Robert Skidelsky en <![CDATA[Robert Skidelsky: The welfare state did not cause the crash. So why is Osborne cutting it?]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"> <p> If a government has to cut its spending, it is much better to tax the rich than starve the poor.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="The view from the European Central Bank. Photo: Getty" title="The view from the European Central Bank. Photo: Getty" /></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">The view from the European Central Bank. Photo: Getty</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p> The Institute for Fiscal Studies <span style="font-size: 11pt;">(IFS) has warned that there will need to be “colossal” cuts in </span><span style="font-size: 11pt;">public spending to balance the books by 2018-19 – at least £55bn extra. On 4 December, the day after the Chancellor’s Autumn Statement, the director of the IFS, Paul Johnson, said that it wasn’t for lack of effort that the deficit hasn’t fallen. Rather, it was “because the economy performed so poorly in the first half of the parliament, hitting revenues </span><span style="font-size: 11pt;">very hard”.</span></p> <p> Very true – but what Johnson omitted to say was that the main reason the economy performed so poorly in the first half of the parliament was because George Osborne was busy cutting the deficit. He should have been expanding it!</p> <p> This is something that expert commen­tators lack the guts to say because that would brand them as Keynesians. They may admit that fiscal consolidation has made eco­nomic recovery “more challenging”. But they don’t tell us why. This theoretical gap leaves them without a reputable story of why the economy behaved so poorly. They are in familiar “blown-off-course” territory.</p> <p> Every possible event that might affect growth, however fleetingly, has been summoned in aid of explaining the failure of the economy to grow: the Greek crisis, the rising price of oil, the extra bank holiday on the Queen’s Diamond ­Jubilee and the closure of shops during the London Olympics, snow and floods – everything except the real reason, which is that a deficiency of ­private ­demand was not being offset by public-­sector investment.</p> <p> The latest explanation of why the Chancellor has failed to meet his deficit targets concentrates on the nature of the labour market recovery. The government has congratulated itself on the fall in unemployment. We would expect falling unemployment to increase tax revenues and reduce public spending. However, this will not happen if government policy has created lots of new, mostly low-wage jobs whose holders pay no direct taxes and that must be propped up with benefits.</p> <p> The catastrophic fall in productivity that we are now seeing was planted in the two and a half years of stagnation that followed the creation of the coalition in 2010. In October 2012, the Office for Budget Responsibility found that the economy had grown by only 0.9 per cent between Q1 of 2010 and Q2 of 2012, while its June 2010 forecast was 5.7 per cent growth over the same period. Subsequent upward revision has made these figures less dire but there is no doubt that Osborne and his advisers seriously underestimated the adverse effects of austerity on investment.</p> <p> As is now increasingly recognised, this extended period of stagnation reduced the long-term growth rate of the economy through the destruction of both human skills and physical capital.</p> <p> Despite his warning about the size of the cuts to come, Paul Johnson said that they could be achieved. He added, however, that they would require a “reimagining” (or, put another way, shrinking) of the state. Two questions arise. First, what effect will shrinking the state have on the economy? Second, what effect will it have on the polity?</p> <p> On the first, Johnson seems to assume that the economy will go on growing at about 2.5 per cent a year, even as the deficit is being cut to zero. This is highly optimistic because the cutting is simultaneously reducing private incomes. It may be possible, by sufficiently heroic austerity, for a government to keep revenues for a time running ahead of cuts but at what <em>level</em> of GDP will the budget eventually be balanced? Certainly lower than it would have been without the cuts.</p> <p> The cuts not only change the level of GDP but also its composition and, therefore, the relations between the state and its citizens. This point is recognised by Labour, which promises “fairer” cuts. If a government has to cut its spending, it is much better to tax the rich than starve the poor. However, this is alien to the spirit of cutting. The barely subliminal message of all austerity programmes is that the deficit has been caused by spiralling welfare payments to the poor, with the object of austerity ­being to “get them on their bikes” – like in the 1930s, when unemployment was consistently around or above 10 per cent.</p> <p> We urgently need to have a proper debate about the role and size of the state. Prosperity does not demand that the state should spend 40 per cent-plus of national income as it does now, though justice may.</p> <p> In the old days, people used to talk of a “trade-off” between efficiency and justice and some of those arguments may still be valid, though I am less and less persuaded that the private sector scores heavily over the public sector in efficiency. A financial system that allocates capital to itself and whose crash in 2008 left the population 15 per cent poorer than it would have been is hardly an advertisement for private-sector efficiency.</p> <p> What is really indefensible is to cut the state for reasons of financial dogmatism, as though the size of the state – and especially the welfare state – were the cause of the slump. We need a cool discussion on the role of the state as owner and regulator in a market economy and in the light of the civic purposes that people set for themselves. It needs to be pointed out that these huge cuts imply serious losses to the quality of government services and the strength of the defence and police services.</p> <p> I’m not sure which is worse: to bleed the economy with small cuts stretching many years ahead or to cut deeply now and hope for the best. What does seem clear is that politics will not allow the second and only a ­Labour government can avert the first.</p> </div></div></div> Wed, 10 Dec 2014 14:55:06 +0000 Robert Skidelsky 218446 at <![CDATA[Putin is not Russia: the Kremlin’s view on events in Ukraine]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"> <p> War in Ukraine, economic woes and the decline of an autocrat, by Robert Skidelsky.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="Pride, honour, poverty, patriotism: pro-Putin protesters parade through Moscow as he becomes president for the second time, May 2012. Photo: Reuters/Sergei Karpukhin" title="Pride, honour, poverty, patriotism: pro-Putin protesters parade through Moscow as he becomes president for the second time, May 2012. Photo: Reuters/Sergei Karpukhin" /></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">Pride, honour, poverty, patriotism: pro-Putin protesters parade through Moscow as he becomes president for the second time, May 2012. Photo: Reuters/Sergei Karpukhin</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p class="111Justifiedtextnoindent"> In 2004, the Valdai Discussion Club was set up “to promote dialogue between [the] Russian and international intellectual elite”. Each year, two or three days of discussions involving foreign and Russian scholars and journalists would climax at Sochi on the Black Sea in a dinner with President Vladimir Putin himself. One qualification, at least for a foreigner invited to join the club, was not to be viscerally hostile to Russia’s foreign policy. This led some superannuated cold war warriors to call its foreign members “Putin’s useful idiots”. This idiot was asked to join four years ago, and this year’s event was my second exposure.</p> <p class="111Justifiedtextindent"> We met from 22 to 24 October at a ski resort, surrounded by magnificent snow-clad mountains, built for the 2014 Winter Olympics. The conference, on “The World Order: New Rules or No Rules?”, was held in the shadow of western sanctions against Russia for annexing Crimea, in Ukraine – an awkward moment, to be sure, which thinned the foreign contingent considerably. This time, the Big Boss chose to address the assembled idiots from the podium rather than wining and dining them. He delivered a one-hour attack on the United States for wanting a world based on power (its own) rather than rules; more a polemic than a diatribe. Leading Putin officials such as Vyacheslav Volodin, Sergey Lavrov, Sergei Ivanov and Igor Shuvalov turned up to display their loyalty. For Volodin, “Putin is Russia”.</p> <p class="111Justifiedtextindent"> The tone of the leadership was more regretful than truculent. It followed a well-established narrative line. Putin had offered America a sincere partnership in the fight against Islamic terrorism. Instead, America and its allies, claiming the spoils of victory in the cold war, had been pushing the EU and Nato eastward into Russia’s historic space. In the three-hour question-and-answer session that followed his speech, Putin was occasionally spirited, but mostly listless and rambling. His lack of facial animation may have been due to the famed skills of Russia’s embalmers. He seemed exhausted; he sounded like a jilted lover.</p> <p class="111Justifiedtextindent"> Of course, Ukraine was the hot topic of the hour, and one advantage of being at Sochi was to hear in detail Russia’s defence of its actions, which is hardly ever heard in the western media. As the Russians tell it, an illegal coup against the democratically elected government of President Viktor Yanukovych brought extreme nationalists and “fascists” to power in Kyiv on 22 February. Their menacing anti-Russian stance forced the Russian communities in Crimea and south-eastern Ukraine (jointly known as Donbas) to organise in self-defence against persecution and even massacre. Russian “volunteers” from across the border came to the aid of their beleaguered brothers. To the west, this story is a pack of lies: Putin saw in the popular uprising against the corrupt, despotic and increasingly violent government of Yanukovych an excuse to seize Crimea and destabilise the Ukrainian state. His strategic aim was to prevent Ukraine freely choosing to pivot its economy and security system on the west.</p> <p class="111Justifiedtextindent"> There was much legal chatter about sovereignties, frontiers, guarantees. One expert claimed that Russia’s annexation of Crimea was not illegal under international law because Crimea was not part of Ukraine when Ukraine became a member of the UN in 1945. Such legal subtleties attract lawyers, but are really beside the point. Legal rules cannot create conditions of justice and stability. They are the achievement of history, and Ukraine’s history as an independent state has yet to be written.</p> <p class="111Justifiedtextindent"> This is a conclusion that the west finds difficult to accept. The contemporary liberal credo is that any state, however diverse, can be made or kept whole by a constitution that guarantees democracy, the rule of law and minority rights. Ukraine’s failure to achieve such a constitution must be due to Russia’s manipulation of its neighbour’s politics in<br /> its own interests. Russia takes exactly the opposite view: it is America and its allies that have been manipulating Ukrainian politics so as to detach Ukraine from its historic space in the Russian family of nations.</p> <p class="111Justifiedtextindent"> The truth is much more complicated than either story allows. As the former Czech president Václav Klaus pointed out in an incisive essay last April: “The state of Ukraine today is a sad outcome of Stalin’s attempts to mix up nations and boundaries, disrupt historical ties and create a new Soviet man by turning original nations into mere ethnic, residual and historical leftovers.” The Ukrainian state set up in 1991 was illegitimate to sizeable fractions of its own population. No common Ukrainian identity has emerged. There was no political transformation: democracy has been a sham, with disputed elections and messy power transfers. In the economy, wealth is divided and redivided between alternating Russian and non-Russian oligarchic clans, to the accompaniment of stagnation, industrial decay and high unemployment. Ukraine was ripe for the manipulation of its politics by outsiders. The question is: which side had more justified reason to meddle?</p> <p class="111Justifiedtextindent"> This brings us back to the big unsettled question of Sochi: Russia’s place in a world dominated by the US. It is obvious that Russians have felt deeply humiliated by the US “victory” in the cold war and the destruction of the Soviet Union as a geopolitical balancer. They have countered this adverse shift in their position with the doctrine of “multipolarity”. On 28 June 2000, Putin stated that “Russia shall seek to achieve a multipolar system of international relations that really reflects the diversity of the modern world”. He repeated the message in Munich in 2007. “The unipolar world,” he said, “did not take place . . . There is no reason to doubt that the economic potential of the new centres of global economic growth will inevitably be converted into political influence and will strengthen multipolarity.”</p> <p class="111Justifiedtextindent"> At first, multipolarity did not imply hostility to America. Putin began his presidency looking for a “strategic partnership” with the US against the common threat of Islamic extremism. Following the 9/11 attacks, he overruled his military to give unconditional support to US intervention in Afghanistan, and military access to central Asian countries bound to Russia by security treaties, while closing down Russian bases in Cuba and Vietnam. He acceded to the Americans’ request to lower the oil price.</p> <p class="111Justifiedtextindent"> It was only because the payoff from such gestures was so meagre that multipolarity evolved into resistance to US superpower pretensions. Russia was offered neither a fast track into the World Trade Organisation nor a meaningful security role in Nato or the Middle East. America unilaterally abrogated the Anti-Ballistic Missile Treaty, restarting an arms race it knew it could win. Russia retaliated by joining Germany and France to oppose the Iraq war; wherever possible, it has tried to create its own “coalitions of the willing”. In 2001, Dmitri Trenin, of the Carnegie Moscow Centre, looked forward to a “quasi-alliance” with the US. By 2006 he was lamenting the “decoupling” of Russia from the west. The “reset” of Barack Obama and Dmitry Medvedev – Russia’s president from 2008 to 2012 – got nowhere.</p> <p class="111Justifiedtextindent"> It was plain from Sochi that the Russian leadership cannot grasp that Russia is too weak to negotiate the terms of a strategic partnership with the US. They fail to appreciate that the US can choose what partners it wants and that, in America’s eyes, Russia’s authoritarian and corrupt political system, and its disregard of human rights, have disqualified it as a partner for most purposes. As a description of reality, multipolarity is thus a geopolitical fiction. The world may not be exactly multipolar, but for most global purposes the US remains the indispensable power. Russia has too few assets, hard or soft, to be a rival pole of attraction. From this perspective, the biggest failure of the Putin years has been the failure to modernise and diversify the Russian economy. The post-Soviet leadership dismantled the old industrial system without replacing it with a new one. Russia remains dangerously dependent on the price of a single commodity – oil – and its economic dynamics are dominated by the struggle for oil rents. At Sochi I asked Putin: “How do you propose to make Russia attractive for business? What are you going to do to persuade Russians to invest in Russia rather than export their capital, which drives up house prices in London to insane levels?” In his answer, Putin reeled off statistics of agricultural production.