Tuesday, 22 December 2009

The real trend of Tory support - by John Ross

Iain Dale in his Tory diary recently asked the question why the Conservatives are having worse results in actual elections than in opinion polls - seeking an explanation from his readers. As Iain Dale put it:

‘Jonathan Isaby has posted last night's local election results on Conservative Home and described them as "disappointing". Indeed. OK, you might think, what do the results of a few council by-elections matter? And in some ways you'd be right. But these results are not isolated. There have been many similar results over the last few weeks. Invariably, Conservative vote shares are down and the party seems to be losing more seats in by-elections than it gains. Clearly, there can be peculiar local circumstances at play, but in seats like Wyre Forest, Tavistock and Weymouth & Portland (all parliamentary marginals), the Conservative should be gaining seats not losing them. Anyone got any light to shed?’

Others have commented on the fact that despite the extreme unpopularity of measures taken by the government in the last year, and Labour’s collapse in the polls, the Conservatives have been unable to raise their level of support, even in opinion polls, above the low 40 percents level -when at similar periods of extreme unpopularity of a Tory government Labour stood at 48% or even higher.

To aid Iain Dale, even although he won’t like the answer, Figure 1 below shows the Tory party percentage of the vote at every general election since 1931. The voting trend evidently shows a party in long run and unambiguous decline in support.

Figure 1

Naturally in the short run, which in these terms is a five to ten year period, the Tory vote swings around from defeat to victory, but the overall trend is unambiguously downwards. In particular, with the exception of the immediate post-World War II period, when the Tory Party vote was particularly depressed due the massive defeat of 1945, each Conservative victory was secured on a lower proportion of the vote than previously.

Taking Tory victories after the immediate post-World War II period the Conservative percentage of the vote was 49.6% in 1955, 49.4% in 1959, 46.4%, in 1970, 43.9% in 1979, 42.4%, in 1983, 42.2% in 1987, and 41.9% in 1992. This trend would imply a further Tory fall, to slightly above or below 40% at an election held in 2010.

Such a vote is, of course, entirely consistent with approximately where the Tories are at present in the polls. Therefore it is important to stress that these calculations are not based on these polls and they are the results of actual elections and not surveys of opinion. Nor were they made after the event. The graph is simply updated from the author’s book Thatcher and Friend’s, the Anatomy of the Tory Party. Published in 1983 its analysis of the social bases of the decline of Tory Party support were scarcely believed by most politicians at the time with one exception. Ken Livingstone was convinced by the data and this is how the author met him.

However evidently the disintegration of Tory support, and the consigning of the party to almost a decade and a half in the political willingness after 1992, was not a surprise in such an analysis. Nor, therefore, is the current confinement of the Tory Party, in what is a good period for it, to the low 40s in the opinion polls. Such figures are not accidental, nor can they be easily reversed, but are part of the long term falling trend of Conservative social support.

It would take too much space here to analyse the full social reasons for the Tory decline. For that readers are referred to the book in which the long term social analysis, not of course the contemporary commentary, remains entirely relevant. But in essence the Tory Party was born in the rural and prosperous suburban South East, gradually expanded out of it in the late 19th and early 20th centuries, and has gradually declined back into it. This explains why, of course, David Cameron as been almost totally unsuccessful in expanding the Conservatives outside their southern redoubt. It also explains why even when the Tories are ahead in the polls they are not liked by the electorate - as the latest poll in The Independent confirms again. It is simply that Labour has regrettably created a situation whereby for the electorate it is even more unpopular than the Tories.

There are, of course, direct political implications that flow from such a real trend of support - as opposed to myths. The Tory Party is not 'the wave of the future,' it is a historically declining party. In particular it is extremely difficult for the Tory Party to raise its support.

It is evident Labour does not have to worry about a surge in support for the Conservatives, nor has Thatcherism, factually, ever been popular with the electorate – the Thatcherite victories in the 1980s and 1992 were won on the lowest shares of the vote for a Conservative government in the 20th century. What Labour has to worry about is building its own support. It shows clearly why there is no popular enthusiasm for the Tory Party even when there is massive discontent with the Labour government.

