Osborne’s cuts, neither unavoidable or achievable

23 06 2010

So George Osborne has sent his message to the world’s financial markets. His insistence that the cuts announced in yesterday’s budget were ‘unavoidable’ was based mainly on the need to reassure international investors that the UK is still a safe place to lend money to ie we are not another Greece. But is Osborne’s austerity drive really unavoidable, and secondly, is it achievable?

Most of what was announced yesterday was about trimming public spending, through the wage freeze for public sector employees and taxing consumption by an increase in VAT.  No doubt this will bring some pain to many people but the real impact on public services is yet to come. So far there has only been a statement of intent to cut all government departmental budgets by 25%, bar the NHS and international aid. The full extent of where the real cuts are meant to fall awaits the outcome of a public spending review in the autumn. We are now in the position of a patient who is told to cut back on fatty food while we wait for the diagnosis of how many vital organs are going to be extracted.

There is a great deal of uncertainty even within the elite as to whether austerity is the best policy to pursue. The Financial Times has been full of articles throwing doubt on the wisdom of cutting public spending too hard at this point. Some of this has come from the normal doctrinaire keynesian suspects such as Robert Skidelsky, who believe that state spending should be staying up at this stage of the recession to boost demand, not down. 

But there are others who recognise that much of  what Osborne, with his Liberal free market colleagues, is doing is based on a  belief in a small state rather than through any financial imperative. Matthew Parris, for example, writing in the Times urged Osborne to drop the ‘unavoidable’ tag and argues

The Chancellor should not be embarrassed to say that he wants to wield the knife regardless of the deficit’s size.

Martin Wolf’s main fear is that with all of the western world, bar the US, committed to austerity it is hard to see where the opportunities for growth can come from. This gets to the heart of the problem facing the Con-Lib coalition. Drastically cutting the deficit only makes sense as a prelude to growth in the economy. Yet nobody is clear as to where this growth is going to come from. There are no obvious sectors within the UK economy poised for massive expansion. Neither is there an obvious market for UK exports, when the euro zone, currently the UK’s biggest export market, is itself in austerity mode. So, putting it crudely, we do not have enough to sell, and nobody to sell it to even if we did.

The government’s focus on supply side economics, freeing up the labour market and reducing the tax burden on private business, only works if it leads to greater investment and higher production. There is no sign of either of those things happening in the UK.

Are the cuts achievable? Ultimately this is not an economic but a political issue. Public services are heavily dependent on people. If 25% is to be cut then this will inevitably mean around the same proportion of public sector jobs going. The CIPD economist John Philpott estimates this will lead to 725,000 jobs being lost in the public sector. Comparisons are often made with the wage cuts and job losses that the private sector has experienced over the past two years, with very little opposition.

However the difference between the private and public sectors is that, if an engineer in Sheffield loses his job, this is a tragedy for him and his family. But outside of that nobody is affected. Even if the engineer’s firm is closed down, anybody wanting to buy a widget could go elsewhere. If a doctor loses her job, the same impact is true for her family, but also anybody who depended on her services will be affected as well. The vast majority of people cannot go ‘elsewhere’ for their health provision. How the austerity programme plays out will depend on how we all respond to the drastic decline in public services the government has lined up for us.

As I have argued before, the state plays such a central role in British society because capitalism is both too anarchic and too feeble to provide the goods and services that people need without state intervention. Dismantling the state looks like a bridge too far for the new coalition.

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What cowboy put this fiscal deficit in?

9 06 2010

That Cameron and Osborne should blame the previous administration for the mess they have inherited is hardly a surprise. It should also not be a shock that Cameron is painting the future as black. He then has the dual advantage that if things turn out badly he can say he told us so and if they do not he can claim the credit for turning the economy round.

What is more interesting is that beneath the rhetoric there does seem to be a genuine belief that the state in Britain should be smaller and have less role to play in all aspects of life. In this respect Cameron has been aided by the addition to his ranks of a section of the Liberal Democrats who believe in the free market. Clegg, Cable, Huhne and the (now departed) Laws were the four LibDems appointed as ministers in the cabinet. All of them contributed to the ‘Orange Book’ in 2004 which espoused the free market as a solution to the problems of the economy and which provoked controversy within the LibDems.

Having come late to the free market philosophy, and at a time when most other politicians and economists were moving away from it, they have some of the fervour of  the convert. Cable in particular, whose formative experiences were in the 1970s when the UK government failed abysmally to prop up failing businesses such as British Leyland, is possessed of a fierce belief that the state has only a limited role to play in the economy. He has promised to overturn Mandelson’s nascent attempts at reviving an industrial policy for the UK.

So now the government has both pragmatic and quasi-ideological reasons for cutting public spending and reducing the size of the state. Pragmatic in order to avoid a collapse of the confidence in those lending money to the UK and quasi-ideological through the concept of the ‘big society’ rather than the ‘big state’.

The problem with this approach is that it flies in the face of the history of capitalism over the past 100 years. The role of the state, in every developed and developing country in the world, has come to play a bigger and bigger role as time has gone by. Outside of the aftermath of wartime no state of any consequence has succeed in cutting public spending absolutely. Certainly no state has managed to do so after a recession. Even under Thatcher, in the supposed brutal period of the 80s, public spending overall continued to rise.

