Jonathan Todd

I wrote for Labour Uncut today on the challenge for the new shadow chancellor.

The Labour leadership election will, finally, end on 25 September. But the identity of the shadow chancellor will be unknown until 7 October, when the results of the shadow cabinet election are announced. 13 days after this the new leader and shadow chancellor will lead our response to the comprehensive spending review. “It is”, as a leadership contender has said, “an incredibly tight timetable for the new leader and their shadow chancellor to map out a policy that might yet determine how we are viewed for the rest of the parliament.”

The general election too quickly gave way to the leadership election. (Which should have started later and been shorter). With the end of the leadership election, the formal involvement in the shadow cabinet election of four of our would-be leaders begins. This is a grueling pace. But the new leader and shadow chancellor will need immediately to demonstrate economic literacy, which means robustly critiquing George Osborne and articulating a credible and appealing alternative economic approach. While this is challenging, there are some relatively simple points that are worth underlining.

First, like the Liberal Democrats, we consistently warned prior to the general election that it was too much of a risk to the economy’s recovery to cut public spending this year. There is no evidence that these risks have significantly diminished.  Business credit remains weak. Lending to businesses fell for the eleventh consecutive month in July. Consumer demand remains sluggish, as tens of thousands of homeowners are expected to face at least four more years of negative equity and redundancies in the public sector are thought unlikely to be absorbed by additional private sector employment.

Second, no matter how the Liberal Democrats defend the shift in their position on public spending cuts this year, the UK is not Greece and was never in danger of becoming Greece. As Rachel Reeves has noted, national debt in the UK in 2009, as a percentage of GDP, was 72 percent, while in Greece it was 119 percent. Additionally, and crucially, having our own currency and a central bank that can set interest rates in the interests of the domestic economy provides us with far more flexibility than is available to the Greeks within the eurozone.

Third, our opposition to cuts this year derives from a deeper view: sustaining economic growth is an indispensible precondition of deficit reduction. In the absence of growth, the deficit will widen as tax receipts fall and unemployment benefit payments rise. Public debt levels are generally more sensitive to growth than changes in tax and spending. George Osborne can cut as aggressively as his Thatcherite heart desires, but if we slip back into recession this cutting will do little to contain the deficit. Indeed, it also risks a deflationary spiral if Osborne responds to recession by persisting with his cuts.

The risk to public finances posed by a double dip recession must be balanced against the risk of higher interest rates cascading through the economy – further credit crunching businesses and raising household mortgage payments – if the deficit reduction plan fails to convince markets. Reduce public spending too early and the double dip risk increases; cut too late and upward pressure on interest rates becomes more likely. George Osborne, in cutting earlier and by £40bn more deeply over this parliament, is putting more emphasis on the later risk than Alistair Darling’s plans do.

Yet, as no lesser economic authority than the FT’s Martin Wolf has observed, “the market is screaming its lack of concern about UK fiscal credibility”. In these circumstances, forcefully illustrated in Ed Balls’ Bloomberg speech, it is perverse for the chancellor to underplay the double dip risk of cutting too early and too deep for the sake of masochistic cuts ostensibly justified by market concern about the deficit.

In truth, Osborne’s plans are driven by an ideological imperative to reduce the size of the state. This goes against the premium which Anatole Kaletsky places upon pragmatism in Capitalism 4.0; his weighty tome on the financial crisis and capitalism’s future. “In an indeterminate world”, he writes, “both economic and institutional decisions will have to proceed by a zigzag process of trial and error.” Rather than this flexibility and adaptability, Osborne, as Pat McFadden has noted, has given us “faith-based economics”.

Labour must be careful, however, that we too do not become inflexible and dogmatic. While Osborne is underplaying the double dip risk, which even those red-blooded socialists at the British chamber of commerce worry about, and is willing a private sector led recovery through little more than his faith in it, the interest rate risk attached to the deficit should be squarely confronted by Labour. Being squeamish about this not only betrays our credentials as the party of pragmatic economics but leaves us seeming trapped in what Phil Collins has called “the comforting illusion that state spending is a straight line to progress”.

This illusion can attach to social as much as to economic policy. And the public sees through it. The mood music emanating from Labour risks seeming too statist if we seem unwilling straightforwardly and even-handedly to address the deficit. Alistair Darling has left plans which should take us a long way towards avoiding this outcome. But our new shadow chancellor will still have crucial decisions to take during a testing first fortnight in office.