Second these facts show that Labour has strategically lost no support to the Tories in the entire post-war period – the entire loss has been to the Liberal Democrats, Greens and others. The Tories have simply not proved attractive to former Labour voters whereas the Liberal Democrats and to a lesser extent the Greens have.

The analysis presented here of the trend of the underlying social decline in Tory Party support has been factually vindicated by the results in six general elections, over a 26 year period, since it was written. It continues to explain the latest opinion polls and by-election results. Its consequences are clear. The Tories, a party in long term decline, cannot by their own efforts win the general election. Labour can merely lose it. Labour need not worry about the attractiveness of Tory ideas - they have been shown by real elections not to be attractive.

What are the implications for politics? First that, as is now being realised, given the long term trend of Tory decline the general election is not a simple foregone conclusion. As the Tories cannot lift their support, due to deep seated social processes, they have to rely on Labour remaining hugely unpopular - which of course can happen. Second, even if the Tories do win the election that will not halt their historical social decline. If the Liberal Democrats enter a coalition with the Tories, as is Clegg's evident present intention, they will be tied to a party declining in support and become unpopular with them.


A few second hand copies of Thatcher and Friends, The Anatomy of the Tory Party, which contains a much more detailed historical analysis of Tory support, can still be obtained second hand on Amazon

Monday, 14 December 2009

The Real Cause of the Sell-Off in British Government Debt - by Michael Burke

British government bonds came under selling pressure last week, the one in which the Chancellor delivered his Pre-Budget Report (PBR). Over the course of the week, yields on 10-year gilts rose by 0.24%, or 24 basis points (bps) [1]. The yield differential, or spread, versus compared to yields on comparable German bonds rose by 22bps, demonstrating that this was not just a generalised fall in bond prices, which causes yields to rise. The sell-off is a negative factor for British taxpayers, increasing the cost of government borrowing and has negative knock-on effect for most other borrowers, from commercial enterprises to mortgage borrowers.

The Financial Times was in no doubt, the culprit for the sell-off was Chancellor Darling’s failure to make sufficiently savage cuts in public spending to reassure bond investors. 'Investors took fright at the perceived timidity of the government's plans to balance the books with one of the biggest sell-offs of British gilts this year.'

But that verdict is simply and demonstrably untrue. SEB has previously shown, by analysing European government bond markets, that there is a preference for lending to economies where there is a reflationary policy. This is simply because, from the perspective of the bond market, government spending to boost the economy, especially investment, improves the chances of getting your money back.

There were some very poor choices made in the PBR. Among the worst was the decision to increase spending for the war on Afghanistan by £2.5bn. At the same an increase in National Insurance Contributions will allegedly increase revenues by £1.9bn (although no account was taken of the depressing effects on activity of this tax increase). It seems that borrowing is possible to fund disastrous and increasingly unpopular foreign wars, but tax increases on the low-paid are imperative.

Yet, although there were many changes announced by Darling, the net change in the fiscal position was close to zero (Afghan spending aside). According to the PBR, there was just £415mn of fiscal tightening announced, all of which was more than accounted for by the projected take from taxing bankers’ bonuses (£550mn). In the next year, the Chancellor estimates a loosening of £1.24bn and only in later years does net fiscal tightening begin in earnest, £3.5bn and £5.1bn in 2011-2013 - see the Chancellor’s Table. 1.2.

SEB can agree with the FT that this inaction is the cause of the sell-off in gilts. But with exactly the opposite meaning. The sell-off in gilts arises not because the Chancellor is delaying cuts, but because he has stopped trying to reflate the economy.

How is it possible to be so certain of something which flies in the face of virtually all the market commentary of the last few days? Simply because the PBR was a change in government policy away from reflation (the previous policy included a VAT reduction, corporate tax holidays, brought forward capital spending, etc.). When that policy was being pursued gilts did not sell-off. A year ago British government 10-year yields were 29bps lower and the yield spread with Germany was 31bps lower.

