Nice try Larry but no cigar

It has been a catastrophic political blunder not to challenge the myth that Brown’s government caused the crisis and the austerity that followed. The choice, correctly framed by the economist Simon Wren-Lewis, is whether to pretend Osborne’s version of events is true and own up to perceived past mistakes or to contest it.

Pleading guilty seems the easier line to take, but it isn’t. The confession would be brandished by the government for the next five years as proof that Labour should never again be trusted with the public finances.

Instead, Labour needs to start its fightback by rehabilitating the record of the Blair-Brown years, making the point that the purpose of the pre-crisis borrowing was to modernise and improve the NHS and shabby schools. It also needs to challenge the idea that all borrowing at all times is bad. If that were the case, individuals would have to save up the entire asking price for a house rather than buying it on a mortgage and there would be no startup capital to launch businesses.

That’s not the argument about why Labour was profligate. Rather, look to the entirely standard Keynesian story. Yes, we should (using automatic stabilisers by preference, not spending sprees) increase aggregate demand in a downturn. But the flip side of that is that we should be running, yes, including that “investment ” shtick, a significant surplus at the peak of the boom. And we were at the peak of a boom: the longest one of modern times in fact, dating back pretty much to 1993.

No, not so as to pay down the national debt, no, not to save money for the future, not even to increase the firepower available for stimulus when the downturn inevitably comes.

Rather, to suck excessive demand out of the economy. There should have been, as with Ireland and Spain (not that it saved them, but things would have been even worse if they hadn’t been doing this), substantial budget surpluses in the period 2000 (or so) onwards. That’s the profligacy, that Labour didn’t even follow the standard Keynesian prescription.

44 thoughts on “Nice try Larry but no cigar”

  1. The Left loves to bang on about ‘Keynesian Spending’ during a recession, but goes completely quiet on ‘Keynesian Saving’ during a boom, oddly.

    Not only did the Labour government not suck demand out of the economy, as they should have, but they also increased spending commitments, which would inevitably have been problematic, even in a mild bust, or even a slow-down.

    Many comments on that ‘article’ blame the current government for borrowing more than Labour did. Had they not, we might actually have had some austerity for them to complain about.

  2. They are “demi-Kenesians”, or “Kenesians of convenience”.

    There was, of course, no mention of Keynes during the boom years – we’ve eliminated boom and bust so we can spend spend spend, and then he’s dusted off in the recession to justify why we not only can, but indeed should, spend spend spend some more…

    And people think I’m cynical…

  3. Isn’t the real relation between the banks and “austerity” that the reckless lending (encouraged by Brown) was artificially inflating GDP and tax revenues.

    So the government were over-spending in the boom, not just compared to high tax receipts but even against artificially high tax receipts. When that over-inflated bubble popped, no wonder the spending was unsustainable.

  4. Richard has it. All the indicators LE quotes look good because GDP was puffed up on private debt. Tim Morgan of Tullett Prebon produced a really good analysis of all this a few years ago
    (summarised here http://www.tullettprebon.com/Announcements/strategyinsights/blog/120726_Why%20the%20British%20economy%20is%20nose-diving.pdf ).

    And LE might remember he wrote a book back in 2007 called Fantasy Island where inter alia he criticises Gordon Brown’s handling of the economy at the time.

  5. bloke (not) in spain

    “It also needs to challenge the idea that all borrowing at all times is bad. If that were the case, individuals would have to save up the entire asking price for a house rather than buying it on a mortgage”
    Well, no. They could save a portion of the price in common savings pools & then borrow other saver’s money when they have a reasonable proportion of the asking price. Paying them interest to help their savings grow. Didn’t we used to call those building societies? It’s borrowing, but not increasing overall debt. And not credit creation.

  6. It is not reasonable for laissez faire throwbacks to suddenly espouse Keynes (the suddenly ” good” Keynes that they can contort to support them) .The figures Larry Elliott has given make clear that all this ‘not fixing the roof when the sun was shining’ was a complete bald lie. Over the years Elliott has distinguished himself by some very perceptive counter-the-current articles in which he has identified the deep-seated problem in the UK as the existence of a mob of work-shy slobs who want to make money out of property price inflation (not that he would have been quite so rude about it but his meaning is clear to the open-minded.)

  7. “making the point that the purpose of the pre-crisis borrowing was to modernise and improve the NHS and shabby schools.”

    Wasn’t that done with PFI contracts to keep the borrowing off the books?

  8. “It is not reasonable for laissez faire throwbacks to suddenly espouse Keynes (the suddenly ” good” Keynes that they can contort to support them)”

    You’re reading it wrong – nobody is defending Keynes. Although he might be superficially appealing from a theoretical perspective, it’s clearly bollocks and doesn’t work in the real world.

