Double your cuts: the coalition is threatening to make a second round of cuts. Picture: Daniel Malka/Gallery Stock
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The economic consequences of George Osborne: covering up the austerity mistake

How did the coalition government manage to transform the media debate on macroeconomics so comprehensively - and what will happen now they have?

The coalition defined itself as a government of austerity or, as its members preferred, as a government with the courage to take the hard decisions necessary to deal with the deficit. In its first two years it did what it had promised to do – and more – and as a result inflicted palpable harm on the economy. The recovery was delayed, costing the average household the equivalent of at least £4,000. In 2012 the government departed from its earlier plans and eased up on austerity, but pretended it had not.

The numbers are stark. GDP per head, a far better indicator of prosperity than GDP alone, grew on average by just 1 per cent a year between 2010 and 2014. The average growth rate from 1950 to 2010 was close to 2.25 per cent. Even under the last Labour government, average growth was 1.5 per cent, and that period included the global financial crisis. The past few years, as we recovered from the crash, should have been a time of above-average, not below-average growth. Even growth in the past two years has been only average by historical standards.

A government entering an election with that kind of performance should be trying to avoid talking about its economic record at all costs. Yet the opposite is the case. Indeed, the Conservative Party has an election platform that promises to repeat exactly the same mistake it made 2010. As a macroeconomist, I find it very easy to explain the impact the government’s mistakes had on the economy. I find it much more difficult to understand how it might, in three weeks’ time, get away with them, let alone promise to make the same mistake again.

The first important point to note is that austerity was not forced on the coalition. There was no market pressure that required it to embark on rapid fiscal tightening. There was a government debt crisis in 2010 but it was confined to a few eurozone countries, for one simple reason: none of those countries has a central bank of its own. If the markets refused to fund their governments they could not ask their own central bank to do so instead. From 2010 until September 2012, the European Central Bank refused to play the role that economists call “lender of last resort” and as a result interest rates on Irish, Portuguese and Spanish government debt increased substantially. In September 2012, the ECB changed its mind and promised (with conditions) to act as a lender of last resort. Interest rates fell and the eurozone debt funding crisis came to an end.

Outside the eurozone, governments had no problem funding their deficits. Interest rates on UK debt and that of other countries fell steadily. Yet to listen to many City economists is to be told that we should not take the markets for granted. Had austerity not been imposed, these markets could have turned on us at any time, and therefore it was right to reduce the deficit sharply as a precautionary measure. There is, unfortunately, a good deal of self-interest in this advice. If we have to fashion our economic policy to appease an unpredictable market, it adds to the influence of those who profess to be able to interpret its mood.

So let us imagine what might have happened, had the UK not undertaken austerity in 2010 and if the markets had started to worry that it might default. That would have put upward pressure on interest rates, as markets required some compensation for the possibility of default. However, the Bank of England was at the same time buying large quantities of UK government debt under its quantitative easing (QE) programme, which was designed to keep rates low. Any market panic would have been quickly offset by the Bank’s actions as it bought more debt. Unlike eurozone countries, the UK can never “run out of money” and so is not at risk of default.

Embarking on austerity was a choice for the coalition, not something it was forced to do. But large deficits cannot be sustained permanently. At some point they need to be reduced. And yet, since the time of Keynes, standard economics has recognised that cutting government spending or raising taxes reduces aggregate demand. So is there ever a good time to reduce the deficit?

There is a simple answer to that question. Although cutting the deficit will reduce demand, this can be offset by the central bank cutting interest rates. Fiscal austerity need not damage the aggregate economy as long as monetary policy is able to push in the other direction. The big problem in 2010 was that this was impossible because interest rates were already as low as the Bank thought prudent. So there is one set of circumstances in which it is unwise to cut the deficit and these circumstances were exactly those that prevailed in 2010.

Although the Bank felt it could not cut interest rates any further, it did have the policy of QE. Could this substitute for the inability to cut short-term interest rates? The answer is that economists had very little idea, essentially because QE had not been tried before. To embark on austerity, and hope that the programme would offset its effects, was therefore a large risk to take.

