Duncan’s Economic Blog

Labour’s Economic Policy Debate – Kalecki, Clinton, Dalton and David Miliband

Posted in Uncategorized by duncanseconomicblog on July 30, 2010

Don Paskini has rightly asked for the five contenders to set out their economic policy proposals.
He has also identified what he sees as the four current strands of opinion in the Party:

1. The Blairite one set out by Pat McFadden. Continuing the economic policies set out by Alastair Darling and prioritising increased investment to increase economic growth while halving the deficit by cutting spending on public services, public sector pensions and welfare benefits by around £60 billion.

2. The Gordon Brown/Ed Balls strategy of maintaining higher levels of public spending on current priorities and reducing the deficit more slowly, aiming to stabilise levels of debt at c. 90% of GDP rather than 70%.

3. The leftie approach of massive cuts to targeted areas of spending such as defence and prisons, maintaining or expanding other areas of public spending, and raising income tax, corporation tax, capital gains tax, council tax, introducing new taxes such as a graduate tax and a mansion tax, while creating jobs through a Green New Deal.

4. Reject orthodox economics and the idea that the deficit is a problem entirely, and argue for an alternative based on an entirely new kind of political economy such as Modern Monetary Theory.

What is striking is that none of the five contenders are going for the first approach.

I think he’s correctly identified where Ed Balls fits into the spectrum and Dianne Abbott seems broadly to be arguing for the third approach (not to be confused with the Third Way). I haven’t seen much in the way from Andy Burnham and I’m not exactly sure where to place him in terms of economic policy (I saw the higher tax stuff, and would welcome pointers to anything more detailed).

Ed Miliband has made a few interesting speeches (this one in particular) and made some appealing noises in terms of the living wage, banking reform and the general balance between states and markets but he hasn’t yet fully fleshed out an alternative political economy (yet) to what came before. Currently I’d place him somewhere in between the second and third approaches as outlined by Don.

Speaking as someone broadly on the soft left of the Party (I’d have voted for Gould in 1992), this might sound unusual but…the most interesting and detailed economic policy development so far, has come from David Miliband.

But before discussing this, its worth pointing out why the Blairite argument described by Don and articulated by Pat McFadden is wrong. Now, focusing on increasing investment is certainly the right thing to do, the fall in investment has driven the current recession and it is the biggest threat to our long run growth. Ken Livingstone’s 17 page, detailed economic policy document provides a very clear statement to this effect.

The question becomes, how should we increase investment?  My problem with the Blairite model, as argued by Pat McFadden, is that it is, in some regards, little different from the New Economic Model, proposed by George Osborne.

Both essentially can be boiled down to a programme of increasing private investment, increasing exports and cutting the deficit. The only two major differences are that McFadden would cut the deficit a bit slower and that whilst Osborne aims to increase private investment by cutting corporation tax and keeping interest rates low, McFadden argues that we should increase it by more government support (in the form of loans, targeted tax breaks and an active regional policy).

Both are wrong. As the best argument why they are wrong was made by Michal Kalecki in 1943. (All emphasis from me).

