The British Way

David Blanchflower writes:

We have been faced with the greatest financial crisis in a century; banks have failed and credit is still hard to come by. Normality has not yet returned even though we are in the recovery phase, which is going to be a long slog. A good way to think of what has happened is that we are struggling to recover from the effects of an economic war that has hit us hard.

Imagine if, God forbid, some country was about to invade this green and pleasant land. A great leader – Churchill, say – would invoke the Dunkirk spirit and fight back. And the people would be right behind a great leader; that is the British way.

But faced with this economic war, this misguided coalition government has instead shown appalling cowardice; rather than fight, Osborne is about to run up the white flag of defeat. His response is the equivalent of surrendering immediately because of the potential impact of the war on the deficit. It's as ridiculous as that.

He should fight the war first and then deal with the deficit later, even if it means taking many years to pay it back, because time is needed to rebuild our damaged infrastructure. While you are fighting the war you need to develop a plan to rebuild and to grow when the war is over – just as we did after the second world war.

During this recession what happens in America repeats itself six months or so later in the UK. It turns out that right now the small amount of job growth in the US private sector is simply not large enough to make up for the job destruction that is happening in the public sector. And this is not just census workers. Hence the need for a second round of quantitative easing that is likely coming at the next Federal Open Market Committee meeting in November.

But Osborne expects us to believe that just the opposite will occur in the UK. His economic strategy is to cross his fingers and hope that the private sector will create 2.5m jobs within five years, despite the fact that between 2000 and 2008 only 1.6m private sector jobs were created. Recovery is going to be a long slog.

Contrary to claims made by various members of the government, there is no believable evidence that fiscal tightening on the scale that is being proposed has ever worked. When Canada implemented its fiscal tightening its neighbour was experiencing the Clinton boom, plus it was able to cut interest rates.

In contrast there is a lot of evidence to suggest that fiscal retrenchment when a recovery is not firmly established can be disastrous. At the end of the 1930s in the US policy was tightened too soon, which quickly pushed it back into recession.

And there is no evidence whatsoever that the markets are actually demanding these cuts. The government continues to be able to borrow cheaply. It is true that government bond rates in the UK have fallen since the ConDem government took office, but they have fallen even faster in the US, which is not engaging in a suicidal austerity programme.

And there is growing opposition to Slasher Osborne's strategy. Even Boris Johnson, Ken Clarke and latterly Chris Huhne are worried about the possibilities of a double-dip, which is a likely prospect.

Of particular note was the joint statement by the first ministers and finance ministers of Scotland, Wales and Northern Ireland this week. They made clear their opposition to the cuts:

"The proposals to cut public spending to such an extent run the risk of stalling any recovery. Private sector demand remains fragile and access to finance continues to be constrained. The current plans for fiscal consolidation could therefore have a significant and lasting negative impact on the economy, including people's jobs, which would undermine the very efforts to address the UK's fiscal position."

And the data makes it clear that the economic activity has turned down sharply from the moment this government took power and started talking the economy down. Huhne even called the economy "shattered" and "bankrupt", which it clearly is not.

Consumer confidence has collapsed and unemployment has started to rise again. Most worryingly, business confidence has dropped precipitously since May. The economy is slowing.

The cutting agenda looks even more dangerous now than it did in the spring, when the economy was growing. That is why the MPC is going to have to do more QE to compensate for Osborne's incompetence.

To this point the government has ticked off the following groups:

Public sector workers
Students and school leavers
Families with children
Stay-at-home mums
The police
The armed forces
Lib Dem voters

That list is going to be added to on Wednesday.

There is a realistic alternative. Cutting payroll taxes would be a very good start, which would give firms incentives to hire. Investing in the infrastructure right now makes a lot of sense given that the government can borrow so cheaply.

The austerity package is likely to turn out to be the greatest macro-economic mistake in a century. We will fight them on the beaches. We will never surrender. That is the British way.