The Treasury is an august building which has witnessed many events in our nation’s history. Within its walls Chancellors and their officials have debated and agonised over economic policy and financial crises. The room from which Churchill waved to the crowds below on VE Day in 1945 is cherished. There is, however, no secret room within the bowels of the building which contains the levers by which our economy can be controlled. If only there were such a room. Yet we might imagine that, if there were, it would have seen better days. Dust, rust, and cobwebs would surround small levers in one corner, marked ‘price and income controls’. In another corner, below a dim light, a red button marked ‘IMF’. Along one wall we would make out a bank of gauges measuring the money supply and a series of dials designed to regulate it. Opposite would be a charred and burnt panel marked ‘Exchange Rate Mechanism’. Nearby, a rather wobbly lever named ‘Fiscal policy’. Finally, in the centre of the room would be a great hole where the largest lever of all used to be; close observation would reveal the name plate; ‘Base rate control - rerouted to the Bank of England’. Our new Labour Chancellor will soon realise there are few levers to pull and they are unlikely to work very well anyway.
Of course, tax and spending policies can have profound effects on the economy. However, with some specific exceptions, their impact is not always predictable and often takes some time to be evident. We are in danger of forgetting that by the time stimulus measures come into effect, the economy may already have turned a corner. At the time of writing, there are signs it may be doing just that, though with many risks to recovery remaining. Even if the trend growth rate has fallen, such has been the stagnation since the last election that we should expect some quarters of strong growth and it might be a couple of years before we knew if that could be sustained.
A bit of growth might encourage forecasters such as the Office for Budget Responsibility to decide that the depression is more cyclical and less structural than they thought, implying there will be less deficit to cut. That would take some pressure off the current Chancellor, George Osborne. Unlikely as it may sound now, we should therefore not rule out that the next election will be fought against the prospect of tax cuts over the life of the next parliament. For Labour, arguing, rightly, that we would be better off if the austerity drive had not begun in 2010 (for which blame not only Conservatives and Liberal Democrats, but the Treasury and Bank of England too), may have little impact. Making the point that Osborne has missed his fiscal targets may have little traction if the economy is growing. After years of falling living standards, the case for giving back some of the ‘proceeds of growth’ collected in tax is compelling. The Conservatives would have a once in a generation opportunity to shrink the size of the state by relaxing the pace of austerity not by tempering spending cuts but by cutting taxes.
From my perspective as a fund manager, managing equity and bond portfolios on a socially responsible basis, I believe there are three things a Labour Chancellor should do on assuming office. The first sounds easy but has not been consistently achieved. It is to set out a clear fiscal framework so businesses know where they stand. The second is to commit to a pro-City but radical policy. The third is to commit to a decade long programme of investment.
The next government is likely to come in with a new set of fiscal rules. The conventional wisdom decrees a party must announce a framework for deficits and debt by which others can judge it. This, it is believed, is the route to economic credibility. There is something in this but we have yet another government which has broken or fudged the rules. The rules matter when markets decide they matter. Together with a credible framework, the new Labour Chancellor should announce an Effective Spending Guarantee. Labour has to change its reacquired reputation for spending beyond our means, however unfairly earned. Not only should all
spending be assessed for efficacy, but any spending above the Coalition’s plans should be subject to an independent assessment with a guarantee that it will only continue if it delivers on its aims. Labour should also announce a clear taxation system for business for the life of the parliament. This will be worth much more than a handful of initiatives for small businesses. The aim is to remove uncertainty. Businesses can operate knowing the government will simplify the tax system and stop meddling with it.
Labour should also reform the City. It should embrace the City’s strengths, competitive advantage, and contribution to the wider economy, aside from those times when banks run to the taxpayer demanding subsidy or nationalisation, that is. Whether or not other sectors of the economy do better in this recovery than on previous occasions, it is self-defeating to minimise the City’s role. However, that does not mean we should go back to ‘business as usual’. Bank reform must continue, with sceptical, conservative, regulators and durable structural reform of banking, and probably other sub sectors. Neither new rules nor ethical codes embed change by themselves. We need changes to institutions, such as separating banking activities, otherwise disaster will occur again. Different forms of company structure should be encouraged and protected. Excessive executive pay must be dealt with; the City cannot deal with this market failure on its own, as the short-lived ‘shareholder spring’ revealed. Finally, more incentives for funds to assess Environmental, Social, and Governance issues should be introduced.
A new Labour government should also commit to a decade-long period of investment. This should be the theme of the next Labour government. The downturn was not just an extreme cyclical event which required a temporary stimulus (the neo classical synthesis view which still prevails despite the crisis); more substantial, genuinely Keynesian, measures are needed to avoid a repeat. We should boost capital spending, borrowing more if necessary, and increase the pace of infrastructure investment (including digital infrastructure). Climate change solutions should be encouraged (the outcomes in terms of lower carbon emissions rather than the means). An investment programme should also include investment in people by dramatically increasing education investment over the period. The aim is to boost the productive potential of the economy. Together with a simplified tax system and an ethical and vibrant City, this will give businesses, including overseas firms, confidence that the UK is good place in which to invest. It will also mean we can reverse falling living standards in a durable way.
Finally, our new Chancellor should probably keep in mind the sobering advice of Edmund Dell, a former Labour Treasury minister, who in The Chancellors
concluded that future Chancellors should act as follows:
“...His essential judgement should be whether his policy is robust; robust against the market, robust against errors in forecasting. He should not, whatever he does, claim more for his policies than that they seem optimal in the circumstances as he understands them. He should, so far as he can, avoid risk. Such a pragmatic conclusion is not the happiest conceivable
outcome to so many years of experience, but it is the happiest possible
This essay is part of the 'If I were Chancellor'
collection, published by Labour in the City.