</p> <p class="111Justifiedtextindent"> Although it is a descriptive fiction, multi­polarity as a normative proposition has much to be said for it. No single power is wise or disinterested enough to claim a universal sovereignty. The US-led attempt to export democracy by force if necessary has created a shambles in the Middle East, with worse to come. A better appreciation of the “diversity of the modern world” would have saved western policy from much error and humanity from much misery.</p> <p class="111Justifiedtextindent"> In my own remarks at Sochi, I suggested that, with the faltering of Russia’s attempt to “join the world”, it had in fallen back on an implicit Monroe doctrine. Like the US president James Monroe in 1823, it is telling the meddling foreigners to keep off its patch. Significantly, it defines the frontiers of the old Soviet Union as the strategic frontiers of the Russian Federation. A world of Monroe doctrines, spheres of influence and regional blocs is contrary to the contemporary western norms of international relations. It may have more appeal for great powers that find themselves at odds with the “universal empire” championed by the world’s superpower. The Ukraine crisis has divided the world into the western countries that imposed sanctions and the non-western world that was either indifferent to Russia’s behaviour or thought it justified.</p> <p class="111Justifiedtextindent"> However, the assertion of hegemony in the former Soviet space may now be beyond the capacity of Russia. There is talk in Moscow of a “Eurasian Union”, but few of its possible members would be willing to cut themselves off from the EU’s own “neighbourhood policy”. Asked at Sochi about Ukraine’s future, Russia’s foreign minister, Sergey Lavrov, hoped that it would be a “negotiated restructuring of the Ukraine state”. The former French prime minister Dominique de Villepin, who appeared on the panel alongside Putin, made the sensible suggestion to set up a “contact group” of the US, Russia, Germany, France and the UK to work to convert the Ukrainian ceasefire, originally signed in Minsk on 5 September, into a settlement. They may be able to negotiate a middle ground of autonomy for the separatists within the Ukrainian state.</p> <p class="111Justifiedtextindent"> But this is starting to look ever less likely. The latest round of parliamentary elections in Ukraine has consolidated the division of the country into two states, divided by the ceasefire line. The 26 October parliamentary elections gave President Petro Poroshenko a two-thirds “super-majority” to sign an association agreement with the EU and reunite the nation. In a “rogue” election on 2 November organised by the separatists of Donbas, a much smaller electorate – reportedly about 5 per cent of those eligible to vote nationally – gave separatist leaders a mandate to break away.</p> <p class="111Justifiedtextindent"> What follows? Their reinforced mandates weaken the incentives for the two sides to negotiate. The Ukrainian army might try to recapture the lost territory by force. But the west will not supply Kyiv with the necessary offensive capacity and Russia will continue to supply the separatists with the necessary defensive capacity. So, in all likelihood, the conflict will be “frozen” along the ceasefire line for the foreseeable future. If this happens, Russia will have suffered a major defeat. It will have exchanged an implicit regional hegemony, secured by its ability to manipulate Ukrainian politics, for a tiny fraction of Ukrainian real estate, freeing the much larger remainder of Ukraine to pursue the pro-western alignment that it has been the chief object of Russia’s Ukrainian policy to prevent. And for this meagre achievement it will have incurred huge costs in terms of sanctions and subsidies. At what point will the owners of wealth decide that Putin is not Russia?</p> <p class="111Justifiedtextindent"> Sochi left me with the overwhelming impression of people putting the best face possible on a bad story. The Russians “hope” for the future; others dictate it. Probably Russia will stagger on in a mediocre way, neither very successful nor quite failing, neither devil nor pure in heart, proud of its own values, semi-permanently estranged from the US and western Europe, resentful but not overly aggressive, until such time as it feels more at home in a world that it will have played little part in shaping. </p> <p class="111Raggeditalictext"> <em>Robert Skidelsky is a cross-bench peer and a leading biographer of J M Keynes. His most recent book is “Britain Since 1900: a Success Story?” (Vintage, £10.99)</em></p> </div></div></div> Thu, 20 Nov 2014 10:00:11 +0000 Robert Skidelsky 216016 at <![CDATA[The Osborne audit: what have we learned?]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>Ahead of this week’s budget, the economic historian Robert Skidelsky examines how four years of austerity have affected Britain.</p> </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p class="111Justifiedtextnoindent"> <img alt="" src="/sites/default/files/images/2014%2B10osborne%20oops2.jpg" style="width: 510px; height: 680px;" /></p> <p class="111Justifiedtextnoindent rteright"> <em>George Osborne by Ralph Steadman</em></p> <p class="111Justifiedtextnoindent"> On Wednesday, for the first time in four Budgets, George Osborne will be able to claim plausibly that Britain has come out of the Great Recession. Growth was 1.8 per cent in 2013 and is expected to be between 2.4 and 2.8 per cent in 2014. That’s the good news. The bad news is that the economy is still 1.4 per cent smaller than it was in 2008 and 14 per cent smaller than it would have been had the recession not struck.</p> <p class="111Justifiedtextindent"> That lost output, amounting to £210bn, is gone for ever. Every household is almost £2,000 poorer on average than it would have been; the government’s revenue is £70bn less – that is (say) 70 hospitals, 1,000 schools and 250,000 housing units not built. Or, to take another number: 650,000 people now unemployed would have been in employment.</p> <p class="111Justifiedtextindent"> This is not all. Every year of the recession has reduced our growth potential. Economists use the word “hysteresis” to describe the rusting away of economic resources through misuse or underuse. Hysteresis has to do not just with the output lost during the slump but with the potential output lost in the subsequent period of near-zero growth. Headline unemployment is an incomplete measure of such rusting, because it also occurs when people work less than they want to, or are in jobs below their skill level, or just leave the workforce. A physics graduate may be able to find employment as a taxi driver or waiter. But how much physics “potential” will he retain after years of doing such jobs?</p> <p class="111Justifiedtextindent"> These are heavy costs. Just as George Osborne did not cause the recession, he has not caused the recovery. Intertwined economies usually fall and rise together, and Britain has been lifted off the rocks by the global upturn. Yet policy does make a difference – to the speed of recovery, its strength and its durability. On all three counts, the Chancellor’s policy is open to severe criticism.</p> <p class="111Justifiedtextindent"> Fiscal austerity slowed and weakened the recovery; monetary looseness ensured that it would be highly unbalanced and therefore fragile. Significantly, the official independent watchdog, the Office for Budgetary Responsibility (OBR), in its December 2013 <i>Economic and Fiscal Outlook</i>, judged the “surprising” growth surge of the past year to be “cyclical . . . rather than indicating stronger underlying growth potential”. That the bank rate needs to be kept near zero shows that the economy is still on life support. </p> <p class="111Justifiedtextnoindent"> <strong><span class="Textsansboldred">Missed budget targets</span></strong></p> <p class="111Justifiedtextnoindent"> Let’s start with the targets Osborne set himself in his first Budget of June 2010. He inherited a prospective deficit for 2010-2011 of £149bn, equivalent to 10.1 per cent of GDP. He promised to get this down to £20bn, or 1.1 per cent of GDP, in 2015-2016, mainly through spending cuts. By 2013-2014 the deficit should have been £60bn. In fact, it is projected to be £111bn, or 6.8 per cent of GDP this year. Now the Chancellor must cut spending by another £62bn over the next four years to meet his original target, two years later than promised.</p> <p class="111Justifiedtextindent"> There were no growth targets – those were abandoned years ago – but there were growth forecasts. Fulfilment of Osborne’s budgetary targets depended on the economy growing at 2.3 per cent in 2011, 2.8 per cent in 2012 and 2.9 per cent in 2013. In fact, the growth rates achieved were 0.9 per cent in 2011, 0.1 per cent in 2012 and 1.8 per cent in 2013. In other words, Osborne’s failure to meet his deficit targets was caused by the failure of the economy to grow to expectation.</p> <p class="111Justifiedtextindent"> The official explanation for this failure is “bad luck”. In familiar language, policy was “blown off course” by unexpected events. Chief of these was said to be the eurozone sovereign debt crisis, which started with fears of a Greek default in March 2010 and then spread, by contagion, to Ireland, Spain, Portugal and Italy. For the next three years the eurozone slumped almost as badly as Britain. The eurozone slump, it is argued, stymied the British recovery.</p> <p class="111Justifiedtextindent"> There are two things wrong with this. First, with its own currency and control of its exchange rate, Britain should have done better, not worse, than the members of the eurozone. Second, although the eurozone financial crisis undermined confidence, and hit British exports, the European slump arose in part because European finance ministers were pursuing exactly the same policy as was George Osborne. So it makes more sense to say that the coincident slumps of the eurozone and Britain between 2010 and 2013 were the effects of a single cause: the policy of cutting public spending. The “unexpected” element in the situation was the failure of so-called fiscal consolidation to deliver growth.</p> <p class="111Justifiedtextindent"> Why should anyone expect a policy of cutting public spending in a recession to produce growth? It is counterintuitive. A recession is caused by businesses and households spending less. If the government also spends less, one would expect this to worsen, not reverse, the recession. This, I think, is exactly what happened.</p> <p class="111Justifiedtextindent"> <img alt="" src="/sites/default/files/images/2014%2B10briefcase.jpg" style="width: 510px; height: 383px;" /></p> <p class="111Justifiedtextindent rteright"> <em>Making the case: George Osborne on his first Budget Day, 2010</em></p> <p class="111Justifiedtextnoindent"> <strong><span class="Textsansboldred">Primitive economics</span></strong></p> <p class="111Justifiedtextnoindent"> Over the past four years, I kept asking myself: what did Osborne have to believe to convince himself that cutting government spending was necessary to “get the economy moving again”? His core belief, I concluded, is ideological. This is that state spending is heavily wasteful. From this, it follows that the smaller the share of GDP spent by the state, the larger GDP will be, because the private sector allocates resources more efficiently. It’s as simple as that.</p> <p class="111Justifiedtextindent"> This ideological fundament generates three seemingly common-sense, short-run propositions, which I call “primitive economics”. The first, known by the cognoscenti as “real crowding-out”, states that if the government commandeers an extra quantum of “real” resources such as workers and factories this will deprive the private sector of their use.</p> <p class="111Justifiedtextindent"> Second, there is the idea of “financial crowding-out”. If the government borrows additional financial resources (money) to fund its spending, this will force up interest rates and oblige businesses to pay more for their money.</p> <p class="111Justifiedtextindent"> Finally, there is “Ricardian equivalence”. This says that government borrowing is just deferred taxation. Expecting to pay more taxes tomorrow, people increase their savings today. So increased government consumption “crowds out” an equivalent volume of private consumption.</p> <p class="111Justifiedtextindent"> Eighty years ago, John Maynard Keynes pointed out that this trade-off view of the relationship between public and private spending may be valid at full employment, but is quite wrong in a severe recession.</p> <p class="111Justifiedtextindent"> In such a situation, extra government spending does not necessarily “crowd out” real resources. Where there is slack in the economy – the labour supply exceeding labour demand as today – extra government spending can bring into use the idle resources by creating more employment. There is no displacement; the public spending is not done at the expense of private spending. Rather, the public spending compensates for a lack of private spending.</p> <p class="111Justifiedtextindent"> Second, it is not true that whatever the government borrows is a subtraction from a fixed pool of savings that would otherwise be invested by the private sector. Many savings are just lying idle in bank accounts, because the private sector lacks the confidence to invest them. By offering investors a risk-free rate of return, the government can put these savings to active use. And by generating employment, this “crowds in” additional savings.</p> <p class="111Justifiedtextindent"> Finally, “Ricardian equivalence” ignores how government spending can pay for itself, not just by increasing national income (and therefore government revenue) but by investing in projects that create value for the economy, such as schools, houses, transport infrastructure, green energy, and so on.</p> <p class="111Justifiedtextindent"> Probably few policymakers today believe these “crowding-out” stories literally. I doubt whether even George Osborne does. But they believe that governments need to behave as though they believe these ideas in order to retain the “confidence” of the markets.</p> <p class="111Justifiedtextindent"> So, the question is: why do the markets believe them? Why do they scream “Default” whenever government borrowing goes up? Why did Osborne feel that unless he got the deficit under firm control, he would be spooked by the markets?</p> <p class="111Justifiedtextindent"> The reason is that, for the past 30 years, all economically literate or market-savvy persons (who do not generally include politicians) have been slaves to “models” of the economy which ruled out severe recessions by assumption. Even social democrats, who wanted to use the tax system to redistribute the wealth created by the private sector, bought in to the dominant view that, on average, markets do not make mistakes. This was the tragedy of Gordon Brown; it is also why Labour under Ed Miliband has been unable to deploy a convincing case against Osbornite economics.