What happened was that the recovery in output that seemed to be about to occur in 2010 did not materialise. George Osborne would say that this poor performance was the result of things outside his control, such as the eurozone crisis. However, here we can turn to the Office for Budget Responsibility for guidance. The OBR calculates that austerity reduced GDP growth by 1 percentage point in both of the first two years of the coalition government: therefore, the level of GDP was 2 points lower in the second year. As growth did not return until 2013, at the very least that indicates that austerity led to a cumulative output loss of 5 per cent of GDP, which is about £4,000 per household.

How firmly based is the OBR analysis? There are very good reasons for thinking that its numbers are rather conservative. They look at the average effect of austerity over the past but, as has been noted, monetary policy is often able to offset the impact of fiscal consolidation on output, whereas on this occasion monetary policy’s hands were tied. We also have good econometric evidence that austerity has a larger-than-average impact in periods of recession. So, you could easily double the £4,000 number.

Osborne originally intended to eliminate the deficit within five years. However, in 2012, with the recovery nowhere in sight and tax revenues lower than expected, he changed the plan. Since 2012 there has been  much less deficit reduction and, partly as a result, the recovery began – three years late – in 2013.

 

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This is all straightforward economics of the kind taught to every economics undergraduate around the world. The government chose a policy that many economists said in advance would do considerable harm. When that harm materialised it had to change its policy. That should have meant the government suffered a large blow to its reputation. The delayed recovery is one reason why living standards have suffered, so this is hardly an academic issue. A government with this woeful record should not be campaigning on economic competence. So, how has it managed to turn complete failure into the appearance of success?

There are four critical steps in how this was achieved. The first was to equate government budgets with household budgets. A consequence of recession is that many individuals and firms have to tighten their belts, so it seems intuitive that governments should do the same. This will be painful but individuals know that putting off their own adjustment can make things worse. It is part of every economics student’s initial education to learn why this analogy between individuals and governments is wrong – but most people have not studied economics.

A second key step was to blame the deficit on Labour profligacy. You do not need an economist to tell you that the main reason for the increase in the deficit was the recession created by the financial crisis. It is the case that the later years of the Brown chancellorship were not as fiscally prudent as his earlier years. But just before the recession the government debt-to-GDP ratio was lower than in 1997, which hardly indicates profligacy. Some have tried to suggest in hindsight that 2007 was a massive boom year (implying the need to run a budget surplus) but most evidence suggests otherwise and that certainly was not what most people thought at the time. There is enough here to make the profligacy charge vaguely credible, however, to people who do not look at the numbers.

The third stage in the austerity deception was to pretend that the policy change in 2012 was not a change in policy. The truth is plain to see in the data, but it was vital for Osborne not to admit that he was easing up on austerity. If he had admitted to changing his policy, he would have had to say why: austerity was delaying the recovery. All this stuff about a “long-term economic plan” can be seen as part of the effort to cover up the reversal and, therefore, the austerity mistake.

Pretending there had been no change in policy also allowed the fourth and final stage of turning failure into success, which was the most audacious deception of all. This was to claim that the recovery in 2013 vindicated the austerity policy. To see how absurd this claim is, imagine that a government on a whim decided to close down half the economy for a year. That would be a crazy thing to do, and with only half as much produced, everyone would be much poorer. However, a year later when that half of the economy started up again, economic growth would be around 100 per cent. The government could claim that this miraculous recovery vindicated its decision to close half the economy down the previous year. That would be absurd, but it is a pretty good analogy to claiming that the recovery of 2013 vindicated the austerity of 2010.

This was how the government could turn economic failure into apparent political success. The strategy also had one further consequence. It redefined the meaning of what good macroeconomic policy was. If you asked any economist what the aim of government policy should be, he or she would probably say it was to increase the welfare of the public, or, more specifically, to raise standards of living. A government that had presided over the longest fall in real wages in modern UK history would be in deep trouble. However, for much of the media, the goal of macroeconomic policy has been redefined as how effective the government has been at reducing the deficit. Macroeconomics as portrayed by the media is so different from the macroeconomics of the textbooks that I call it “mediamacro”.