    What we’re doing here is highlighting and criticising the hypocracy – throughout the recession Broon & co were chanting “But Keynes, Keynes, Keynes!” as if Keynesianism were a higher truth. But they only pulled him out for the politically-convenient half of the theory, having ignored him entirely prior.

    It’s standard logical argumentation: if we presume X is true, was what the proponents of X were doing coherent with it?

  9. DBC Reed,
    Labour did not cause the banking crisis (obviously), but they did over-spend.

    Usually missed if the effect of the 2007 budget for the election-that-never-was. This would have seen government spending rise to 48.1% by 2010/11, a huge and unprecedented increase. And based on growth that was not going to happen.

    Fortunately for Labour this recklessness was buried under the Crash.

  10. we did not get a crisis because the government failed to suck demand out of the economy – there was no sign the economy was overheating prior to the crisis. We did not get a crisis because demand fuelled by private debt suddenly collapsed, we the crisis because of very specific failing in the banking sector, not only did they do things like mis-sell sub prime mortgage debt but – and this really is the thing most people always miss – they collectively managed to get themselves into a state where by a correction in those markets called the entire bloody global banking system to implode.

    I really cannot believe this stuff is up for debate, it was only a few years ago, do people really mentally re-write history so quickly

    Tim you may or may be write that even ex-ante in 2001-2007 the government should have regarded the economy as in need of cooling down (but you really have a tougher case to make than you imagine – back then plenty of people still regarded the economy as only recently having recovered from the dot-com crash) but there is no way that excess public expenditure caused the situation we are in now, Elliot is right about that, it is mind boggling that in the recent election there seemed to really be people out there that blamed the government – that really is evidence of some mass psychological delusion where people feel the need to blame “the people in charge” for whatever happens.

  11. “people feel the need to blame “the people in charge” for whatever happens.”

    Because those same people will claim the credit for anything that goes well. Sun’s shining? Labour made it so etc…..

  12. Tim – well, maybe so. Doesn’t make it any less wrong to think the financial crisis was caused by government spending.

  13. “we the crisis because of very specific failing in the banking sector, not only did they do things like mis-sell sub prime mortgage debt but”
    Northern Rock and RSB were home grown UK catastrophes-despite “end to boom and bust” Brown telling the obvious lie that it “started in America”.
    It is unfair to target only Brown: all the deficit country politicians need a banking system which blows bubbles: it is part of the political toolkit used for keeping power.
    No single bank can be guaranteed not to fail but a much safer banking system cld be implemented if the present system were not a political necessity.

  14. “there was no sign the economy was overheating prior to the crisis.”

    I don’t have any numbers where I am now to back me up, but that’s just not true. There were “good times” (in relative terms) for several years prior to 2008. And it was evident, there was a lot of money sloshing around – households, funds, etc..

  15. PF

    yes *no* signs probably overstating it, mixed signs – just been browsing MPC meeting notes from 2006, lot’s of talk of GDP growth in line with long turn trend, some labour market weakness, a few spots of inflation. Enough to justify expectations of moderate policy tightening over medium term, but it definitely was not the case that back then the economy was obviously overheating.

  16. @Luis “Doesn’t make it any less wrong to think the financial crisis was caused by government spending.”

    The problem with that argument is that it’s addressing a blatant straw man: Outside of vox pops, I’ve not heard anyone claim “Brown’s overspending caused the financial crisis”. (As you say, there are folk out there who want there to be someone important to blame, but that isn’t what we’re talking about. Anybody who does think that is clearly being daft as a brush, since other countries had a financial crisis but sine Brown.)

  17. What’s this “excessive demand” to which Tim refers? If demand had been excessive, then inflation would have been excessive, and it wasn’t.

    What DID HAPPEN was that too many resources were devoted to property purchase RATHER THAN other stuff. But OVERALL, there was no “excessive demand”.

  18. MBE

    well yes I’d have thought it should be a straw man too, but it seems to keep popping up. a quick google failed to find an opinion poll to shed some light on how many people believe it

  19. Ralph Musgrave said:

    What’s this “excessive demand” to which Tim refers? If demand had been excessive, then inflation would have been excessive, and it wasn’t.

    Would excluding house prices from the official measure of inflation then bugger that up? Used to be RPI, then RPI-X, now CPI I think.

    Luis Enrique,

    Overheating was evident at the time. Ridiculous mortgage teaser rates. Property mania on the telly. Sarah Beeny’s chest everywhere. On the back of house price rises you had mortgage equity withdrawal. And from 2004: Bank warns about household debt

    The historically high level of UK household debt may pose “considerable challenges” to UK financial stability, the Bank of England has warned.