Why is this? Essentially because the free market has proved incapable of fulfilling many different and essential functions of society. No modern state for example has ever had an education system which is run as a private business. No modern state has had an entirely private health system. Even in the US, which is most committed to the free market, state funding of Medicaid is an essential part of health provision. In addition, individual national insurance schemes have never been able to pay entirely for payments to the unemployed.

Private businesses depend  on the state to provide cheap education, health care and unemployment benefits. To some extent the role of the class struggle in earlier periods was important in establishing the levels of provision of benefits from the state, but the elite as a whole understood that the state needed to subsidise welfare in order for the economy to function effectively. It was not the post war Labour government, for example, which architected the welfare state in the UK but the National Government under the Conservative Churchill which did so through the production of the Beveridge report in 1942.

The state has also had a key role in the building and maintenance of transport and other key infrastructural projects, which are too big for any individual private company to develop but which all businesses benefit from. Roads are one good example of this, but virtually all communication systems and infrastructure projects require massive state involvement and investment in their production or maintenance.

It is also the case that the state is now so large and so intertwined with private business that many companies depend on government contracts. The IT business in the UK, for example, has benefited over the past twenty years from many large projects in the NHS and in other government departments.

There are those who argue that it is the increasing role of the state which has stifled private enterprise, but the reality is that without ever-increasing state involvement modern economies could not survive. Capitalism is too feeble and unproductive in most modern economies to operate on its own two feet without massive state assistance.

 So what does this mean for the present UK government’s plans to cut spending? Firstly they will struggle to make any impact on the overall scale of public spending without doing huge damage to the way our society works. Secondly, whatever their pretensions to the opposite, the axe will fall hardest on those least able to defend themselves.

A version of this article appeared on Spiked





Why austerity won’t work

2 06 2010

Before we all put on the hair shirt and make a virtue of cutting public services the question has to be asked, will it work? Will  cutting public spending help the UK economy to revive? Is austerity necessary to keep the creditors, in this case those who lend money to the UK government,  from the door? Or is there something else going on here?

To understand what is at issue here it is first of all necessary to separate out the question of government borrowing from the problems facing the rest of the economy. The current obsession with the government deficit is because the overall amount that the government has to borrow to finance its operations has grown as a proportion of the economy over the past two years. This is due to a widening of the public spending deficit, that is the gap between what the government raises in tax and what it spends.

The main reason there is a higher deficit is that the recession led to a drop in government revenue from tax. As the recession hit, less people paid income tax as they were unemployed or took pay cuts and companies were paying less tax on lower profits. So the immediate question is, now that the economy is coming out of recession why not wait until the public spending deficit narrows again? And why does public spending have to be cut instead of more borrowing to finance the gap until income balances expenditure again?

The answer to the last question is that it does not. There is no reason why the current level of the deficit is any more or less sustainable than a higher or lower figure. In the abstract there is no level of government debt which is unsustainable. In fact Japan for example has had a much higher ratio of government debt for many years than the UK economy has now without it leading to any kind of crisis. People only fear lending money if they do not think they will get it back. The doubts over the UK economy are whether it can grow fast enough to repay the debt.

The fear is that money markets will stop lending to the UK or raise interest rates on their loans to a point where they become unsustainable. But even this fear has to be tempered by the fact that the average length of loans to the UK government is 13 years. This means that only around 7% of the loans have to be rolled over each year and thus being open to hikes on interest rates. There is therefore no immediate danger of the UK government being unable to finance public spending at its current level, even if that means having to pay a higher rate of interest on a small portion of the debt.

So why the obsession with cutting the deficit? Given that the problem was created in the first place by a fall in economic output, would it not be better to focus instead on how to grow the economy back to the point where current public spending is sustainable again? This is where the real debate should be, and where the real problems lie.

Some people argue that public spending is so high that it ‘crowds out ‘ investment in the private sector. In other words that taxes taken from the private sector and spent by the government prevent real investment taking place. There are two problems with this argument.

The first is that there is no shortage on money in the private sector which could be used for investment. The UK’s private sector is swimming in money. Nor is there a shortage of labour, the other necessity for economic growth to take place. Chris Dillow makes the point that adding together all those who could be available for work the real number of unemployed in the UK  is closer to 6 million, and that does not include those who are on incapacity benefit mainly because they get more money. So if there is no shortage of labour and no shortage of capital why can there not be faster growth? This is a subject which we have looked at in detail in previous articles . But suffice it to say that the reasons have almost nothing to do with too much spending in the public sector.

The second problem is that there is a strong case to be made that, as James Heartfield has pointed out, such is the intertwined nature of the private and public sectors in the UK, that lower public spending is likely to impact negatively on the private sector rather than positively. Around £80 billion of government spending goes straight back out to the private sector in the form of government contracts. In addition, the state supports private industry in many ways, through transport, communications, training, education, health and even direct subsidies. In fact, the first round of public spending cuts last week fell heaviest on some of the schemes that Labour had brought in to help promising parts of the private sector.

In the absence of belief in, or any plan for, faster economic growth the focus inevitably turns towards saving. When George Osborne talks about retaining the confidence of those who lend money to the UK he means he shares their lack of confidence in his ability to grow the economy and therefore has to cut consumption instead. But let us not believe that cutting consumption is the only way forward. It is only so if you have no plan to increase production.