For confirmation of this view, we can look to Ireland. The day following the PBR the Irish government enacted its own Budget. Budget cuts there of €4bn were described by the FT as “brutal” and even “masochistic” and included public sector pay, jobseeker’s allowance, even disability benefits. The British Tory Party and their supporters in the media have lauded the ‘resolute action’ of the Irish Finance Minister Lenihan. George Osborne is preparing to emulate him. But yields on Irish 10-year government are now even higher than those on British government debt at 4.87%, and now stand at 187bps over German bunds, compared to 66bps for Britain, even though the two have similar of government deficits, close to 12% of GDP.

But what of the European benchmark, surely German yields are low because of they are pursuing a policy of fiscal retrenchment, as recommended by virtually all the commentators? German debt yields remain the benchmark low in Europe, all the while the new German government continues to reflate the economy through increased government spending, which of course is financed in the first instance by increased borrowing.

This is not simply a case of investors flocking to the traditional German safe-haven bond market, although that is often a factor. Other bond markets have avoided a sell off, and maintain tight spreads to Germany, notably France and Belgium. What all three economies have in common is that they have been engaged in fiscal expansion to lift their economies.

The commentary from the Financial Times and most bond analysts can be discounted as it does not conform to reality. The actions of bond investors illuminate the real picture; inactivity is better than fiscal contraction, but reflation is better than both..


1. Financial Times, December 14, Table ‘Bonds - Benchmark Government’, p.27

Wednesday, 9 December 2009

‘Austerity programmes’ and the financial markets, the disastrous lessons of Ireland - by Michael Burke

Financial markets have a great many faults. But they can frequently provide a signal of their participants’ collective thinking with much greater clarity than their cheerleaders and ideologues. This is especially the case currently, with regard to the alleged ‘risks’ of increased government spending.

Most governments are currently engaged in a policy of reflation and fiscal stimulus. Yet there are already parties seeking office, in Britain and elsewhere, who favour a policy of fiscal contraction. It is therefore instructive to look at Ireland where the ‘Party of Austerity; is already in power.

We are frequently told that bond market investors are demanding Ireland’s unique ‘austerity; experiment, and that otherwise they will refuse to purchase government debt. Finance Irish Minister Lenihan has said that that taking ‘decisive action’ on the budget deficit was a priority for the Government and it would “signal to international investors that the Irish Government possesses the ability to take the necessary action’. Music to the ears of the British Tory front bench who are delighted to see the progress of Irish Thatcherism.

We will ignore here the impositions of the Maastricht Treaty’s 3% borrowing and 60% debt in relation to GDP limits. - every other country in Europe has as they go about attempting to reflate their economies. Instead, for bond investors, it is easy to put a number to the fear and greed that drives financial markets. For the latter, greed, it is what they demand in the form of the yield on government debt at auction. For the former, fear, it concerns the risk to the principal sum in the form of default. The two are related.

Yields on benchmark Irish government debt were 4.85% as of close of business on Friday December 4 (all yields from Financial Times, December 7). That’s considerably below the peak of 6.02% in January of this year. That must surely mean that the bond market is reassured by the austerity measures to date? Well, no. The first ‘decisive’ austerity measures from the FF/Green government were in October 2008, and yet yields soared in January of this year.

It can be useful, in judging the financial market impact of policy, to look at yield spreads. The riskier the asset, the higher the spread, and movement in the spread signals a change in the perception of that risk (the fear/greed factors again). The yield spread of Irish 10 year debt over the European benchmark German debt is a very sizeable 1.62% (or 162 basis points, bps in the jargon). That represents a very large, additional cost to the Irish taxpayer and compares to the next highest yield spread of Italy of 0.79%. Only Greece has a higher spread in Europe, of 1.71%.

But a key fact is that this yield spread has been widening against Irish taxpayers. Over the past 12 months German yields have risen by 0.19%, while Irish yields have risen by 0.62%.

