We are staring into the abyss

Not so long ago, it was being said by some of those close to the Prime Minister that the gathering of world leaders at the G20 summit in London on 2 April would offer Gordon Brown a chance to lead – and be seen to lead – the international community as it grapples with the worst economic crisis in nearly a century.

His emergency plan last autumn to recapitalise the banks had been praised and imitated. Labour was narrowing the gap in the polls, with the Conservatives positioning themselves in staunch opposition to the government’s debt-financed fiscal stimulus measures.

Commentators and Labour supporters naturally saw the impending summit, prompting as it did Barack Obama’s first visit to Britain as president, as one fertile with opportunity for political recovery under Mr Brown. Such was the excitement at No 10 last year that there was much speculation about the possibility of
a general election this summer.

As so often in politics, it didn’t quite work out as planned. In the United States, as in the rest of the world, solutions to this crisis are proving as elusive as the comeback in the polls for which Labour yearns. So great are Mr Obama’s problems at home – his treasury secretary Timothy Geithner’s job hangs in the balance as he tries to fix the “mess” there with a $1trn buy-up of toxic bank loans – that, at one stage in recent weeks, it looked as if the president might not be able to come to London at all. Meanwhile, as Martin Jacques writes on page 22, the crisis of US power shows that we may be approaching the end of the dollar era, with China leading calls for a new reserve currency.

“We’re all Keynesians now,” proclaimed a recent editorial in that bastion of free-market financial commentary, the Wall Street Journal. Alas, Europe appears not to have got the memo. With the exception of Mr Brown, the continent’s largely centre-right assortment of presidents, prime ministers and chancellors has been oddly, if not outrageously, complacent as European economies crash and burn around them. The International Monetary Fund has forecast that the combined economies of the Eurozone’s 16 member nations will shrink by 3.2 per cent this year, far more than had been expected. The IMF, while not singling out any European nation, warned that the fiscal responses to the crisis are still at “an early stage” and that “measures are still needed to restore financial stability”. Now there’s an understatement.

As the present Nobel economics laureate, Paul Krugman, pointed out during a recent visit to Brussels, “The United States is not doing enough to fight the economic crisis and Europe is doing a bit less than half as much as the United States.” Professor Krugman’s view is that the fiscal stimulus programmes on both sides of the Atlantic should aim to peak at roughly 4 per cent of gross domestic product annually, and that current EU spending plans are therefore worryingly inadequate. The EU has pledged €200bn (£185bn) in fiscal stimulus measures that it says amount to 3.3 per cent of the 27-nation bloc’s GDP, but European leaders have rebuffed calls – from Washington and from London – to do more.

The world has been hit, as Warren Buffett put it, by an “economic Pearl Harbor”. We are staring into the abyss. In the Keynesian analysis, consumers and businesses aren’t spending, so aggregate demand has fallen: therefore, government must step in as the spender of last resort. Even the IMF agrees. An internal research note published in March concluded that “a well-executed global fiscal stimulus could provide an appreciable boost to the world economy in crisis”.

This is precisely the reflationary, indeed progressive, strategy that Mr Brown and Mr Obama want the world’s largest economies to adopt collectively at the G20 summit. However, the Europeans, led by the French, want to prioritise regulation over reflation. Cracking down on the hedge funds, short-sellers, derivatives traders, tax evaders and various casino capitalists lurking in the shadows of our rather nebulous international banking sector will help prevent another credit-crunch-induced recession in the long run. But, to return once again to the wisdom of Keynes, in the long run, we’re all dead.

This is about the here and now. As each day passes, the global economy slips further into a deflationary coma. It needs aggressive fiscal reflation and resuscitation – and it needs it now.

This article first appeared in the 30 March 2009 issue of the New Statesman, The end of American power