In current discussions of these problems there emerges time and again the conception of counteracting the slump by stimulating private investment.  This may be done by lowering the rate of interest, by the reduction of income tax, [George Osborne’s way] or by subsidizing private investment directly in this or another form [Pat McFadden’s way].  That such a scheme should be attractive to business is not surprising.  The entrepreneur remains the medium through which the intervention is conducted.  If he does not feel confidence in the political situation, he will not be bribed into investment.  And the intervention does not involve the government either in ‘playing with’ (public) investment or ‘wasting money’ on subsidizing consumption.
It may be shown, however, that the stimulation of private investment does not provide an adequate method for preventing mass unemployment.  There are two alternatives to be considered here.  (i) The rate of interest or income tax (or both) is reduced sharply in the slump and increased in the boom.  In this case, both the period and the amplitude of the business cycle will be reduced, but employment not only in the slump but even in the boom may be far from full, i.e. the average unemployment may be considerable, although its fluctuations will be less marked.  (ii) The rate of interest or income tax is reduced in a slump but not increased in the subsequent boom.  In this case the boom will last longer, but it must end in a new slump: one reduction in the rate of interest or income tax does not, of course, eliminate the forces which cause cyclical fluctuations in a capitalist economy.  In the new slump it will be necessary to reduce the rate of interest or income tax again and so on.  Thus in the not too remote future, the rate of interest would have to be negative and income tax would have to be replaced by an income subsidy.  The same would arise if it were attempted to maintain full employment by stimulating private investment: the rate of interest and income tax would have to be reduced continuously.
In addition to this fundamental weakness of combating unemployment by stimulating private investment, there is a practical difficulty.  The reaction of the entrepreneurs to the measures described is uncertain.  If the downswing is sharp, they may take a very pessimistic view of the future, and the reduction of the rate of interest or income tax may then for a long time have little or no effect upon investment, and thus upon the level of output and employment.

Thankfully this policy option, of relying on stimulating private investment though either tax or interest rate cuts or subsidy of one form or another is not being outlined by any leadership contender.  

David Miliband, easily caricatured as the ‘Blairite’ contender, is different in two important regards.

First, in his recent FT article he put the creation of jobs, rather than halving the deficit, at the centre of his policy. He also made the case for increased public sector investment.

Instead, it should focus on the jobs deficit: the 2.5m people looking for work. Sweden made halving unemployment its priority during its 1990s fiscal consolidation. But Britain is repeating Japan’s response to its crisis: pulling stimulus too early, raising value added tax and relying too heavily on monetary policy – leading to unemployment and stagnation.
…deploy the public sector to invigorate local economies by maximising the multiplier effect of public services. Cutting Building Schools for the Future is not just bad for education, it will hit construction jobs.

Now, he still wants to halve the deficit, but he is making a case that the creation of jobs is the key purpose of economic policy and that public sector investment has a role to play. If this was David’s entire policy proposition, it would be tempting to describe as Clinton-esque circa 1992 – a focus on jobs and productivity as a means to cutting the deficit.

And people might ask, what is wrong with that?

Clinton, after all, not only won two elections, he also had a strong record on job creation (unemployment down from 6.9% to 4.0% and 22 million jobs created) and moved the budget to surplus.  

However Clinton had two advantages the next Labour Prime Minister is unlikely to have – a very benign global economy for much of his term and the good fortune to rule in the decade after the fall of the Wall but before the fall of the Towers, when the peace dividend came into effect (defence spending was cut from near 30% of Federal expenditure in 1992 to closer to 20% by 2000).

What has moved David beyond a simple Clintonian agenda, was first mentioned in his Kier Hardie lecture last month (and, of course, ignored by a media more interested in a perceived attack on Gordon Brown).

In the last twenty years Labour has gone from the prawn cocktail offensive under John Smith to a love in with financial markets to an election campaign in which not a single business would support our tax policy.  Our lack of distinction between the proceeds of financial capital, which was often concerned with its short term multiplication not its long term investment, and manufacturing capital, which was embedded in the real economy, led to a real lack in private sector growth throughout the country.  A lack of innovation and initiative, a lack of partnerships and prosperity. We did not sufficiently recapitalise the regions.  We did not intensify the redistribution of power.  We saved the City of London but we did not reform it. (My emphasis)

A leadership contender talking about the distinction between financial and manufacturing capital and the need for financial reform, not just to prevent the next crisis but to help the economy grow, seizes my attention. It’s something I’ve banged on about for the past 18 months (for example here).

If David had left it at this, I’d have been tempted to dismiss this as an interesting aside but one with no real agenda behind it. Last week’s Durham speech from David though, fleshed this out in considerably more details – notably this section (my emphasis):

Before the crash, too much money was sucked into an inflated property market or dodgy financial products – or was siphoned off for bloated fees and bonuses. The short term, speculative gains offered by the City of London deprived areas like this of the capital they needed to grow.
We do need to reform the banks to prevent another financial crisis. But we also need to take this opportunity to reform the banking system to help rebuild and rebalance our economy in the years ahead.
We need to get money flowing to the people, the companies and the workers with the best ideas and the best strategies to seize the opportunities of the modern economy.

