A long summer of gloomy economic news has intensified the economists' debate about the appropriate response. This must not be a technocratic debate, however. For Labour, it's as much about politics as economics.

A dozen years ago, centre-left parties led most western European countries. Since then, most have lost power. Once out, they have struggled to present an alternative to the right, which offers pain and a return to pre-crisis business as usual. Voters didn't just punish our parties for being in charge when the burglars broke in. Beneath the inevitable swings in favour, it's clear that the centre left is not yet telling a persuasive story about how the world could be different.

In the postwar world of dominant national companies in national economies, labour movements could get a good deal for their members by resisting market excess. Yet resistance to mar­ket forces also held back growth. In ascendant global markets, the cost of inefficiency and lost competitiveness outweighed the social gains.

As free-market ideologies gained influence, much of the left sought another approach. Faced with the fierce competition of globalisation, the priority became to compete. It seemed that if the centre left embraced free markets, it could also do more than the right to create market success by investing in infrastructure and skills. And the centre left would reinvest taxes in decent services, enabling individuals and families to succeed through education, welfare reform and support for family incomes.

That is what Labour did. We rebuilt public services, improved schooling, expanded univer­sities and apprenticeships, invested in science, reformed welfare, raised the incomes of the poorest families and attracted a net inflow of foreign direct investment. It's what the Clinton administration advocated. Many European countries retained their social partnerships and state intervention, but the same thinking underpinned the Lisbon Strategy in 2000.

Our common problem is that this approach no longer seems so plausible - and voters seem to know it. The global banking crisis was a catastrophic failure of management, regulation and accountability. No one can overstate its impact. Mervyn King, governor of the Bank of England, has said that household incomes will fall year on year for six years, in the biggest squeeze on family finances for 80 years. The seismic waves continue to threaten the global economy.

Since the Vickers report, there has been a danger of thinking that this was a technical failure of policy. But the banking crisis reflects a more fundamental problem relating to how the west embraced free-market ideology. What promised to create wealth and security has too often produced the opposite. Long before the banking crisis, there was an established trend in which relatively few enjoyed the wealth while many felt the insecurity.

The incomes of working families were already stagnating by 2004. Future pension provision was being squeezed and inequity between the generations was growing. Pay at the top ran away while the economy generated too few well-paid jobs. It was the same families who told Labour in 2010: "You no longer stand for us." Issues such as migration and unfairness in welfare reflected the fears of the deeply insecure. The centre left's fate now hangs on giving those families new confidence in their futures.

Value added

The globalised market economy will not go away. We still have to compete, which means private companies succeeding in real markets. As the Brics countries grow in economic power, some aren't even democratic and none aspires to create European-style public services or welfare. We need to show that economic success doesn't mean throwing away all that we value.

This entails applying values to markets: 20 years ago, it was so important to embrace markets that the centre left didn't make choices about how they should operate and what sort of companies we wanted to foster. A right-of-centre view has continued, in which no legal or moral distinction is made between the business models of Southern Cross and Rolls-Royce; in which creativity in the arts and computing are less well rewarded than business of little lasting human value; and it doesn't matter whether a firm sees itself as part of our national success.

Governments shape markets by what they buy, the competition rules they set, the institutions they create for finance, research or technology, and the vision they advance - or fail to advance - for the economy. However, we lost faith in the ability of governments to shape the choices companies make; to encourage a climate for investment in critical areas of the economy; to use regulation not to burden but to give confidence to investment; to use procurement to foster skills, innovation and new markets; to create the transparency that results in fair reward. In time, the machinery of government came to believe that there was little it could do. The "progressive" Vince Cable advocated the abolition of the Department for Business that he now runs. This is a huge mistake.

When governments step back, you get not "the market", but a very particular kind of market that offers little for the future. Labour and other centre-left parties need to rekindle their confidence, as well as that of the public. We need to rediscover faith in the ability of intelligent, active governments to create the conditions for the type of market economy that can compete abroad and deliver fairness at home.

John Denham is MP for Southampton Itchen