</p> <p class="111Justifiedtextindent"> Consequently, it is not surprising that governments and central banks failed to take precautions against a slump happening; more surprising that they did not thoroughly revise their beliefs when it did happen. To some extent, they did. When the world economy crashed in the winter of 2008 all the main governments came in with bank bailouts and stimulus packages. But as soon as the danger of another Great Depression was removed, the old orthodoxies reasserted themselves. In particular, as it was bound to do, the slump left a legacy of rising deficits and taxpayer liabilities. In this kind of climate, fears about the solvency of governments seemed reasonable.</p> <p class="111Justifiedtextindent"> And mainstream economics offered no help at all. What was going on, the economists said, was just a readjustment of economic life from one optimum equilibrium to another. Thus there was no “output gap” that needed to be filled by extra government spending. Rather, what needed to be done was to cut down state spending in order to make the existing output more productive. The Chancellor is no economist: but this presentation played to his ideological preconceptions. In a world-view of this type, there is no distinction between the short run and the long run. We always live in the long run, and if we leave the long run to the markets, all will be for the best. </p> <p class="111Justifiedtextnoindent"> <strong><span class="Textsansboldred">Delusions</span></strong><span class="Textsansboldred"><p></p></span></p> <p class="111Justifiedtextnoindent"> A world in which beliefs and facts have come so far apart will be particularly prone to delusionary thinking. The delusion was that policies that made the recession worse would produce recovery. This delusion was abetted by reputable economists. Three years ago, the doctrine of “expansionary fiscal contraction” was all the rage and a huge research effort went into trying to prove its core proposition: that the less the government spends, the faster the economy will grow. The econometricians produced some striking correlations. One claim was that “an increase in government size by 10 percentage points is associated with a 0.5 to 1 per cent lower annual growth”. In April 2010, Alberto Alesina of Harvard University assured European finance ministers that “many even sharp reductions of budget deficits have been accompanied and immediately followed by sustained growth rather than recessions even in the very short run”.</p> <p class="111Justifiedtextindent"> An International Monetary Fund paper in 2012 brought Alesina’s hour of glory to an end. Going through the same data as he had examined, the IMF authors pointed out: “While it is plausible to conjecture that confidence effects have been at play in our sample of consolidations, during downturns they do not seem to have ever been strong enough to make the consolidations expansionary at least in the short run.” Fiscal contraction is contractionary, full stop.</p> <p class="111Justifiedtextindent"> George Osborne has said publicly that he was influenced by Carmen Reinhart and Kenneth Rogoff. These two Harvard economists claimed that their data showed that countries’ growth slows sharply if their debt-to-GDP ratio exceeds 90 per cent. It turned out that their findings were skewed by the vast overweighting of one country in their sample. But a much more important error was their confusion between correlation and causation, also seen in the work of Alesina. High debt levels may cause lack of growth but a lack of growth may cause high debt levels; or both may be due to some other factor(s). How, one asks, can good statisticians make these kinds of mistakes? Only, I think, because their theory or model already tells them that this is the way the causation has to run, so that their only task is to establish a correlation.</p> <p class="111Justifiedtextnoindent"> <strong><span class="Textsansboldred">Quantitative easing to the rescue?</span></strong></p> <p class="111Justifiedtextnoindent"> With the failure of fiscal “consolidation” to revive the economy, the Chancellor increasingly turned to monetary policy. This fitted his ideology. Orthodox monetary policy works by the central bank targeting short-term market interest rates, providing banks with the reserves needed to keep the rates on target and, by varying the rates (or expectations of future rates), influencing the volume of private-sector lending and borrowing. It bypasses fiscal policy, which is why it is attractive to those who dislike state intervention. Since 2008, monetary policy has been ultra-loose or “unorthodox”. Not only has the bank rate been kept at 0.5 per cent for a record length of time, but the Bank of England has injected £375bn of “new money” into the economy, £225bn of it before Osborne became Chancellor. This is known as “quantitative easing” (QE).</p> <p class="111Justifiedtextindent"> How big a part has QE played in producing a recovery? The quick answer is that no one knows for sure. Unlike government spending, which has a direct effect on the economy, monetary policy works indirectly by inducing private households and businesses to change their behaviour – to save more or spend more. QE is supposed to work through two “transmission channels”: the bank lending channel and the portfolio rebalancing channel.</p> <p class="111Justifiedtextindent"> The central bank activates both channels by buying government bonds (gilts), mainly from non-banks. The sellers of the bonds receive cash; they deposit their extra cash with the commercial banks. In the first transmission channel, this is supposed to increase bank lending. The banks have more cash to lend out, causing them to lower their interest rates. As a result, more money is borrowed by businesses and households; the spending of the loans raises total spending, and therefore output, in the economy.</p> <p class="111Justifiedtextindent"> Early experience of QE showed that this was not happening: the banks were hoarding their cash, not lending it out. The architects of QE had underestimated the damage that banks had suffered as a result of the collapse of their assets in the crash, and therefore their desire to rebuild their reserves. What Osborne then did was to start subsidising bank lending. The Funding for Lending scheme, introduced in July 2012, was supposed to stimulate bank loans to businesses. It failed to do this – business lending is still well down from its pre-crash levels.</p> <p class="111Justifiedtextindent"> Desperate to get something in the economy going up, the Chancellor switched to Help to Buy in April and October 2013, which insured banks for a 15 per cent loss on 95 per cent mortgages. This has certainly contributed to the recent surge in house-buying and the rise in house prices.</p> <p class="111Justifiedtextindent"> It should be noticed, however, that both attempts to boost bank lending are fiscal policy by the back door, as the contingent subsidies are liabilities for the taxpayer.</p> <p class="111Justifiedtextindent"> Because of the disappointing results of bank lending, the Bank of England came to rely more on the second transmission channel, portfolio rebalancing, to stimulate the economy. Bond purchases by the Bank swell the cash deposits of the sellers, encouraging them to spend. Simultaneously, they reduce the supply of gilts in the market, which causes the price of gilts to rise and their yields to fall. The “search for yield” then induces investors to switch from gilts to stock-market securities and other assets, making it easier for businesses to raise capital. The increase in the price of these assets also expands the net wealth of the asset-holders, causing them to spend more. These various effects will result in growing GDP. Certainly the rise in stock-market and house prices has contributed to a “feel-good” factor, which is bolstering the current optimism about future prospects.</p> <p class="111Justifiedtextindent"> Set against these benefits are two costs. By encouraging excessive risk-taking, QE may reignite the pre-crash asset bubble, against which the new governor of the Bank of England, Mark Carney, has warned. The second is the increase in inequality. Of this, John Kay wrote in the <i>Financial Times</i>: “In the modern financial economy, the main effect of QE is to boost asset prices . . . the one certain outcome of QE is that those with assets benefit relative to those without . . . these policies may not benefit the non-financial economy much, but they are helpful to the financial services sector and those who work in it.”</p> <p class="111Justifiedtextindent"> The trouble with unorthodox monetary policy was that it is not unorthodox enough. Rather than try to increase private-sector cash balances, the Bank should have lent the money directly to the government to spend on public investment. We can be sure the government would not have hoarded the cash! But this operation would have blurred the line between monetary and fiscal policy, and thus the sacred ideological divide between the private and public sectors.</p> <p class="111Justifiedtextindent"> To put the matter crudely: a recovery based on stuffing the mouths of bankers with gold will be weaker and less durable than a recovery based on an upsurge of mass spending power. </p> <p class="111Justifiedtextnoindent"> <strong><span class="Textsansboldred">Conclusions</span></strong></p> <p class="111Justifiedtextnoindent"> Wealth and income have been growing more unequal in Britain since the 1980s. George Osborne has not created the inequality; but he has exacerbated it by dragging out the slump and using lopsided means to bring about the recovery. Britain may well emerge from the recession with a problem of structural underconsumption. Investment is driven by consumption, so when consumption falls off, so does investment. A tendency to domestic underconsumption – unless offset by a buoyant demand for exports – will result in what economists such as Larry Summers have started to call “secular stagnation”. The chief symptom of this will be rising structural underemployment: a slackening of demand for labour which does not reverse itself with recovery.</p> <p class="111Justifiedtextindent"> This brings us back to the ideological fundament. It is the Chancellor’s firm belief that the government’s share of total spending should be reduced as much as possible. Spending financed by deficits is twice cursed, not just because government spending is wasteful, but because it enables governments to pass on the cost of waste to future generations. Hence Osborne’s pledge to eliminate the Budget deficit entirely. This is tantamount to saying that the government expects to pay out of taxes for all the schools, hospitals, housing and transport systems that it builds. Because all Conservative governments want to reduce taxes as well, this amounts to a vast programme to privatise virtually all public services.</p> <p class="111Justifiedtextindent"> At this point, the ideology destroys sane economics. A sensible view of public spending would distinguish between capital spending and current spending. It would enable one to say that deficits resulting from excessive current spending are bad because they do not generate any revenue and add to the national debt, but deficits that are incurred on capital spending can raise productivity, improving the country’s long-run potential. A sensible Osborne policy would have been to confine cuts to the current account and offset these fully by expanding public investment in green projects, transport infrastructure and social housing, as well as export-oriented small and medium-sized businesses (SMEs). The Business Secretary, Vince Cable, has been arguing this case inside the government; lip-service is paid to the principle, but public investment is still 35 per cent down from the pre-crash levels.</p> <p class="111Justifiedtextindent"> What George Osborne has done is to bring an ideological fervour to a defective theory of macroeconomic policy: the theory that additional government spending can, under no circumstances, move the economy to a better-equilibrium growth path. What may be rational to believe when the economy is fully employed is palpably wrong when resources stand idle.</p> <p class="111Justifiedtextindent"> Moreover, it is not Osborne and his friends and bankers and Top People who suffer. It is the ordinary people of this country, whose lives and prospects are wrecked or diminished. Four years of George Osborne have been four years too many.</p> <p class="111Raggeditalictext"> <em>Robert Skidelsky is a cross-bench peer and a leading biographer of J M Keynes. His most recent book is “Five Years of Economic Crisis” (Centre for Global Studies, £5)</em></p> </div></div></div> Mon, 17 Mar 2014 12:10:43 +0000 Robert Skidelsky 200895 at <![CDATA[The economics of love: Following the heart, not the head]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>Humans move beyond the strictures of “homo economicus” – we are more than economic entities.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="" /></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">There's nothing transactional about love. Photo: Alec Soth/Magnum. </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Let’s start with an addled view of what it is to be human. According to economists, it is the ability to calculate. Their picture of the human is that of <em>Homo economicus</em>, “economic man”, a calculating machine who is always weighing up the costs and benefits of every course of action.</p> <p>Economics is about “economising” –eliminating waste (including waste of time) so that all behaviour becomes efficiently purposive. The task of economics, according to the economist Dennis Robertson, is to “economise on love, that scarce resource”. We need to economise on love because we live in a world of scarcity and cannot afford to spend too much time on wasteful activ­ities such as love. Economics offers us a way of getting what we want without love. Excluded is the idea that we might “want” to love and be loved, that we might want beauty, leisure and many other things that make life worth living.</p> <p>In order to make the construction <em>Homo economicus</em> plausible, economists assume that human behaviour is self-interested and that wants (“preferences”) can be measured in money. It is money that makes possible the calculation of costs and benefits from different courses of action. Every activity has a cost and a benefit measurable in money. Love has a cost. If I spend time on love, I forgo the opportunity to make extra money to buy the iPad I crave, because “time is money”. The best form of love for <em>Homo economicus</em> is quick sex, because that wastes very little time.</p> <p>Most people believe that marriage is about love, but the economist Gary Becker has shown that individuals, in making their choice of partner, calculate the costs and benefits of different types of relationships.</p> <p>Similarly there are costs and benefits in telling the truth, not cheating at cards, buying one’s partner flowers, listening to music, reading a poem. Indeed, there is almost no form of activity one can think of that does not have attached to it at least the pretence of costs and benefits calculable in terms of money. And if one habitually makes this calculation before deciding to act, one will slowly but inexorably cease to be human.</p> <p>The alarming thought is that, exposed to training in economics, human beings <em>do</em> start acting in the way economists say they should. In a marvellous book, <em>I Spend, Therefore I Am</em>, Philip Roscoe reports on research that shows that students studying economics are markedly more calculating than students of other subjects. Economics contaminates all our motives, forcing, in Amartya Sen’s words, “smallness on us”.