Over many decades, our European neighbours have had a much better record on productive investment. This has created a weight around the ankles of the British economy.
To crack this problem, the government’s Banking Commission needs to address the question of how the British banking sector should be reformed to ensure it serves its proper role in allocating capital to drive growth and jobs – not just seek the quickest, speculative gain.
One option I think it should consider is the case for establishing a British Investment Bank to facilitate investment for vital infrastructure, to support good small businesses and to accelerate our transition to a low carbon economy.
As an example, a bank along these lines – owned by the public but controlled by an independent, commercially-orientated board tasked with delivering long term returns – would be ideally placed to provide loans to companies like Sheffield Forgemasters.

So, here we have David Miliband – the ‘Blairite’ candidate – giving the most detailed proposals for financial reform and coupling it with rhetoric which places the “jobs deficit” over the “fiscal deficit”. And talking about the need for a publicly owned bank (!).  

In some ways, he’s moved beyond Clinton in 1992  and more towards Dalton in 1944 (and yes, I’ve used this quote before):

‘Blame for unemployment lies more with finance than with industry. Mass unemployment is never the fault of the worker; often it is not the fault of the employers. All widespread trade depressions in modern times have financial causes; successive inflation and deflation, obstinate adherence to the gold standard, reckless speculation, and over investment in particular industries …
Finance must be the servant, and the intelligent servant, of the community and productive industry; not their stupid master.’ (Labour Party 1944)

I’m not sure how I’m going to vote yet. But I must say, and much to my surprise, the agenda catching my attention at the moment is his. I’d welcome similarly detailed proposal from the other four.

18 Responses

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  1. paulinlancs said, on July 30, 2010 at 11:04 am

    Very impressive analysis, Duncan.

    What we really need, and what the ‘serious’ Labour blogosphere’s job should be, is to get the candidates (and of course their background teams) to compete with each other over the level of detail/concrete thinking in their economic policy so that whoever gets the job is held to account by the party membership on the basis of those details.

    I think I may still be with Ed Balls as opposition leader, for reasons (inter alia) related to being in opposition, but this article is a mind changer on D Miliband.

    Dalton and Kalecki, eh? Who’d have thunk it (Chris Dillow will be pleased).

    • duncanseconomicblog said, on July 30, 2010 at 11:24 am

      I agree that we need the five to set out proper proposals and actually I think David Miliband has made a really good start on this – moving beyond simple sound bites.

      What really annoys me is how little of this has been reported!

  2. Ben said, on July 30, 2010 at 1:52 pm

    This is very interesting. Pretty much the most important issue of our times, really.

    Do you feel that you/Dan have defined the “Blairite” view fairly though? I think your analysis does slightly put to one side the fact that the last government was already sailing well away from charted orthodox waters. In fact, don’t you think the “right wing” view (which to be be honest in my view is simply an acknowledgment of reality – both political and economic) is in reality a mixture of 1 and 3? I remember defending the green jobs agenda in the run-up to the election – not an insurgent position. Surely one of the major debates about the deficit reduction will also be what proportion will be made up of spending cuts and what proportion tax rises? Those of us on the moderate wing of the party who do, I suppose, regard the deficit as more of an issue, will absolutely need to have realistic and fair proposals for pretty substantial tax rises simply because you can’t cut departmental spending by 20-40% and still live in a civilised first world welfare state, bearing in mind that historically it is painful and difficult to hold public spending even to a zero real terms increase. I am also all in favour of trying to boost investment to raise growth.

