Keep the stimulus going, Darling
Now is not the time to start paying off the debt, cutting public expenditure or raising taxes
No worries, the recession is over. Never fear: Andrew Sentance, a member of the Bank of England's Monetary Policy Committee (MPC), has told us so, and hence it must be true, well maybe not. In a speech on 16 November, he argued that "the short-term economic news has been generally very positive at home and abroad and points to the beginnings of economic recovery". Interestingly, Sentance forecast in a speech in February 2008 that there wasn't going to be a recession at all. "In my judgement, an outright recession - in which economic activity falls year on year - is a remote risk for the UK economy at present." And in September 2008, just after the collapse of Lehman Brothers, Sentance claimed that "the current prospect for the UK economy is very different to the major recessions we have previously seen in the mid-1970s, early 1980s and early 1990s. In these episodes, economic activity fell sharply for one to two years. In my view, the current outlook is for a much milder period of weak economic activity on this occasion." Sadly, things didn't turn out that way.
The short-term news really hasn't been very positive. There are clearly some signs of life, but let's not get carried away. There has been some evidence from surveys of a little improvement, alongside evidence that other countries such as the US, Germany and France are returning to growth - although it is uncertain how sustained that growth will be, given that it is mostly driven by government stimulus, which eventually has to stop. In the US, unemployment is still rising and unemployment benefits are running out for many, which led Barack Obama to call a jobs summit on 3 December. GDP growth for the third quarter of 2009 was revised down by the US commerce department at the end of November.
In the UK, GDP for the third quarter of 2009 was revised up a little, from -0.4 per cent to -0.3 per cent. But that still means we remain in recession - to the disbelief of Jim O'Neill, the chief economist of Goldman Sachs, who wrote in the Times that he would not be surprised to discover, when the figures are revised in future years, that "the depth of the UK recession has not been as severe as reported. Moreover, it will probably turn out that we have recovered earlier than believed." I wouldn't bet on it.
We have had evidence over the past two weeks that the scale of the credit market shock has been much greater than most people realised. We received news that financial markets were much closer to the cliff edge than we all thought a year ago, including me. The governor of the Bank of England, Mervyn King, told the Treasury select committee that the Bank had secretly lent billions to the Royal Bank of Scotland and HBOS to prevent them from failing.
The emergency loans peaked at £36.6bn for RBS and at £25.4bn for HBOS. The banks provided the Bank of England with collateral valued in excess of £100bn. They were charged fees for their borrowing and both repaid the loans. News of the HBOS loan sparked outrage among Lloyds shareholders, who felt duped because they weren't told about the loans at the time of the banks' merger, and are considering suing.
Interestingly, even though I was an external member of the MPC at the time, nobody told me about these loans or how bad things were in the financial markets. The announcement by the governor during his appearance before the Treasury select committee on 24 November was the first I had heard of the loans. We were also kept in the dark about what was happening with Northern Rock. The extent to which the external members of the MPC were not provided with basic information on the crisis is only now coming out. Surely such information was relevant to our decisions on setting interest rates? If we had been told what was going on, we may have started quantitative easing sooner and cut rates faster.
As the Chancellor, Alistair Darling, made clear, and I agree, it makes sense that this information was kept secret because it was market-sensitive, but keeping it from MPC members, which was ultimately the governor's call, is questionable at best. There is no point in having an MPC unless all members, and not just some, are given full access to vital information.
Also in the past fortnight the Bank announced that the flow of net lending to UK businesses remained negative in September and lending to companies fell across all the main sectors of the economy in the third quarter of 2009. While some business contacts of the Bank's "agents" around the country - particularly from larger firms outside of the property sectors - reported that credit shortages had eased, many others continued to report concerns over access to finance. Net consumer credit fell for the fourth straight month in October, the biggest fall since records began in April 1993.
The latest surveys of businesses conducted by the EU showed that confidence in both industry and services fell again in November. And confidence in the construction sector shows no signs of improving. All three measures remain at historically low levels. Consumer confidence has also dropped for the first time since January, according to a survey by GfK NOP. The CIPS/ Markit Purchasing Managers' Index for manufacturing also fell back in November.
And then Dubai World, burdened by $59bn of liabilities, shook markets around the world by seeking to delay repayment of much of its debt. Almost £44bn was wiped off the share prices of London's largest companies amid growing fears that the UK financial sector could be heavily exposed. This news came alongside warnings from Dominique Strauss-Kahn, the managing director of the International Monetary Fund, that global banks had worked through only half of their toxic assets since the banking crisis broke two years ago. This financial crisis is far from over.
In his pre-Budget report, the Chancellor must not allow himself to be deflected from the course of action he has successfully followed so far. Monetary and fiscal stimuli have prevented us from falling off a cliff. But there are likely to be storms ahead. Now is not the time to start paying off the debt, cutting public expenditure or raising taxes. And I would cancel the plans to restore VAT to 17.5 per cent in the New Year, as well as providing more money to help the young unemployed. This does need to be a budget for growth and (lots of) jobs. Keep the stimulus going, please.
David ("Danny") Blanchflower is professor of economics at Dartmouth College, New Hampshire, and the University of Stirling
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