Nothing illustrates mediamacro better than Ed Miliband’s 2014 Labour conference speech, in which he forgot to mention the deficit. In terms of what influences national prosperity, the real news over the past five years has been the stagnation in UK productivity. Yet when David Cameron failed to mention the productivity slowdown in his conference speech, hardly any journalist bothered to highlight this huge omission. When Miliband forgot to mention the deficit even Jon Snow lambasted him.

How did the coalition government manage to transform the media debate on macroeconomic policy so comprehensively? I have some idea of the ingredients involved but much less idea of how important each is. Of course having a partisan press is important, if only because it is capable of setting agendas. It also helps that the BBC can be easily intimidated. When its former economics editor Stephanie Flanders dared suggest that a lack of productivity growth might be a problem, Iain Duncan Smith made a formal complaint.

There is a further problem with how the media generally get their economic expertise. The economists you are most likely to see in the media are those who work in the City. It is, after all, part of their job to get media exposure; they’re always on hand to give a reaction. To be fair, when it comes to the daily ups and downs of the market, they are also best qualified to play this role, though in fact no one knows why markets move from day to day. But on issues of macroeconomic policy, City economists can present a biased and distorted view.

At the beginning of 2014, the Financial Times conducted a survey of economists; one of the questions it asked was: “Has George Osborne’s ‘plan A’ been vindicated by the recovery?” As I have already suggested, this question has an obvious answer. The 2013 recovery could not possibly vindicate the 2010 austerity because it is exactly what you would have expected to happen after austerity initially reduced GDP growth and was eased as a result. Among the academics answering this question, there were ten clear nos and only two clear yeses. However, among the many City economists who answered the FT survey, the numbers of yes and no replies were more evenly balanced.

Granted, it is regrettable that academic economists cannot speak with complete unanimity on the matter, but a 2/10 split is as close to a consensus as these things go. It is also the case that almost all academic macroeconomists would argue that the cuts in public investment that occurred in 2010 were a grave mistake. As the New Statesman reported in 2012, many of the minority of economists who originally supported immediate austerity have since acknowledged that cutting public investment in 2010 and 2011 was a grave mistake. It was these cuts, such as halting repairs to schools or reducing spending on flood defences, which most damaged GDP.

The austerity mistake involves basic macroeconomics. Cutting spending will reduce demand and is not to be undertaken when interest rates cannot be cut to offset its impact. The Conservatives, if elected, plan further sharp austerity in the early years of the next parliament, at a time when interest rates are still expected to be at or near their floor. Whatever your views about the desirable size of the state in the long run, to cut spending when the economy is still vulnerable in this way is to take a huge risk. It is exactly the risk that materialised from 2010, except today there is not even a hint of market pressure to cut the deficit quickly. Being able to cover up the earlier mistake is bad enough. Planning to repeat it is pure folly.

Simon Wren-Lewis is a professor of economics at Oxford University

 Simon Wren-Lewis is is Professor of Economic Policy in the Blavatnik School of Government at Oxford University, and a fellow of Merton College. He blogs at mainlymacro.

This article first appeared in the 17 April 2015 issue of the New Statesman, The Election Special

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When heritage becomes hate: why my home town of Charlottesville needs to address its complex past

After an invasion of white supremacists, we need to see what our history means today.

Watching a tragedy happening in slow motion, without any way to stop it - that’s how it has felt to be from Charlottesville, Virginia in the summer of 2017. A city that used to always get voted “happiest town in the USA” when I was growing up was the target this weekend of an ugly white supremacist movement whose roots spread far from the city.

It was a huge surprise when we won the lottery of Nazi flags, with our stupid old statues that have become icons of international fascism, with a park named after a distantly forgotten old man becoming a site of struggle for an attempted racist coup of the United States. Our first reaction is: they aren´t from here. Our second: make them go away. Our third: a realisation we need to examine the way that our own ways of life, which we thought so harmless, have inspired such horrible feelings in strangers.

Maybe for my African-American classmates at high school the statue of Confederate general Robert E Lee, and the park when it was still named after him rather than Emancipation Park, always meant violence. Pulling the statue down says no more about the historical Lee than tearing down Lenin in '89 says about socialism. We've been invaded by people pretending to protect us from invasion, and the symbols of our past will never matter as much as living people do.