Philip Stephens makes a striking observation in the FT noting the harshness of the coalition’s rhetoric on the public sector and public servants:

“The government’s tone of voice is one that suggests all public spending is wasteful, and all those working in central or local government are on the make or take. Perhaps, given his goal of a smaller state, this is Mr Cameron’s intention. If so, it is neither sensible nor politically astute. It also happens to be unfair.”

How long before this unfairness jars with the public?

I have a childhood memory (perhaps, I mean nightmare) of a member of the public describing themselves as a civil servant on Noel’s House Party and Noel doing nothing to discourage the booing which came from the audience as a result. I didn’t even know what a civil servant was at the time but this booing didn’t seem fair to me. Of course, this may all be false memory. There is no doubt, however, that this government wants to bring public servant bashing back into vogue.

A report that I co-authored for the European Parliament on the proposed Alternative Investment Fund Managers (AIFM) Directive has been picked up by the Financial Times, Reuters and Wall Street Journal.

I think I am noticing something of a theme in the Economist of late. On 28 May they noted:

“How times change. When George Bush’s treasury secretaries first visited China, Wall Street was booming, America’s economy was growing and the president’s emissaries routinely lectured their Chinese hosts on the need for freer financial markets and a more flexible yuan. But as Tim Geithner, the current treasury secretary, prepares to make his maiden trip to Beijing on May 31st, Wall Street is synonymous with greed and failure, America’s economy is on its knees and it is the Chinese who have been doing the lecturing. With America’s budget deficit soaring and the Fed’s printing presses running at full speed, China is complaining loudly of the risks that inflation and depreciation pose to its huge stash of dollars, and arguing for an alternative to the greenback as the world’s reserve currency”.

This came after 21 May when the magazine revisited the notion of decoupling: “emerging economies (have) become more resilient to an American recession, thanks to their strong domestic markets and prudent macroeconomic policies”. This was a popular thesis a year ago but lost ground as the global slump hit. However, the Economist argues that the idea may be regaining credibility, with China key to this regained credibility.

“China is exhibit A of this new decoupling: its economy began to accelerate again in the first four months of this year. Fixed investment is growing at its fastest pace since 2006 and consumption is holding up well. Despite debate over the accuracy of China’s GDP figures (see article), most economists agree that output will grow faster than seemed plausible only a few months ago. Growth this year could be close to 8%. Such optimism has fuelled commodity prices which have, in turn, brightened the outlook for Brazil and other commodity exporters”.

Anatole Kaletsky has also noted the significance of economic linkages between China and Brazil, as well as China and South Africa.  

“Commodity-producing countries such as Brazil and South Africa have obviously benefited from China’s overtaking of the US and Europe as the world’s main consumer of raw materials. As long as the Chinese economy keeps growing, Brazil is assured of demand for its iron ore and soya, South Africa for its platinum and coal. Thus the success of the huge fiscal stimulus package announced by the Chinese Government in December has turned out to be much more important for these countries than similar measures in the US or EU”.

So, as Kaletsky puts it, this has meant that America has sneezed but much of the world seems germ-free. The role of China in this trend might suggest that in contrast to decoupling, we are witnessing a coupling of economies to China rather than the US. Kaletsky goes on, however, to make an observation that is more supportive of the decoupling thesis:

“Even more important than the growth of trade with China is that many of the emerging economies, including Brazil and South Africa, have had the financial resources to implement their own independent stimulus packages”.

This capacity of emerging economies to take forward their own stimulus packages appears to be part of a changed world order, with China – twenty years after Tiananmen Square – pivotal to this changed order. Yet, as Martin Jacques, will argue in a new book that he will launch with an event at the RSA on 22 June, “we have barely begun to understand what life will be like when China rules the world”. The blurb on the RSA website about this event goes on to state:

“For well over 200 years, we have lived in a Western-made world, one where the very notion of being modern is inextricably bound up with being Western. The twenty-first century will be different. The rise of China, India and the Asian tiger economies means that, for the first time, modernity will no longer be exclusively Western. The West will be confronted with the fact that its systems, institutions and values are no longer the only ones on offer.

“The central player in this new world will be China. Continental in size and mentality, China is a ‘civilization-state’ whose characteristics, attitudes and values long predate its existence as a nation-state. Although China is clearly influenced by the West, its extraordinary size and history mean that it will remain highly distinct, and as it exercises its rapidly growing power it will change much more than the world’s geopolitics. The nation-state as we understand it will no longer be globally dominant, and the Westphalian state system will be transformed; ideas of race will be redrawn”.

