George Osborne: A National Embarrassment

George Osborne is not getting any better. His latest shaft of brilliance is to threaten everyone with a sterling crisis – Chris Dillow has details and more. The problem here is that for a start, he is deliberately beating the water to drive sharks away from his vulnerable ideological underbelly. The Conservatives’ “economic plan” currently foresees a range of stupid and incoherent things – they are for tax cuts, specifically in employer National Insurance contributions, but the cuts are to be funded by spending cuts elsewhere, and savings in that eternal demagogue’s standby, “waste”.

So this isn’t a response to the economic crisis in any way; a basic Keynesian accounting – and before you all speak up, this particular one is basic to essentially everyone’s view of economics – shows us that aggregate demand equals (C+I+G+X)-(S+T) where C is consumption, I is investment, G is government spending, X is net exports, S is savings and T is taxation. If you reduce T, you obviously increase aggregate demand. But if you’re paying for this by reducing G, the net effect depends on the percentage of an increase in income that isn’t spent – the marginal propensity to save. The value in terms of aggregate demand of a tax cut is given by dT/(1/marginal propensity to save), known as the balanced budget multiplier. This can in fact be quite significant, for example if the tax change is highly progressive, so that the rich (who have a high marginal propensity to save) pay more and the poor (who don’t – they don’t have the spare cash) pay less.

Actually, even if the cut was to be paid for by borrowing, it still wouldn’t help very much. The Tories intend to only cut NI for those businesses who haven’t laid anyone off – which will be how many in a year’s time? Surely, if they are consistent conservatives, they should be encouraging companies to sack people so as to bring about a fall in prices and the realignment of demand with long term aggregate supply? After all, if they still reject Keynes, as Osborne seems to, this is what they presumably want.

Sometimes, the inchoate voice of the Internet-at-large tells you more than any amount of data: like this.

What a lot of people who should have known better forgot at the election was – HE’S A TORY.

Further, it is not any Conservative’s place to complain that the pound is in jeopardy. The UK has been running a structural current-account deficit for many years, and the vast growth of the financial services sector is a consequence and apparently a deliberate one. When an economy has a current account deficit, this means it imports more than it exports. In order to pay for this, it needs to run a corresponding surplus on the capital account – it needs to import capital. Down at the micro level, this means that banks are lending money to people who want to buy imports, that the savings of exporters are not enough to fund this, and therefore that the banks must borrow on the wholesale market (or issue shares to overseas investors, etc).

A further important factor is the role of the housing economy; if house prices grow faster than GDP, which in the UK they always do during the boom phases, this means that the new mortgage lending cannot be funded from the repayments on the old, and that housing must import capital from the rest of the economy. And, as the rest of the economy has to import capital for its own needs, therefore the mortgage banks must use the world market for money.

As a further twist, the banks got very good at importing capital and then re-exporting it, taking a turn on the deal and therefore significantly contributing to the current account. Everyone who praised the growth of the City since 1986 implicitly supports this state of affairs. But all this is predicated on the import of capital, which implies a current account deficit and therefore a significant currency risk. (No wonder City Tories have no confidence in Osborne.) The Conservative Party, especially, has no right to complain about it whatsoever, having essentially invented this entire structural model, as Ross McKibbin explains in a now-seminal article.

But even this isn’t the worst. Consider Osborne’s actual remarks.

Mr Osborne suggests that Mr Brown “doesn’t care” how much he borrows. “His view is he probably won’t win the next election. The Tories can clear this mess up after I’ve gone. That is deeply irresponsible. It’s a scorched-earth policy, which I think the history books will write up as a total disaster and which the public will see through between now and the election.”

Osborne is being positively Straussian here, in attributing the worst of his own motives to others. And he’s got form for this. After all, in the event of a major sterling crisis, he would stand to gain impressively, although for the reasons I’ve given above it would do the country a power of bad. It would look catastrophic, and the J-curve effect means that the short-term effect of devaluation is deflationary – the recession would initially be worse. Further, the sectors most affected by this would be finance (obviously) and the import-heavy consumer economy.

The electoral, regional and class distribution of the impact would also be helpful for the Conservatives – the costs would fall disproportionately in South-Eastern marginals and on swing voter groups, whereas the benefits would arrive later, handily after a hypothetical Chancellor Osborne took office, and would be concentrated in the export economy, that is to say in the West Midlands, the North, and the new town techie belt. Or,just where the Tories worry that they need to build strength in the long term.

And if you want to know the sort of thing they actually think is good for us, under the exoteric surface, check out this beauty from Alan Duncan. Constrained by the existing law, Dunc can’t promise to get rid of your workplace rights, so instead he’s hoping to scare people off exerting them, by making anyone who loses an industrial tribunal case pay the employer’s costs. Now, that might well be appropriate in the majority of the civil law, but it’s wildly inappropriate for employment law because of the structural inequality of power involved. Arguably, the ancient legal principle of “equality of arms” can only be maintained in this field if you can’t be scared into silence by the risk of paying Sir Bufton Tufton QC’s bill.

Mind you, there are reasons to be cheerful. Osborne has just staked his career on a forex trade, only weeks after making an enemy of Nathan Rothschild. And even super-europhobe Tory funder Stanley Kalms is making noises about needing “more heavyweight, more grey hair on the front bench”; if that isn’t a reference to Kenneth Clarke I don’t know what is. Who else could it be? Heavyweight rules out Redwood, Franciscus Mediocritus and a bunch of others. Grey hair? Can’t be William Hague then..