The British public is tired of austerity. So even supporters of the government have concluded from the unexpected success of Jeremy Corbyn’s new old Labour, which promised much higher spending and fiscal deficits than the Conservatives in last week’s general election But is it safe to give the public what it wants? Brexit is likely to bring economic disappointment. To add fiscal destabilisation to the mix would seem highly unwise.
The UK will remain an open trading economy dependent on the confidence of strangers, as investors and workers. It would be idiotic to jeopardise its reputation for sound management further in return for a brief high of larger fiscal deficits and debt. Yet this does not rule out different choices over revenue and spending. That is perfectly legitimate.
As Torsten Bell of the Resolution Foundation points out, fiscal austerity may refer to the deficit or to the level and structure of spending. Policy can affect the deficit by increasing revenue as well as by lowering spending. At the same time, spending can be changed, without altering the deficit, provided revenue is altered in an offsetting way.
The austerity delivered since 2010 has meant deficit reductions predominantly achieved via curbs on spending. Between 2009-10 and 2021-22, public sector net borrowing is forecast by the Office for Budget Responsibility to shrink by 9.2 per cent of gross domestic product. A reduction in spending from 45.3 per cent to 37.9 per cent of GDP is expected to deliver 80 per cent of the envisaged fall in the deficit.
By 2016-17, public sector net borrowing had already been reduced to 2.5 per cent of GDP, from 9.9 per cent in 2009-10. Given this, is it important to reduce this to the forecast level of 0.7 per cent in 2021-22? The argument against further tightening is that the deficit is now modest. The argument in favour is that it is needed to lower the net debt ratio, which was at the somewhat uncomfortable level of 87 per cent of GDP at the end of the last financial year, up from 35 per cent a decade earlier.
It makes sense to run a still smaller deficit when debt is high and the economy is close to full employment.
The aim would be to insure against any shocks that lie ahead, by reducing the debt ratio. A case can be made for borrowing for high-quality investment, especially when real interest rates are so low. The failure of the government to launch a bigger investment programme shortly after the crisis was surely an error. Instead, public sector gross investment was cut from 5.5 per cent of GDP in 2009-10 to 4 per cent last year.
At the same time, higher public savings (and so a large surplus on the current budget) are desirable, given the persistent current account deficit and consequent vulnerability of sterling. In all, a smaller fiscal deficit does make sense.
Yet this does not mean that spending needs to be cut any further. On the contrary, the UK public may well desire greater public spending, relative to GDP. That is a legitimate and workable option: Scandinavia, the Netherlands and Germany, all of which now spend more than the UK, are hardly basket cases. As Carl Emmerson of the Institute for Fiscal Studies points out, the spending levels promised by Labour are not outrageous by such standards. But the increased spending needs to be of a high quality and be paid for by effective and efficient taxation. Furthermore, note that taxes will probably have to rise to mitigate the effects on public services of an ageing population.
What is needed is honesty: the country can choose to raise spending. But, if it wants to run a sound fiscal policy, this will mean substantially higher taxes. Labour has broken the taboo on the latter. But it has dishonestly suggested that a substantial increase in spending can be financed solely at the expense of the rich and corrupt. Yet even taxes on corporations do not fall solely, or even mainly, on the rich. Furthermore, a quarter of Labour’s promised increase in spending goes to eliminate student debt, while leaving universities far worse off. This is an irresponsible and regressive benefit in favour of future winners. The priority is quite wrong.
So should austerity be over? If we mean that it is safe to leave the fiscal deficit where it is, the answer is no. If we mean that it is possible to avoid lowering the share of public spending in GDP any further, the answer is yes. The argument that the UK has chronically underfunded public services is respectable. But higher spending means higher taxes. That additional taxation also needs to be well targeted and designed. The extra money raised needs to be well spent, too. Otherwise, the effort would be a huge waste. That would be quite senseless.