The Deficit Hawks Are Circling, Again
It’s amazing how quickly history repeats itself in the realm of economics.
In the immediate aftermath of the 2008 financial crisis, in both London and Washington, there was a clear political consensus in favour of stimulus policies aimed at rescuing the global economy from collapse. But that consensus disintegrated quickly.
After a period of sustained stimulus spending under Gordon Brown, Britain embraced austerity in 2010, with the election of the Cameron / Clegg coalition government. The US followed suit three years later, in 2013, when Barack Obama – whose initial fiscal response to the Great Recession was already weak – signed off on $1.2 trillion worth of cuts as part of a bipartisan budget deal with the Republicans.
In both instances, the shift away from stimulus occurred too early – and the consequences were stark. Britain drifted into a decade of lost growth, flatlining wages, and general, state-sanctioned immiseration; the US, meanwhile, got Donald Trump.
Lesson learned? Not quite. Unbelievably, we could be about to see the same mistakes repeated again, framed by the same spurious intellectual justifications, and urged on by the same people who railed against government over-reach 13 years ago.
On Tuesday, the Institute for Fiscal Studies published a report into the state of Britain’s public finances that argued against tax rises and for an extension of government spending in Rishi Sunak’s forthcoming budget on 3 March. The report was read by some in the media as a pre-emptive rebuke of any short-term austerity measures the Chancellor may or may not be mulling, as the UK’s costly and protracted COVID lockdown drags on.
Lurking beneath the optimistic topline, however, lay a more ominous – and familiar – message.
The huge fiscal deficits the Treasury is currently posting as a result of COVID are unsustainable, the IFS warned; the UK’s budget gap could dissipate in the face of better-than-anticipated GDP growth, “but that is not a central expectation”; instead, some form of budgetary reckoning is “highly likely” over the coming years, as the “triple challenges” of Brexit, coronavirus, and global warming take their collective economic toll.
The IFS isn’t alone in flagging up the supposed dangers of excessive government spending.
In America, several high-profile economists including Larry Summers, who served as Obama’s chief economic adviser during his first two years in the White House, and Olivier Blanchard, who became head of the IMF in September 2008, believe Joe Biden’s $1.9 trillion COVID stimulus package runs the risk of ‘overheating’ the US economy. A combination of historically low interest rates, high federal investment, and – as the vaccine rollout accelerates – rapidly shrinking unemployment numbers will turbo-charge consumer demand, Summers and Blanchard claim, producing a burst of post-crisis inflation.
This thread has been dutifully picked up by The Economist, which has run a series of pieces in recent weeks making the case for a stripped-back stimulus plan that takes full account of looming inflationary pressures. “Higher inflation would be tolerable, up to a point” one such piece reads. “But it would mean any further deficit spending would further stoke the fire. Better to preserve fiscal fuel by avoiding unnecessary largesse.”
Concerns about sudden, uncontrolled inflation are, of course, misplaced. The idea that Western economies will be running at or beyond maximum capacity at any point in the near future is built on the erroneous assumption that normal life is about to return, and that the past 12 months of pandemic disruption are nearly over.
It isn’t, and they aren’t.
According to the UK government’s scientific advisory body, Sage, social distancing restrictions could last until at least 2022; England’s chief medical officer Chris Whitty thinks COVID could be around in some fashion forever; and even the Treasury – which, under Sunak, has repeatedly pushed for the premature lifting of lockdown rules – is preparing for a “permanent adjustment” in the balance of Britain’s economic landscape.
Nonetheless, the political overtures here are clear: some stimulus measures are acceptable in the short-run, the self-appointed voices of economic moderation are saying, but sooner rather than later, someone is going to have to foot the bill.
This chronic obsession with deficit management, limited spending, and rigid price stability was on display a decade ago. The rhetoric from that period speaks for itself.
“The UK government will need fresh tax increases or spending cuts worth an extra £20 billion a year if it is to repair the public finances as planned,” the IFS said in January 2009, not even six months after the implosion of Lehman Brothers.
“[Chancellor George Osborne] is right that the economic risks of not decisively tackling the deficit outweigh the risk of doing so,” The Economist stated in October 2010, as the UK was still struggling out of recession.
The Coalition government should stick to its controversial austerity strategy, the IMF argued in June 2011, because Britain’s weak growth figures are bound to prove “largely temporary.”
On the other side of the Atlantic, Larry Summers – who was a prominent advocate of financial deregulation during the Clinton presidency – played a key role in restricting the scale of Obama’s January 2009 stimulus plan.
Shortly before Obama took office, Summers prepared a 57-page briefing document that exaggerated the pace of improvement in the US jobs market and advised the incoming president not to over-spend in response to America’s economic tailspin. “An excessive recovery package could spook markets or the public and be counterproductive,” Summers wrote, “potentially undermining economic confidence at a critical time.”
Inevitably, Summers was wrong and, much like the IMF, has since accepted that the stunting of stimulus spending after 2008 was a major economic blunder. But that makes his position now, urging yet more fiscal caution on the Biden administration, all the more bizarre and extraordinary.
There’s a bit of good news in amongst this morass.
Polls suggest there is currently little public appetite, either in Britain or the US, for fiscal belt-tightening. And, for the most part, political leaders today aren’t as keen on funding cuts and tax rises as they were in the late noughties. (Although it’s worth noting that Sunak has been champing at the bit for an opportunity to cut borrowing, and that Biden was a key congressional architect of Obama’s 2013 attack on entitlements.)
Still, having failed to absorb the lessons of the last crisis, an influential group of centrists and technocrats are lobbying for a re-run of 2008’s discredited austerity playbook in the wake of COVID-19.
The question this time is: who might be tempted to listen to them?