Now, against a possible charge of unfairness, it should be admitted right away that, if financial markets are in a panic, the riskier asset will be harder hit than the safer one. In this case the riskier asset would be Irish debt and the safer one German debt. But we have already seen that the big sell-off occurred in January, and in fact most yields have been declining since.

It is possible to develop this point further, by using a more direct parallel with Ireland’s debt. A comparison with Belgium is a very useful one because:

a. Belgium is a middling Euro Area economy, with its yield spread close to the average of the Euro Area, below Italy, Spain, Portugal, and others, and above that of France, The Netherlands, Austria;

b. Belgium has a much higher government debt than Ireland but a much lower current budget deficit, and, crucially,

c. For virtually the whole of 2008, the yield spread between Belgium and Ireland was, for the reasons in (b.) almost identical, usually within or 1 or 2 bps of each other.

However, that is no longer the case. Belgium’s yield spread over Germany is now 0.33%, or approximately one-fifth of Ireland’s. The Irish government’s Pre-Budget Outlook estimates an increase in net debt this year of €26bn. With Belgian, rather than Irish yields at that maturity, Irish taxpayers would save approximately €340mn next year, and every year for the lifetime of the debt.

But there is a striking feature of this divergence in Belgian and Irish benchmark yields. The thrust of fiscal policy for the two economies has been diametrically opposed. Belgium, in common with the overwhelming majority of leading economies in the Euro Area and elsewhere, has been attempting to reflate its economy with a combination of increases in government spending and temporary tax cuts, amounting to 3.6% of GDP. The judgement in Belgium is that the former are likely to be more productive.

But Ireland has engaged in a unique contractionary experiment, amounting to 6.4% of GDP once the December 2009 Budget is included. This as we have seen, was claimed to be to reassure bond markets. Yet the verdict seems clear. Irish yields have risen compared to Belgian yields. As far as the bond markets are concerned, Ireland has become a relatively riskier bet because of its austerity policy, not despite it.

In case there should be any doubt, a closer examination of the Belgian/Irish yield spread confirms this analysis. As mentioned previously, for nearly the whole of 2008 the yields were almost identical. However, they began to part company in October 2008, precisely at the time of the first Irish austerity budget, which was brought forward to ‘reassure financial markets’. From a yield spread of zero at the beginning of October 2008, it began to move against Irish taxpayers, to 0.25% at the end of that month, to 0.75% by the middle of December, to 1.30% currently.

Now, if you ask most bond investors and certainly most government bond analysts (as they are asked, daily, in all the media outlets) they will say the Irish government is doing the right thing, biting the bullet, upfront pain, and so on. All this proves is you don’t need to be well-versed in accurate economic theory to buy a bond, nor to be employed at a stockbroker which sells them. But it helps if you can see what’s actually happening.

Belgian reflation has led to falling forecasts for the deficit (because of stronger growth), while Irish fiscal contraction has led rising deficit forecasts (because of weaker growth). According to the European Commission, the difference between Ireland’s and Belgian’s budget deficits in 2008, when yields were the same, was 6% of GDP (Ireland 7.2%, Belgium 1.2%) and is now expected to be 9% in 2010, with Ireland’s rising and Belgium’s falling. At the same time Irish yields have been rising compared to Belgium’s.

The market verdict is clear. Reflation and stimulus is the route back to government solvency; fiscal contraction increases costs and can lead to disaster.

Thursday, 3 December 2009

Why Has a Huge Hole Appeared In UK Public Finances? - By Michael Burke

Ever since the Tory Party conference it has been clear that there there are plans for a ferocious attack on public sector pay and social welfare benefits after the next general election. The main media outlets greeted the pronouncements from David Cameron and George Osborne with almost universal acclaim, although opinion polls suggest the public is far less enthusiastic. Quite why the poor and the lowly paid are in line to pay for the disastrous decisions of the extremely rich is never explained. It seems that the culprit for the credit crunch in Britain is now identified, it was the unemployed, low-paid and pensioners, in league with fat cat nurses, doctors and teachers. As Nick Clegg summed it up, they are all in line for “savage cuts”.

