Confronted by the threat of a third recession in four years, George Osborne’s response has largely been one of fatalism: after years of New Labour excess, we must resign ourselves to a sustained period of little or no growth before a long-delayed return to prosperity. It was this kind of thinking that John Maynard Keynes scorned when he observed, “In the long run we are all dead.” Economists, he wrote, “set themselves too easy, too useless a task if in tempestuous seasons they can only tell us that when the storm is long past the ocean is flat again”.
In his essay on page 30, Vince Cable, the Business Secretary and a Keynesian by training, offers a penetrating analysis of our economic plight. He says that Mr Osborne was right to start out with a clear message that the deficit would be brought under control by cutting spending and raising taxes. At that time, the markets had no experience of the problem and this is what they were looking for. But markets are fickle; or, rather, they learn about reality. About two years ago, they began to realise – on watching what was happening in Greece, Spain and the UK itself – that it was growth that was needed to solve the problem, not just spending cuts. Ever since then, the coalition policy has been wrong. The government has the licence to change tack but it has not acted on it.
The British economy is stagnating. Output remains more than 3 per cent below its pre-recession peak and is not expected to regain that level until at least 2015. Worse, as the Resolution Foundation has shown, living standards will not return to their pre-crash levels until 2023.
Mr Cable’s essay, part of a series of exchanges in the New Statesman with Robert Skidelsky, the pre-eminent biographer of Keynes, is the most considered reflection on our economic crisis by any politician since the general election. No one from Labour has published anything comparable. In seeking to explain the absence of growth, he is right to challenge the view that the coalition government’s austerity programme can be held largely or even solely responsible. As he writes, “This crude Keynesianism sidesteps the causes and effects of the financial crisis, including the drag on growth from damaged banks; as well as other structural problems, such as skill shortages and a long-standing neglect of vital exporting industries.”
But nor can the government’s fiscal consolidation be absolved of all blame. This is most true in the case of the sharp reduction in capital spending, which was cut by 29 per cent in the 2010 spending review. As Mr Cable concedes, this “has had economic consequences”.
The essay correctly points out that the simple Keynesian critique – even if correct – is only part of the story. The banking sector is broken and needs to be fixed. There is a big shift of economic power towards the east, regardless of Britain’s monetary or fiscal policy. And there are supply-side reforms that are worth introducing.
The piece acknowledges – even argues – that cuts to capital spending are irrational, in the coalition’s own terms: and so cuts to public investment should be halted or reversed. This is a welcome, if belated, acknowledgement of what the government got wrong. Indeed, the idea that cutting government capital spending was a reasonable way to reduce the fiscal deficit was a departure from logic. Yet it is the capital spending budget that has borne the brunt of this government’s expenditure cuts so far.
With business investment, consumer spending and exports all stagnant or in decline, the last thing ministers should have done was restrict the only remaining source of growth in the form of government investment. As Mr Cable writes, “It can inflict more damage on output than cuts in current spending or tax increases because the multipliers are much higher.”
Lately, in an act of partial self-criticism, Mr Osborne has reversed some of the cuts to capital spending, most recently increasing investment in transport, skills and science by £5bn in last year’s Autumn Statement.
But this increase is far too “modest”, as Mr Cable puts it. The Institute for Fiscal Studies has forecast that the move will increase growth by less than 0.2 per cent a year.
A fortnight away from the Budget, Mr Cable rightly asks why capital spending should not now be “greatly expanded”. He poses a question that the Chancellor has long regarded as closed: should this increase be funded through cuts elsewhere or through borrowing? While maintaining that the government was right to set out an aggressive deficit reduction plan in June 2010, he suggests that “the balance of risks” may now have shifted. If the economic facts have indeed changed – a reasonable conclusion to draw from Mr Cable’s analysis – the case for the government changing course accordingly and borrowing to invest becomes unanswerable.
This is pragmatic politics. As the IMF, the CBI and others have argued, Britain can afford to borrow for growth without fear of a dangerous rise in bond yields. The risks of inaction, in the form of permanently lower growth and higher unemployment, far outweigh the risks of action.
The government’s economic record is, on the whole, not a proud one. Mr Cable boasts of the creation of “a million (net) new jobs in the private sector”, but 196,000 of these were further education and sixth-form college lecturers reclassified from the public sector. It is true that unemployment has fallen significantly in the past year but underem - ployment (people who would like to work more hours), as new research by David Blanchflower, our economics editor, showed last week, is at a record high.
Mr Cable recognises the ever-widening gap between Britain’s actual performance and its potential performance. He is not resigned to permanent stagnation, even if he is constrained by collective cabinet responsibility. His essay contains all the arguments Mr Osborne should need to see that borrowing for investment is now the only way forward.