    In its twice-yearly Financial Stability Review, the Bank cautioned about the effect of future interest rate rises.

    The Review said high household debts could be a “considerable challenge” if interest rates were to keep going up.

  20. Here’s an IMF working paper from 2014, “The Case for a Long-Run Inflation Target of Four Percent”

    https://www.imf.org/external/pubs/ft/wp/2014/wp1492.pdf

    The argument presented is that monetary policy space to respond to the crisis was unduly constrained by too-low inflation targets, which meant central banks hit the zero-bound problem. They just couldn’t keep cutting.

    This is not the same thing as a claim that a higher inflation target would have averted the financial crisis, or that low inflation targets were the cause of it. But enabling a more effective response to the crisis may have reduced the duration and severity of its consequences.

    The “roof-fixing” critique of fiscal policy in the run-up to the crash – that the debt and, particularly, deficit during the “boom” period constrained fiscal policy in response to the crash – seems analogous in many ways. That doesn’t mean it’s a correct criticism, or if there were a constraint, that it was so severe as to substantially worsen the effects of the crash. But the position isn’t inherently invalid or illogical, and it doesn’t deserve to be conflated with the dafter arguments. Labour politicians when questioned about the lack of “roof-fixing” invariably trot out the line “but it was a worldwide financial crisis, and our spending didn’t cause the crash!” which has always struck me as deeply disingenuous because it side-steps the crux of the point while suggesting the interviewer (or the hypothetical holder of that opinion) is an ignoramus.

  21. @Luis Enrique: what planet were you living on in the mid 00s? Everyone was spending money they didn’t have like mad. People with perfectly normal bog standard jobs were living the high life, paid for with credit cards and equity withdrawal. I could list just the people I know who did exactly that – the postman who bought his house in about 1990, so should have paid it off by 2005, but by then had a mortgage for the full amount still due to his spending, the woman who worked as a clerical assistant who drove a new car and went on holiday every few months, plus bought new stuff like no tomorrow, the couple who (among other things) bought a boat (a fucking boat!) with equity withdrawal money. The latter went bankrupt, the middle one was saved from bankruptcy by the death of her father and an inheritance which saved he losing her house, and the first one is still plodding on as far as I know.

    All of this resulted in massive misallocation of resources within the economy – towards retail, the hospitality trade and property speculation as they swallowed up the wall of borrowed money that was thrown at them.

    The only reason that the boom in the UK economy was not obvious from the statistics is twofold – the wall of cheap tat from the Far East that reduced inflation for goods, and the wall of imported labour from Eastern Europe after 2004, which reduced labour inflation. Those two factors led Gordon Brown to think he’d solved boom and bust, and that we could all go on buying and selling our houses for increasingly large amounts and living off the proceeds forever, which I assume you also think we could have.

  22. When I arrived in the UK in 2005 it seemed like every second ad on TV was for debt restructuring. That’s a pretty big warning sign right there.

  23. Jim,

    well, evidently move in difference circles, I didn’t know anybody who was doing daft things like re-mortgaging to fund consumption.

    but if what you describe was very widespread, I can believe that maybe those looking at economy through certain statistics missed it, and I can believe that this means correction when it came was more painful (because household finances took longer to repair) – however still think the crisis was not caused by the collapse of a debt fuelled consumption bubble.

    also not obvious how Labour spending less building schools would have helped with that – you want monetary policy there, no?

  24. “if what you describe was very widespread, I can believe that maybe those looking at economy through certain statistics missed it”

    It certainly was widespread (you obviously don’t live among ‘normal’ people) and the facts were all there to see! I remember reading at the time that consumer spending was outstripping income by a significant margin, the balance being funded by credit card debt and equity withdrawal. The powers that be just ignored it, as the the macro figures looked good, and the tax receipts kept rolling in.

    Why worry about the rats gnawing away at the foundations, if the builders are making good progress on the extension?

  25. To echo Jim, I thought everyone was very well aware of the consumer debt boom, and equity withdrawal.

    So, during the “boom”:

    – Private pensions were being throttled
    – House prices were rising at an unsustainable rate
    – The stock market was weak
    – The deficit was rising. Worse, extra government spending was often also a future and permanent commitment
    – Lots of cheap stuff from the East, covering up for fairly miserable earnings growth in the private sector

    It didn’t feel much of a boom to me, and equity withdrawal gnaws at my puritan heart, even if there are some very rare cases where it can be a good idea.

