Balls to Keynes

One of the fascinating elements of the current Labour Leadership campaign has been watching the various candidates make their pitches for what the Coalition Government is doing wrong, and what they would do differently. Much has been made of the spending cuts that Cameron, Clegg et al. have instigated this year, and the risks it could cause in terms of a double-dip recession. None of the candidates, however, have gone quite as far as Ed Balls. In an article for the Guardian today, Balls continued to press forward with the notion that 'any' cuts are wrong. According to Ed, even Labour's plans to halve the deficit in 4 years were foolish.

Balls' article is founded solidly in the Keynesian economic mould with its (effective) critique of past recessionary spending constraints in the 1930s and 1980s. I would argue, though, that the whole-sale deployment of a Keynesian model which he seems to call for in his the final paragraphs of his article brings a risk equally as significant as the return to recession he sees as the danger with the Coalition's plans.

For a start, it is unclear as to whether Keynes ever envisaged his concepts being applied to public finances in quite such a parlous state as the UK currently faces. Pulling interest rates down and increasing government investment on infrastructure might bring about eventual economic recovery through Keynes' multiplier effect, but at what short and mid-term cost in the current climate? Previous fiscal stimuli deployed by the Brown Government created an anaemic recovery at best and the danger with advocating further spending, or markedly restrained cuts, is that the interest rates on leveraging current debt become unmanageable. It is all very well for Ed Balls to dismiss the UK falling prey to the same issues which affected Greece, but how can he know for sure? How can anyone in fact?

Indeed, the Keynesian spending multiplier only works when the additional liquidity placed in the market is spent on consumption goods. i.e. When individuals spend the money they have saved/gained, this drives demand and increases employment. Perhaps one of the reasons the recovery engendered by the recent fiscal stimulus was so weak is that in the current climate this simply isn’t something close to tax-payers’ hearts in the UK, particularly when the current financial crisis came out of individual debt caused by people living beyond their means. As President Bartlett had it in the West Wing, upon hearing that his own aide had spent an advance tax rebate on paying down debt:

"Would a trip to Banana Republic have killed you?"

It is also interesting to note that Labour's use of the Keynesian model has been imbalanced. Increased government investment in a down-turn is one half of the model. The other, however, is putting up taxes and cutting government outlay during a boom to suppress inflation. Tax rises there certainly were, but rather than constricting the rate of spending Gordon Brown as Chancellor seemed happy to continually increase it. Part of this can be explained by the political necessity of redressing years of Conservative prudence/underspend (call it what you will) on the NHS and Education, but it seems to have gone much further than that with the result that both the RPI and CPI rates of inflation have been on the up since 2001.

At the end of the day, it is clear that political ideology is at the heart of any economic argument, whether Keynesian or Classical/neo-classical. Labour prefer to advocate the Keynesian view of higher taxes during a boom and high government spending during a bust as it fits best with an economy largely controlled by the government itself. The Conservatives argue for a more Classical economic view, as this works best under the much smaller government they strive for. In his article, Balls side-steps the fact that Government spending is still set to rise during this Parliament. He merely points out that there are constraints being placed in areas that he finds unpalatable. Rooting his economic arguments in politics makes good sense where he has to differentiate himself from other senior Labour figures in the Leadership elections. It does, however, blunt the intellectual thrust of his argument and increases the likelihood that it can be dismissed as political points scoring.