Archive for February 24th, 2009
24th February 2009
The way forward x 23
Just as the rest of the world is coming to terms with the death of the kind of market fundamentalism that has held sway on both sides of the Atlantic since the election of Richard Milhous Nixon in 1972, it is curious to see the Labour Government drifting back into a position of deregulation and laisser faire. I think Martin Jacques’s suggestion that the political class hasn’t got a clue how to react to the current crisis is pretty accurate. Falling back on the old certainties, however, simply isn’t going to work.
To counter the oft-made (and often pretty accurate) criticism that all Opposition politicians do is oppose, here are some positive suggestions as to how UK Government policy could respond creatively to the economic crisis in both the short and longer-terms. They build on some suggestions I made in October - but a lot has happened in the last five months, and in Obama’s words things are likely to get worse before they can get better. There is no excuse for fatalism, however: these are just some of the things that a genuinely progressive government could do:
Short-term ideas
Accelerate monetary policy. The Bank of England delayed cutting its rates until the crisis was in full swing and began by cutting far too timidly. It may already be too late for monetary policy to have more than a marginal effect on economic recovery but this policy option needs to be fully exhausted. (1) Interest rates must be cut to zero. (2) Quantitative easing should commence without delay.
Stop the easy-money bailout and nationalise the banks. Taken as a whole the UK banking sector is, in every practical sense, insolvent. It is only Government intervention that has kept it afloat. But the Government’s policy of part-nationalisation, credit insurance and emergency liquidity has only been a limited success as bank lending continues to contract and bank losses continue to mount. Alistair Darling’s new plan, buying rotten assets from the banks – through a so-called bad bank – would leave the public stuck with all the bankers’ costliest mistakes, as yet unquantified – with little guarantee of any share of the upside when the economy improved, leaving the offending institutions free to carry on merrily as before. The socialisation of risk and privatisation of reward is a formula that should be roundly rejected.
The alternative option is (3) full-scale nationalisation of the banking system, meaning 100% ownership and direct management by the Government of most, if not all the major banking institutions. The Government is opposed to this for ideological reasons, but it represents far less risk to the taxpayer than the Government’s half-way house. Only full public ownership will allow us to downsize the financial system in a managed way which sustains lending to businesses and household that need it. We need a smaller financial sector, and smaller banks more focused on the real purpose of banking which is to channel capital investment into the economy. The speculative fortunes amassed through exotic financial instruments must not be allowed to return. What we do need to return to is a (4) home-grown version of the American Glass-Steagall Act enacted in the last Great Depression and regrettably repealed in the late 90s, a landmark piece of legislation that barred common ownership of banks, insurance companies and securities firms. That wall of separation between banking and commerce that was breached now needs to be urgently re-erected. Equally, the new mixed economy in finance must be more than just a temporary response to the crisis. (5) Publicly owned and not-for-profit banks that provide a low-cost current and savings accounts as well as low-interest loans to individuals and small businesses must be a key feature of a restructured banking sector in order to act as an additional check on more tightly regulated for-profit financial institutions.
Get serious about economic stimulus. What we really need in April is the announcement of a (6) £100 billion economic stimulus package that will create and save 750,000 jobs in the UK economy over the next two years. Can we afford it? Yes, is the short answer. The continuing desire of investors for the relative safety of UK Government bonds compared to company debt means that the Treasury is able to borrow at very low interest rates. The upshot of this is that though the size of Government debt may rise, the cost of servicing that debt remains lower than during other recessions. This provides strong scope for the kind of massive fiscal stimulus that is now required. Furthermore the £100 billion investment required may in fact cost only half as much over time because of the fiscal returns, as tax revenues rise in response to an improved economy.
Help the people who are hurting. Economic confidence cannot be restored from the top; we have to water the roots. The stimulus package must therefore be judged by the extent it helps the poor – the unemployed poor, the working poor and those on a fixed income. As a priority we should (7) raise the State pension and the (8) minimum wage, stabilising the income of the poorest in society. Increasing their spending power will pump money back directly into consumer markets.
The core of the immediate problem is falling house prices. Repossessions are continuing to drive prices down further. Placing a floor under house prices is a necessary first step in restoring economic stability. A key element in this is (9) preventing a glut of properties flooding the market through rising repossessions. To this end President Obama is creating a modern version of Roosevelt’s Home Owner Loan Corporation that kept people in their homes by purchasing mortgages from people in danger of losing their homes and then re-issuing them with more favourable terms. We should do the same here, with thousands of interventions in the market. Effectively calling a moratorium on repossessions orders against all responsible lenders is not charity – keeping families in their homes is the biggest economic stimulus imaginable. It also has the additional benefit of directing public money to the public, rather than the banks.
