The Household Analogy
The last government failed to fix the roof when the sun was
shining. This was the diagnosis offered
by incoming Chancellor George Osborne in 2010.
Now, a new government would be forced to take hard decisions that would
be all the more painful. And, echoing
his ideological mistress, Osborne trotted out TINA – There Is No Alternative.
Of course, Osborne was helped by the idiotic note left by
outgoing New Labour Chief Secretary to the Treasury Liam Byrne, proclaiming
that “I’m afraid there is no money”. And
the remnants of New Labour in opposition quickly signed up to the Tory
narrative and the austerity policies visited on the British people by the new
ConDem coalition government.
For public consumption, the political leaders built upon the
comely image of the small town householder working hard to keep a roof above
his head. The economy as a whole was
portrayed as a household just like yours and mine. If you or I borrow too much money, then we
face hard choices. We must either take a
second job to bring in some more money or we must cut back on our
spending. Government, we were told, is
exactly the same: “you cannot pay yourself more than you earn”.
Because the New Labour government had racked up huge levels
of debt between 2008 and 2010, the only options available, they told us, were
those that most householders would recognise – earn more money (i.e. stimulate
private sector growth in order to increase tax yields) and cut back on
outgoings (i.e. cut public spending programmes). According to the new government,
fortuitously, cutting public spending would clear the way for the private
sector to grow. So this would not be a
real hardship. While some people might
lose their public sector jobs, these would soon be replaced by private sector
employment. So, in the long-term,
everyone would benefit.
In practice, the policy has been catastrophic. High-paid, high-skilled jobs have been lost
in favour of low-paid, low-skilled jobs that are often part-time or
zero-hours. Wages outside the top five
percent have stagnated, while the incomes of the most vulnerable – the working
poor, the sick and disabled, people with mental illness, together with women
who look after disabled children or older relatives – have fallen
dramatically. Private sector growth has
been anaemic at best; with employment maintained only at the expense of falling
productivity – leaving UK companies unable to compete in international
markets.
Public services are being hit by the unforeseen consequences
of cuts. For example, despite promising
to protect the National Health Service, the government has succeeded in creating
a series of crises in Accident and Emergency departments as a direct result of
the cuts they made to adult social care services, which have removed many of
the community-based beds where hospital patients would normally be moved once
they were well enough.
For the foreseeable future we can expect even more of the
same because both the Tories and the Labour opposition are signed up to the
“economy as a household” narrative that dictates austerity as the only road
back to prosperity. For the most part,
the majority of the 650 members of parliament, adopting this model of the
economy is no more than idiocy – they simply do not know any better, and have
never bothered to think about the problem.
For a handful, however, it is a cynical manipulation designed to dupe
the public into accepting an ideological attack on social security and public
services. Because, whatever else our
increasingly globalized economy is, it most certainly is not a household.
Even within a household, we might observe that working more
and spending less are not the only
options open to us. We might, for
example, consolidate our debts. A
household may have access to a credit card deal offering zero percent interest
on an existing balance. We could use
this to “park” our debt until such time as our circumstances have improved
enough to begin paying it off.
Government does not need a credit card.
It is able to borrow at close to zero percent interest anyway. So, there is actually nothing to stop
government from borrowing new loans at zero percent interest in order to pay
off debt that currently attracts higher rates of interest.
There is, though, a critically important way in which
government is unlike any household you or I have lived in – governments have
printing presses. If you or I were to
try to solve our difficulties by using a good colour photocopier to print out
counterfeit £20 notes, we would end up in jail.
This is because since 1844 it has been illegal for anyone other than the central bank to print money
in the UK. So one thing the government could do that a household cannot do is
to print new money as an alternative to borrowing it.
Okay, we have heard this line before. Wasn’t it Labour Prime Minister James
Callaghan back in 1979 who told us that we could no longer print money to spend
our way out of recession? In those days,
printing new money appeared to cause higher inflation. So – and this is a key reason why the
mainstream parties are signed up to austerity – if government today printed
more money, wouldn’t this simply result in high inflation that would,
ultimately, be worse than the privations of austerity?
Although we experience inflation as increasing prices, it is
actually a form of currency devaluation.
Just as the Roman Emperors devalued their currency by reducing the
quantities of gold and silver in the coins, allowing them to mint more, so in
the modern world, printing more money without a corresponding growth in the
economy can have the same effect – more money chasing the same goods and
services leads to price increases. To
this, there is an important feedback mechanism – velocity. If we expect
prices to increase tomorrow, we are more likely to purchase today. So, as inflation takes hold, the velocity (or
rate) at which we spend increases. This
has a result similar to printing new money called the “multiplier effect”. Suppose I earn an extra pound. I might decide to spend it on some flowers
for my wife. This means that the florist
now has an extra pound. So the florist
decides that when she goes for out a meal that evening, she will add the pound
to the tip she leaves for the waiter.
The extra pound allows the waiter to take a taxi home. The extra taxi fare allows the taxi driver to
buy a magazine. And so on. One extra pound is spent over and over,
having the effect of growing the amount of money in circulation at any time.
Now, the first thing to say about inflation is it is not
necessarily a bad thing. If you are a
saver, inflation is a bad thing because you need to secure an interest rate
that is at least the same as the rate of inflation just to break even. But in the wider economy, we are better off
if savers are encouraged to take risks, as this is the only way of encouraging
investment in new (and potentially risky) business ventures. So, inflation can help move investors’ money
from unproductive asset speculation into productive capital investment. If, on the other hand, you are a borrower,
then inflation works for you by cutting the real value of the money you
borrow. When people take out mortgages,
it is usually the first five years or so that are the most difficult. Having borrowed some multiple of their
earnings, they are committed to making that payment every month. However, over time, as inflation increases,
their wages increase accordingly. But
the monthly payment remains the same.
Over time, the mortgage gets easier and easier to pay off. At a global level, the same is true of
government debt. As inflation increases,
so government finds it easier to pay it off.
In any case, we should be very cautious about making
comparisons with the way the national
economy operated in the 1970s and the way the global economy operates today.
In this booklet I will make the case that the changes we have witnessed
in the past thirty-five years make the comparison entirely unhelpful. These changes have been so profound as to
render the currency of today totally different to the money we used in the
1970s. Indeed, one of the key failings
of modern politics is the failure to understand this transformation.
In this booklet I will argue that in seeking to
avoid the ghosts of the 1970s, modern policy makers are creating an even bigger
crisis by generating a dangerous deflation in which money is destroyed and
spending grinds to a halt. In the face
of a massively over-extended banking sector, this process – which is fuelled by
austerity economics – threatens to bring the whole economic system crashing to
the ground.
You can read the rest of Tim Watkins' new book, Austerity here.
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