    My concern, however, is this: is it not the case that the long term trend rate growth in the UK has been remarkably impervious to the sort of keynesian stimulation we are talking about? 2.5% or so. I am worried that the advocacy of “year zero” economic approaches (or a return to slushy 50s-60s keynesianism, which I guess is the same thing, depiction depending on how radical one’s flag-waving temperament is) might lead to major inflationary pressures and a ballooning deficit. These views are attractive for political reasons, of course. And I certainly don’t support the coalition slash and burn, of course. But to sound a note of caution, don’t we need to be somewhere in a combination of options 1-3, and eschew 4?

    (With the proviso that slashing defence spending in the way advocated by the left is completely wrong and utterly irresponsible. Osbourne’s bad enough. Maybe I should reinvent myself as a Reaganite military keynesian?!)

    • duncanseconomicblog said, on July 30, 2010 at 2:19 pm

      I’d argue that the Blairite position, in as much there is one, is the one spelled out by Pat McFadden in his progress lecture, linked to above. Encourage investment, but halve the deficit in four years. I’d also argue that the “Blairite” position is to do this by one third tax rises and two thirds spending cuts (as outlined in Budget 2010 – which was far more a document from Darling and Mandelson than from Balls or Brown).

      I also note that none of the five seem to be pushing this line.

      “Surely one of the major debates about the deficit reduction will also be what proportion will be made up of spending cuts and what proportion tax rises? Those of us on the moderate wing of the party who do, I suppose, regard the deficit as more of an issue, will absolutely need to have realistic and fair proposals for pretty substantial tax rises simply because you can’t cut departmental spending by 20-40% and still live in a civilised first world welfare state, bearing in mind that historically it is painful and difficult to hold public spending even to a zero real terms increase”

      Yes, and the current proposition (from that wing of the Party) is one third tax rises, two thirds spending cuts.

      “My concern, however, is this: is it not the case that the long term trend rate growth in the UK has been remarkably impervious to the sort of keynesian stimulation we are talking about? 2.5% or so. I am worried that the advocacy of “year zero” economic approaches (or a return to slushy 50s-60s keynesianism, which I guess is the same thing, depiction depending on how radical one’s flag-waving temperament is) might lead to major inflationary pressures and a ballooning deficit.”

      This bit confused me.

      Yes – the 1970s were associated with high inflation and a percieved failure of “Keynesian” demand management… but the 50s/60s – the so-called “Golden Age”?

      In the case of the UK, a underperformer globally post WW2, GDP growth averaged 2.8% 1950-1970 against 2.1% since 1997, or indeed 2.2% since 1979. (The 70s acually averaged 2.4%.)

      The difference between 1950-1970 and 1997+ might not sound like much but it adds up to a GDP 7% higher over a decade.

      Equally, looking at national debt to GDP it was 197% in 1950 and 67% in 1970. I fail to see how a Keynesian policy would lead to a higher national debt.

      Let’s take the 1970s. 1970 debt to GDP 67%, 1979 fallen to 49%.

      Because this is the thing – growth is what matters.

      If you want to find a post war government that actually increased the debt/GDP ratio you have to look pretty hard (even 1974-1979 it fell from 50% in 74/75 to 49% in 1979/80).

      There is one. 1979 debt to GDP was 46%, in 1997/98 it was 53%.

      Because if we stop listening to political rhetoric, and actually look at what works, the only way to get debt down is to the grow the economy…

  3. Luis Enrique said, on July 30, 2010 at 2:03 pm

    There are more ways to stimulate private investment than: “lowering the rate of interest [or] by the reduction of income tax”. One way is to subsidize economic experimentation (Rodrik pushes this idea. Another is to provide goods (infrastructure) that complement and “crowd in” private investment, using the state’s potential to solve externality and coordination problems that decentralised private agents struggle with, and there’s always straightforward state investment in the infrastructure of this country. I think it’s perfectly sensible to think about policies that encourage private sector investment.