Long-term ideas
Address the root causes of the crisis. Weak regulation and greedy bankers – on both sides of the Atlantic – were undoubtedly a big part of the problem. But there are deeper underlying causes and these must be addressed too. Interest rates were too low to stave off the growing housing bubble and personal debt explosion. Governments tolerated this because they needed cheap credit and asset price inflation to make up for the ‘demand gap’ left by the export of high-wage jobs to cheaper countries in Eastern Europe and Asia. At the same time cheap imports from these countries allowed western countries to keep retail price inflation artificially low, masking the growing destablilisation of the economy. The world economic crisis was thus borne of a model of globalisation which has given too much power to corporations and too little protection to workers.
Protectionism in the narrow sense would be highly damaging – as the salutary example of the Smoot-Hawley tariffs in the Great Depression showed. But we do need to achieve a greater balance of power between capital and labour internationally. The concentration of corporate power through the merger mania of the last thirty years has to be reversed through the kind of (10) tough anti-trust laws passed in the United Statesover a century ago. Secondly, free trade has to become (11) fair trade based on certain minimum standards in labour and environmental regulation. We should at the very least insist on the kind of protection that our workers achieved at the beginning of the last century – and, where possible, work with local NGOs and trade unions to achieve progress.
An end to boom and bust. One of the many disastrous and entirely self-serving decisions by the current Prime Minister was the deliberate exclusion of housing costs from the calculation of inflation – the shift from RPI to CPI in 2003 – which meant that the Bank of England effectively ignored the risks to financial stability posed by arguably biggest and most destructive housing bubble ever in the history of the United Kingdom. To prevent an even more violent recurrence the Government needs to do two things; end the over-dominance of London in the UK economy which fuels the demand for the finite supply of housing in inner London, by (12) relaunching regional policy and (13) shifting whole Government departments and entire institutions north and west; and (14) secondly reintroducing some element of housing cost into the Bank of England’s inflation targets, encouraging it to intervene to prevent a future housing bubble. Neither of these policies will be popular in the south east of England but both are necessary if the boom-bust cycle is genuinely to disappear.
Creating a new global financial system After the immediate crisis has passed the world will have to create new rules and new institutions – in the same way as happened after the Second World War with Bretton Woods Conference – to promote transparency and provide financial security to future generations. We need a (15) coordinated international effort to crack down on illegal tax havens; (16) an international financial regulator; (17) tight controls on flows of international capital; (18) and a properly regulated and licensed public exchange for derivatives – whether the City of London likes it or not.
A further vital element will be the need to abandon the system of floating exchange rates and (19) adopt a new system of semi-pegged exchange rates between the dollar, pound, yen and euro to reintroduce predictability into the system. Explicit rules would prevent countries like China rigging their currency to boost their exports artificially.
Close the wealth gap. Wages have fallen as a proportion of GDP since the 1970s and have consistently failed to keep pace with rises in productivity as corporate profit margins have increased. The polarisation of income and the current financial crisis are intimately inter-connected. During the housing bubble people borrowed not only to buy houses (whose prices had risen beyond the reach of most first-time buyers) but also to fund consumption through equity withdrawals and credit. This lift helped avoid a recession after the dot.com bubble burst at the beginning of the decade. Building an economy on credit rather than higher wages has led to record levels of debt as a proportion of income; dependence on a high pound to attract foreign capital (thereby undermining manufacturing); and an increase in hours worked and the number of jobs held.
To reverse this trend a comprehensive package of measures are necessary. We should first (20) end the tax loophole that allows hedge fund and private equity managers to claim their income as a capital gain meaning they pay less in income tax than their secretaries. Government could introduce (21) tough new procurement principles denying public sector contracts to any company that pays their top executives more than twenty five times the wage their lowest paid workers receive. We could also do what most European countries and (22) introduce a small annual tax on wealth holdings. The super-rich hold most of their wealth in financial investments and yet the only form of wealth tax that we have – council tax targets property but leaves this financial wealth untouched. The result: people on average incomes pay a tax on their wealth, rich people don’t. A graduated wealth tax exempting the first £250,000 of household wealth and topping off at 1% on fortunes worth over £2 million would raise about £15 billion a year. As a final measure we could (23) require the super-rich to make their tax returns public. This was the practice in the United States following the New Deal and is done now throughout Scandinavia. Transparency in tax affairs will help combat tax evasion. In the words of David Cameron, let sunshine win the day!