</p> <p>The dilemma in defining what is human is this: calculation is an integral part of the human outfit; animals don’t calculate. Without calculation, there could be no economising behaviour. And without economising behaviour there would be no growth of wealth. But if calculation is all we do, then we cease to be human. For the alternative forms of existence are not human and animal, but human, animal and robotic. Robots can be programmed to act exactly as economists think human beings should: efficiently, purposefully. There is no waste in a robotic civilisation.</p> <p>So, as I would see it, the essence of distinctively human activity is action without thought of the consequences, without counting the cost of the activity and weighing it against the prospective benefits to be obtained.</p> <p>And I would also claim that for many, if not most activities, this is the only rational form of action. For, contrary to Dennis Robertson, the truly scarce resource is not love, but knowledge. The great advantage of acting from motives of love is that it economises on the need for knowledge.</p> <p>Usually we have only the foggiest idea of what the consequences of our actions will be, especially further in the future. And the net of delusion is being cast ever wider, as we are bombarded with more and more information masquerading as knowledge, more and more material for the calculus, which far outruns our ability to sift it into truth and falsehood.</p> <p>Therefore to follow our hearts rather than our heads, our intuitions rather than our calculations, is the distinctively human way of being. And if economics tells us the contrary, down with economics.</p> <p><em>Robert Skidelsky is emeritus professor of political economy at the University of Warwick</em></p> <p><em>The What Makes Us Human series is published in association<br /> with BBC Radio 2</em></p> </div></div></div> Wed, 15 Jan 2014 09:48:06 +0000 Robert Skidelsky 199873 at <![CDATA[Osborne may gloat about recovery, but his “hard slog” will leave Britain worse off]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>The recovery of the British economy, which started under Labour, was aborted in 2010.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="" /></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">George Osborne. Photo: Getty</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>George Osborne is bound to crow at the Conservative party conference about the superior performance of the British economy under his stewardship. After three years of “hard slog”, there is at last some good news to report. In the second quarter of this year, the economy grew by 0.7 per cent after “flatlining” for the previous three years. The National Institute of Economic and Social Research has revised its annual growth forecast upwards twice in its latest forecasts. The British economy is now expected to grow by 1.2 per cent in 2013, 0.5 percentage points more than was forecast as late as in February, and in 2014 this will surge to 1.8 per cent. The tables, the media will gush, have been turned on Labour. George has pulled it off. And Osborne will claim a number of things that are either false or implausible.</p> <p>First, he will say that his critics (people such as me) have “lost the battle”, because they can’t explain why the economy is improving. I haven’t yet met a critic of Osborne’s policy who claimed that the economy would not recover from the collapse of 2008-2009. Economies always recover from their low points, whatever the policies pursued, sooner or later. Things happen, in the country or in the world, to revive business’s “animal spirits”. The question is whether they happen sooner or later and how long the recoveries last. Here, policy does matter.</p> <p>The critics’ charge against Osborne is not that he caused the slump but that his policy of fiscal austerity delayed the recovery, possibly by as much as three years. His failure was a failure to offset the decline in aggregate demand, or total spending, which followed the crash, by a policy of fiscal expansion. Instead, his policy, which aimed at cutting the Budget deficit and reducing the national debt, added to the depressive forces created by the financial collapse.</p> <p>That is why the UK economy is still about 3 to 4 per cent smaller than it was in 2008, whereas in the US, where fiscal stimulus was sustained, the economy is now larger than before. The recovery of the British economy, which started under Labour, was aborted in 2010. A recent US study by the economists Alan Taylor and Òscar Jordà suggests that each year of Osborne knocked 1 per cent off the growth of the British economy; that is, £92bn all told, enough to restore Labour’s schoolbuilding plans and still have enough change to plug the funding gap in the NHS. For the average household, this amounts to a loss of £3,500 over three years – and, as Taylor and Jordà point out, this is a conservative estimate.</p> <p>Osborne’s second claim will be that the “hard slog” was necessary to ensure sustainable recovery – one that didn’t lead to “boom and bust”, as allegedly Gordon Brown’s pre- 2008 boom did. A critical policy aim has been to shrink the size of the bloated state sector, which was supposedly sucking vitality out of the “wealth-producing” private sector. A more plausible view of the cause of the crisis is that the British economy had become dangerously dependent on an oversized banking sector pumping money into private housing.</p> <p>In this view, a “sustainable” economy is a “balanced” economy, like the balanced portfolio prudent investors are advised to hold. Instead, government-backed schemes such as Funding for Lending and Help to Buy are quite likely to create a housing bubble.</p> <p>Crucial to both the strength and durability of recovery is the level and distribution of expected demand. Unfortunately, the main effect of quantitative easing (QE) – the only kind of stimulus the government accepts – is to boost asset prices; that is, to make the rich richer. It does nothing for most wage and salary earners, the main source of effective demand. Moreover, this boost to the wealth of the rich comes on top of decades of rising income inequality.</p> <p>And it is worse than this. In so far as it increases inflation, QE depresses the purchasing power of exactly those people on whom a strong recovery depends. With earnings lagging behind prices, the TUC estimates that average real pay has fallen by 7.5 per cent since 2008. Higher-paid public-sector jobs have been replaced by lower-paid privatesector jobs. In lauding the “flexibility” of the British labour market, the Chancellor has ignored the consequences of this flexibility for the level of demand. That’s leaving aside its effects on our long-term future as a highvalue- adding economy.</p> <p>“Demand” is the one word that has never passed George Osborne’s lips. He doesn’t believe in it. He is a prisoner of Say’s law: that supply creates its own demand. Look after supply – especially the supply of credit – and demand will look after itself. Keynes taught the exact opposite – look after demand and supply will look after itself. This is not always true but it is valid in a slump.</p> <p>Yet Osborne is the chancellor who, a few weeks after the collapse of the world’s financial system, declared that Keynesian measures aimed at maintaining the level of aggregate demand would be like a “cruise missile aimed at the heart of a recovery”. So we always knew where George was coming from.</p> <p>Keynes believed that without a jolt, or stimulus, a depressed economy could remain in a state of “underemployment equilibrium” for decades. By this, he did not mean that nothing would change. There would still be booms and busts. What he meant was that the average level of activity over the cycle would be lower than it would be if the economy were fully employed. The average level of unemployment would be higher, the rate of economic growth lower; people would be employed in less rewarding jobs and below their skill level; discouraged workers would leave the labour force.</p> <p>There would be less work to do, not because people needed less, but because most were too poor to buy what they needed. For all his talk of recovery, this is the future that Osborne offers.</p> <div> <em>Lord Skidelsky is a cross-bench peer and the pre-eminent biographer of Keynes</em></div> </div></div></div> Mon, 30 Sep 2013 07:42:22 +0000 Robert Skidelsky 198114 at <![CDATA[Creative destruction: our economic crisis was wholly predictable]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>Keynes, Hobson, Marx - and the crisis of capitalism.</p> </div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p><img alt="" src="/sites/default/files/images/newstatesman_complete2.jpg" style="width: 510px; height: 692px;" /></p> <p><em>Artwork by Julie Cockburn</em></p> <p>Is it to the wrong ideas of economists or to the interests of the power-holders that we should turn to explain the “Great Contraction” of 2008-2009? John Maynard Keynes believed that the Great Depression of 1929-32 was caused by the wrong theory of how the economy worked in the minds of policymakers – the remedy for which was to equip them with the right theory. But this ignored one thing: that the reigning ideas are, more often than not, the product of the dominant power structures.</p> <p>Economics, therefore, needs to be supplemented by political economy – the study of how power affects the choice of ideas and policies and the distribution of income; in short, Keynes plus J A Hobson and Karl Marx.</p> <p>Keynes explained that it was uncertainty that causes economies to crash. Hobson explained how unequal income distribution makes crises more likely and recoveries more difficult. Marx explained that this inequality is inherent in the power structure of the capitalist system. All have their part to play in explaining the crisis and collapse of 2008.</p> <p>Let’s consider first of all the case of the “closed” economy – what happens in an economy without foreign trade.</p> <h2> The closed economy</h2> <p>The strong message of Keynes’s <em>General Theo</em>ry is that investment is the unruly element in a decentralised market economy, because of the existence of irreducible uncertainty. For one reason or another, businessmen lose confidence in the future and stop investing at the same rate as before. This is how recessions or depressions start.</p> <p>In Keynes’s theory there is no automatic recovery mechanism, so that, in the absence of an external stimulus, a collapsed economy might get stuck in a situation of “underemployment equilibrium”.</p> <p>The present crisis exhibits the truth of both parts of this analysis: there was a collapse of “animal spirits” in 2007-2008 and the developed world has since been in semi-slump.</p> <p>Hobson, Keynes’s near-contemporary, argued that because of the unequal distribution of wealth and income too much of the national income is saved and too little consumed. This leads to more investment producing more goods than the remaining income of the community can buy at prices profitable to the producers. Periodic crises of “realisation” are the result. Today China is a classic case of an oversaving, underconsuming economy.</p> <p>This has some affinity with Marx’s theory of capitalist crisis, but the mechanism is different. For Marx, crises were the result of a fall in the profit rate. In the Marxist scheme, the surplus value extracted from labour – paying workers less value than they produced – was the source of profit. With the substitution of machinery for labour, surplus value became increasingly difficult to obtain. So, like Hobson’s economy, Marx’s suffers from periodic crises. In Hobson’s economy these are crises of surplus production. In Marx’s economy these are crises of profitability or surplus value.</p> <p>Keynes, Hobson and Marx all suggest permanent remedies for the tendencies towards crisis. Keynes called on the state to maintain enough effective demand in the economy to offset the ravages of uncertainty. Hobson wanted the state to redistribute income in order to reduce the share of saving in national income. Marx’s more radical cure, as we know, was to abolish surplus value – the profit-seeking system we call capitalism – altogether.</p> <p>Keynes never engaged properly with Marx, but he saw some similarity between his views and Hobson’s because Hobson, as Keynes did, challenged the core classical belief that saving is always good.</p> <p>Where Hobson went wrong, Keynes suggested, was in identifying overproduction as the worst consequence of excess saving. For Keynes this was only a “secondary evil”; the primary evil was a propensity to save, which was not realised in investment and production.</p> <p>According to Keynes, Hobson’s theory was incomplete because he had no “independent theory of the rate of interest”. In Keynes’s theory, the rate of interest (the rate that banks charge for loans) is determined not by the volume of saving, as Hobson, following the classical economists, believed, but by “liquidity preference” – the desire, in situations of great uncertainty, to hold savings in liquid form, chiefly cash. Thus the interest rate cannot be the price that keeps the desire to save in equilibrium with the desire to invest: far from falling when people decided to save more, the rate of interest might easily go up, as people decided to hoard cash. Situations could thus arise when the expected rate of profit fell below the minimum rate at which banks were willing to lend. “Oversaving” thus went with “underinvestment”, not with “overinvestment”. This speaks to the present situation where, despite huge injections of liquidity by central banks, commercial banks refuse to lend to customers, preferring to sit on piles of cash.</p> <p>What, then, eliminates the excess saving and brings the economy back into balance? Keynes suggested it was the fall in income. As economies get poorer, the amount of saving falls to the level of the reduced investment. Thus economies regain “equilibrium”, but it is an inferior equilibrium to the previous one. This is a good approximation to the current state of Britain, with no clear tendency for a shrunken economy either to grow or to contract.</p> <p>Keynes was aware that a grossly unequal income distribution made it harder to maintain full employment. The rich save more than the poor, so the more unequal the distribution of income, the larger the gap to be filled by investment if the economy is to reach full employment. At the same time, the richer that societies are as a whole, the fewer new investment opportunities there will be. Hence the problem of unemployment would get worse over time from both ends. Underinvestment becomes a structural problem as wealth increases, because bona fide investment opportunities decline while the ratio of saving to income rises.</p> <p>So, what should governments do to maintain full employment? Keynes suggested that in the short and medium term a government should provide sufficient public investment from loans, but in the longer run it should redistribute wealth and income in favour of those with a higher propensity to consume. This latter was in line with Hobson’s remedy for slumps, reached by a different theoretical route.</p> <p>Keynes’s ultimate policy aim was to absorb some of the unwanted surplus of saving in increased leisure. This would mark entry to the “golden age” of capital abundance – the theme of his futuristic essay “Economic Possibilities for Our Grandchildren”, published in 1930. A hundred years hence, Keynes thought, both capital accumulation and consumption would approach saturation.