However, less frenzied commentary would show that not only is reducing the benefits of the most vulnerable and cutting the pay of the lowest paid morally indefensible. It is also economically illiterate. A savage attack on public sector pay and the provisions of the welfare state fails to address the underlying causes of the enormous rise in government deficits and debt precisely because there is no crisis of government spending. At the same time, a sharp reduction in government spending in these areas will threaten any nascent recovery and could have the effect of inducing a ’double-dip’ or ’W-shaped’ recession. Finally, it is also possible to confidently state that the proposed cuts will not yield any significant narrowing of the UK government deficits.

Sudden Impact

It is important to gauge both government spending and revenue in relation to GDP. The UK’s level of spending and revenues would seem pitifully small, say, in relation to the size of the US economy but would be utterly gargantuan relative to Monaco‘s GDP. In addition, as the cost of running a hospital will tend to rise both with population growth (more treatments) and inflation (the cost of those treatments), it makes sense to speak of both sides of the public sector accounts in their relation to GDP, to gauge real change.

Using this measure, for the last financial year (which ended in at the beginning of April 2009), there was no obvious crisis of public sector finances. As shown in the UK Treasury databank, public sector current spending was 39.4% of GDP in Financial Year (FY) 2008/09, up from 37.8% of GDP in the prior FY. This compares to a high of 42.2% and a low of 34.4% over the last 25 years [1]. Therefore, in the two most recent FYs public sector current spending has been in line with medium-term parameters and averages.

The chart below shows the trend in net public sector debt as a proportion of GDP. This includes all levels of UK government debt, not just central government. The chart shows that debt levels were stable until the beginning of 2008, when they began to climb rapidly.

Chart 1

Government finances were in reasonable health until very recently. It is also clear that it is the recession and the financial crisis that have produced the huge deterioration in them. Chart 2 below pinpoints the effect of the recession on government finances. The debt level as a proportion of GDP is shown versus the quarterly percentage change in GDP. Government finances began to slump at precisely the time the economy began to contract, at the beginning of 2008.

Chart 2

It is clear that the deterioration in government finances is recession-related. This is to be expected. Widening public sector deficits have occurred in every recession and under any UK government since World War II. It is the great severity of this recession that has driven the deficit wider at an unprecedented pace in peacetime.

Collapse In Revenues

A closer examination of the most recent period reveals the pace of the deterioration in the public finances, as well as beginning to identify its sources. The table below shows public sector expenditure and government sector net debt for the previous two financial years as well UK Treasury’s projections for the current FY, which we are halfway through.

Table 1. UK Public Sector Expenditure & Debt (% GDP)

There is a sharp rise projected in public sector net debt, from 36.5% to 55.4%, a rise equivalent to 18.9% of GDP in just 2 years. The projections from UK Treasury are not unreasonable ones, based in large measure on extrapolation of trends already apparent. If anything, they may be overly optimistic as we discuss below.

The ‘public sector current spending’ measure of government finances excludes some important items, which are especially significant in the current debate, as we will demonstrate below. But here it is important to note that it does include the two key items under threat of savage attack, welfare spending and public sector pay.

While it is true that public sector expenditure will rise as a proportion of GDP in that time, it is clearly not the primary source of the deterioration. Public spending is rising but this contribution is just 5.3% of GDP, compared to the aggregate rise in the debt level of 18.9%. This rise in spending is largely an automatic and inevitable rise in government expenditures under the impact of recession (for reference, during the milder Thatcher recession of the early 1980s, public sector current expenditure rose by 4.2% of GDP between 1980 and 1983). Therefore, it cannot possibly be true that “Gordon Brown’s overspending” on these areas has led to the crisis in government finances, or that, heading into the crisis, there was already a ‘structural deficit’ that the Institute for Fiscal Studies has constructed, following the UK Treasury’s lead. [2]

The slump in government finances is not caused by welfare spending or public sector pay, so there must be another cause of the unfolding crisis.