    Mr Brown regularly boasted about rising house prices and the amazing wealth they generated. Neither he, nor parliament in general could see the obvious flaw in this plan.

  26. @ Luis Enrique
    You obviously live in very rareified circles since Mortgage Equity Withdrawal (mostly taking out a second mortgage to pay off credit card debts but also taking out some of the equity when moving house, very little of which was to pay for home improvements) amounted to *one trillion pounds* in the decade 1997-2007. The number of personal insolvencies rose from 27,507 in 1997 to 155.390 [calendar year totals are appropriate because it takes months for an IVA to be processed] and have declined continuously since (with a welcome acceleration in the last year – the last quarter shows a 29% drop on Q2 2014). Over one million people went bankrupt (sometimes by another name) thanks to Brown’s spending spree policies.

    If you genuinely never met any one of the million-plus who spent so much money that they didn’t have that they became insolvent nor anyone who used the equity in their house to pay their bills on consumer items, I have to ask whether you are a hermit with internet access?

  27. I have to say I don’t know anyone at all (outside of “cyberspace”!) who wouldn’t acknowledge (even if they weren’t personally benefiting) that there was plenty of money around at that time (and self evidently a lot of it was simply borrowed.

    http://www.tullettprebon.com/strategyinsights/index.aspx

    This was the sequence of reports I remember reading earlier (from Tim Morgan at Tullett Prebon as Widdershins mentions above) – issue 7 (#) focused on UK debt etc, and which confirmed previous anecdotal experiences.

    Sure, it’s all easy with hindsight. But even if clever people had pointed stuff out, it would have meant naff all when we had a Chancellor who genuinely believed that he had cured boom and bust, and hence kept on redefining what he meant by “investment”, all the way up until the point when he decided to save the world!

    “Inflation wasn’t excessive / no excess demand”

    As others have said: labour imports keeping wages down (Eastern Europe), goods imports keeping prices down (Far East), and rampant house inflation outside of the RPI definition to crown it all off.

    # – I haven’t gone back and read that report since, hence, no idea how what he suggested panned out.

  28. Who remembers that recent year or so when commodities leaped in price? Bread, rice and coconut milk all went all rose significantly.

    Fortunately, my wife buys these things in bulk, and we have a big freezer. We had 4 loaves tucked away, which were suddenly worth about 2 pounds more. You can imagine our excitement at our sudden wealth, even if it didn’t feel “earned” in the normal way.

  29. I think the internet had a part to play in the crisis. Its disrupting effect on retail could only be postponed from hitting the highstreet for so long. The dot com and telecoms crashes being the necessary pricking of bubbles in order to reset those sectors and make them build up again productively. We were not all going to become e-beings (it turned out to be ‘i-‘) and we were not yet ready to pay for watching kitten videos on mobile phones. But it was coming.

    Also, in considering the banking sector they seemed to me to have shifted in the 2000s to a utility style ‘churn’ model. Keen to attract new customers but utterly disinterested in retaining existing ones. Offers galore for new customers that expired after 12 months (the offers not the customers…). With the success of price comparison sites, Money Saving Expert and the like I suspect there was a significant and disrupting portion of the population who were prepared to be rate tarts for their credit cards and juggle money around several current accounts that led banks astray as to how much genuine and profitable business they were doing.

    But getting back to Sarah Beeny…

    If anyone watched Property Ladder the mania in the housing sector would be readily apparent. Sellers doing up houses by going wildly over budget, late and over personalising the fittings and still walking away with a profit was plainly ridiculous.

  30. Jim

    think probably just down to age – my generation was still renting / first-time buying back then.

    sure I remember reading about people borrowing too much, and of course the ever-present UK housing mania, and those were things to worry about but at the time that did not feel like it amounted to economy as a whole needing reining in, nor an argument that the government should not be building new schools and hospitals.

    I am not saying this stuff was irrelevant, but I do not think the story of 2007 and since is one of a debt-fuelled consumer binge collapsing, it think it was primarily something else.

  31. “I do not think the story of 2007 and since is one of a debt-fuelled consumer binge collapsing, it think it was primarily something else.”

    You are right it WAS something else that triggered the crisis, but the point is that we were in terrible shape when it happened. Look at the economies that didn’t have the boom in personal and property debt (such as Canada or Germany) and they suffered far less then we (and others) did. Its irrelevant exactly what triggered the crash, at some point we would have hit the buffers anyway. You can’t have an economy that runs on ever increasing house prices, equity withdrawal and ever growing personal debt for ever, at some point you hit the rocks. And the state of the UK economy in 2007 was entirely down to one man, Gordon Brown. He had single handedly run the UK economy for a decade at that point. At any point post 2003/4 he could have rebalanced things, but didn’t, because he believed his own BS, and was in love with the idea he was some sort of economic genius. In fact he was probably the most misguided and disastrous Chancellor we have had for many decades, if not all time.

