Author: johnredwood

On Monday Parliament received the Treasury’s 2012-13 “Convergence Programme for the UK: submitted in line with the Stability and Growth Pact”.  It was a timely reminder of more powers surrendered by the previous government.

We were told at the time that the UK would not submit its budget to EU scrutiny or decision prior to the Chancellor delivering his Statement to the Commons.  The UK would merely send the EU the Budget Red Book as a matter of record after the Budget.

As so often with EU matters, it is not as simple as that.  The government has sent a 235 page document to Brussels about our budget, spending and tax plans, and economic forecasts.  Part of this, is a series of extracts from the Budget Red Book and part of it a long extract from the report of the Office of Budget Responsibility.

However, page 5 in the introduction and pages 29-30 on the Excessive Deficit Procedure go further than was suggested at the time of the agreement on the Pact.  The introduction explains that the UK has to submit an annual Convergence Programme.  The country is under an obligation “to endeavour to avoid an excessive government deficit” under Protocol 15 to the EU Treaties.

The section of the Excessive Deficit Procedure is even more concerning.  The UK first accepted this requirement under Labour in 2008.  “In November 2009, the Council made recommendations to the UK, including a target to correct its excessive debt by reducing the Treaty deficit below 3% of GDP by 2014-15.”

The new government reports that it “remains committed to bringing the UK’s Treaty deficit in line with the 3% target set out in the Stability and Growth Pact”.  This is now planned for 2017-18, delayed from 2014-15.

This filing reveals the absurd paradoxes and contradictions of modern UK politics.  Labour who now say we should not cut the deficit so fast or so far signed us up to an EU policy which requires us to cut further and faster to comply with the EU Excessive Deficit Procedure.  Conservatives, who think it is right to cut the deficit and get more quickly to the point where debt as a proportion of GDP is falling, do not think the EU should be involved in these UK budget decisions.

It would be interesting to hear on this site from the bloggers who both think the deficit reduction is too fast and who think the UK should be following EU policies faithfully.

Over the last twenty three years Japan has tried stimulus after stimulus in a desperate bid to get back to the pre 1990 growth rates. Nothing has succeeded.

As a result Japan has gone from having a relatively low debt and deficit, to having the largest public debt as a proportion of GDP of all advanced countries. Japanese public sector debt is now over $12 trillion, and more than 230% of GDP. Money has been borrowed to boost current public spending, and to provide investment stimulus through large public capital projects.

Nor has Japan spared the monetary stimulus as well. Japan has tried liberal amounts of Quantitative easing, has run interest rates close to zero for most of the time, and has made clear it would prefer inflation to deflation. The latest programme of bond buying is just a larger version of what has gone before.

So why hasn’t the Japanese economy taken off? Crude Keynsian reflationists would predict that with this much fiscal and monetary stimulus combined the economy should be in overdrive. Some would accept that the extreme bubble created in the 1980s posed big problems whilst asset prices adjusted, and would agree that the banks remained broken by falling asset values and damaged loans for a long time. In retrospect maybe a sharper crash and more drastic bank write offs and recapitalisations might have speeded up the adjustment and the eventual recovery.

This to me is only part of the story. At about the same time as Japan’s bubble burst something else important happened. The Japanese model of incremental innovation in cars and consumer electricals and electronics which had spwaned a series of world beating companies suddenly met its match from competition elsewhere. The Japanese excellence at making things was copied by the US and Europe, adopting the Toyota type manufacturing systems. The US launched the digital revolution, which Japan found difficult to adopt and develop. Later, China and other Asian centres emerged capable of undermining Japanese competitiveness still further.

The truth is Japan’s era of supremacy making the world’s most competitive cars, tvs,cameras and the rest was undermined both by new products and services she did not develop, and by cheaper competition for the products she does still make. Japan needs a new industry or two and more world beating companies.

Commentators always think there is a simple monetary or budgetary fix. In the end earning a good living in a competitive world comes down to having better goods and services. Japan has lost her edge. In the UK the decline of finance and oil and gas, our two high value added lead sectors of the 90s and noughties, is the background to our current sluggish GDP performance. Spending a bit more in the public sector does not fix this, as Japan shows.