    I’m also not convinced that all the banking follies somehow stopped capital being supplied to productive activities in the real economy. Where is the evidence that all the money circulating in speculative instruments, mortgages etc. somehow removed money from firms and entrepreneurs? Remember banks can create money at will. All while the other stuff was going on, high street banks were lending to companies, venture capitalists and private equity houses were busy funding companies, equity markets were functional, corporate debt markets were working fine.

    What reason do you have to think that the financial sector was not funding all projects with a positive expected value? If you want more investment in, say, green technology, then maybe you need to change the prices (address externalities) so that green technology is more profitable. A back door way of doing that is to get a state-owned bank to fund loss-making projects and later write off the debts, but that’s a recipe for grotesque waste, far cleaner to use tax / subsidize / regulate. Or do you really think that there were projects with a positive expected value that were going unfunded that a state owned bank would somehow magically locate and fund?

    I agree that bankers were getting paid far too much for doing things of little use, and that caused a misallocation of resources (to many people working in banking) and did other bad things, but I think it’s a fallacy to think that somehow took money off the table for productive investment.

    • duncanseconomicblog said, on July 30, 2010 at 2:27 pm

      Luis,

      “Another is to provide goods (infrastructure) that complement and “crowd in” private investment, using the state’s potential to solve externality and coordination problems that decentralised private agents struggle with, and there’s always straightforward state investment in the infrastructure of this country. I think it’s perfectly sensible to think about policies that encourage private sector investment.”

      Wouldn’t that be using public sector investment to increase private sector investment though? I’m all for that.

      On the more green point, take Sheffield Forgemasters as an exmaple – will it be able to repay the £80mn, almost certainly, will it be helpful to the UK, yes. Could it raise a private loan? No.

      I don’t want to see a public bank funding loss making projects. But I would like to see one funding investments with a good dosicla return to the wider UK economy, even if the returns are lower than simply putting the money into speculation and property.

      The model would be the German KfW or the Scandanvian Nordic Investment Bank.

      • Luis Enrique said, on July 30, 2010 at 3:03 pm

        Duncan,

        yes, that would be using public investment to increase private – we are in agreement, sorry I misinterpreted your OP.

        I’m not pathologically opposed to state investment banks, but I am wary of them. I’m also wary of the statement Sheffield Forgemasters will almost certainly be able to repay its £80m – private sector banks and investors lend sums far greater than £80m to projects with uncertain prospects all the time. Something doesn’t add up.

        When you write about funding projects with a good “social return” (if I’ve untangled that correctly), if those not returns are not matched by private returns, the bank will be making a loss (even as society benefits) – as far as possible, if there is gap between private and social returns, isn’t tax/subsidize/state-investment/regulation preferable than giving bank run by politicians a license to run a loss whenever they think it’s justified on social grounds?

        (If your state bank is making lower risk-adjusted returns than everybody else, it’s kind of making a real loss in opportunity cost terms, if not accounting, isn’t it?).

        But the big question is whether people were denying funding to firms because higher returns were available in “speculation and property”, and I just don’t see it. None of the banks shut down their corporate lending, finance, equity arms during the bubble, and there’s no evidence I know of that firms faced credit or funding constraints of any sort.

        • duncanseconomicblog said, on July 30, 2010 at 3:15 pm

          Let’s leave Sheffield Forgemasters to the side for the moment, but there are mre examples.

          “Social return” – I am returns to the wider economy – whetehr through increased employment, infrastructure, lower carbon, etc. Should have been clearer.

          I’m not arguing for a bank run by politicans, I’m arguing for a state owned bank with a remit to increase investment in infrastructure and green technology.

          (I accept there maybe some opportunity cost in terms that the bank could have lent to a n more profitable, to them, venture – I think though, that this will actually benfit the wider economy).

          On your bigger question:

          “But the big question is whether people were denying funding to firms because higher returns were available in “speculation and property”, and I just don’t see it. None of the banks shut down their corporate lending, finance, equity arms during the bubble, and there’s no evidence I know of that firms faced credit or funding constraints of any sort.”

