The Thick of It

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Thursday, October 21, 2010

What it all means

The political and economic impact of yesterday's spending review are huge. Politically Labour is rightly trying to tread a careful path between accepting that some cuts were needed and proposing a realistic alternative. The economics can be laid out in tables and charts though the real impact won't be felt for another two years.

Politically Labour's response was encouraging. Alan Johnson contrasted with Osborne's tone and set out a viable alternative. This is based on believing Keynesian economics instead of the fiscal orthodoxy presented by the Tories. Protecting employment is the best means to protect and encourage growth. The Tory plan to lose half a million public sector workers is likely to lead to more lay offs in the private sector as many firms (like my own) rely on government contracts. Redundancies will increase the welfare bill, not cut it. I hope that Osborne's optimism that the private sector will automatically fill the gap created by the cuts will prove me wrong.

Economically the poorest will have to dig deepest as a result of Gideon Osborne's spending review yesterday. The government's own figures (page 98) show that the bottom 10% will lose a higher percentage of their income after yesterday's changes come into force. The spending review, shown in green, takes the most from those at the poorest end of the scale.

Graph
The spending review puts growth in doubt. When business and individuals are not confident about the future they spend less. Less spending and investment threatens growth. This sort of response to fiscal crisis has in the past deepened recessions, not made it easier.

I'm reminded of the 1997 Tory slogan: "yes it hurt, yes it worked." Then as now the Tories are ideologically opposed to the state investment Labour made. They want a smaller state as much now as they did in the 1930s, 1980s or 1990s. The Tories spouted the mantra of change at the election. They were right to, because they will change the social fabric of the country, but they haven't changed at all. This will certainly hurt. I'm not sure it will work.

1 comment:

Idle Pen Pusher said...

"This is based on believing Keynesian economics instead of the fiscal orthodoxy presented by the Tories."

The problem with this is that the coalition plans are Keynesian. Keynesianism is about demand management to smooth out peaks and troughs. It's not about spending or borrowing per se. Now the economy is expanding, Keynesian economic analysis would promote fiscal tightening just as, two or three years ago, when the economy was contracting, Keynesian analysis favoured fiscal loosening.

"Protecting employment is the best means to protect and encourage growth."

Not as you mean it. Growth is something that happens overwhelmingly in the private sector. What government can do to encourage growth is to reduce the disincentives it imposes on the private sector which currently hamper it: regulation and tax. The lower the tax, the bigger the profit, the more likely people will take the risks in order to earn those profits and thereby create the growth we desire.

Keeping people in jobs as a kind of deluxe welfare system for fiscal expansionist reasons won't do much good. Far better to fire them and either a) reduce the deficit, thereby freeing up investment capital for corporate borrowing or, b) tax cuts, which will either be spent (creating more jobs) or lent to someone else (like a bank) to spend (thereby creating jobs).

You're right that redundancies will increase the welfare bill, at least initially, but unless JSA is a lot more generous than I thought, it'll redundancies will cut public spending and the deficit - even if none of those made redundant can persuade anyone else to hire them.