The best way to get the UK economy moving again is to boost real wages. The best way to do that is to control price rises.

Since 2007 there has been a continuous fall in real wages in the UK private sector. For the first couple of years it was sharp, owing to the deep recession. Thereafter it was a bit less pronounced, and mainly occured owing to persistent inflation. The Uk experienced higher inflation than most of the advanced country economies at a time of Credit Crunch.

The Bank has clearly decided to boost money despite the inflation outturn, taking the view that that can stimulate growth. It needs to worry more about the adverse impact on demand and growth that insidious inflation has on living standards and confidence.

Anyone who saves has some of their money stolen by inflation. It can make them even more cautious about spending, as they perceive the need to have more savings to make up for the erosion of value of their money. Anyone relying on work income can find their family budgets become very stretched by price rises. The public sector has increased people’s fears on inflation by indexing many more things to the CPI instead of the RPI and refusing to issue any more National Savings Index linked bonds.

The government is part of the cause of the inflation. Energy prices have been especially troublesome. Both the Labour government and the Coalition government have followed policies of taxing energy more highly and pushing up energy prices in the name of fighting global warming. This has strained family budgets, made UK industry less competitive, and given a great advantage to our competitors in the USA and Asia who have gone for cheaper energy policies.

I have written recently to the Energy Minister, renewing my call for us to follow a lower price energy policy. The recent sharp falls in the oil price will provide some temporary respite, but we need to go much further, and we need to end the extra burden we are having to pay. That means ending the carbon tax, generating more electicity from lower cost options, and exploiting more of our natural resources.

The government has also been keen along with local government to put up fees and charges across the public sector. It would be good to have a two year freeze on all public sector managed prices, allied to requirements that the public sector should not simply raise the subsidy needed for these activites on the grounds that they cannot raise their prices. They should be required to become more efficent instead.

The new Governor of the Bank should be told to renew the inflation target, and told that he should be setting out to hit it soon. The latest fall in world commodity prices, and the current little rise of sterling can help bring this about. Lower inflation would be great news for recovery, and for confidence in UK policy generally.

Now he has the job, the new Governor in waiting for the Bank of England is letting it be known that there are limits to what a solitary Central Banker can achieve.

Mr Carney comes from the global establishment. Doubtless some of the new IMF fashion for more deficit stimulus is rubbing off on him. Doubtless the realisation that the UK is getting closer to an election will mean he wants a bit of room for political movement. After all, no-one wants this Coalition government to survive 2015.

The position he will inherit is not all bad, as some bloggers here suggest. It is interesting that when the UK suffered its first rating downgrade from AAA the cost of ten year borrowing was 2.1%. This week-end, with another agency downgrade just announced, the cost of ten year borrowing is under 1.7%.

There are three likely reasosn for this further fall in UK borrowing costs. The first is the UK authorities stand ready to buy more of their own debt. The second is they already own a large quantity. If they eventually decide to simply cancel the debt they now own, the UK state would have a relatively low outstanding debt. Many market participants are sceptical that the UK authorities will get around to selling this debt they own back to the private sector. The third is there are several Euro countries in a far worse plight than the UK, so the Uk is still to some a “safe haven” at a time of Euro trouble.

Any government would, however, be unwise to think there are no limits on how much it can borrow and print. The UK economy is being held back by a public sector that is both too large for the tax capacity of the current economy, and by a public sector that has not matched the best of the private sector in delivering quality and efficiency. Government does need to work away at bringing tax capacity and spending more into line. It also needs to relieve the 5 year squeeze on the private sector. Next week I will look again at ways to do just that. Some tax rates are too high, the state banks are wrongly structured and regulated, energy prices are too high, and infrastructure investment is too slow and too dependent on state finance.

There are two types of austerity around in Europe today. The first is the type which cuts public sector wages, makes cash cuts in public spending, and forces rapid reductions in deficits. These rapid slimdown programmes are being imposed on the troubled countries of the Euro. Then there is the second type, the UK type, where current public spending overall continues to rise in cash terms, and even to rise a little in real terms, but is cut back from previous forecast levels. They are very different.

