On 14 February 2010, 20 prominent economists wrote to the Sunday Times in support of George Osborne’s deficit reduction strategy. They said: “… in order to be credible, the government’s goal should be to eliminate the structural current budget deficit over the course of a Parliament, and there is a compelling case, all else equal, for the first measures beginning to take effect in the 2010/11 fiscal year.” The Chancellor hailed their letter as a “really significant moment in the economic debate”.
Two and a half years later, the UK is mired in a double-dip recession and Osborne is set to borrow £11.8bn more than Labour planned. For this week’s issue of the New Statesman (out tomorrow), we asked the 20 whether they regretted signing the letter and what they would do to stimulate growth. Of those who replied, only one, Albert Marcet of Barcelona Graduate School of Economics, was willing to repeat his endorsement of Osborne. Nine urged the Chancellor to abandon his opposition to fiscal stimulus and to promote growth through tax cuts and higher infrastructure spending, while others merely said “no comment” or were “on holiday”.
With the UK able to borrow at the lowest interest rates for 300 years (largely owing to its non-membership of the euro and its independent monetary policy), the signatories are both surprised and dismayed at Osborne’s failure to invest for growth. Since he entered the Treasury, the Chancellor has cut investment spending by £24.4bn, a net reduction of 48 per cent.
It is now only Osborne’s political pride that is preventing a change of direction. Borrowing for growth would be a tacit admission that his nemesis, Ed Balls, was right and he was wrong. But if Osborne is not to condemn the UK economy – and his party’s poll ratings – to permanent stagnation, there is no alternative.
You can read the economists’ responses in full in this week’s New Statesman, but here, for Staggers readers, are the key lines.
Roger Bootle
Capital Economics
If I were Chancellor at this point, I would alter the plan, I would stop the cuts to public investment and I might even seek to increase it.
The key thing is to try and get the private sector to spend its money and that may require a bit of government spending to prime the pump.
Roger Bootle is the managing director of Capital Economics and author of “The Trouble With Markets” (Nicholas Brealey, £12.99)
Danny Quah
London School of Economics
The fear that UK borrowing would become overly costly has become much less relevant … For most observers, the Bank of England has made clear that it is willing to put considerable resources into monetary easing. That has also reduced the pressure for dramatic debt reduction, compared to the perceived monetary stance at the time I signed the letter.
So, have I changed my mind since signing the letter? Yes. Because circumstances have changed.
Danny Quah is professor of economics and Kuwait Professor at the LSE
David Newbery
Cambridge University
It was necessary to cut current expenditure but, given the poor state of Britain’s publicly funded infrastructure and the looming recession, the necessary counterpart (taught us by Keynes in the Great Depression whose length we have now exceeded) is to increase public investment expenditure even if this worsened the short-run public deficit. That would stimulate private investment, particularly if it relaxed important transport bottlenecks, in a far more positive way than just cutting total government expenditure. That was indeed what the United States did with its immediate response, although many argued that it was at too modest a scale.
We need growth, and that requires investment. In a recession bordering on a depression, public investment in infrastructure that has a high pay-off even in good times must make sense.
David Newbery is emeritus professor of economics at Cambridge University
Michael Wickens
York University
If the government has made a mistake, it is in cutting capital expenditures – expenditures that have to made at some time and would be cheaper to do now than in the future. This could be debt financed. If the government clearly explained this strategy, I believe that the market would not charge higher rates for this additional borrowing. Such a strategy, not reneged on, would help.
Michael Wickens is professor of economics at the University of York
Hashem Pesaran
Cambridge University
My views have not changed – but this does not mean that I have agreed with this government’s obsession with credit ratings and fiscal reductions at the expense of growth-inducing policies. I was in favour of taking account of the possible adverse effects of large and unsustainable government deficits on borrowing costs and financial stability. I believe this government’s policies have not followed the balance I had in mind when I signed the letter.
Hashem Pesaran is professor of economics at Cambridge University
Tim Besley
London School of Economics
I would prefer to see government resources used in a targeted way and there may be creative ways of using the government balance sheet. For my part, I am particularly keen to have more focus on housing in the near term.
John Vickers
Oxford University
Thanks, but I’ll pass on this.
John Vickers is professor of economics at Oxford University. He has criticised the government for watering down his recommendations for reform of the banking sector
Costas Meghir
Yale University
There is a huge opportunity to carry out important infrastructure projects and improvements in education. Currently both capital and labour are very cheap and available; there is little danger of crowding out private investment; and infrastructure and human capital spending properly thought through (not roads leading to nowhere or just beautiful school buildings but targeted educational interventions and projects useful to economic activity, such as airports and transport) can have high returns in the future making the whole enterprise profitable.
Kenneth Rogoff
Harvard University
I have always favoured investment in high-return infrastructure projects that significantly raise long-term growth.
Kenneth Rogoff is professor of economics and Thomas D Cabot Professor of Public Policy at Harvard University
Christopher Pissarides
London School of Economics
Professor Pissarides was unable to contribute to this feature, but these words are an edited extract from an open letter he wrote to George Osborne published in the New Statesman of 17 October 2011.
I know you worry about the deficit but I think that you worry about it too much. Keynesianism of the kind that guided policy after the Second World War no longer works, but there are still lessons in it for us. Worrying too much about the deficit in a recession makes the recession worse. The problem with a recession is that it punishes a relatively small number of people and it punishes them a great deal. The unemployed, new school leavers and ethnic minorities bear the brunt of it. The cost of recession to them is not only lower income, but loss of self-esteem, loss of skill and damaged future career paths. Less concern about the deficit and more attention to the economy’s ability to create jobs will reduce unemployment and improve well-being.
Your plan for deficit reduction should start the spending cuts gradually and respond to the state of the economy. It should go deeper only when the recovery is more robust. A more flexible approach to the cuts is good both for economic growth and for the size of the deficit.
And the one who backed Osborne
Albert Marcet
Barcelona Graduate School of Economics
I am quite sure there is no room for Keynesian-type policies to encourage growth in the fourth year of a recession; there is virtually no economic theory that will support that. I see no urgency to change the schedule in deficit reduction. The UK cannot unilaterally change the fact that there is a global recession, so growth will be below average. Furthermore, there is the danger of becoming the focus of the market’s speculation if there is any change in the commitment to reduce the public deficit.
Albert Marcet is research professor at the Barcelona Graduate School of Economics
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