing the deficit. Markets will take fright? Too late, the AAA rating is as good as gone.
The loss of the AAA rating, coupled with the fact that Osborne is already on course to miss the second part of fiscal mandate of falling debt to GDP by 2014/15, it could be argued, gives the Chancellor more wiggle room for fiscal stimulus. Now of course I, and others, have long argued that this room has always existed – but others seem to be now coming around to this view.
Take for example Citi’s economist Michael Saunders, who argued in a recent note that one option for the Chancellor at the Budget would be to:
Loosen fiscal policy (or at least defer the heavy tightening, about 1% of GDP per year, planned for the 2013/14 and 2014/15 fiscal years) to try to lift the economy out of prolonged stagnation. The government’s borrowing costs are negative in real terms, and it surely is possible for the government to find projects that will yield a positive real return — and hence would be self-financing over time.
I.e. a small fiscal stimulus (or in politician’s terms – ‘more borrowing’) would help lift the economy and be largely self-financing in the medium term.
Or take a look at Oxford Economics presentation that accompanied the IFS Green Budget 9in particular slide number 31). It showed that an additional £10bn of public investment (funded through borrowing) in 2013/14 and 2014/15 would increase growth in 2013 from 1.0% to 1.5% and in 2014 from 2.1% to 2.6%.
NIESR’s latest UK economic outlook argues along the same lines:
It remains our view that such a recovery would best be supported by a significant increase in public sector net investment, with looser fiscal policy in the short term while demand remains weak, and radical reform of the financial sector to support lending to the real economy.
In other words the National Institute for Economic & Social Research, Oxford Economics (and the IFS) and Citi are all arguing the same thing. Increasing public borrowing to fund capital investment would boost growth and not adversely affect the debt profile over the medium term.
With long term interest rates still negative in real terms this is as close to free lunch as Chancellor will ever get.
And yet the Chancellor refuses to listen to the experts. Whilst the Treasury no doubt recognise the need for more capital spending (see for example Nick Clegg’s recent admission that the capital spending cuts went too far) instead of more spending we get an endless series of schemes, cunning plans and wheezes. We’ve had a plan to get pension funds to fund infrastructure, we’ve had a guarantee scheme, we’ve had a modest capital spending boost funded by cuts elsewhere and, according to today’s FT, we are about to get some new initiative on the house building front. None of which have provided especially effective.
What these various moves have in common is that all are essentially attempts to increase capital spending without increasing the deficit. There are, as I see it, two possible explanations for this. Either the Treasury genuinely believe that any modest increase in borrowing would lead to an adverse reaction (which seems unlikely – see for example Citi’s comments, or the muted response to the AAA downgrade) or the Treasury recognise that increasing borrowing to fund capital spending would be useful but are held back from doing via political considerations.
It is this second explanation which appears more likely to me and which takes us back to where this post opened – the interaction of economic policy and political point scoring.
I had initially though this year that George Osborne might start to see some sense – that we might get a modest stimulus based on more capital spending funded by borrowing at the Budget in two weeks time. But watching his performance at the urgent question following the downgrade, this hope began to vanish.
Ultimately, that is the choice for Britain. We can either abandon our efforts to deal with our debt problems, and make a difficult situation very much worse, or we can redouble our efforts to overcome our debts, make sure that this country can earn its way in the world, and provide for our children a very much brighter economic situation than the one we inherited from our predecessors. That is what I will do, and what this Government will do.
George Osborne, as if often noted, is a hyper-political Chancellor – indeed he is not only Chancellor of the Exchequer but also the Conservatives election co-ordinator. Watching his statement last Monday I couldn’t help but think that his second job is intruding into his first. As Chancellor of the Exchequer he can surely see what the third party experts are saying – a £10bn increase in capital spending funded by borrowing would boost the economy and be largely self-financing. But as election co-ordinator he wants to keep his ‘dividing line’, to argue that he is sticking to his plans and that opposition are spend thrifts who would fritter away his ‘hard-won gains’.
After three years of arguing that deficit reduction is his central aim he has built himself a rhetorical prison in which any increase in borrowing – no matter how low interest rates are or how beneficial the impact on the economy – is wrong. The Chancellor likes to lay political traps for the opposition but this time he seems to have trapped himself.
More and more economists are lining up behind the case for an immediate debt-funded stimulus; it’s only the politics that is stopping us getting one.