The scare stories about government debt are back. Ignore them | Simon Wren-Lewis | Opinion

The scare stories about government debt are back. Ignore them | Simon Wren-Lewis | Opinion


UK austerity, which lasted from 2010 to 2019, was all about bad timing. When coming out of a deep recession the only thing the Treasury should have been thinking about was how to get as complete an economic recovery as possible. Only when the recovery was exhausted, such that inflation and interest rates were rising substantially, was it time to worry about balancing the books.

Unfortunately, the Treasury in 2009 had more people in it worrying about the deficit than worrying about the economy. They persuaded the then Labour chancellor, Alistair Darling, to frame his discourse around the recovery and the deficit. The stage was wide open for George Osborne, helped by the mainstream media, to just focus on the deficit alone. The result was a recovery from recession that should have happened in 2010 being delayed until 2013.

Even if we think the supply side is immune from the damage austerity caused, I have estimated that austerity cost the average household about £10,000 in lost resources. It is much more likely that austerity did damage the supply side, and so the cost is both much higher and continues to this day. Surely, just 10 years later, the Treasury couldn’t make the same mistake again?

The Treasury document leaked on Wednesday did contain one piece of good news. The chancellor accepts that no attempt should be made to reduce debt to GDP levels after the coronavirus crisis is over. The goal is to stabilise debt to GDP at some new higher level. Those who talk about having to pay for supporting the economy during the pandemic are wrong. Government debt to GDP levels can stay high, and if they need to fall that can happen through growth.

But that good news may mean nothing if the focus of debate as the pandemic is controlled is about the deficit rather than the recovery. If the Treasury tries to balance the books during the economic recovery, then that fiscal tightening could stop the recovery in its tracks, just as it did in 2010. It will be austerity all over again.

We see all the old lines being trotted out in the leaked Treasury document. The need to “enhance credibility and boost investor confidence”, and the possibility of a sovereign debt crisis. These are the same words used to justify 2010 austerity, and they remain as misleading as before. What really matters for credibility and investor confidence is the state of the economy, which in turn depends on the strength of the recovery.

There is no chance of a sovereign debt crisis because the Bank of England will buy government debt to prevent it happening. This is because the first sign of a sovereign debt crisis is higher interest rates on government debt, and in a recession higher long-term interest rates dampen the recovery which the Bank is pledged to achieve, so we will see more quantitative easing to keep rates low. In addition, investors know that once the recovery is complete the UK will control the deficit, because we have a good track record of doing so. There is no need to make commitments now.

What the Treasury should be talking about is the potential need for some kind of fiscal stimulus if consumers are cautious after the pandemic is over and increase their precautionary saving. What type of stimulus should it be, if demand is weak in sectors involving social consumption but not elsewhere? The 2009 recession clearly showed us that when interest rates hit their lower bound, it is up to fiscal policy to ensure a quick recovery. I fear the Treasury will instead veto any further stimulus on cost grounds.

Unfortunately, 2009 also shows us that once the conversation starts being partly about debt and deficits, that becomes all the media talks about. It is true that conditions are not the same as 2009. Boris Johnson is less obsessed with debt than Osborne was, talk of a funding crisis has less resonance than it did after the financial crisis, and we have the experience of 2010 austerity as a warning. But the Treasury and the media have not changed substantially over the last decade.

The lessons from what happened 10 years ago are simple and clear. There should be no discussion about the deficit until interest rates and inflation start rising substantially because of excess domestic demand. Only then will we know that the recovery is complete. As we do not know what kind of recovery from the pandemic we will have, talking about what is needed to balance the books is premature because we just do not know how much is required. Indeed such talk may in itself harm the recovery, because people spend less if they think tax rises are coming.

Am I overreacting to just one leaked document? If political reports are correct, we have already seen Treasury pressure persuade Johnson to relax lockdown before he should have. As premature lockdown just delays the day people feel secure to start spending on social consumption again, Sunday’s announcement reflected short-term penny pinching with a much bigger long-term cost. Which sounds very similar to austerity to me. We must not let this happen again.

Simon Wren-Lewis is emeritus professor of economics and fellow of Merton College, Oxford



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