A Chancellor hoping something will turn up

Ignore the fuss about whether or not the economy is technically in recession. Economic stagnation lo

No sooner had the Office for National Statistics (ONS) announced last Wednesday that the UK economy had fallen back into recession than economists starting lining up to denounce the figures as wrong. Having predicted that the economy would have expanded at a modest rate in the first quarter of 2012, they refused to believe the ONS has got it right when it said that real GDP contracted by 0.2 per cent, after a fall of 0.3 per cent in the final quarter of 2011.

However, this debate over whether the economy grew or shrank by 0.1 or 0.2 per cent in the most recent quarter should not distract from the bigger picture. When the coalition government was formed, the economy had grown by 2.5 per cent over the preceding year - not a strong recovery from recession, but at least a recognisable one. In the subsequent seven quarters, real GDP has increased by just 0.4 per cent according to the official data. Even if the ONS has got the latest quarter wrong and the true figure is a little higher, this is a pretty dismal performance.

In part, this is down to bad luck - in particular the effect of higher food and energy prices on spending power and the Eurozone crisis – but government policies and rhetoric are also to blame.

The hike in VAT from 17.5 to 20 per cent added to the squeeze on households’ spending power and massive cuts in government capital spending have hit activity in the construction sector.

There is a sharp contrast with the United States, where there has been less urgency about tightening fiscal policy and which also released a preliminary estimate of first quarter GDP this week. There output increased by 0.75 per cent in the final quarter of 2011 and 0.55 per cent in the first quarter of this year. So while the UK economy contracted by 0.5 per cent over the last two quarters, the US economy expanded by 1.3 per cent.

The government’s rhetoric about the need for austerity in the public sector has also not helped. When they took office, Cameron and Osborne believed in the idea of an ‘expansionary fiscal contraction’: that cutting the budget deficit sharply would so boost confidence in the private sector that companies would step up their investment and recruitment programmes and the economy would grow faster than if the deficit had not been cut. It followed that the tougher they were on the deficit, the greater would be the boost to confidence and the stronger would be economic growth.

After almost two years, the idea of expansionary fiscal contraction has been shown to be patently false. As many economists warned at the time, the most likely result from public sector austerity is economic stagnation. The more the government increased taxes and cut public spending and the more it talked about austerity, the more companies worried about the outlook for demand. This made them understandably reluctant to invest and recruit. The government’s cuts mean there were 350,000 fewer jobs in the public sector in December 2011 compared to June 2010, but the private sector only created 320,000 jobs over the same period.

Despite this evidence, the Prime Minister and the Chancellor are sticking to the line that any deviation from their plan to cut the deficit would make matters worse. 90 per cent of the cuts in public spending are still to be implemented, meaning many more jobs will be lost in the public sector, and there is little to suggest the private sector is willing to step up recruitment to fill the gap.

George Osborne is simply left hoping that something turns up to change the situation. Or rather that something specific – inflation – turns down, so that real incomes start to increase again. Unfortunately, the latest figures, showing inflation of 3.5 per cent and an annual increase in regular earnings of just 1.6 per cent, are not encouraging.

Ignore the fuss about whether or not the economy is technically in recession, the economic stagnation that began in the middle of 2010 looks set to extend for some while yet.

Tony Dolphin is Chief Economist at the IPPR 

Source: Getty Images

Tony Dolphin is chief economist at IPPR

Photo: Getty Images
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Cameron needs to decide what he thinks about Russia

David Cameron's words suggest one thing, his actions quite another.

David Cameron needs to decide whether he takes Russia seriously.

He certainly talks a good game, calling Vladimir Putin to account for crimes against Ukrainian sovereignty and for supporting the wrong side in Syria, claiming credit for bolstering the post-Crimea sanctions regime, and demanding that Moscow’s behaviour change. And the new Strategic Defence & Security Review, published last week, puts Russia front and centre among the threats Britain faces.

The problem is, his government’s foreign policy seems calculated to make no one happier than Putin himself.

At fault is not a failure of analysis. It has taken Whitehall 19 months since Moscow annexed Crimea to develop a new Russia policy, replacing the old aspirations of “strategic partnership based on common values”, but the conviction that Russia be treated as a significant threat to the U.K.’s security and prosperity is solid.