</p> <p>Marx, too, looked forward to this kind of utopia but he denied that it could ever be achieved by capitalism. The capitalist class (and the political apparatus it controlled) would never allow the scale of public investment Keynes wanted – which it would deem inefficient and wasteful; nor the measures of redistribution advocated by both Hobson and Keynes – which it would condemn as weakening the incentive to save and work. As machines increased the productivity of labour, and thus the possibility of shorter hours of work, capitalists would force down real wages by raising unemployment, and more generally by pauperising the mass of the population. Sooner or later this would cause a revolution. It was socialism, not capitalism, that would inherit the era of abundance.</p> <p>The ideas of the three thinkers all play out differently when we introduce a foreign sector. Let us call this “globalisation”.</p> <h2> The open economy</h2> <p>In a closed economy – one without a foreign sector – it is excess saving, according to Hobson, that causes periodic slumps. But an open economy provides an alternative: the domestic saver can lend his savings abroad to develop new markets. Hobson called the need to find a foreign vent for saving the “economic taproot of imperialism”. This was taken up by Lenin to explain why capitalism hadn’t collapsed on schedule. Faced with a falling rate of profit, capitalists could restore their profits by opening up sources of exploitation abroad.</p> <p>Unfortunately, this remedy – which both Hobson and Lenin called imperialism – only postponed the evil day. The competitive drive to capture new markets and open up new sources of exploitation would lead to wars between the leading powers for the “division and redivision of the world”. Hobson thought the Boer war was a precursor of a new type of capitalist war. Lenin interpreted the First World War in the same terms. Keynes drew a similar conclusion to Hobson and Marx. “If nations can learn to provide themselves with full employment by their domestic policy,” he wrote in 1936, “there would be no longer a pressing motive why one country need force its wares on another or repulse the offering of its neighbour.”</p> <p>The contemporary value of the analysis of all three thinkers is that it forces us to look more critically at the phenomenon of globalisation. Is globalisation the consequence of a benign and normal search for higher returns? Or is it an attempt to solve problems of underconsumption and declining profitability in the capital-exporting countries which would otherwise bring their economies crashing down?</p> <p>All three analyses are relevant to this problem. Keynes was the least interventionist of the three. He thought moderate globalisation was potentially beneficial but it needed to be underpinned by monetary “rules of the game” which would prevent surplus countries from “hoarding” their surpluses and thus impose austerity on the debtor countries. In his International Clearing Union, which he proposed in 1941, the reserves of persistent creditor countries would be taxed and the proceeds redistributed to the debtor countries. But no such mechanism was established by the Bretton Woods Agreement of 1944, and the problem of adjustment of trade balances between creditor and debtor countries plagues not just the eurozone but US-China relations, threatening a descent into currency wars and protectionism.</p> <p>The intuitions of Hobson and Lenin also speak to our present situation. Hobson’s notion of a structural imbalance between production and consumption, leading to “excess saving” that requires a foreign vent, surely applies to China. Lenin’s idea that the export of capital is required to overcome periodic crises of profitability in the advanced capitalist nations helps explain the “offshoring” of manufacturing (and service) jobs to China and east Asia.</p> <h2> Today’s “crisis of capitalism”</h2> <p>We have gone in the opposite direction to Keynes’s, Hobson’s and Marx’s hopes, pushing into a distant future the golden age of capital abundance. We are still fixated on economic growth and have abandoned any attempt to control the level or kind of investment. In order to make growth happen, we encourage more and more consumption through advertising, while actively promoting inequality.</p> <p>And instead of the state embarking on wasteful and unnecessary investment programmes to keep people in jobs, we leave it to the financial sector to do this, wasting the money of investors in order to enrich a tiny minority, while most people fall ever deeper into debt.</p> <p>A structural analysis of how we got to where we are should start with an account of how Keynesian ideas, which saw off the Marxist challenge after the Second World War, were in turn dethroned by neoliberalism in the 1970s, opening the way for the dominance of finance capitalism.</p> <p>The political economies of the capitalist world between 1950 and the 1970s brought about a balance of forces between capital, labour and government. Economic policy was designed to achieve full employment, wages grew with productivity, incomes were equalised through progressive taxation, and international exchange was restricted. This configuration created a virtuous circle of growth.</p> <p>This was the Keynesian age. Keynes believed that the power of ideas – his ideas – would be enough to kill off Marx permanently, but he never considered the possibility that his own ideas might be at the mercy of changes in the power structures of western societies. After 1980, the state proved unable to protect the Keynesian revolution from the consequences of the continuing full employment it guaranteed. Over time, full employment strengthened trade union power; unions used their position to push wages ahead of productivity; wages started to encroach on profits; inflation took hold as governments tried to stay ahead of trade union demands. To end what had become a vicious spiral of “stagflation”, the business class demanded lower taxes, freedom to export capital, free trade and an end to the full employment commitment. Two of the countervailing powers, the unions and the state, were humbled, leaving capital in control. This brought back the power system of the 19th century, brilliantly aaalysed by Marx.</p> <p>The economics profession justified the shift back to an older form of capitalism. The technical ammunition for the monetarist counter-revolution was provided by Milton Friedman’s restatement of the quantity theory of money, coupled with his assertion that in each economy there existed a “natural” rate of unemployment, which could not be lowered, except temporarily, by printing money.</p> <p>Friedrich Hayek’s slow-burning <em>Road to Serfdom</em>, published in 1944, offered a powerful political economy argument against state intervention in economic life. There was also a revival of the Schumpeterian idea that the dynamism of capitalism depended on bouts of creative destruction. “Free-market” think tanks and journalists, funded by business, provided the simplifications and slogans needed for politicians to understand and mouth the new verities.</p> <p>In this way, after 1980, a new economic paradigm established itself, based on widening income inequality, repression of real wage growth, an accelerated transfer of manufacturing jobs to east Asia and a resulting high level of structural unemployment and underemployment. A rickety economy was rescued from collapse in the 1990s by the dotcom boom, and in the 2000s by asset-price inflation, financed by exploding private debt-to-income ratios. A banking collapse was inevitable.</p> <p>Globalisation was business’s “open” economy answer to the problem of domestic underconsumption identified by Hobson and the declining rate of profit predicted by Marx. Hobson’s oversaving analysis best explains China’s reliance on export-led growth, but it also sheds light on western countries’ reliance on access to cheap credit to maintain the stagnating purchasing power of what is now called “the squeezed middle class”. Analysis in terms of the declining rate of profit is good at explaining the accelerated transfer of productive capacity to east Asia. And by completing the destruction of the Keynesian state, globalisation has handed our future to finance, which Keynes identified as the most uncertain, least stable element in the economic structure.</p> <p>According to the Harvard economist Dani Rodrik, we face a “political trilemma”: press on with globalisation and restrict democracy to improve economic efficiency, limit globalisation in the name of democracy, or globalise democracy.</p> <p>The first option will be politically intolerable for large democracies of the west and the third is pie in the sky, which leaves the second. It is time to call a halt to the rush towards globalisation and take stock.</p> <p>At the minimum, there needs to be a global bargain between the US and China and a regional bargain between Germany and its partners in the eurozone on their respective “rules of the road”, which should aim to prevent the continuing current account imbalances. This is the problem that Keynes’s clearing union was designed to overcome but which the Bretton Woods system failed to solve.</p> <p>Yet Rodrik’s “trilemma” does not dig deep enough. It assumes that globalisation would be best if it could be made to work equitably. But global economic integration, in the absence of domestic policies to maintain full employment, create a broad base for consumption in all countries and reduce hours of work in the rich countries, is bound to be destructive for the reasons Keynes gave in 1936: it forces countries into export-led solutions to domestic problems which deny democratic control and are bound to bring them into conflict. Closed economy problems identified by Keynes, Hobson and Marx must be overcome if the open economy is to work harmoniously.</p> <p>What hope is there of this? Given that the Marxist physic of abolishing capitalism is worse than the disease, the question is whether it is any longer in business’s interest to go along with a system that crashes every few years, with increasingly harmful economic and social consequences. Keynes repeatedly said he had come not to destroy capitalism, but to make the world safe for capitalism – and make capitalism safe for the world. It may be that business interests are now sufficiently aligned with the needed domestic reforms to enable further global economic integration to proceed peacefully, if less hectically. If a change in the configuration of “vested interests” allows better “ideas” to succeed, the recent crisis will not have been in vain.</p> <p><em>Robert Skidelsky’s most recent book, co-written with Edward Skidelsky, is “How Much Is Enough? The Love of Money and the Case for the Good Life” (Allen Lane, £20)</em></p> </div></div></div> Fri, 17 May 2013 11:53:19 +0000 Robert Skidelsky 194181 at <![CDATA[Meeting our makers: Britain’s long industrial decline]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>The Slow Death of British Industry: a 60-Year Suicide, 1952-2012 - review.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><a href="/culture/culture/2013/01/meeting-our-makers-britain%E2%80%99s-long-industrial-decline"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="Railway volunteers at work on railway track during the General Strike of 1926" title="Railway volunteers at work on railway track during the General Strike of 1926" /></a></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">Railway volunteers at work on railway track during the General Strike of 1926. Photograph: Getty Images</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p align="center"><strong>The Slow Death of British Industry: a 60-Year Suicide, 1952-2012</strong><br /> Nicholas Comfort<br /><em>Biteback Publishing, 344pp, £8.99</em></p> <p>In the early 1950s, Britain was an industrial giant. Today, it is an industrial pygmy. Manufacturing was industry’s bedrock. In 1952, it produced a third of the national output, employed 40 per cent of the workforce and made up a quarter of world manufacturing exports. Today, manufacturing in this country accounts for just 11 per cent of GDP, employs only 8 per cent of the workforce and sells 2 per cent of the world’s manufacturing exports. The iconic names of industrial Britain are history; in their place are the service economy and supermarkets selling mainly imported goods. What happened? Was it inevitable? Does it matter?</p> <p>Nicholas Comfort’s book is exactly what its title promises: a roll-call of the dead and the dying. The broad outline of the story is well known. Britain emerged from the Second World War with a technological edge in aircraft, aerospace, computers and electronics that it failed to exploit. In the 1950s and early 1960s, British manufacturers dominated the home market and had about 20 per cent of world exports, with some world-beaters such as the Comet airliner, the Mini and Triumph motorbikes. Then, a decline set in with increasing import penetration and declining export sales, until the trade surplus in manufactured goods finally disappeared in 1983.</p> <p>In the 1970s, many firms with household names went under. Governments, starting with Edward Heath’s, desperately tried to keep“lame ducks” such as Rolls-Royce afloat by nationalising them. Margaret Thatcher returned the lame ducks to “the chill forces of the market”, many of them drowning. Manufacturing went on shrinking under New Labour; the sector’s workforce halved from 4.5 million to 2.5 million between 1997 and 2010. “Financial and business services,” writes Comfort, “were seen [by the New Labour government] as the way forward for Britain, with manufacturing recognised as globally competitive only in aerospace and pharmaceuticals.” As immigrant workers flooded into Britain’s services and food-processing sector, manufacturing jobs flooded out, mainly to the Far East. Flagship businesses were sold to foreign firms, notably Cadbury’s, which was taken over by Kraft in 2010. No story, writes Comfort, is more poignant than the “fall of two of the giants of the 20th-century British economy – GEC and ICI.”</p> <p>Every advanced economy has been affected by the shift from manufacturing to services but the sheer scale of the industrial decline in Britain demands a special effort at explanation. After all, Germany has kept a much larger manufacturing capacity and its workers work fewer hours. France, too, has maintained world-class manufacturing companies such as Dassault and Peugeot. Why did Britain fail to emulate them?</p> <p>Unfortunately, we don’t get an explanation here. Like almost every writer on industry, Comfort cannot see the wood for the trees. The reader is wearied by page after page of blunders, business miscalculations and missed opportunities; failed grandiose projects such as Concorde; firms going bust, changing their owners, changing their names and either disappearing or reappearing in shrunken form with new acronyms.</p> <p>Comfort spreads a thin coat of “factors” to cover every possible influence: not just “fuddy-duddy management, failure to invest, outdated working practices and headin- the-sand trade unions” but also “shorttermism in the City and the Treasury; the sterile and destructive cycle of nationalisation and privatisation; poor decision-making by government; inadequate market size at home; an obsession with size; the transfer of jobs to the developing world; takeovers driven by boardroom egos; boardroom disdain for manufacturing as such; the lure of Wall Street; sheer bad luck – and good oldfashioned incompetence”. Some old saws – comprehensive education and health and safety legislation – are duly wheeled out to complete the list. As Churchill once said of a dessert placed before him: “This pudding lacks a theme.”