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The invaders picked our town, probably, because Virginia was a confederate state, and was in fact where the southern gentry used to live. Lee exemplified this tradition. He was son of Lighthorse Harry Lee, a hero of the revolutionary war and governor of Virginia, and is a descendant of one of “Virginia’s first families,” the aristocratic Englishmen who emigrated to Virginia when it was a British colony. He is part of Charlottesville's heritage, and perhaps not even all that shameful a part. He opposed the secession of the confederacy, supported the reconstruction after the war, including giving rights to recently freed slaves. Not exactly woke, but for a confederate general, not as bad as some.

We were taught at Venable Elementary School that he fought only reluctantly, to defend his land, not slavery. In the version we learned, one would imagine Lee being very opposed to people from the Midwest coming to Virginia in cars with Ohio license plates to murder Virginians. Many non-racist Virginians, including quite a few friends, respect Lee deeply - the same is true in towns like New Orleans where other Lee statues are being taken down. Yet if once we could fool ourselves into thinking that the statue didn't represent hatred and racial hierarchies, we can't anymore. The discussion of local history has turned into one of national identity. The statue should be gone by Christmas. 

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The real hero of Charlottesville is the town’s founder, Thomas Jefferson, who was among the most enigmatic of the founding fathers, idealistic and hypocritical - a real American, in other words. His idea of the gentleman farmer is also part of our heritage. It was an alternative to Hamiltonian industrial capitalism, but lost out in the tustle to shape American history. Much like English contemporaries such as William Cobbett, Jefferson believed in a rural ideal, reading poetry by morning, farming by afternoon, playing the harpsichord by night. His thought is also present in our beautiful "academical village" of the University of Virginia which he also founded. It is one of UNESCO’s few world heritage sites in the United States, so I guess it is part fo the globe's heritage as well, and it is also where the white supremacists stomped around with their tiki torches.

It’s time for us to stop being romantic about Jefferson, too. The statue in our minds needs to come down. We can recognize the great parts of his work, of his thought, in Charlottesville today, but we can also recognise that he allowed himself to use violence to dominate others, that he owned slaves and raped them. And we can recognise that equivalent scenarios continue to play out today, and will continue to play out until we are willing to face the truth.

There can be no more excuses. It’s not about Jefferson, or Lee, after all. We use monuments, statues, heroes, to inspire ourselves. In the end, the “truth” about Jefferson or Lee is a matter of trivia and history. Today, for every white male in America, we need to deconstruct the parts of our identity built on the graves of others. It’s not easy.

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Jefferson's gentleman farmer was the forerunner of the people who populate the gentrified Charlottesville that exists today of expensive coffee-shops and celebrity-filled suburbs. This romantic idea, much like the lifestyles of the American and English elite today, seems to engender a lot of resentment from those who can only watch helplessly, and are often gentrified out. It’s not only immigrants or, in the United States, African-Americans, who are denied access to America's Williamsburgs and Charlottesvilles, London's Shoreditches and Oxfords. In Charlottesville, descendants of white sharecroppers and black slaves alike are unable to afford $15 glasses of local Virginia wine.

The paradox implicit in Jefferson’s beautiful idea is that in the end, it’s impossible to sustain this chilled-out and happy lifestyle without the labor being done by others, be they slaves, sharecroppers, or factory workers in China. If America is in trouble now, the conflict comes precisely from the fact that our universalist ideas of freedom, equality, and liberty correspond to an economy that is anything but universal. We actually did it, keep doing it, and unless we can use these ridiculous men dancing through our streets iin Halloween costumes as a funhouse mirror to make us see ourselves as we are, we’ll probably keep doing it.

I resent Jefferson for his hypocrisy, because in truth, I would love it if America looked more like Charlottesville than the industrialized and nasty-looking Interstate 95 highway that leads up the East Coast, the aftermath of Hamiltonian industrial-revolution factory America. The New Jersey towns, the gas stations, what we contemptuously call “McMansions,” suburban Northern Virginia... none of it is really authentic enough. Parallel to the rich and ugly suburbs, are poor and ugly towns, the sort of places with unemployment and discounts on cereal that tastes like sugary trash in the supermarket.