Five years ago, when the coalition government published the last Strategic Defence & Security Review, Russia was mentioned once, in the context of rising global powers with whom London could partner to help solve planetary problems, from nuclear proliferation to climate change. The new SDSR tells a very different story. Russia gets 28 mentions this time around, characterised as a “state threat” that “may feel tempted to act aggressively against NATO allies.” Russia’s annexation of Crimea and instigation of a separatist civil war in eastern Ukraine are mentioned in the same sentence with Assad’s chemical weapons attacks on Syrian civilians and the rise of the Islamic State as key examples of how the world is becoming a more dangerous place.

How that threat will be countered, however, is not a question Whitehall can answer: it is a question for Westminster, and it gets to the heart of where this government sees its place in the world, and in Europe in particular. What Whitehall cannot say – but what the politicians must recognise – is this: the best bulwark against the Kremlin is a strengthened European Union, with more integrated markets and the force to push a concerted foreign policy in the Eastern Neighbourhood. And that recognition requires Cameron to decide whether Putin poses a greater challenge than Nigel Farage.

The SDSR is right to note that the danger of a military confrontation with Russia is remote. Just in case, the Government has committed to bolstering aerial defences, contributing to NATO’s rapid reaction capabilities and maintaining the sanctions regime until a full settlement is reached that restores Ukrainian sovereignty. These are all reasonable measures, which will go some distance to ensuring that Moscow understands the risks of further escalation in the near term. But they do nothing to address the longer term problem.

From a hard-security perspective, Russia is a nuisance. The real danger is in the threat Moscow poses to what the SDSR calls the “rules-based order” – that system of institutions, agreements and understandings that underpin stability and prosperity on the European continent. That order is about more than respecting national borders, important as that is. It is also about accepting that markets are impartially regulated, that monopolies are disallowed and political and economic power reside in institutions, rather than in individuals. It is, in other words, about accepting rules that are almost the polar opposite of the system that Russia has built over the past 25 years, an order based on rents, clientelism and protected competitive positions.

Russia, after all, went to war over a trade treaty. It invaded Ukraine and annexed part of its territory to prevent the full implementation of a Deep and Comprehensive Free Trade Agreement that was designed to make Ukraine function more like Europe and less like Russia. From Moscow’s point of view, the European project is a very real geopolitical threat, one that promises to reduce the territory in which Russia can compete and, eventually, to increase the pressure on Russia itself to change. In somewhat less pernicious ways Moscow is seeking similarly to derail Moldova’s and Georgia’s European integration, while working hard to keep Belarus and Armenia from straying.

This is not a problem of vision or diplomacy, a failure to convince Putin of the value of the European way of doing things. For Putin and those on whose behalf he governs, the European way of doing things carries negative value. And unless the basic structure of politics and economics in Russia shifts, that calculation won’t change when Putin himself leaves the Kremlin. For the foreseeable future, Russia’s rulers will be willing to go to extraordinary lengths to prevent the widening of Europe, at the cost of instability and dysfunction in the region.

European willingness is another question. A chorus of euro=sceptics both left and right have demanded that Europe stop provoking the Russian bear, leaving the Eastern Neighbourhood countries to fend for themselves – sacrificing Kiev’s sovereignty to Moscow in order to bolster their own sovereignty from Brussels. Cracks, too, are emerging in the centre of the political spectrum: as French President Francois Hollande pledged to work with Moscow to fight ISIS in Syria, Prime Minister Manuel Valls declared that such an alliance would necessitate the lifting of sanctions on Russia, thus trading stability in Syria for instability in Ukraine.

As a member of the EU, London has a role to play. Together with Berlin, London could exert pressure on Paris and keep the margins of the political spectrum marginal. London could through its weight behind a common energy market, forcing Gazprom to play by EU competition rules. London could bolster anti-corruption systems and ensure that ill-gotten gains have no safe haven in Europe. London could insist on the legitimacy of the European project from one end of the continent to the other.

Instead, London is threatening Brexit, relinquishing any leverage over its European allies, and seeking EU reforms that would eviscerate the common energy market, common financial regulation, the common foreign and security policy and other key tools in the relationship with Russia.

In their February 2015 report on EU-Russian relations, the House of Lords raised the question of “whether Europe can be secure and prosperous if Russia continues to be governed as it is today.” To be sure, Europe can’t change Russia’s government and shouldn’t try. But by insisting on its own rules – both in how it governs its internal markets and in how it pursues its foreign policy – Europe can change the incentives Russia’s government faces.

The question, then, to Cameron is this: Whose rules would Westminster rather see prevail in the Eastern Neighbourhood, Europe’s or Russia’s?

Samuel A. Greene is Director of the King’s Russia Institute, King’s College London.