Labour MP in urgent need of lesson in economics

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A response to Chris Evans MP by Prue Plumridge

Just before the vote on the Fiscal Charter Chris Evans MP (who abstained) said:

Labour should be proud that when we were last in government we ran a budget surplus for four years and achieved some of the lowest deficits both in UK history and in comparison to other economically developed nations.
There is nothing progressive about budget deficits. Every pound we spend on debt interest is one less we can spend on the NHS, on vital public services, on helping the poor and vulnerable.
Fiscal discipline allowed us to commit record funds to education and healthcare without damaging the public finances. This was the foundation of the trust people used to place in the Labour Party. We were seen as safe custodians of economy, delivering on the issues people care about.”

It seems from this, that Chris Evans is in urgent need of an economics lesson for dummies.*  His statement shows dire ignorance of how the State finances and money system works.

He claims that there is nothing progressive about budget deficits and lauds the fact that Labour ran a budget surplus for four years whilst achieving some of the lowest deficits in UK history.

So is this something we can be proud of and does it fit with any sort of reality?

I would suggest that politicians should actually take some time out to learn about how our economy really works before they make such assertions.

Firstly a short lesson in deficits and surpluses.  Government deficits sound bad, don’t they, when we are told that they are like of our own household accounts?  Going into the red is something we avoid if possible – the consequences of doing so as a private individual or company could be ruinous.  However we have been conned by the language used to describe our economy which equates it to a household budget and suggests that going into debt risks bankruptcy.  Nothing could be further from the truth.  A sovereign country issuing its own currency cannot go bankrupt unless we live in the Eurozone, a country like Greece, which does not control its own currency issue.

Equally, if a government aims to reduce the deficit it will take money out of the economy in the same way as going into ‘surplus’ does.  It’s back to front to our understanding in terms of our own personal income/expenditure/savings.

Firstly, taxation is not income or revenue as we are told since a government which issues its own currency is not constrained by its tax take assuming it has idle resources available.  A ‘budget deficit’ represents the money spent into the economy and is the way a government can add aggregate demand and influence output and employment levels. Whilst there is unused productive capacity the actual ‘budget deficit’ is of no relevance. The only legitimate goal that any government should pursue is the real goals of employment and output.  In fact budget deficits are simply the mirror image of non-government savings.  Government spending represents all those things we take for granted which make our country a better place to live and work.

As Professor Bill Mitchell puts it ‘The government deficit rose and generated higher levels of wealth for households and firms.’
The word ‘surplus’ is equally misleading as it implies savings.  A ‘budget surplus’ does not represent national savings at all.  Households save to increase their capacity to spend in the future. But a government cannot save in its own currency. It does not apply to the issuer of the currency who can spend at any time it chooses.

It seems that like many politicians, Chris Evans simply has no idea of how the macro economy actually works.  They, like many of us, have been taken in by decades of neoliberal economic thought which declares categorically that deficits are bad and balanced budgets and surpluses are good.  In truth they are neither good nor bad and are dependent on economic circumstances – the state of the economy, the trade account and the level of private debt.

The budget surplus of which Chris Evans is so proud was made possible by sky rocketing household debt.

As Steven Hail puts it:

‘the ignorance of this politician on the fact that government surpluses mean non-government deficits, and that countries without trade surpluses cannot run budget surpluses for long without a private debt explosion and growing financial fragility is beyond worrying.  It is pure ignorance’.

Boom and bust had been abolished so said Gordon Brown as he put his faith in financial deregulation to facilitate an economic miracle which, in reality, actually encouraged household debt and asset bubbles.  It gave all the appearance of a growing economy when in fact it was built on sand.  Financial speculation replaced the solid foundations of a real economy which should be concerned with investing in the well-being of a country’s citizens and the protection of our natural environment.

So let’s get it right Mr Evans and all those who abstained from the Fiscal Charter vote it’s nothing to be proud of at all.

John McDonnell’s decision, if a little late, was the right one to make and let’s hope that the real story of how our economy actually works will start to see the light of day sooner rather than later.

UKHouseholdDebt9311
* Unfortunately Chris Evans is not the only MP in need of a lesson in economics.

How Labour should deal with Fiscal Responsibility Act

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How Labour should deal with the Fiscal Responsibility Act

By Michael Burke 

Previously Published on Social Economic Bulletin here 

Jeremy Corbyn and John McDonnell are frequently in advance of many of their supporters on economic matters, including their supporters in academia and economic commentators. They are correct to argue against permanent budget deficits and in favour of the central role of public investment as the path out of the crisis, identify People’s Quantitative Easing as a useful policy tool, and to question the ‘independence’ of the Bank of England. They have faced unwarranted and confused criticism on all of these from some on ‘the left’.

