Just weeks after Keir Starmer pledged a comprehensive programme of redistribution and green investment, it’s all in ruins thanks to Kwasi Kwarteng’s Budget. That’s what the right-wing press wants us to believe.
As Jeremy Hunt plans “eye-watering” cuts all that Labour can do – once it comes to power – is stick with austerity 2.0. No matter that the last round of cuts has been linked to more than 330,000 excess deaths. “Get used to it” is the refrain from the economics gurus who once egged George Osborne on to slash spending.
But it’s nonsense. Labour will, of course, need to establish its fiscal credibility. More than that, it will need to do what the Tories cannot – show investors it has a credible, long-term growth model. But the fiscal dynamics – two weeks out from Hunt’s fiscal statement on 31 October – are no cause to abandon Labour’s programme of investment-led growth.
If, after the reversal of Kwarteng’s tax cuts, there is a £40bn hole in the public finances, we need to understand what creates that “hole”. It is simply the date by which the government is aiming to reduce debt as a share of GDP. As chancellor, Rishi Sunak established four statutory targets: to balance the current budget by the third year of the rolling forecast period; to reduce debt as a share of GDP over the same period; to limit investment spending to 3 per cent of GDP; and to set a predetermined cap on welfare spending.
The bond markets did not rebel against Kwarteng for ignoring these rules – though that’s what his budget implicitly did. They saw a government that had lost control of inflation, that had no coherent growth story, and which looked prepared to offload its responsibility for maintaining financial stability to the Bank of England, whose capacity to do so was diminishing. Above all, in a world economy that is rapidly deglobalising and afflicted by high energy prices, they saw the UK as the weakest link. An economy whose trade is falling, whose currency has lost a third of its value against the dollar and where investment is flatlining – all due to Brexit and the hardness of the economic break with Europe.
But not only is there room for Labour to manoeuvre out of the trap set by Hunt, it is essential for the well-being of millions of people that the shadow chancellor Rachel Reeves sticks to her policy of investment-led, green growth.
We need to understand what’s happening as the institutions and rules established during the neoliberal era clash with the reality of energy warfare, the climate crisis and deglobalisation. After the 2008 financial crisis, policymakers kept the system alive through the twin life-support systems of higher government debt and cheaper money – but we still had choices. The Conservatives’ choice was to provoke stagnation: first through the austerity imposed by Osborne, then by driving us into the cul-de-sac of hard Brexit.
In the meantime, the UK’s entire business model had become attuned to negative real interest rates. Every new branch of Joe & the Juice, every WeWork, every dark kitchen with bicycle couriers buzzing around the entrance was fuelled by ultra-cheap money. Then the music stopped. To counter double-digit inflation, central banks are obliged by their own rules to hike interest rates. As inflation erodes the value of savings, the people managing those savings – the big pension funds – demand a higher interest rate on lending to the government. And if they see the government actually stoking inflation, by borrowing money to give away to rich people, they call a halt – as they did with Truss.
In the process they revealed where power really lies in an economy such as ours. In the neoliberal era, the great taboo has been “fiscal dominance” – the idea that elected governments should override independent central banks in setting policy priorities. What really happened last week was down to “financial dominance”. The bond markets forced the Bank of England to bail them out, and the Bank then forced the government to reverse its entire fiscal policy by setting a time limit on its bailout.
No amount of schadenfreude at the zombification of the Truss government should deflect from this fact: the markets – which simply represent the self-interest of the owners of capital – took control of the central bank and the central bank took control of the government.
As the UWE Bristol economist Carolyn Sissoko points out, there are long-term structural solutions to financial dominance: forcing the banks to accept state ownership in the event of a wipeout triggered by financial turbulence and removing the need for repeated central bank bailouts.
In the short term, however, Labour needs clear fiscal and monetary solutions. Reeves has set out the principles behind the party’s approach: borrow only to invest, tax to raise money for higher day-to-day spending. Labour’s commitment to spend £28bn a year on the green transition, alongside a statutory industrial strategy and reforms aimed at raising real wages offers a clear path to sustainable growth.
But to complete the picture, we need to junk Sunak’s fiscal rules. The keyword in the current charter is “intergenerational justice”. Sunak was obsessed with forcing today’s taxpayers to meet the cost of decarbonisation. He stated, as a matter of principle, that the government should not borrow to invest in green energy. That’s why he capped investment at 3 per cent of GDP.
If we scrap that rule, and lengthen the time over which the current deficit is balanced from three years to five years, research by economists Rob Jump and Jo Michell shows there is no substantial change in the moment debt peaks as a percentage of GDP. And that’s before you model the effect of Labour’s proposed reforms to the supply side of the economy – the multiplier effects of investment in wind, nuclear, transport infrastructure and housing. Done right, a basic Keynesian investment programme would boost growth and reduce deficits faster than austerity.
This is the essential argument that the left has tried to win since the days of Osborne’s chancellorship. Kwarteng proved that the UK cannot, under conditions of financial dominance and hard Brexit, claw its way out of stagnation through tax cuts alone. The left must now win the argument against austerity 2.0, by showing – through theory, modelling and the best practice of foreign governments – that an investment-led approach is essential.
A new Charter for Fiscal Responsibility should replace Sunak’s three-year targets with five years; lift the cap on investment; and remove the weasel-worded principle of intergenerational justice. What it prescribes is social injustice for today’s poor and climate chaos for the people of tomorrow.