</p> <p>A historian of British industry should be able to do better. There cannot be a single explanation of the British economic experience but we can suggest two important ones. The first was the imperial overhang. Until well into the 1960s, most British companies expected to go on earning their living from the empire – that financial, industrial and military complex making up the imperial system. Premonitions of industrial decline – “Made in Germany”, the “yellow peril” – date from late-Victorian and Edwardian times. Joseph Chamberlain’s 1903 campaign for tariff reform was deliberately designed to reduce competitive pressure from Germany and Japan. It is easy to forget that for twothirds of the last century competition was repelled not by superior British efficiency but by military force: it took some time after defeat in the Second World War for German and Japanese competition to start up again.</p> <p>Imperial policy was not wholly consistent. Maintaining the sterling area – not finally wound up until the late 1970s – required high interest rates and an overvalued exchange rate that hit manufacturing. But it was part of a system of sterling loans tied to orders for British exports, a British government procurement system for imperial defence and a resource-extraction system from imperial primary producers.</p> <p>The British aircraft, shipbuilding, railway and motor vehicle industries were under no pressure to modernise their plants, upskill their managers and workers or reform their archaic labour practices when they could rely on captive domestic and imperial markets. Complacency ruled; entrepreneurship was at a discount. Globalisation put a stop to all that.</p> <p>After the breakdown of the imperial system, the big problem facing British industry was erratic government policy. In the 1950s, Conservative governments pursued benign neglect. Governments of the 1960s and 1970s, mainly Labour, decided that the future lay in “industrial policy”: making industries more efficient by reorganising them. Governments would “pick winners” as, allegedly, the French and Japanese did. Industrial policy started up with the National Economic Development Council and its regional counterparts, the “little Neddies”; it gathered strength with the merger boom and nationalisations of the 1960s and 1970s; it was discredited with Tony Benn’s attempt to turn collapsed industries into workers’ co-operatives; it was abandoned by Thatcher in 1979.</p> <p>Running through this history is a lack of continuity: government policy towards taxation and incentives continually changed, long-term aims were repeatedly sacrificed to short-term financial exigencies, projects were taken up and abandoned when they became too costly, fashions in thinking shifted, waste was colossal. The result was neverending unsettlement and uncertainty. The theoretical debate that went on at this time between “governments” and “markets” was largely off-beam. Both business and government miscalculations were equally gross.</p> <p>As the former civil servant Chris Benjamin has written (<em>in Strutting on Thin Air</em>), “The underlying essential for industrial success is ‘continuity’ . . . Continuity fosters consistent focus, expertise evolved over decades and pursuit of research, innovation and knowledge application to secure the feedback for ‘increasing returns’.”</p> <p>In the end, does industrial decline matter if we can earn our living in other ways? Comfort is of the school that laments that “Britain has forgotten how to make things” but it is not easy to separate out the economics from the nostalgia in this statement. Economic policy should not be determined by misty-eyed reminiscences about the brand names of decades past or by a nationalism derived from the tangibility of “things”.</p> <p>Comfort certainly seems to feel more at home complaining about where Terry’s Chocolate Oranges are now made (Poland) than explaining why an economy less reliant on services might be a healthier one. He deplores how, while the Queen’s coronation souvenirs were made in Britain, knickknacks for the Diamond Jubilee were mostly made in China – as if cheap souvenirs were the secret recipe for Britain’s economic future.</p> <p>Yet there is more to be said. Almost the last gasp of the view that manufacturing mattered was the House of Lords select committee report on overseas trade in 1985. It asked: what would happen to our balance of trade when surpluses from North Sea oil ran out? The then chancellor, Nigel Lawson, replied succinctly: services would take up the slack. Yet this is a superficial response for a number of reasons. First, in so far as the big gainer from loss of manufacturing has been the financial services, it has greatly increased the tendency to short-termism. Michael Heseltine, as president of the Board of Trade in 1993, said in parliament:</p> <p class="rteindent1">I do not doubt for one moment that deep-seated short-term attitudes are prevalent in our affairs; or that this is one important strand in understanding why we as a nation have performed less well than many of our competitors. Such attitudes have led us to invest less than we might in technology and advanced means of production. They have encouraged growth in companies by acquisition and financial engineering rather than through organic development and building on products and markets. They have led us to place far too great an emphasis on comparisons of near-term financial results in judging our companies, instead of considering the strength of management and its underlying strategy. Those attitudes are of a piece.</p> <p>Second, Britain’s reliance on financial services has increased the volatility of government revenue. The financial sector, as the experience of 2008 showed, is particularly prone to boom and bust. Financial volatility affects all incomes, including the income of the government. Because of its disproportionate reliance on the inflated taxes from the financial sector, the British government’s revenues collapsed disproportionately when the financial sector failed.</p> <p>This helps explain why our government’s “structural deficit” was greater than those of countries with more balanced economies. It had become over-reliant on a particularly volatile income stream. Like individuals, governments should hold balanced portfolios. No government should remain indifferent to the distribution and performance of a nation’s assets, human or physical, because on that depends its ability to fulfil its social functions. Governments therefore need to promote a balanced economy.</p> <p>Finally, services of all kinds are worse than manufacturing at securing high employment and progressive increases in median incomes. In the long run, automation is bound to reduce manufacturing employment but as long as manufactures are such a large part of international trade, they are important for maintaining employment in a trading economy, because most services cannot be exported. A country that loses its industrial base will thus experience rising structural unemployment apart from automation.</p> <p>Manufacturing is also a safeguard against income deterioration because it is more productive than most services. The more people are employed in labour intensive activities – especially retail services – the lower the typical income will be. The loss of two million manufacturing jobs between 1997 and 2010 probably explains why Gordon Brown, despite his best efforts, was unable to increase average productivity growth in the period.</p> <p>For these reasons, Lawson’s dismissal of the case for manufacturing as “special pleading dressed up as analysis” is not the last word on the subject. It is a shame that Comfort has missed the chance to put that case in a more persuasive form.</p> <p><em>Robert Skidelsky is the author, with Edward Skidelsky, of “How Much Is Enough? The Love of Money and the Case for the Good Life” (Allen Lane, £20)</em></p> </div></div></div> Thu, 24 Jan 2013 08:26:58 +0000 Robert Skidelsky 192059 at <![CDATA[An economy in crisis, a coalition in denial]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>As long as Cameron and Osborne are battling Vince Cable’s Lib Dems for control over the direction of Britain’s economy, the slump will persist.</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><a href="/politics/politics/2012/09/economy-crisis-coalition-denial"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" alt="David Cameron" title="David Cameron" /></a></figure></div></div><div class="field field-name-field-nodeimage-title field-type-text field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even">David Cameron. Photograph: Getty Images</div></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <p>Refreshed by his summer holiday, David Cameron vowed to “get Britain moving again”. A slew of kick-starting initiatives has followed, most of them the brainchild of his government’s one-man think tank, Vince Cable.</p> <p> The figures are dire. After a tepid recovery from the collapse of 2008, the British economy has started shrinking again. Most forecasters expect a negative growth outcome for this year. The same is true of the eurozone.</p> <p> What has gone wrong? In the spring of 2009 all the major economies, including Britain’s, were given a large fiscal and monetary stimulus. Then in June 2010 George Osborne, the Chancellor, entered the Treasury with a large dose of austerity. It is true that a correlation isn’t a cause, but could it be that the earlier recovery had something to do with the stimulus, and the subsequent decline with the austerity? At any rate these are striking coincidences. By contrast, the United States, which escaped Dr Osborne’s cure, has continued to grow, albeit feebly.</p> <p> It would be foolish to say that Osborne’s budgets have caused the slump. The charge is that his budgets, far from offsetting, have aggravated the collapse of demand that followed the banking crash of 2008. Austerity has not caused the economy to shrink, but has kept it from recovering. Meanwhile, it is wonderful to see how we clutch at straws. For example, the fall in retail sales in July compared to July last year has been attributed to people preferring to watch the London Olympics rather than go shopping. Could it just be that they had less disposable income than last year? Then there was the Queen’s Diamond Jubilee. This was blamed for the poor second-quarter showing. In a healthy economy, however, parties don’t typically lead to such severe hangovers.</p> <p> The government clutches at straws of its own. The Prime Minister and the Chancellor assert ad nauseam that Britain’s recovery was derailed by the eurozone crisis. Unfortunately, the dates are wrong. The British recovery petered out before the eurozone crisis started. It actually petered out as soon as the coalition got started.</p> <p> Yet surely it was only the government’s austerity policy that prevented Britain from going the way of those big European spenders? Here is David Cameron in the <em>Mail on Sunday</em> (2 September): “When I became Prime Minister our market interest rates were the same as Spain’s. Ours are now less than 2 per cent; theirs more than 6 per cent. Why? Because we threw a lifeline around the British economy and pulled it back from the cliff edge.”</p> <p> But wait a minute: Spain had a budget surplus and a low public debt in the run-up to the crisis. Since then Spain has followed much the same austerity policy as the UK. So how can the difference in the yields of the two governments’ debt be due to the differences in their fiscal policies? There must be “other factors”.</p> <p> Now we come to some good news. “Yes, growth has been disappointing,” Cameron admits, “but in the past two years we’ve also seen more than 900,000 jobs created in the private sector.” This may be true, but the number we are most interested in is net, not gross, employment. In fact, unemployment has risen in the two years of coalition rule, from 2.48 million to 2.59 million. More importantly, almost half of the new jobs created under Cameron are parttime. Agreed, better some employment than no employment, but hardly the resounding success story it’s made out to be.</p> <p> There is still a puzzle. The government takes comfort from unemployment having fallen recently, even though the economy has continued to shrink. The headline figure of 2.59 million unemployed is actually slightly lower than it was six months ago. The reason for this is almost certainly that employers are hanging on to skilled labour for fear of losing it altogether, with the consequence that there has been a fall in recorded productivity. As the <em>Guardian</em> put it, “. . . it now requires many more of us to labour away to churn out the reduced volume of stuff” (15 August).</p> <p> The figures have to be spun to disguise Osborne’s failure. The present situation is the predictable and, by some of us, predicted outcome of policies of fiscal austerity pursued in the face of the worst economic crisis since the Second World War. That prediction rests on a straightforward Keynesian analysis.</p> <p> Keynes explained how conditions of semislump can get established. Let’s start from a situation of full employment and high private indebtedness. This latter does not matter so long as the economy is growing. But suddenly the next step up the ladder is no longer there and a lot of people find themselves “living beyond their means”.</p> <p> The only thing they can do is to reduce their spending: that is, save more. But what happens if all households and firms try to increase their saving at the same time? Well, then the total spending in the economy will fall because everyone’s spending is someone else’s income. There will be less demand for goods and services and therefore for labour. Our collective attempts to get back into balance – get rid of our credit card debt, as the Prime Minister likes to put it – will have made us all poorer, and, indeed, reduced the amount of saving as well, given that we will have smaller incomes out of which to save. So the economy will go on shrinking until the excess saving is eliminated by the growing poverty of the community.</p> <p><img alt="" src="/sites/default/files/images/skidlesky.JPG" style="width: 510px; height: 507px;" /></p> <p> The essence of this insight is captured in the phrase the “fallacy of composition”. The fallacy consists in the claim that what is true of the parts must also be true for the whole. The bestknown application of this fallacy is the “paradox of thrift”. New acts of saving, though virtuous for the individual, make us all poorer when the demand for new capital has declined. That is why Keynes rejected more saving as the remedy for a slump. The correct response was more spending. And if private agents lack the resources or incentive to increase their spending then the government needs to increase its own spending. This, in a nutshell, is the theory of the stimulus.</p> <p> We all worry about debt, yet the important figure is not what I owe but the ratio of what I owe to my income. I can try to reduce this ratio either by saving my income to pay off the debt or trying to make my income larger. Reducing the national debt is more complicated. It can only be done by taxing more or spending less, and this drives down people’s incomes and creates unemployment. Furthermore, by reducing incomes, it also reduces people’s ability to pay taxes, and this can be self-defeating. Something like this has happened in Europe, where falling incomes due to austerity have driven debt ratios up, not down (see chart).