The primary source of the deterioration in government finances is the collapse in government receipts. The driving force is lower taxation receipts, as shown in the table below. Rising expenditures have played a role in the widening of the deficit, but a minor one. Partly this collapse in revenues is related to the slump in economic activity and in part it is a function of government stimulus measures which can and will be reversed. These include corporate tax holidays and the temporary VAT reduction.

Table 2. Change In Central Government Accounts 1st half Financial Year
2009/10 Compared to 1st half 2008/09 (£billion)

The most recent data on public finances highlight this precipitate decline in taxation revenues, already worse than UK Treasury projections, down 10.3% in nominal terms from the same period a year ago. [3] Taxes on income and wealth have fallen by £14.4bn in the first half of the current FY. In addition, taxes on production have fallen by £7.8bn over the same period. Taken together, these last two items account for £22.2bn of the entire fall of £25.1bn in central government receipts. In turn, this fall in taxation revenues accounts for the overwhelming bulk, two-thirds of the widening of the budget deficit over the period, which amounts to £37.8bn.

Neither excessive public sector pay nor welfare spending are the causes of the crisis of government spending, because there is no crisis of government spending. The crisis arises from the slump in receipts, which only a revival of economic activity can correct.


SEB has previously noted that two key components of GDP have recently moved in opposite directions in the UK and in most other OECD economies. Government spending has risen in response to the recession, and partly offsets it. It as an automatic rise in the form of increased welfare spending, although it should be noted that in the UK this increase in ‘net social benefits’ in the first 6 months of this financial year is just £7.4bn, compared to a total increase in central government borrowing of £40.1bn over the same period. At the same time the key component of GDP that has driven total economic activity lower is the outright collapse in investment.

Given that investment is the key determinant of future prosperity these two components of GDP cannot move in diametrically opposite directions over a sustained period. Either government spending must fall, as financial resources eventually run dry, or an increased level of investment revives economic activity and the tax base, thereby allowing government spending to be maintained at current or higher levels.

A stark policy choice is therefore posed. The prescription can be followed that cuts pay and welfare spending which will leave the economy on a long-term trajectory of lower growth, worse services and increased poverty. Or the government can rescue the economy by increasing investment where private operators fail to do so. In fact the government has made some effort to do this, but on a scale that is not commensurate with the crisis. Public sector net investment was 2.6% of GDP in the last FY, and is due to rise to 3.5% this year before falling back to 2.5% next year. [5] This does not address the severity of the crisis and is paltry by historical standards. Before Thatcherism, for the entire period 1963-1979 the average level of public sector net investment was over 5.2% of GDP per annum. [6]

The Treasury’s own macroeconomic model points the way. [7] Its empirical studies of the UK economy over time suggest that an increase government spending is by far the most effective means to revive economic activity. Of course, the reputation of statistical economic models based on current orthodoxies is not as high as before the crisis. However, it is the Treasury’s best estimate of the effects changes in fiscal policy and will inform the working assumptions of all economic policymaking, both Government and Opposition.

The model assumes that the multiplier effect from a change in UK government spending are 1.1 times in the first year and 1.4 times in both the second and third years. This is a far higher multiple than other fiscal measures as highlighted in the table below. Furthermore, the Treasury suggests that the multiplier effects are likely to be higher in periods where private access to credit is constrained, which is one of the defining features of the current crisis.

Table 3 Fiscal Multipliers in the UK Treasury Model -
Source UK Treasury

The Elephant In the Room

Throughout this discussion we have tended to refer to public sector current spending (which includes all levels of government), as well as government net investment. However there is one exceptional item in the public finances not included in either of these totals. In recent UK Treasury publications it is usually referred to as the costs of ’financial sector interventions’, that is the costs to the taxpayer of the bailout of bank share and bondholders. They are mind-bogglingly large and they must of course be paid for by government borrowing.

