Escaping the Constraints of Orthodoxy
It is surely now clear that the economic policies on which George Osborne has pinned his faith have failed. Yet – astonishingly – the advice tendered to the Labour opposition, and on which they seem determined to act, is that the voters will not support any departure from that failed orthodoxy.
As a result, Labour leaders seem to find it necessary to establish their economic credentials by emphasising their own commitment to cuts and austerity, thereby passing up any opportunity to show that common sense, experience and sound economic theory all demonstrate that there are much better options.
It is almost as though the Labour leadership are so constrained by three decades of neoliberal economics that they cannot conceive of an economic policy that does not have at its heart the supposed need to reduce the government deficit and to cut spending.
An economic policy that looks instead at quite different issues, and uses quite different language to do so, seems quite beyond their comprehension and comfort zone. They have no interest or confidence in an economic policy that deals with the deficit, but that does so, in passing, by addressing the obstacles to the more efficient and productive economy that alone will resolve, not only the deficit, but – more importantly – our deep-seated problems.
Such a policy obviously looks and sounds to them very unfamiliar, though in truth it is in no sense revolutionary or untried. It will sound unfamiliar because it will not use the language of crisis, spending cuts, and austerity – the perennial touchstones of a supposedly responsible policy – but focuses instead on quite different terms and concepts. It will offer solutions to our real problems – our fundamental lack of competitiveness, our failure to understand the importance and value of credit creation for productive purposes, our neglect of manufacturing’s role as the stimulus to greater productivity, our failure to hold government accountable while bankers are allowed to decide our economic priorities, and our acceptance that unemployment can be tolerated and matters little in any case.
The competitiveness of British industry, or lack of it, has been the great taboo of our economic policy for decades. It is almost totally ignored and virtually never discussed. Though various indices of competitiveness are maintained, they are never referred to and are apparently regarded as irrelevant to any consideration of the course our economic decision-making should take.
When Alastair Darling published his 300-page account of his term as Chancellor of the Exchequer, there was not a single reference to competitiveness as an issue or to its concomitant, the exchange rate. As I know from my own experience as a young backbench MP in the 1970s, it was extraordinarily difficult even to table parliamentary questions on the subject of exchange rate policy which was regarded as too sensitive to be discussed.
Yet a moment’s thought should tell us that, in a post-war world that has seen the rapid industrialisation of new economic powers, including the rise of the world’s second largest economy in a remarkably short time, it would be extraordinary if the UK could simply assume that our place in the competitiveness stakes could remain unchanged without any care or attention being paid to it by our policymakers.
Ignoring the issue has not of course saved us from the malign consequences of a loss of competitiveness. Our perennial trade deficit, our comparatively slow growth and productivity gains, our greatly diminished share of world trade, our inability to grow without provoking fears of inflation, the decline of manufacturing, are all evidence of a profoundly uncompetitive economy.
It is of course not quite true that the issue has not been the subject of intervention; our position on the exchange rate for sterling has always been that any depreciation should be resisted. This has been a cardinal, but unstated, feature of our economic policy for so long and has marked so many of the critical moments in our recent economic history that we hardly notice it.
In 1976, Denis Healey, having exhausted the reserves in defence of Sterling, rejected IMF advice that monetary policy should be framed in terms of Domestic Credit Expansion (DCE) – an open invitation to grow the economy on the basis of a lower exchange rate and export-led growth – and preferred instead to adopt monetarist orthodoxy (based on a sterling M3 target) and the defence of Sterling as the key features of his Chancellorship.
At that same time, Jim Callaghan as Prime Minister told the Labour Conference that “you can’t spend your way out of recession” – a nonsense then as it is now. What he was really trying to say was that “we dare not try to escape from stagflation by stimulating the economy, because growth would inevitably create insuperable problems of rising inflation and worsening trade deficits.” The problem he was really grappling with, in other words, was not the failure of Keynesian economics, but a catastrophic, though unacknowledged, loss of competitiveness.
That issue remains at the heart of our economic problems today and is one of the most important consequences of allowing the interests of the financial economy to take precedence over the real economy. Austerity is regarded, at least in government quarters, as our only possible policy option, because it is tacitly accepted that to try to grow our way out of recession would be to expose the fact that we no longer have the productive base to allow us to do so.
The parlous state of that manufacturing base, and the disastrous reliance placed on a financial services sector that – even at best – brought benefits to only a small part of the population, are only the most recent outcomes of our determination to avert our gaze from the truth of our situation. This resolute refusal to address the issue of competitiveness is in marked contrast to the policies pursued by other, more successful economies.
The new economic giants of Asia, for example, have focused on trying to hold down their exchange rates so as to maintain the competitive advantage that rapid industrialisation – with its consequent economies of scale, quick returns on investment, and high profits to be re-invested – is able to produce. China, in particular, has clearly recognised the importance of holding down the value of the Renminbi over the whole period of its rapid growth, while Japan, intent on kick-starting a sluggish economy, is taking decisive action to bring down the value of the Yen.
An economy like Singapore, with an economic performance to its credit that puts us to shame, has quite specifically focused on competitiveness as the central indicator of the efficacy of its policies. Switzerland has done likewise and Germany, Europe’s most successful economy and exporter, pays constant attention to competitiveness indices, such as unit costs in manufacturing, export prices and measures of productivity growth.
Despite this persuasive evidence that others may know something we don’t, we continue to believe that manipulating the currency (other than upwards) is somehow morally shameful and – as all good morality tales insist – will in the end do us no good. It is therefore an article of faith – never examined in the light of actual evidence – that the advantage of a lower currency will quickly be eroded by inflation and will make little difference to economic performance.
My co-author on an earlier occasion, John Mills, has however recently examined the statistical evidence in respect of twenty devaluations in different countries and at different times. He is able to disprove conclusively the contentions that devaluation is always negated by inflation and that it does not help living standards to rise. It should come as no surprise, and especially to those who constantly proclaim the market’s immediacy and wisdom in responding to stimuli, that reducing prices in the international marketplace will stimulate sales, and that increased sales and profitability will produce greater investment and employment to the advantage of the economy as a whole.
But, it may be objected, if the exchange rate is so important, why are we are still bumping along significantly below the GDP peak of 2008? Surely the recent depreciation of Sterling should have stimulated the economy? Does this not show that devaluation is not a panacea and cannot be relied on to change our fortunes?
Let us first make the point that the depreciation of recent times is typical of our experience of devaluation; it has been an ex post facto response to an increasingly intolerable loss of competitiveness, and is the minimum required just to keep us in business. It is far from a considered attempt to achieve a desired level of competitiveness of the kind that our successful competitors take for granted as the sine qua non for export success.
But let us also concede that, while a competitive exchange rate is a necessary condition for export-led growth, it is not by itself sufficient.
Without it, nothing else will be effective to bring recession to an end and to make up the ground we have lost; but with it, there is good reason to look to other measures that would at least then have a good chance of working. Once we have overcome our reluctance to accept that improved competitiveness is the starting point of a recovery strategy, we can begin to identify what those other measures might be.Tags: Domestic (UK), Global
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This post was written by Bryan Gould