In the decade following New Labour’s 1997 election victory, consensus existed between government and opposition parties over macroeconomic policy fundamentals. The Conservatives accepted the logic behind Gordon Brown’s fiscal rules, and the delegation of monetary policy to the Bank of England, subject to an inflation target. Ten years of economic growth, rising employment and booming house prices meant that the key battlegrounds at the 2001 and 2005 elections were on policy areas other than economics – in particular, public services and migration. The huge arguments over macroeconomic management that dominated electioneering in the 1970s and 1980s seemed gone for good.
But recent events, beginning with Northern Rock’s insolvency in September 2007, and moving with alarming swiftness to the nationalisation of a substantial proportion of the UK banking system last month, have rushed economic policy back to the centre stage of political debate. The collapse of the global credit and asset price boom that started after 9/11 has destroyed any claims that ‘boom and bust’ has been somehow abolished, and placed a huge question mark over what the future direction of economic policy in the UK and other countries should be. For now, politicians are firefighting as best they can, and there has been no time for discussion of how the economic system needs to be reformed in the long run to prevent future financial meltdowns. But, after the dust has settled and some semblance of normality is restored, a vital question will loom: who is best equipped to manage the recovery from what could be a drawn-out and painful recession?
The recently published Conservative document, Reconstruction: Plan for a Strong Economy, outlines the opposition’s latest thinking on economic policy. On fiscal and monetary policy, the Tories propose significant changes to Labour’s current frameworks. A new independent Office of Budget Responsibility is designed to address criticisms that the Treasury has expediently ‘moved the goalposts’, changing its mind about when the current business cycle can be said to have started and ended (important for working out whether the ‘golden rule’ – the commitment to balance the current account budget over the cycle – has been met). Furthermore, although there is no evidence that the Treasury has deliberately manipulated economic forecasts, the Conservative proposal to make forecasts formally independent would improve their credibility. The Tories also propose more transparent mechanisms for the appointment of the governor of the Bank of England and the other members of the monetary policy committee. The government should take these proposals seriously: they are the strongest part of the Conservative package.
Other Conservative proposals are more questionable. On tax policy, their headline-grabbing initiative to freeze council tax bills for two years in England ducks any question of how best to reform this unpopular system. If pursued over the long term, it would completely undermine English local democracy by trying to second-guess local voters’ choices over the right balance of taxation and public spending. Their proposal for headline cuts in the corporate tax rate to stay ‘competitive’ is a beggar-my-neighbour strategy which, as Richard Murphy of Tax Justice Network has identified, is a slippery slope towards the disappearance of corporation tax from the tax system – leaving a correspondingly huge hole in the public finances.
More widely, in the long run it is unclear how the Conservatives’ commitment to ‘sharing the proceeds of growth’ – in plain language, to continually reducing public spending as a share of national income over each business cycle – would square with being able to maintain expensive world-class public services, or enable them to continue Labour’s drive to reduce child and pensioner poverty.
Returning to macroeconomics, it is not clear that the Tories – or indeed the government – have fully thought through the implications of the current crisis for future economic policy. For now, it would be unreasonable to be too critical of either: the crisis seems to unfold (and, unfortunately, deepen) with each passing week, and the eventual extent of the damage to the economy will not become clear for a long time. Nonetheless, voters’ perceptions of which party is most qualified to handle the recovery from recession – or indeed depression – is likely to be a crucial factor at the next election. So who has the best credentials?
The crisis occurred on Labour’s watch, but it would be ridiculous to assign the blame solely to Brown or Alistair Darling. In reality, the creation, growth and finally the rapid burst of the credit bubble is the culmination of 30 years of financial deregulation begun in the early 1980s under Margaret Thatcher in the UK and Ronald Reagan in the US, and embraced by global institutions such as the IMF and the World Bank, who emphasised the benefits from liberalisation without any real recognition of the corresponding dangers. Now that we can see the dangers all too clearly, it’s time for a fundamental reappraisal of the institutions by which the global economy should be governed – just as occurred in 1945, when politicians emerging from the second world war vowed never to repeat the economic disaster of the 1930s.
It is essential not to throw the baby out with the bathwater, and undesirable responses to the current economic malaise – a knee-jerk retreat into protectionism, for example – must be resisted at all costs. But overall, it is most likely that policymakers emerging from the current crisis will conclude that global financial systems have to be better regulated, more transparent, more accountable and more legitimate – meaning a much bolder role for government oversight of the financial services sector in the future. After three decades where government has all too often been stereotyped as the ‘bad guy’, to be rolled back, privatised or emasculated where possible, it is likely we are emerging into a new paradigm where, as in the immediate postwar period, government plays a more central role in economic management.
In theory, this paradigm shift should favour Labour as the party which has traditionally recognised a more extensive role for government intervention in the economy than either the Conservatives or the Liberal Democrats. However, there are two caveats to this. First, taken at face value the Conservatives have moved a long way from their free market fanaticism of the 1980s, towards pragmatism. Currently their plans include limits on executive remuneration in the financial sector and stricter controls on bank lending through the Financial Services Authority, and despite being initially sceptical about the nationalisation of Northern Rock, and opposed to the recent nationalisation of Bradford & Bingley, they offered unconditional support for last month’s plan to recapitalise the banking sector with taxpayer funds.
Second, the Blair/Brown/Mandelson New Labour revolution of the 1990s was born out of accepting the fundamentals of the neoliberal, deregulationist consensus as a starting point and working for progressive policy outcomes – a fairer society, a high-skilled productive economy and environmental sustainability – within those constraints. But now it looks likely those constraints have been shattered, and the way economic policy is run in the future may be very different from the recent past. Therefore, Labour needs to rethink its approach, renewing its economic strategy as events continue to unfold. The boldness of the ‘Brown plan’ for bailing out the banks – a plan now being emulated by several finance ministries round the world – encouragingly suggests that the government is prepared to rethink, and fast.
But the task of keeping the economic show on the road is tough: the latest projections suggest that the crisis could still be ongoing at the time of the next election. Labour needs to show that it can build on the bold action it has taken to rescue the banks, by putting in place longer-term reforms. Specifically, taming the frenzied parallel explosion of trading in securities and derivatives which got us into this mess. Reforming finance to iron out the perverse incentives – for instance, in bonuses and in privately-run credit agencies – which helped to fuel the mayhem. And showing imagination, not just in getting credit flowing again but in finding ways to channel it towards investment in social priorities, such as green technology and affordable housing.
Labour has the experience and intellectual firepower for the job, spearheaded by Brown, Darling and Peter Mandelson. But ‘business as usual’ is not an option in current circumstances, and the government will have to re-examine its basic assumptions about economic policy and how to differentiate Labour from the Conservative challenge if it is to prevail at the next election.