The view from the European Central Bank. Photo: Getty
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Robert Skidelsky: The welfare state did not cause the crash. So why is Osborne cutting it?

If a government has to cut its spending, it is much better to tax the rich than starve the poor.

The Institute for Fiscal Studies (IFS) has warned that there will need to be “colossal” cuts in public spending to balance the books by 2018-19 – at least £55bn extra. On 4 December, the day after the Chancellor’s Autumn Statement, the director of the IFS, Paul Johnson, said that it wasn’t for lack of effort that the deficit hasn’t fallen. Rather, it was “because the economy performed so poorly in the first half of the parliament, hitting revenues very hard”.

Very true – but what Johnson omitted to say was that the main reason the economy performed so poorly in the first half of the parliament was because George Osborne was busy cutting the deficit. He should have been expanding it!

This is something that expert commen­tators lack the guts to say because that would brand them as Keynesians. They may admit that fiscal consolidation has made eco­nomic recovery “more challenging”. But they don’t tell us why. This theoretical gap leaves them without a reputable story of why the economy behaved so poorly. They are in familiar “blown-off-course” territory.

Every possible event that might affect growth, however fleetingly, has been summoned in aid of explaining the failure of the economy to grow: the Greek crisis, the rising price of oil, the extra bank holiday on the Queen’s Diamond ­Jubilee and the closure of shops during the London Olympics, snow and floods – everything except the real reason, which is that a deficiency of ­private ­demand was not being offset by public-­sector investment.

The latest explanation of why the Chancellor has failed to meet his deficit targets concentrates on the nature of the labour market recovery. The government has congratulated itself on the fall in unemployment. We would expect falling unemployment to increase tax revenues and reduce public spending. However, this will not happen if government policy has created lots of new, mostly low-wage jobs whose holders pay no direct taxes and that must be propped up with benefits.

The catastrophic fall in productivity that we are now seeing was planted in the two and a half years of stagnation that followed the creation of the coalition in 2010. In October 2012, the Office for Budget Responsibility found that the economy had grown by only 0.9 per cent between Q1 of 2010 and Q2 of 2012, while its June 2010 forecast was 5.7 per cent growth over the same period. Subsequent upward revision has made these figures less dire but there is no doubt that Osborne and his advisers seriously underestimated the adverse effects of austerity on investment.

As is now increasingly recognised, this extended period of stagnation reduced the long-term growth rate of the economy through the destruction of both human skills and physical capital.

Despite his warning about the size of the cuts to come, Paul Johnson said that they could be achieved. He added, however, that they would require a “reimagining” (or, put another way, shrinking) of the state. Two questions arise. First, what effect will shrinking the state have on the economy? Second, what effect will it have on the polity?

On the first, Johnson seems to assume that the economy will go on growing at about 2.5 per cent a year, even as the deficit is being cut to zero. This is highly optimistic because the cutting is simultaneously reducing private incomes. It may be possible, by sufficiently heroic austerity, for a government to keep revenues for a time running ahead of cuts but at what level of GDP will the budget eventually be balanced? Certainly lower than it would have been without the cuts.

The cuts not only change the level of GDP but also its composition and, therefore, the relations between the state and its citizens. This point is recognised by Labour, which promises “fairer” cuts. If a government has to cut its spending, it is much better to tax the rich than starve the poor. However, this is alien to the spirit of cutting. The barely subliminal message of all austerity programmes is that the deficit has been caused by spiralling welfare payments to the poor, with the object of austerity ­being to “get them on their bikes” – like in the 1930s, when unemployment was consistently around or above 10 per cent.

We urgently need to have a proper debate about the role and size of the state. Prosperity does not demand that the state should spend 40 per cent-plus of national income as it does now, though justice may.

In the old days, people used to talk of a “trade-off” between efficiency and justice and some of those arguments may still be valid, though I am less and less persuaded that the private sector scores heavily over the public sector in efficiency. A financial system that allocates capital to itself and whose crash in 2008 left the population 15 per cent poorer than it would have been is hardly an advertisement for private-sector efficiency.

What is really indefensible is to cut the state for reasons of financial dogmatism, as though the size of the state – and especially the welfare state – were the cause of the slump. We need a cool discussion on the role of the state as owner and regulator in a market economy and in the light of the civic purposes that people set for themselves. It needs to be pointed out that these huge cuts imply serious losses to the quality of government services and the strength of the defence and police services.

I’m not sure which is worse: to bleed the economy with small cuts stretching many years ahead or to cut deeply now and hope for the best. What does seem clear is that politics will not allow the second and only a ­Labour government can avert the first.

This article first appeared in the 09 December 2014 issue of the New Statesman, How Isis hijacked the revolution

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Autumn Statement 2015: George Osborne abandons his target

How will George Osborne close the deficit after his U-Turns? Answer: he won't, of course. 

“Good governments U-Turn, and U-Turn frequently.” That’s Andrew Adonis’ maxim, and George Osborne borrowed heavily from him today, delivering two big U-Turns, on tax credits and on police funding. There will be no cuts to tax credits or to the police.

The Office for Budget Responsibility estimates that, in total, the government gave away £6.2 billion next year, more than half of which is the reverse to tax credits.

Osborne claims that he will still deliver his planned £12bn reduction in welfare. But, as I’ve written before, without cutting tax credits, it’s difficult to see how you can get £12bn out of the welfare bill. Here’s the OBR’s chart of welfare spending:

The government has already promised to protect child benefit and pension spending – in fact, it actually increased pensioner spending today. So all that’s left is tax credits. If the government is not going to cut them, where’s the £12bn come from?

A bit of clever accounting today got Osborne out of his hole. The Universal Credit, once it comes in in full, will replace tax credits anyway, allowing him to describe his U-Turn as a delay, not a full retreat. But the reality – as the Treasury has admitted privately for some time – is that the Universal Credit will never be wholly implemented. The pilot schemes – one of which, in Hammersmith, I have visited myself – are little more than Potemkin set-ups. Iain Duncan Smith’s Universal Credit will never be rolled out in full. The savings from switching from tax credits to Universal Credit will never materialise.

The £12bn is smaller, too, than it was this time last week. Instead of cutting £12bn from the welfare budget by 2017-8, the government will instead cut £12bn by the end of the parliament – a much smaller task.

That’s not to say that the cuts to departmental spending and welfare will be painless – far from it. Employment Support Allowance – what used to be called incapacity benefit and severe disablement benefit – will be cut down to the level of Jobseekers’ Allowance, while the government will erect further hurdles to claimants. Cuts to departmental spending will mean a further reduction in the numbers of public sector workers.  But it will be some way short of the reductions in welfare spending required to hit Osborne’s deficit reduction timetable.

So, where’s the money coming from? The answer is nowhere. What we'll instead get is five more years of the same: increasing household debt, austerity largely concentrated on the poorest, and yet more borrowing. As the last five years proved, the Conservatives don’t need to close the deficit to be re-elected. In fact, it may be that having the need to “finish the job” as a stick to beat Labour with actually helped the Tories in May. They have neither an economic imperative nor a political one to close the deficit. 

Stephen Bush is editor of the Staggers, the New Statesman’s political blog.