The residents of these towns don’t hate the residents of more gentrified towns for our organic granola, they hate the world for the structures of oppression that they can’t escape, even as an international class, an educated class, a well-meaning class, escapes without even needing to. We coexisted in the same place but not the same set of opportunities, and we glided on to new and bigger worlds of possibility, ones denied to those of different class backgrounds, regardless of their ethnicity.

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Some of my African-American classmates at Charlottesville High School were likely descendants of Jefferson’s slaves, coming from poorer neighbourhoods and housing projects and taking "standard" level classes, with honors and AP classes for students whose parents worked in the University (very liberal, of course), a genteel place where every year, some kid wears blackface or a Nazi outfit to a party - as a joke, of course. While my classmates in AP and Honors classes got help from our teachers in applying to Ivy League schools, the general level classes saw black and white students who shared poorer backgrounds acting out to get attention from harried teachers. This was public school, but Charlottesville’s many excellent private schools, of course, didn’t even have the general level students at all.

Despite some southerners such as Lee supporting the post-war “reconstruction,” white resistance to racial equality led to a Jim Crow system that wasn’t much better than slavery, and an American South which dozed in sweaty decline while the rest of the country industrialised and modernized. From 1865 to 1965, not much happened in the South. True, there were intellectual movements like the Agrarians, whose 1920s manifesto “I’ll Take My Stand” I found one high school afternoon in the local bookstore, we had our Faulkners, our occasional geniuses. But as a society, it was stagnant. 

It was only when the civil rights movement began that the south began to actually rise again. UVa went from being a minor regional school to being a world-class one. Charlottesville went from being a mediocre gentleman’s club to a place that people of all backgrounds could make lives for themselves in the public service. And we, the public, gained so much - that’s why my family chose to live there.

I remember as a child strolling the beautiful downtown mall to go to dinner al fresco with my parents, my father pointed out a man in a turban; it was Satyendra Huja, a Sikh professor at the university who had planned the downtown mall, and made a useless street into one of the nicest places to congregate in town. In 2012, Huja became the mayor. I guess the former mayor of Charlottesville who single-handedly made Charlottesville one of the most charming towns in the country often gets told to “go home,” as if that's somewhere else.

Martin Luther King Jr.’s birthday is a national holiday in the United States, but in Virginia it used to be “Lee/King/Jackson” day, with two confederate officers added in just as a reminder. That’s not really our heritage, and as students, we were grateful for the day but always laughed at how immature it was that the powers that be needed to block out Dr. King’s achievements so much.

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Charlottesville is a southern town true to and even obsessed with our heritage - a place filled with museums, historians, bookstores - which wants to dissect that heritage to remove the parts of our forefathers (and mothers) lives that we can’t accept, like a sandwich that you open up, take the pickles out of, and then keep on eating. We love our heritage in Virginia. We read about it, celebrate it, live it every day. But heritage isn’t a static thing, fixed in time, and the walls between myth and history are thin. In fact, perhaps knowing about your heritage is the ultimate form of privilege. I doubt that either the descendants of slaves I went to high school  with, or the “redneck” (so-called because they got sunburned by working in the fields - “redneck” is a class slur) descendants of the illiterate sharecroppers of rural Maryland, do. 

What happened this weekend to Charlottesville could happen to any town as long as we those who are deprived of their history and who don’t feel at home in their hometown. But the Charlottesville I remember, and the one it is now, proves that you can go from war and conflict and institutionalised racism to one where people of all races and identities can coexist, for the most part, peacefully and happily. We can, if we try, honor Jefferson for his achievements without forgetting the slaves his beautiful buildings were built by. A “Memorial to Enslaved Laborers” is being built on the campus he founded.

For the first time, every one of my old friends is thinking about racism, white privilege, the origins of violence, and what we can do about it. We can honor Jefferson and General Lee’s memory best by trying to learn from their mistakes. Maybe, if it seems like we are able to solve these problems, I’ll have a child myself. I hope she goes to Venable Elementary School, and I’ll take her to Emancipation Park afterwards.

This article first appeared in the 17 April 2015 issue of the New Statesman, The Election Special