</p> <p> Offloading private debt on to the public sector may help stabilise the economy, but does not, of itself, produce recovery; and may, in addition, frighten the bond markets into raising their default premium on government paper.</p> <p> So we seem to be between a rock and a hard place. International organisations such as the OECD and the IMF are more or less agreed that the present austerity policies are preventing growth; but they offer no alternatives. Here is Ángel Gurría of the OECD: “Deleveraging necessarily means higher savings, and that means lower consumption and therefore lower demand. And the lower demand means even lower employment and even lower incomes for households and lower revenues from governments.<br /> And both of these mean slower deleveraging. It is a vicious circle.”</p> <p> And here is the latest IMF study: “The recovery has stalled and unemployment is still too high . . . Additional macroeconomic easing is needed to close the output gap faster. Scaling back fiscal tightening plans should be the main policy lever if growth does not build momentum by early 2013 even after further monetary stimulus and strong credit easing measures.”</p> <p> To a Keynesian, these belated insights are hardly news. Gurría, for instance, is merely repeating Keynes’s argument that to withdraw demand from an already demand-deficient economy will lead not to recovery, but to a shrinking economy, a growing debt (private and public) and the need for more austerity.</p> <p> Today there is a silent U-turn going on in the UK as well as in eurozone countries, hence Cameron’s call to “cut through the dither”. But there is still great disagreement about what the recovery policy should be.</p> <p> The debate is broadly between the supplysiders and the demand-siders. The supply-siders argue that there is too little money in the economy, the demand-siders that there is too little spending power. It might seem that the two come to the same thing, but as Keynes pointed out, the holder of money has a choice: whether to “hoard” it or spend it. Those who argue that any increase in the money supply is bound to be spent on buying goods and services ignore the existence of “liquidity preference” – the desire to hold on to cash because of uncertainty about the future.</p> <p> The favourite tool of supply-side expansionism is quantitative easing (QE), or “printing money”. Ben Bernanke of the Federal Reserve and Mervyn King of the Bank of England, together the most powerful central bank governors today, believe that the reason the Great Depression of the 1930s was so deep and lasted so long was that the monetary authorities allowed the money supply to collapse. They are determined not to make the same mistake this time. The technique of printing money is for the central bank to buy government (and pos - sibly corporate) securities from non-financial companies and give them cash in return. The recipients deposit this additional cash in their bank accounts. They then spend it buying assets. Alternatively, the banks’ increased cash reserves enable them to reduce the rates they charge for loans. Either way, there is a stimulus to spending.</p> <p> Despite attempts by the Bank of England to devise “more economically relevant” measures of money, the evidence is that only a small fraction of the “new money” has got out into the economy, enough to stop a slide all the way down into another Great Depression, but not enough to produce a recovery. The main benefit of QE has been to keep down the cost of government borrowing: one of the inestimable advantages of having your own central bank able to print money. This gives the government more room for fiscal manoeuvre.</p> <p> So, contrary to Cameron’s claim, it is not fiscal austerity that has kept the cost of government borrowing low, but QE – plus the lack of business confidence in alternative investment prospects.</p> <p> The government has dangled a succession of carrots before the banks to induce them to “lend more” of the extra money they are getting. In March, there was a National Loan Guarantee Scheme. This was replaced less than six months later by the Funding for Lending Scheme. However, attempts to increase the volume of lending by lowering banks’ funding costs have largely failed. Since July, when the new scheme was launched, bank funding costs have fallen by 0.5 per cent, but the rate for new mortgages has fallen by only 0.1 per cent; that is to say, the spread between the two has in fact widened, to the great advantage of banks’ balance sheets, but not borrowers. Now the government has promised a £40bn guarantee for private infrastructure investment. These schemes all help, yet the basic problem is not too little credit, but too little demand for credit. Would people borrow more, even at lower interest rates, when the economy is shrinking? As economists used to say, “You can’t push on a string.”</p> <p> The alternative expansionary tool is an increase in the government deficit. Instead of the Bank of England buying bonds, the government sells bonds – that is, incurs debt – to finance its spending. There would be no point in doing this if the private sector was already investing its money productively. If, in this situation, the government started selling more of its debt, it would merely “crowd out” existing private investment. Yet this is not the case when there is a deficiency of aggregate spending. Government borrowing then absorbs “idle” savings and puts them to use.</p> <p> There are many ways it can do this. The least promising is the policy of tax cuts for the rich advocated by the political right. The reason is that the rich save more of their money than the poor, so the stimulating effect may be quite small; and the non-saved part of the tax windfall is quite likely to go into the kind of financial and real-estate speculation that precipitated the last crash. Tax reductions for the poor, though, in the form of temporary relief from National Insurance contributions, would be helpful.</p> <p> In the present situation there are two quick ways for the government to boost total spending. It could supply all households with timelimited spending vouchers – a Christmas present of, say, £100 for each family in the land. Some of the extra spending power would be used to buy imported goods or repay debt, but there would still be some net increase in domestic spending.</p> <p> On the investment side, the easiest thing that the government could do would be to reinstate capital spending programmes cancelled in the drive for deficit reduction, with social housing and school-building given priority. Easing planning regulations (a favourite supply-side measure) to stimulate construction will help, but the private sector will not construct buildings if there is no effective demand for them.</p> <p> The government should also set up a national investment bank with its own portfolio of investment projects focused on infrastructure and cutting-edge technology. A firm, long-term commitment by the investment bank would not only give the country new roads and energy sources but spread jobs to small and mediumsized suppliers.</p> <p> The crucial difference between the National Investment Bank and the government’s plan to guarantee £40bn of private infrastructure projects is that the investment bank would be an active investor with its own funds, whereas the government’s plan leaves the initiative to the private sector. Even Vince Cable’s so-called small business bank is not expected to do more than “shake up the market in business finance”. This is based on the fallacious doctrine that the private sector will always be better at “picking winners” than any public authority, however shielded an authority may be from political interference.</p> <p>This largely reflects the failed experiments of the 1960s, such as British Leyland. The experience of many European and Asian countries gives the lie to the notion that state-led investment is bound to fail. And the recent catastrophic performance of the financial services industry should guard us from the belief that the private sector always knows best.</p> <p> The important requirement, as our success in the Olympics showed, is the identification of potential winners and sticking with them long enough to show results. The bane of British “industrial policy” has been not the inability of public authorities to pick winners, but the chopping and changing of policy in response to temporary financial exigencies. The cancellation of public capital projects after 2008 is a good example of this unsteadiness of aim.</p> <p> This is where the economic debate rests. It is high time to move it from academic discussion to the political arena. This will be necessary in any case if, as I believe, the prospect under present policy is for semi-permanent continuation of conditions of semi-slump.</p> <p> <em>Robert Skidelsky’s most recent book – written with Edward Skidelsky – is “How Much Is Enough? The Love of Money and the Case for the Good Life” (Allen Lane, £20).</em></p> </div></div></div> Thu, 20 Sep 2012 07:53:28 +0000 Robert Skidelsky 189184 at <![CDATA[Plan B: Start a national investment bank]]> <div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><a href="/economy/2011/10/investment-bank-capital"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" title="width" /></a></figure></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <!-- Generated by XStandard version on 2011-10-18T12:34:18 --><p>Dear Chancellor,</p> <p>In 2008, you said that a Keynesian stimulus would be a "cruise missile aimed at the heart of recovery". Three years on, may I suggest that austerity is a "cruise missile aimed at the heart of recovery"? If everyone is being austere at the same time - householders paying off their credit-card debt as the Prime Minister wants, businesses deleveraging, the government cutting its spending - the economy is bound to shrink. It is one thing to be austere when the need is to reduce overheating. It's quite a different thing when the economy is freezing and the need is to restart growth. The question is: where is growth going to come from?</p> <p>I accept that, for reasons of politics and confidence, you cannot now abandon your commitment to your deficit-reduction programme. What we need, though, is to revive the conceptual distinction between current and capital spending. You should aim to achieve a balance of revenues and expenditure on current account, but augment capital expenditure. Banks cannot be forced to lend, or households and business forced to borrow. Therefore, the government has to provide the stimulus for new capital investment on a scale sufficient to overcome the cumulative forces of austerity. But, for the sake of the public accounts, and also to give confidence, it would be far better that the programme of public investment be entrusted to a separate, independent institution.</p> <p>You already have an instrument to hand: the Green Bank. But it is to be given only £3bn and prevented from borrowing. A bank that can't borrow is no bank at all. We need a proper national investment bank, with more capital and the ability to raise private money.</p> <p>My proposal is very simple. You should use part of the proceeds of the sale of government shares in bailed-out banks to increase the capitalisation of the national investment bank. A limited fiscal commitment - say, £10bn in subscribed capital, with contributions drawn down over the next four years - would allow the new bank to finance enough spending to more than offset the £87bn of reductions in public investment planned before 2015. In this way, it could bolster confidence and increase demand without adding to the deficit. To those who say there are no "shovel-ready" schemes, I would reply that the commitment to a large programme of capital investment, of itself, would give confidence ahead of the start of the investment.</p> <p>The difference between the total and the government contribution would be funded from the bond markets. This is the magic of leverage, of course: the magic that got such a black name as a cause of the crisis. But a national investment bank is an opportunity to turn that magic to a constructive end.</p> <p>In fact, an investment bank would kill three birds with one stone. First, through its funding programme, it would create a new class of bonds - long-term, but with a yield pick-up over gilts, reflecting the modest credit risk of the bank - which could include features that fit the needs of the UK pensions industry, the need for renewing infrastructure and the demands for energy efficiency. Second, by lending for the long term, it would help long-term growth. And finally, by ramping up its operations now - when the corporate recovery is being hamstrung by shrinking bank lending and fiscal austerity - it can offer a boost to aggregate demand when it is needed most.</p> <p><em>Robert Skidelsky is emeritus professor of political economy at the University of Warwick. He is a crossbench peer and a biographer of John Maynard Keynes</em></p> <p><em><a href="">Previous: Print money for the public, says Sushil Wadhwani</a></em></p> <p><em><a href="">Next: Lift the cap on immigration, says Jonathan Portes</a></em></p> <p><em><a href="">Back to list</a></em></p> </div></div></div> Tue, 18 Oct 2011 10:42:32 +0000 Robert Skidelsky 41351 at <![CDATA[The boom was the illusion]]> <div class="field field-name-field-subheadline field-type-text-long field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even"><p>The world economy is on the edge of a precipice. The best we can hope for now is a managed retreat f</p> </div></div></div><div class="field field-name-field-node-image field-type-image field-label-hidden view-mode-fulltext"><div class="field-items"><figure class="clearfix field-item even"><a href="/economy/2011/10/world-growth-china-investment"><img typeof="foaf:Image" class="image-style-fullnode-image" src="" width="510" height="348" title="width" /></a></figure></div></div><div class="field field-name-body field-type-text-with-summary field-label-hidden view-mode-fulltext"><div class="field-items"><div class="field-item even" property="content:encoded"> <!-- Generated by XStandard version on 2011-10-25T16:42:41 --><p>Since its collapse in the autumn of 2008, the world economy has gone through three phases: a year or more of rapid decline; a bounce back in 2009-2010, which nevertheless did not amount to a full recovery; and a second, though so far much shallower, downturn this year.</p> <p>The resulting damage over the past four years has been huge. The world economy contracted by 6 per cent between 2007 and 2009, and recovered 4 per cent. It is 10 per cent poorer than it would have been, had growth continued at the rate of 2007, and the pain is not yet over. Today, we are in the first stages of a second banking crisis. It may already be too late to avoid a "double dip", but it may still be possible to avoid a triple dip. For this we need a robust intellectual analysis of what is required to ensure durable recovery, and the collective political will to implement it.</p> <h2>Backdrop to the crisis</h2> <p>Economics is in a mess. With the shattering of the dominant Chicago School paradigm, whose rational expectations hypothesis ruled out, by assumption, the kind of collapse we have just experienced, two old masters, Friedrich von Hayek and John Maynard Keynes, have risen from the dead to renew the battles of the 1930s, equipped this time with explanations for what has gone wrong. We can label these "money glut" and "saving glut".