Monday, 18 February 2013

Why George Osborne is failing to rebalance the economy

Sir Stafford Cripps could do it. Roy Jenkins managed it again, in the late 1960s. Ken Clarke joined the club of chancellors who used a combination of cheaper currency and austerity to rebalance the economy. So how come George Osborne lacks the magic touch? The theory is simple. When the economy gets completely out of whack – as it did in the late 1940s, mid-60s and early 90s – the warning signs are either an overheated domestic economy or a poor export performance, and normally both. The excesses are killed off by higher interest rates, with lower growth pushing up unemployment and reducing cost pressures.  
Once the economy has been hosed down, policy is loosened. This takes the form of an easing of monetary policy – lower interest rates and cheaper sterling – to stimulate business investment and exports. Faced with the risk that any pickup in activity will lead to higher consumer spending and a bigger imports bill, chancellors keep fiscal policy – tax and public spending – tight. Hey presto: the economy rebalances. Cripps achieved this by a combination of rationing and (progressive) taxation. Jenkins did it through incomes policy and credit controls. Clarke (and Norman Lamont before him) raised taxes steeply in the two budgets in 1993 to ensure the benefits of Britain's departure from the exchange rate mechanism were not frittered away.
Osborne has approached rebalancing similarly. Monetary policy has never been looser; the main interest rate has been at 0.5% for the past four years and the depreciation of sterling since the financial crisis began has been bigger than that in 1949, 1967 or 1992. Fiscal policy has been kept tight, while wage bargainers' inability to get above-inflation pay increases has meant the statutory incomes policies of the 1960s and 70s have been replaced by something less official but just as effective in stopping consumer spending let rip. And yet, there has been nothing like the snap back seen after previous recessions. There has been no growth at all, let alone the export-led growth that the Treasury and Bank of England were looking for.
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