          There are firms, like SFM, that appear to have faced funding constraints but…

          Business investment in the UK economy has been consistently amongst the lowest in the G7 (as a share of GDP, the IMF has data back to about 1980 and we have always been 7th or 6th in the G7).

          Why is that?

          Why has British business complained, for decades, that the City doesn’t provide long term funding for investment? This complains was heard between 1880-1914 (when capital instead flowed to the Empire) in the 1920s leading eventually to the Macmillan Committee in 1931 and in the 1950s leading to the Radcliffe Committee. It was heard again In the 1960s, when Wilson talked of White Heat and the 1970s when Heath lambasted the IoD for not investing enough, we didn’t hear in the 1980s onwards – but investment continued to lag our Western competitors, never mind emerging markets!

          This isn’t a new problem.

          I think a large part of the problem has been a short term focus in the city, the availability of easy returns in the property market and increasing speculation.

          I think this properly deserves another whole blog post, it can go in the queue!

          • Luis Enrique said, on July 30, 2010 at 3:28 pm

            if UK banks & other were reluctant to lend, compared to say Germany, wouldn’t we have seen high interest rates on corporate debt? I actually don’t know the answer – were corporate bond returns higher in the UK? I’m be cautious interpreting businessmen complaining people don’t give them enough money. Of course there’s a demand-side explanation, it may be that UK firms (conditional on having a positive expected value use for the money) were able to borrow as much as they wanted, but just didn’t want much.

            If the UK has got a record of underinvestment, might that be because other countries have had a more activist investment-focused government policy that we’ve lacked? Maybe our currency has been overvalued for ages, thanks to the massive export industry that was the City of London, which hurt exporters?

            Another small point, I’m never sure how well investment data copes with service industries. How much “investment” shows up in the data from London’s huge media industry for instance? I could borrow millions, rent some offices and start an advertising agency, but would a penny of it count as investment? In general, if the economy consists of firms in which investment in human capital is more important, how well does the data reflect that? I don’t know, but I’m a bit wary of it.

            I think the time is right for the government to do more to stimulate investment, so I’m sympathetic to the general idea, but I’m not sure the answer lies in credit supply issues.

    • duncanseconomicblog said, on July 30, 2010 at 2:57 pm

      Luis,

      Further left than I’d normally go for decent economic analysis but I’d highly recommend:

      http://www.amazon.co.uk/Great-Financial-Crisis-Causes-Consequences/dp/1583671846

      • Luis Enrique said, on July 30, 2010 at 3:05 pm

        oof. I suppose I should find out what the Marxian analysis was, but I’ve got about 10 unread books of the causes of the crisis sitting on my shelves.

        tell you what, I’ll steal it off gigapedia. The authors shouldn’t mind, being opposed to capitalist profits.

  4. Luis Enrique said, on July 30, 2010 at 2:08 pm

    p.s. have you read Kotlikoff’s Limited Purpose Banking ideas? I’d like Labour to adopt them.

    • duncanseconomicblog said, on July 30, 2010 at 2:27 pm

      I haven’t actually looked at it in detail. I will.

  5. James Doran said, on July 30, 2010 at 10:57 pm

    Last week I was reading Neil Kinnock’s Making Our Way (1986) – a book I picked up in a charity shop for 50p. One idea discussed is a British Investment Bank…

  6. […] the economy into recession.” The first is very plausible – Duncan is entirely right to cite Kalecki – but the second is less so: it’s possible that the economy’s baseline growth would have […]

  7. […] candidates David Miliband and Ed Balls, while at a far more exalted level, bloggers like Duncan Weldon and Dan Paskins have been wading […]

  8. […] remains wrong on deficit reduction, and bound by New Labour’s orthodoxies, he does have something valuable to say about industrial and ‘real growth’ […]

  9. […] increases the chance of a double dip, or even a Japanese style “lost decade”. (And even though I think David Miliband has set out by far the most interesting ideas on medium term policy, I’m still voting for Balls – more on the grounds of the Bloomberg […]


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