</p> <p>The Hayekian argument for the slump is that lax monetary policy made it possible for the commercial banks to lend more money to businesses than the public wanted to save out of its current income. Hence, a whole tranche of investments - "malinvestments", Hayek called them - was being financed by credit creation, not genuine saving. This led to a bubble in the real estate and financial sectors which powered a consumption boom. When (belatedly) the money tap was turned off, the bubble burst and the American economy slumped. The slump is simply the liquidation of the unsound investments - "capital consumption".</p> <p>By contrast, the problem for Keynesians was not insufficient saving, but insufficient investment. Investment is governed by uncertainty, while saving is a stable fraction of income. Keynes's economy tips over into recession when, for some reason, profit expectations decline relative to the volume of saving being done. Businesses start to prefer liquidity to investment. This pushes up the rate of interest, or cost of borrowing, just when you want it to come down. Saving and investment are then brought back into balance, not by a fall in interest rates, but by a fall in incomes. The recession of 2008-2009 was caused by a collapse in investment, not by overindebtedness; overindebtedness was a consequence, not a cause.</p> <p>Both explanations have an international dimension. The Hayekian story starts with the overissuing of dollars by the US Federal Reserve, made possible by the dollar's role as the world's leading reserve currency. This enabled Americans to live beyond their means and to spend more than they produced.</p> <p>The Keynesian story starts with Chinese oversaving. The Chinese save a much higher proportion of their incomes than their economy, as organised, can absorb. It was the voluntary recycling of excess Chinese savings into the US economy by means of the Chinese central bank's purchase of US Treasury bills which allowed the United States to become the world's "consumer of last resort". The "money glut" in the US was a consequence, not a cause, of the more fundamental "saving glut" in China.</p> <p>The two stories are derived from contrasting theories about how a market economy works. The first sees it as a self-regulating mechanism, in which the "invisible hand" smoothly channels the self-interested actions of individuals towards a social optimum in the absence of monetary disturbances. The Keynesians accept the social value of the market system, but deny that, in the presence of irreducible uncertainty, it is optimally self-regulating. The "invisible" hand guides economies not to a social optimum but to "underemployment" equilibrium. As such, government intervention is needed to ensure full use of potential resources.</p> <p>On a cool view, there are elements of truth in both explanations of the recession. We do not have to choose between American profligacy and Chinese frugality. Our policies for recovery have to deal with both contributions to the unravelling of prosperity.</p> <h2>Austerity v stimulus</h2> <p>The differences just described over the origin of the crisis underpin the present debate between austerity and stimulus. According to Meghnad Desai, writing in the <em>Financial Times</em> of 15 September, "The long recession is a Hayekian phenomenon and not a Keynesian one . . . The need is to deleverage, not to spend." The private and public sectors alike need to increase their saving, even though this will reduce aggregate demand in the short run. Letting assets find their proper value will bring genuine demand at realistic prices and punish those who have taken wrong decisions.</p> <p>There will be more pain in the short term, but the Keynesian alternative of stimulus delays the adjustment, unfairly forcing taxpayers to pay the price of rescuing those who took too much risk. The boom was the illusion; the slump is the opportunity to liquidate the malinvestments.</p> <p>To this, Keynesians pose two objections. First, they deny that there was "too much" spending in the US economy before the collapse. There were no signs of general overheating: inflation was low, and there was no shortage of labour. What they would concede to the Hayekians is that cheap money made possible a great deal of misdirected, or speculative investment, which fuelled a wealth-driven consumption boom. But this is not the same as saying that there was overinvestment in the strict sense that further investment would have yielded a zero rate of return, or that there was too much consumption in general. It is absurd to believe that the demand for goods and services of those 46 million Americans living below the poverty line had reached the point of saturation. The houses and construction facilities built in the bubble economy are still there: they require an increase, not a reduction, in the incomes of the low-paid in order to become "affordable".</p> <p>But more fundamentally, Keynesians argue that, even if the Hayekian diagnosis is right, the remedy of austerity is wrong. It derives, they say, from the medieval medical practice of bleeding a sick person to purge the rottenness from his blood - a species of cure that frequently led to the death of the patient. Lionel Robbins, retracting his opposition to Keynesian stimulus policies in the 1930s, wrote:</p> <blockquote><p>Assuming that the original diagnosis of excessive financial ease and mistaken real investment was correct - which is certainly not a settled matter - to treat what developed subsequently [by austerity policies] was as unsuitable as denying blankets and stimulants to a drunk who has fallen into an icy pond on the ground that his original trouble was overheating.</p> </blockquote> <p>(Compare this with the German finance minister, Wolfgang Schäuble: "You can't cure an alcoholic by giving him alcohol.") The point is this: if both the government and the private sector are trying to increase their saving at the same time, you don't just liquidate the bad investments, you kill the economy as well, by reducing national income until everyone is too poor to save.</p> <p>That is why I have been arguing in the UK that when private enterprise is asleep, for lack of effective demand, the state must step in to stimulate the moribund investment machine back into lively activity.</p> <p>The truth is that the policy of all-round "cutting down" increases the problem of indebtedness. The bond markets have diagnosed accurately that, in the absence of growth policies, one lot of debts after another will become "unsustainable". Both the national debt and the debts of private institutions will shrink automatically as a fraction of national income if national income grows, and conversely will grow if it shrinks. Growth, not debt reduction, should be the chief aim of economic policy today. Where there are too many debt collectors, they end up ruining themselves. The eurozone today is awful witness to this truth.</p> <p>With austerity in the ascendant, the world recovery is petering out. Europe is on the edge of a precipice, in a feedback loop from bank insolvency to an explosion of sovereign debt to a second round of bank insolvency. The United States is in little better shape, with its fiscal policy paralysed and the markets expecting a Japanese-style stagnation.</p> <p>Latin America, the Middle East and Russia are benefiting from a commodity boom. Of their main markets, however, the US and Europe are hardly growing, and China is slowing down as Beijing tries to rein in an inflationary bubble in real estate, and because its export-led growth depends on the continuing increase in American and European demand. If China's voracious appetite for commodities slows, growth in Latin America, the Middle East and Russia will grind to a halt, which in turn will limit demand from them for Chinese goods. So the circle of pain widens, as each misfortune feeds back on itself.</p> <p>The plain fact is that there is too little aggregate demand in the world, and the net effect of all the policies being pursued is to reduce it further. So, what will the future bring?</p> <p>We know what happened in the 1930s: the world economy broke up. The conventional wisdom is that this is impossible today under any circumstances. The cliché has it that economic integration is irreversible; that the revolution in information and communications is ineluctably turning the world into a "global village". However, this benign prospect ignores the possibility of great crises and collapses. People were saying exactly the same thing in 1914. Historically, globalisation has come in waves, which recede under the impact of crisis and catastrophe as economic life retreats to the relatively safe haven of national jurisdictions.</p> <p>We have reached the end of that phase of globalisation in which we dealt with the problem of permanently mispriced currencies by means of recycling mechanisms that pumped up speculative bubbles. But what follows it? There are two alternative hypotheses, which may be described as a choice between Disintegration and Co-ordination.</p> <p>The first hypothesis is that, as we fail to solve our problems globally, the global economy will start to fragment. At present, domestic demand is being suppressed both by countries that depend heavily on export-led growth and by countries that are trying to reduce their current account deficits. What this signals is that the global authorities are engaged in a simultaneous effort, for different reasons, to reduce aggregate demand.</p> <p>This is completely the wrong policy. Christine Lagarde, the new managing director of the International Monetary Fund, is right to argue that fiscal retrenchment in the teeth of a recession is suicide. The break will come when the deficit countries, unable to endure any further "bleeding", start to resort to currency depreciation and protectionism. If the eurozone fails to organise growth policies, Greece and possibly other eurozone countries will resume their monetary and trade independence. Currency and trade wars will erupt across the globe: indeed, these wars have already begun.</p> <p>The second hypothesis, Co-ordination, is what Gordon Brown calls a "G20 growth compact". Essentially, he is calling for a revival of the spirit of international co-operation which produced the stimulus of 2009 and halted the slide into another Great Depression.</p> <p>Elements of such a compact would include a reform of the global monetary system, aiming to end the era of current account imbalances; a reform of the financial system, aiming to avoid the excesses of bank lending that triggered the crisis; and macroeconomic policies that aim to boost world demand in the short run.</p> <p>Progress has come on the second item. Basel III has accepted the need for the banks to hold more capital against their liabilities. Individual countries have also began to beef up their regulatory systems. In the UK, the Vickers report has proposed splitting the retail from the investment functions of banks. Hayek would have approved.</p> <p>The more fundamental problem is the political power of the big banks. Not only does finance have to be reformed, it must be tamed. Winston Churchill put it well in 1925, as chancellor of the exchequer: "I would rather see finance less proud and industry more content." So far no government has had the guts to stand up to the banks. This suggests that financial re-regulation will be emasculated.</p> <p>On the other two items, there is no progress to report at all. Reform of the world monetary system needs be based on a grand bargain, mainly between China and the US, on reserves and exchange rates, but there is no sign yet of any serious attempt to achieve this. As for the third item, the only macroeconomic co-ordination is in the direction of cutting down, not building up, the world economy. There is no investment in growth.</p> <p>Yet the world economy cannot cut its way out of recession: it has to grow its way out. If the bond markets force deficit reduction programmes on highly indebted governments, states must look to alternative instruments - such as national or regional investment or infrastructure banks - to mobilise private savings going to waste for want of profitable investment opportunities.</p> <h2>Disintegration scenario</h2> <p>Sovereign wealth funds and pension funds would invest in growth if there was any growth going on. As it is, they invest in government debt, which carries low yields but is at least relatively safe. The former US deputy Treasury secretary Roger Altman has made the point that historically low yields on long-term government debt in the US, the UK and Germany can be explained only by anticipation of "negligible demand for capital".<br />Of the two scenarios, Disintegration is the more likely. This is not just because political leadership is not up to the job of forging a global compact, but because the adjustments required of our current national economic models are too great to be undertaken voluntarily. Americans will need to consume less and export more; China and Germany will have to consume more and export less. Such change requires a fundamental rethinking of ways of living into which all three countries are locked.</p> <p>In the US case, adjustment will require a break with a credit-fuelled economy, which is the only way American capitalism has of dealing with the vast inequalities of wealth and income that it has created by outsourcing most of its manufacturing to low-wage countries. There is little sign, however, of the US being willing to rethink its version of capitalism.</p> <p>In the case of the Chinese, their country's low consumption ratio, as Michael Pettis, on his blog China Financial Markets, points out, is "fundamental to the [Chinese] growth model, and the suppression of consumption is a consequence of the very policies - low wage growth relative to productivity growth, an undervalued currency and, above all, artificially low interest rates - that have generated the furious GDP growth".</p> <p>Germany, too, is locked in to export-led growth, and does not seem fully to understand that if it beggars its European neighbours by running a permanent export surplus, it will end up by beggaring itself.</p> <p>If China and Germany insist on being 21st-century mercantilists - exporting more than they import - the rest of the world will start to protect itself against them. Germany's policy will lead to the breakdown of the eurozone, China's to the breakdown of the world trading and payments system.</p> <p>The two scenarios - Co-ordination and Disintegration - have in common that they presuppose more reliance by countries or groups of countries on domestic sources of growth, and less on foreign trade. That is what we mean when we talk of a more balanced world economy. The sole question is whether the retreat from the wilder shores of globalisation will be orderly or disorderly: whether we drift into the bloc economics of the 1930s, or whether we have the wisdom to build a managed and modified form of globalisation, free from the illusion that everything can be left safely to the markets.</p> <p>And here's the point - a disorderly, acrimonious retreat from globalisation is bound to overshoot the mark, reviving the economics and the politics of the 1930s; but leading, in an era of nuclear proliferation, to consequences that are even more terrifying. So we must resolutely work for the best, without illusion, and with only modest hope.</p> <p><em>Robert Skidelsky is a crossbench peer. His book "Keynes: the Return of the Master" is published in paperback by Penguin (£9.99)</em></p> </div></div></div> Thu, 13 Oct 2011 09:54:03 +0000 Robert Skidelsky 41188 at