The recent indicators point to a slower pace of economic activity and the Tory government is about to embark on Austerity Mark II, in nominal terms exactly the same level of cuts and tax increases as the £37 billion George Osborne announced in 2010. As the Tories have little popularity (the second lowest popular share of the vote for any government) it has been necessary for this project that there is a pretence that this not a return to austerity, after the boost to consumption that helped the Tories get re-elected. So, there was the fiction that recently there was a ‘One Nation’ Tory Budget, that Osborne was ‘stealing Labour’s ideas’ and similar nonsense.

Politically it is crucial for the Tories that there is no opposition to the latest version of cuts, as this would show the blantant falsity of the claim that the Tories have a commanding parliamentary majority and that There Is No Alternative. This necessity explains why the other Labour leadership candidates were so wrong to give the Tories a free pass on welfare cuts.

However the election of Jeremy Corbyn and the appointment of John McDonnell as Shadow Chancellor changes the previous situation in which Labour did not in fact challenge the Tories’ central economic policies. Now the Tory tactic is to set a series of political traps for the new team in the hope of detaching them from either, or both, the majority of the population or their base of supporters. This is taking place primarily on the area of foreign affairs and the military. But on the economic front this will be the introduction of an amendment to the Fiscal Responsibility Act. This proposed Act precludes borrowing in normal circumstances/over the course of the cycle not only for current government expenditure but also for investment. It also commits future governments to run budget surpluses when the economy is growing, to be overseen by the Office for Budget Responsibility.

Labour’s response

Initially, George Osborne hoped that by announcing the new law and holding it over to the autumn that it would dominate the Labour leadership campaign. That has failed spectacularly. Instead it is possible to turn the tables on Osborne and use the debate and vote to set out clear differences with him.

To achieve this it is necessary to approach these questions soberly and intelligently. To paraphrase a remark by Trotsky, the appropriate economic policy is not at all automatically derived from the policies of George Osborne, simply bearing only the opposite sign to him – this would make every madcap pundit an economics guru. It is necessary for Labour to put forward a positive economic policy based on a correct economic theory.

Labour should formulate its own policy and pose that sharply in contrast Osborne’s. It must be based on a clear understanding of the difference between consumption and investment. Investment is the chief motor of economic growth, with the latter in turn being the chief determinant of the population’s living standard. Therefore the way to ‘grow the economy out of the crisis’, as Jeremy Corbyn and John McDonnell have correctly put it, is to increase the economy’s level of investment. As the private sector has failed to do this the state should step in. This should be expressed in a policy to increase state investment, and to create National Investment Bank – which should finance both state and private investment.

The key question is where the savings equivalent to such investment should come from, and this in turn relates to the current expenditure in the budget. Current expenditure can be financed in one of two fundamental says. It can be financed by borrowing, but in that case this reduces the proportion of the economy devoted to savings/investment, which is undesirable as it will slow economic growth and therefore the increase in living standards. Or consumption can be financed by taxation, in which case it merely means privately financed consumption is being replaced by government financed consumption (either government final expenditure or transfer payments) in which case the level of investment is not being reduced and growth will not be reduced.

It therefore follows that for a coherent and sustainable policy current government expenditure should be financed out of taxation, in particular on higher incomes and luxury consumption, and not out of borrowing.

Expressed in terms of budget deficits and borrowing his means that the aim should be for a balanced current budget over the business cycle, but reserving the right to borrow for state investment. This is the correct position expressed by John McDonnell. This therefore means that an amendment to Osborne’s Bill expressing that position, of no deficit over the cycle for current expenditure but permitting borrowing for investment, should be moved by Labour. This will establish its position clearly.

But, in the likelihood an amendment of this type were to fall, although some other parties may vote for it, then Labour should vote against the entire bill – as it excludes borrowing for investment. (In fact the level of state borrowing for investment currently should be considerable, up approximately 3-5% of GDP). Labour should explain its position of voting against the bill as a whole because of the defeat of its amendment.

In this way, Labour’s approach would be very clear. It is not in favour of public borrowing to fund current expenditure and is in favour of borrowing to fund investment. As a balanced budget law does not allow that investment, Labour would be opposed to the Tory policy.

Labour should not support the Bill without this amendment as this would preclude borrowing to invest and leave the economy at the mercy of a private sector which has achieved only chronic under-investment. Neither should it simply oppose the Bill without offering an alternative, especially not on the spurious grounds that any public sector surplus should be ruled out because it ‘obliges the private sector to run a deficit’. Sometimes the private sector, or at least the business component should be obliged to run down its savings, if it is hoarding cash and refusing to invest. Many countries accumulate budget surpluses in their sovereign wealth funds, to be used for investment at a later date. This is what should have occurred with the windfall of North Sea oil, rather than wasting it on consumption in the ‘Lawson Boom.’

In taking a clearly different approach, Labour’s new leadership will be able to demonstrate it has an entirely different policy to the Tories based on increasing investment to increase prosperity.