Wednesday, 10 June 2015

Something Will Turn Up

Like any financial entity, government has three levers for managing its accounts: income, spending and borrowing. George Osborne's plan - to be announced in a speech to his City backers tonight - to enshrine near-permanent annual budget surpluses in law is a self-denying ordinance that appears to remove the last of these from active use, essentially by ruling-out debt-financed deficits. The ostensible objective is "to bear down on debt and prepare for an uncertain future". On the face of it, this means that any temporary increase in public spending caused by an economic downturn would have to be funded from the surplus on current tax receipts. There will be exceptions to this new golden rule (the specifics of which will be announced in the July budget) - i.e. special circumstances when debt will be deemed a necessary evil (wartime, presumably) or re-categorised (financial sector bailouts, perhaps) - but it is unlikely this will extend to fluctuations in the business cycle, as that would rob the law of any real purpose.

Significantly, even natural Tory-supporters are questioning the wisdom, if not the ambition, of this. The Telegraph wonders where a surplus is going to come from, given that public spending's "low-hanging fruit has already been plucked" and economic growth is currently failing to deliver the necessary swell in tax revenues, essentially because productivity and wage growth is weak, reflecting a worsening composition of the economy as job polarisation becomes entrenched and employment growth clusters at the bottom end of the pay scale. Given their flirting with "budget locks", it will be interesting to see how the incipient Labour leadership respond to this "trap" (as an aside, how can it be an effective trap when it is obvious?). The early signs suggest they are still trying to discriminate between investment (good) and demand stimulus (not so good), which is no real advance on the neoliberal settlement of the New Labour years.

One obvious problem with Osborne's approach is that large annual surpluses will not be popular, despite the media waffle about "repairing the roof while the sun shines". As the money piles up and the debt-to-GDP ratio falls to "normal" levels, the pressure to "return it" via tax cuts will be politically difficult to resist. This means that future surpluses will be modest in size, which in turn means they will probably be insufficient to accommodate a recession once the automatic stabilisers (increased unemployment benefits and tax credits) kick in. This is likely to trigger either tax rises or further cuts to public services, both of which will depress demand and thus exacerbate the downturn. We will have returned not only to boom and bust, but to a more spendthrift attitude in which the burden of current indulgence (tax cuts) is placed on future generations (insufficient investment). Ironic, no?

There is also the danger that this may lead to greater tax volatility. Since 1979, tax cuts have tended to bias towards income tax and property, while tax rises have tended to bias towards consumption. More recourse to the lever of taxation to manage fluctuations in the national accounts will, in the current neoliberal climate, lead to increased inequality. Income tax rates will be cut and tax-free allowances increased in the good times, and VAT and excise duty will be increased in the bad. The alternative would be more reliance on the lever of spending - i.e. to spend less - but that will worsen inequality by definition. There is also little likelihood that spending would be increased during an upturn, not just because demand will naturally ease in certain areas but because the ability of the public sector to survive through the downturn will be taken as proof that it can permanently operate on a tighter budget.

A further problem is that restraining government borrowing necessarily reduces the demand for loanable funds. In other words, savers seeking a decent, low-risk return are going to be looking at very low interest rates for the foreseeable future, which won't go down particularly well with Conservative supporters. The only solution would be a more than compensatory increase in borrowing by the corporate and household sectors, to drive up rates, but this would have to be of the scale seen in the run-up to 2008 - i.e. massive corporate over-leverage caused by mergers and acquisitions, rather than productive capital investment, and/or massive household over-leverage to fund consumption and mortgages. At the moment, only mortgages show any real sign of growth, but that is clearly dependent on ever more inventive government stimulants, and if the plan to allow housing association tenants to buy their homes tells us anything, it is that we're now scraping the barrel.

We also shouldn't be surprised that a fiscal settlement that rules out deficit-financing will more speedily return us to an age of private affluence and public squalor. While pro-middle class infrastructure investment, such as commuter transport, will continue to be funded, and while the private sector will happily pony-up the capital for guaranteed future rents in areas like healthcare, much of the fabric of public life will degrade if it cannot find a sponsor to replace the state. This is hardly a new development - it continues the transformation of local government from a service provider to a property developer, the spread of corporate sponsorship to social and cultural goods, and the financialisation of public infrastructure - but the Chancellor's desire to "settle" this indicates the extent to which the "circle-squaring" of the New Labour years is to be ruled out of bounds.

George Osborne has earned a reputation both as a cunning tactician, with his various traps and manoeuvres, and a visionary strategist, with his "Northern Powerhouse" rhetoric, despite the evidence of his first 5 years in government pointing to a talent for little more than spinning his policy failures and boosting his media profile through judicious use of a high-vis jacket. The Guardian has characterised this latest initiative as a return to Victorian habits, "when the public finances were run on the Mr Micawber principle that income exceeding spending equalled happiness and spending exceeding income equalled misery". Of course, Micawber's most famous maxim was that "something will turn up". It is this spirit of insouciance that I think better captures the essence of George Osborne.


  1. Did I dream it, or did the Tories promise before the election to make a law prohibiting tax rises as well?

  2. I'm struggling to understand how George can make this scheme work at the operational level. By my understanding at present the balance on the Consolidated Fund is rolled up into the Debt Management Account buffer overnight, into which any new reserves created by that days spend can be drained by debt issuance. The system is automatic, with gov't 'borrowing' back what is had just created. Tinkering with the nervous system might lead to some embarrassing bouts of palsy if her majesty's checks start to bounce. I'm guessing that he'll produce more waffle on structural and cyclical spending components and the whole thing will turn into another spin on the media carousel of shit.

  3. I think it is safe to assume that this plan is no more to be relied upon than any of his earlier wheezes, such as eliminating the structural deficit by 2015. This is an emperor's new clothes moment, where the real story is that supposedly fair-minded political and economic commentators have failed to ridicule the sheer absurdity of the proposal. I half suspect that someone put Osborne up to it as a dare.

  4. Surely there's no possibility that it's going to happen. If you look at the stock flows in the OBR projection, in the absence of any private sector investment (IIRC they're still banking money), the future surplus relies on heroic levels of private indebtedness, and a huge drop in the trade deficit. Are either of those really likely? Without creating another crash?