Both the UK and the Euro area countries have put up taxes to plug the deficits. Both are experiencing falls in real wages. The worst austerity in the UK is taking pace in the private sector, in the homes of individuals and families. Since the crisis first hit in 2007, UK real wages have on average fallen by 10%. The UK has suffered from higher inflation than many other countries, and private sector wage rises have slowed to almost nothing. Real wages have been badly mauled in Greece, Ireland and Portugal amongst others.

If the IMF and others are going to help find a way out of the current economic predicament in Europe they need first to be honest about which types of austerity different countries have experienced. They also need to grasp that a country without its own currency is in a very different position from one that still has its own currency. Maybe the Head of the IMF is becoming critical of deficit reduction strategies because she thinks a Euro country is the new norm.

An individual Euro country cannot devalue to price itself back into world markets. It cannot create new money to try to stimulate activity. This makes big fiscal adjustments that much more painful, as there is no reason to suppose the lost output created by the higher taxes and the lower spending will be supplanted by mroe private sector acivity.If it were a proper single currency, there would be much larger transfers of grant and loan money from the richer areas to the poorer areas, to make it all more tolerable.

In a country like the UK with its own currency and enthusiaism for looser money there is every chance of offsetting public cuts should these be made. It does, of course, also require mending the banks, so there is an easier mechanism to ensure some of the new money finds its way into productive private sector activities.

The Prime Minister’s claim on radio recently that we are all Thatcherites now is in one sense true, though of course unlikely to go down well with his opponents. I think what he meant was that over 13 years of Labour governments with large majorities they accepted the Thatcher settlement on ballots before strikes, on lower Income Tax rates, and private ownership of the leading energy, transport and industrial utilities. The country did not return to nationalised steel,elecriticity, gas and phones. The state owned banks were not properly nationalised.Top Income Tax stayed at 40% for almost the whole time, and standard rate income tax continued downwards as under the Conservatives.

Many have now written that yesterday marked the passing of an era. I do not see it that way. Margaret Thatcher’s hold and direction of power effectively ended the day her colleagues forced her into the Exchange Rate Mechansim against her better instincts and the advice of her (all too few)friends in government.I felt that her era ended on that day. Sometime later her Conservative opponents got her out of office, confirming the end of her era. In other words, the Thatcher era has been over for around a quarter of a century. We are well into the legacy. Indeed, the last government lived off the achievement of the Conservative years in curbing debts and deficits, and getting inflation down. We have the luxury to keep the best bits – wider ownership, the ending of the Cold War, the lower tax rates – whilst shedding the bad bits like the ERM and the unsuccesful bits like the Poll Tax.

Today it is a common pursuit for commentators and some in politics to ask What would Margaret do now, faced with today’s problems. All the time she was alive I thought this was a cruel question,not one I ever wished to attempt to answer. It was cruel because in her later years she was not in command of all the facts and the arguments in the way she was in her prime. She did not wish to answer that question most of the time for good political reasons, and was not in an informed position to do so. Anyone seeking to suggest her answer ran the risk of presuming too much. Putting words into the mouth of someone who could often not correct a false interpretation or answer back was I thought a most uncharitable thing to do.

Now she has died the twin constraints of good taste and the danger of the lady contradicting the speculator have been removed. I would nonetheless urge people to refrain from doing so. A few of her genuine political friends wish to be the custodians of the flame, distilling the essence of pure Thatcherism into an ever more exclusing brand. That is to misunderstand the lady at her best, where she recruited many non believers as well as believers to her colours, and showed great flexibility in how to use her power. Some of her political enemies will wish to ascribe to the worst features of modern policy as they see them the brand of Thatcherism, as a kind of evil spirit as they see it which they wish to warn us about years after the end of the era. That too is far from helpful, and may rebound against them as the public wearies of the continued attacks on a dead Prime Minister who cannot answer back.

Margaret Thatcher’s thought and actions changed substantially in many important areas over time. They can no longer change. Anyone who suggests he knows her mind on today’s problems has to make it up.

I am a realist. I understand others will continue to argue over her period in office, and some will seek to enlist her for their cause. In a later post I will examine what we do know of her views on current politics, from the words she said and wrote before she died.