  32. @ Luis Enrique
    It is blatantly obvious from the figures that “he story of 2007 and since is one of a debt-fuelled consumer binge collapsing”
    It was quite clear in 2006 when insolvencies had risen by 340% in nine years that the bankrupt chickens were returning home to live off Mum and Dad. I say chickens advisedly – a very large proportion were young women in your generation. Not many of my generation actually went insolvent because the spendthrifts were spending their windfall notional profits when house prices more than doubled.
    It is a ridiculous to claim that you saw less overspending because you are young since relative more young than older people became insolvent. l had to look at the numbers and I was horrified.
    “building new schools and hospitals.” bullshit – the NHS had to cut back on building new hospitals because Gordon Brown decided to give doctors and nurses an above-inflation pasy rise but did not increase the NHS budget to pay for it so the NHS had to *cut back* on staffing levels and building work.
    Look at the facts!

  33. “If anyone watched Property Ladder the mania in the housing sector would be readily apparent. Sellers doing up houses by going wildly over budget, late and over personalising the fittings and still walking away with a profit was plainly ridiculous.”

    The most revealing fact about those shows was the financial reveal at the end, which almost inevitably showed that the profit the person had made on the house they’d spent an entire year (or whatever) tarting up at great expense was largely down to the rising property market, rather than the improvements they had done. Most of them had effectively slaved away for no reward, as they would have made the same money if they’d bought the house, gone away, and sold it a year later in identical condition.

  34. Jim.

    that’s true – this is the balance sheet recession idea – but I am not sure about Brown’s role, I guess there are things he could have done to cool housing market and consumer debt, but I do not see how running a fiscal surplus was responsible for those things.

    John,

    you’re getting over excited again, take a breath.

  35. “MattyJ

    When I arrived in the UK in 2005 it seemed like every second ad on TV was for debt restructuring.”

    By the end of Labour’s reign, every second TV ad was about desperately scrabbling around in your loft looking for old bits of gold jewellery to flog.

    Sums up Labour quite nicely.

  36. @ Andrew C
    That is a *little* unfair. The gold-buying boom was largely due to the soaring price of gold which was well above the previous peak. even adjusted for inflation. And the soaring price of gold owed more to US government policy than the UK’s.

  37. @ LE
    Clever, clever – nearly!
    You do not know what you are talking about and you have run into someone who does, so i am explaining the simple facts to you. I do not need to take a breath – I may be old and overweight but I can still race against youngsters half my age.

  38. Luis,
    Brown could have started by realising that if house prices are rising faster than wages, then you have a problem, not a sudden increase in wealth.

    If your home increases in value, so what? You still only have one house, but your children are going to have to pay more to get on the ladder.

    It’s absolutely basic.

  39. Jack C

    that is true. If I had my way, between them the BoE and government would target zero nominal house price growth until some ratio (such as price / income) had returned to an acceptable level.

    but that still doesn’t tell me how running a deficit caused consumer credit and house price craziness.

    John in the court of your own mind, you are triumphant.

  40. @ LE
    No, I am not triumphant – I have clearly failed because I have hit you over the head with facts and they have bounced off with no impact whatsoever. I quote data from the Bank of England and The Insolvency Service and you laugh it off.
    *Your* generation, not mine, overspent horrendously. The under-thirties are being screwed over Student Loans because Blair decided to have 50% of school-leavers going to university without bothering to generate that many graduate-level jobs or finding the money to pay for it.

  41. A good question Luke.

    And were they “spending it [or saving it] into the real economy”, or the other one? Not the black one, but the other other one?

  42. @ Luke
    The corporate sector was, in aggregate, borrowing. But most of the investment was funded by (i) retained profits and (ii) money raised from shareholders by issues of new share (over £100 billion).

  43. “but that still doesn’t tell me how running a deficit caused consumer credit and house price craziness. ”

    It didn’t. But spending all the tax revenue that was being generated by the house price craziness was madness. Brown thought the extra revenue was permanent, that he could spend it (and borrow more) because it would keep rolling in forever. He should have regarded it as a one off short term revenue flow, that wasn’t stable enough to use on long term spending commitments. If Brown had kept spending increases to a minimum in the 2004-7 period , and run surpluses in those years, things would have been in far better shape come the crash, because revenues would have fallen to somewhere near expenditure, give or take. There would have been far more room for extra borrowing for infrastructure work to stimulate the economy and offset the slowdown elsewhere in the economy.

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