The words of the UK Treasury can speak for themselves. “At end September, the contribution to public sector net debt (PSND) from financial market interventions amounted to £142bn“.[8]. Worse this does not yet include the interventions in RBS, Lloyds and HBoS, but only includes £111bn to bail out the bondholders of Northern Rock and Bradford & Bingley, £9bn to compensate bank depositors from failed institutions as well as other items. When, later this year, the Treasury gets to grips with the large and complex losses at Royal Bank of Scotland and Lloyds Bank, the additions to this debt mountain will increase enormously. Taking these bailouts into account brings net public sector debt to 59.0% of GDP compared to 48.9% without it. This level will rise too as the other bank bailouts are finally accounted for.

Chart 3

To date, despite much gleeful anticipation in Opposition circles and widespread sections of the media, there has been no failure to fund these deficits. At the beginning of October this year UK 10-year government bonds yielded 3.22%, the same as the US and compared to 3.13% for Germany. [9] The global decline in yields characteristic of recessions allows governments to borrow and invest more cheaply. As a result of lower interest rates the UK’s net debt interest payments are actually £5bn lower in the first 6 months of this FY compared to a year ago (shown in Table 2., above). [10]

However the scale of debt and its trajectory provide no guarantee that this will continue to be the case. Global bond investors have, in effect, staged buyers’ strikes before now. In any event, the ever-increasing level of debt will provide a heavy interest burden on taxpayers for years to come, diverting tax revenues away from productive uses.

Cuts Are Not Savings

The crisis in UK government finances is not caused by either excessive public pay or welfare payments. It is caused by two factors, the collapse in business activity and the consequent slump in taxation revenues, as well as the cost of the bank bailout.

Those arguing for an effort to balance the budget via welfare and pay cuts have learnt nothing from history. They are simply what JK Galbraith has dubbed ’the custodians of bad memories,’ speaking of those who prolonged the Great Depression by welfare cuts.[11]

In fact economic history is littered with examples of governments who made swingeing cuts to socially useful public spending and public sector pay, only to find that their deficits continued to rise. This occurs because the cuts themselves depress activity and taxation receipts, in the jargon, they trigger ‘reverse multiplier effects‘. In a different context, Michael Taft details the counter-productive nature of cuts currently being enacted in Ireland, and highlights the simple but devastating truth: Cuts Are Not Savings. Those fiscal multipliers cited above also work in reverse; cuts in government spending will not lead to commensurate savings as they depress economic activity and the fiscal receipts which are generated by it. SEB will return to this topic in a future posting.

Instead, what is required is twofold: first, the government could engineer an economic recovery by a sizeable increase in the pace of its own investment. Second, the government should make an elegant exit from the huge costs incurred through the operations to support failed financial institutions, letting their share and bondholders enjoy the fruits of the free markets they have extolled for so long.

* This piece was begun under the guidance of Redmond O’Neill, who died on October 21st. All errors are mine, but the inspiration was from him. He was the finest socialist I have known.


1. UK Treasury databank, Tab B2, http://www.hm-treasury.gov.uk/d/public_finances_databank.xls#'C1'!A1)

2. IFS, Britain’s Fiscal Squeeze: the Choices Ahead, Briefing Note BN87, http://www.ifs.org.uk/publications/4619

3. ONS, Public sector finances, September monthly bulletin, table, p.13, http://www.hm-treasury.gov.uk/Search.aspx?terms=public+sector+finances

4. 'The Outlook for Public Finances', p.3,

5. UK Treasury databank, B2

6. UK Treasury databank, B2

7. UK Treasury, Fiscal Multipliers in Macroeconomic Models, Statistical Annex p.102, http://hm-treasury.gov.uk/fiscal_stabilisation_and_emu.htm

8. ONS, public sector finances, September monthly bulletin, (p. 5, point 6), , http://www.hm-treasury.gov.uk/Search.aspx?terms=public+sector+finances

9. Financial Times, October 5 2009, table p.27, Bonds-Benchmark Government

10. ONS, September, p.3

11.’The Great Crash’, JK Galbraith, Penguin, p.201