This is why Jacques argues that we are moving into an era of contested modernity. But Kaletsky still frames the rise of China in somewhat western terms by observing:

“The story of South Africa and Brazil in the past decade (has enabled a) transition successfully to pluralistic, liberal free-market democracies.

“Whether China ever manages a similar transition is, of course, the great historical question of the 21st century. But if it forces China to direct economic development towards the needs of its own citizens, rather than the tastes of US consumers, the financial crisis is likely to accelerate China’s evolution into a pluralistic market economy, rather than slowing it down”.

“Car ownership in China – an important badge of middle-class status – is only 2-3 per cent”, as the Financial Times recently observed. The economic development of China will expand this middle-class, which may lead to the kind of transition that Kaletsky envisages. That said; China has already changed massively in the past twenty years but the grip of the Communist Party upon power in China seems more secure now than it did at the time of Tiananmen Square. Why? 

“As a result of the effective combination of governance reforms and co-opting the rich and the middle class”, the Financial Times explains, ”few analysts believe the party will face a serious threat over the next decade”. These governance reforms mean that the Communist Party is a very different beast from what it was twenty years. Change in China is likely to be such that it will face further calls to evolve in coming years. This will lead, claims the Financial Times, to “pressure to introduce deeper political reforms”. But will these reforms lead to China taking the kind of transition to western democratic norms as foreseen by Kaletsky or will they result in the Chinese producing a governance model that takes the “highly distinct” form anticipated by Jacques?

As well as the internal management of the increased power held by China, there are, of course, questions to be asked about the external use of this power. On the eve of Barack Obama’s much heralded speech to the Muslim world, for example, it is interesting to note that the Economist also recently concluded: “If China is at all serious about joining America as a global leader, this is the time for it to shoulder its responsibility by helping to punish Mr Kim”. Mr Kim, of course, is the leader of North Korea. Things which definitely can’t be decoupled are the nuclear ambitions of North Korea and Iran. The ambitions of the later are a key point of context to Obama’s speech. However, the coupling of North Korea and Iran also, in turn, couples together the efforts of the US and China to respond to the ambitions of North Korea and Iran.

This is a profound change to the world order but is to say nothing of the ”neo-colonialist” tendencies that some see in Chinese “land grabs” in Africa. We have grown used to the empire of liberty, as a current Radio 4 series describes the US, dominating a unipolar world order but, perhaps, we should be preparing for another empire, quite possibly with less regard for liberty, as liberty is generally understood in the west, to be a significant player in a multipolar world of contested modernity. Given that we have elections to the European Parliament tomorrow, one wonders what Europe’s role will be in such a world. Sadly, marginalised, I fear, unless we can quickly raise our game very dramatically.

There is a big, fat hint on today’s FT comment page for Gordon Brown.

Philip Stephens concludes his piece, thus:

“The president might fairly ask Mr Brown what he has to offer. Thus far Britain has seen the special relationship as setting it apart from the rest of Europe. The reverse should be true. Why should the US take the lead in forging a new global compact, Mr Obama could justly say, when a fractured Europe is bending to the siren voices of economic nationalism? If Britain wants to be heard in the White House, surely it must show it has real clout in Europe. Now there is something for Mr Brown to think about during the long flight home”.

Beneath Stephens, Gideon Rachman writes:

“The four freedoms already established by the EU – free movement of goods, people, services and capital – are huge and tangible achievements. It would be terrible to see them rolled back.

“Yet the threat is there. The British prime minister has talked of “British jobs for British workers”, the French president has urged car companies to invest at home rather than elsewhere in the EU, the government of Spain has launched a “Buy Spanish” campaign. State aid rules that prevent the promotion of national industrial champions are being cheerfully trashed. Despite the deliberately reassuring communiqué that closed this weekend’s summit, a genuine assault on the European single market is brewing.

“If Europe starts rolling back the four freedoms, the implications will stretch well beyond economics. Protectionism and nationalism are close cousins. The principles of consultation, co-operation and open borders within the EU have helped to repress the old, nationalist demons”.

Brown may be going to the US to warn against protectionism but his relationship will be all the more special with Obama if he can lead the EU to a future free of protectionism. The four freedoms of the EU salvaged Europe from the wreckage of fascism and communism. They deserve better than to be slain by a mere credit crunch. This should be the high principle of Brown’s engagement with the EU, while the low cunning is the gains that this will bring him with Obama.