Monday, 3 October 2011

Comments on Osbourne's Speech 03/10/2011

The Conservatives are a well-oiled political machine when it comes to delivering a firm consistent message with little room for ambiguity. If you contrast today's speech with last week's furore over predator and producer companies-- which Osbourne picked up on today-- the comparison is clear: The Tories beat Labour hands down. There were even some new and genuinely interesting points hidden here and there between the tried, trusted and above all tired lines about the inheritance from Labour. Unfortunately for all the points it garnered on style, the speech did little to remedy Osbourne's economic failings.

He began with a short lecture on the "three causes" of the current crisis. This was more of a political message than an economic one, allowing him to blend in a little euroscepticism with a dash of Labour-bashing. So far, so effective. The public have largely accepted the austerity narrative. The real danger-- widely acknowledged by commentators-- will come if the facts change and they do not change their opinions, to borrow from Keynes. The goal was to gain fiscal credibility, make 'tough' choices and be rewarded by the voter at Parliament's end. If the data runs against them they will look obstinate and inflexible, as though they willfully continued despite the warnings and steered the country into disaster.

One of George Osbourne's central themes is the assurance that they are "fiscal conservatives" so that they can be "monetary activists". They are cutting the deficit to make it possible to keep interest rates low. It sounds good on the surface but there are two assertions contained within it, both of them wrong: The relationship between deficit cutting and interest rates is not at all simple and does not operate quite as he implies, and if he thinks low rates of interest alone will solve a crisis of this kind he should take a look at Japan.  The low rates are undeniably helping debt-drenched households to cope on a week to week basis, but that's a trap as well. Low interest rates are just one stage, you have to be able to raise them again later.

As long as households remain heavily indebted raising interest rates will not be possible, and there are only two ways(other than default) for ordinary people to reduce debt levels. They can pay them down by reducing consumption now, or inflation can diminish their value over time. Unfortunately while we have plenty of inflation, wages are not keeping pace, which means consumers can neither easily pay down debt, nor keep up demand for UK goods and services.

Osbourne might have hoped that devaluing the pound (and indeed wages in real terms) would improve our competitiveness. If so it has not been enough to help the recovery, and given the problems our major trading partners are experiencing in the US and Europe, it is unlikely to get much better.

In fact the so-called credit easing that the chancellor introduced, conceptually at least, in his speech is an attractive idea. You take low-yield government debt and translate that into low interest obligations for small and medium companies and give them the cash infusion they need (larger companies are cash-rich, as they are not willing to invest in a low-demand, low-confidence environment).

Unfortunately, without demand the effect of this kind of policy may be limited. Supply side measures will not be able to get a grip on the problem if there is no demand for the supply in question. Not here, not across the seas and oceans. That is the critical point, wages are low, households are indebted and unemployment is rife.

The chancellor's supply side policies are suited to a time of abundance. During a time of austerity regulations are not the big reason firms won't employ people, lack of demand for goods and services is.

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