Opposing austerity is not enough – Labour’s leaders need lessons in economics, fast

John McDonnell’s economic advisor speaks out about about Labour's fiscal and welfare policies.

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I have made it clear on several occasions that I am not a Jeremy Corbyn supporter and have never even spoken to him – but I want to help Labour and to make sure that the party does and says sensible things. I am a member of Shadow Chancellor John McDonnell’s economic advisory board and we are trying to help Labour put together credible economic policies. We have only met once but the plan is to convene every quarter from now on. The economists in the group are smart, left-leaning and credible, though it will take some time to produce a coherent new economic strategy that party members share. Game on.

Since the start of the Great Recession nearly eight years ago, ordinary working people have experienced big falls in their living standards. Real wages are still down by 9 per cent since 2008 and 2.5 per cent since the coalition was formed in May 2010. At the same time, the incomes and wealth of those at the top have risen sharply as house prices skyrocketed in London and the south-east.

It is perfectly sound economics to try to make the system fairer. The Conservative argument – that you pay the poor less and they work harder but pay the rich more and they work harder – makes no sense at all. Work makes people happy. Well-paid work makes them happier still. Too many people are constrained by not being able to get enough hours, or are stuck in temporary jobs, and that is especially true of the young whom the Tories have abandoned.

The tax code can clearly be made fairer by moving away from indirect taxes to fairer direct taxes. Cuts in taxes at the low end can be paid for by increasing taxes on incomes at the top. The poor respond to incentives even more than the rich do. Labour needs to focus on improving the well-being of the ordinary person on the Clapham (and other more northerly) omnibus(es). Means-tested bus passes for OAPs make sense, though. I don’t need one. The Labour Party must become the party of the young and of the future. The Tory party is the party of the old and the past.

I am conducting an independent review for the shadow chancellor on the remit of the Bank of England. The idea is, in time, to come up with improvements to the remit. It is important that the review is seen to be – and is – independent and considers views from across the political spectrum. We are in search of good ideas. It was the Labour Party that established an independent Bank of England and kept Britain out of the euro. We need to come up with suggestions that would have improved the UK’s performance over the past decade. Labour must lead the way.

These are early days and the new Labour Party still doesn’t have many economic policies to speak of. The problem is that opposition to austerity on its own is not enough. It is time to start thinking about how Labour can become a credible opposition – and that requires getting real about the economy.

The new Labour leaders are not economists and are going to have to learn fast. They will have to accept the realities of capitalism and modern markets, like it or not. No more silly stuff about companies not being able to pay dividends if they don’t do X or Y. If companies are not allowed to pay dividends, share prices will potentially rise instead. If you raise corporate taxes too high, companies may move to Ireland or elsewhere, where they are lower. Economic policy is, more often than not, applied common sense.

Plus, markets work. The one thing we know about incomes policies (such as price and wage controls) is that they don’t work. Firms just promote people.

Markets can be made to have less unpleasant side effects. Efficiency doesn’t always produce acceptable distributional effects and there may be an under-provision of public goods. The optimal allocation of resources may still be perfectly disgusting. Rising congestion times don’t matter if you have your own helicopter. This represents an opportunity for Labour to make the markets work better for ordinary people.

The “cocktail of threats” identified by the Chancellor recently already appears to be hitting the UK. The optimistic Autumn Statement is already history. The slowing of the world’s biggest economy, that of the United States, caused big problems in 2008 and the concern is that the slowing of China, the second-largest, may cause a comparable downdraught in 2016. Because of falling demand to ship goods, it is cheaper today to rent a 1,100-foot-long cargo ship for a day than it is to hire a Ferrari. Apparently, it is also cheaper to buy a container and send it on the high seas for a year than to rent a local storage locker. My favourite measure of demand, the Baltic Dry Index, which measures the cost of renting a massive ship carrying dry goods such as iron ore and wheat, stood at around 12,000 in 2008 before it collapsed. It is now at 354. Indices of Chinese container volumes have also plummeted recently. It isn’t just that the supply of oil is up; global demand for commodities and manufactured goods in particular has fallen. Beware the Ides of March.

It is hard to identify when a country is entering a downturn but we may already be in one and Labour needs to have a response ready. More stimulus and the end of austerity are the answer, I hear you say – but then what? Which shovel-ready projects should be funded? And should there be a cash-for-fridges-and-old-clunkers scheme? Should VAT be cut and, if so, by how much? Should the Monetary Policy Committee engage in more quantitative easing and, if so, of what type? Should it cut rates to negative and, if so, how low could they go?

George Osborne’s reckless austerity and welfare cuts are the opposite of what is needed. So this is a chance for Labour to get its retaliation in early and often. There will be interesting days ahead.

David Blanchflower is economics editor of the New Statesman and professor of economics at Dartmouth College, New Hampshire

This article first appeared in the 28 January 2016 issue of the New Statesman, Should Labour split?