Clegg calls for Coalition to “shift up a gear” on the economy

Nick Clegg has said the Coalition Government’s economic policy needs to “shift up a gear”, following news yesterday that the UK economy shrank by 0.3% in the first three months of the year, down on the initial estimate from the Office for National Statistics (ONS) showing a contraction of 0.2%. Here’s Nick speaking on BBC2’s Newsnight last night:

It’s interesting to see Nick Clegg — rather than the Chancellor — taking such a prominent role in fronting the Coalition’s response to the UK’s current economic troubles. He was also quoted in the Financial Times on Wednesday signalling ‘a shift from lurid warnings by ministers about the debt crisis to a fresh emphasis on growth’.

His critics may say he’s simply acting as the lightning rod for the Tories, and that he’d be better to let George Osborne take the heat. But it’s clear that Nick believes the economic argument is one he should not shy away from, and that he is probably better placed than the Lib Dems’ coalition partners are to emphasise the need for more than just open-ended austerity as the remedy to the economy’s ills.

This new, and more subtle, note of Coalition differentiation was highlighted by Gavin Kelly in the New Statesman this week:

To date, the rules of exchange for the Coalition have been clear: the parties can differentiate on all manner of issues but when it comes to overall macroeconomic and fiscal policy they have to be seamless. It’s the glue that binds. True, Clegg emphasised that the new edict for the Treasury was agreed by Cameron, so it would be wrong to overstate this, but any perception of disagreement between the coalition parties on core economic strategy would be poison for them. … Politically, the coalition urgently needs to work out exactly how it wants to evolve its economic narrative in the light of shifting events and then stick firmly to this script. And it might be a good idea if the Chancellor led the way.

* Stephen was Editor (and Co-Editor) of Liberal Democrat Voice from 2007 to 2015, and writes at The Collected Stephen Tall.

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14 Comments

  • Bill le Breton 25th May '12 - 9:20am

    In his speech yesterday the leader said, ““Fiscal action across the EU must be supported by responsive monetary policy – with central banks prepared to intervene aggressively to support demand.”

    If this is what is required in Europe, why is it not what is required in the UK? UK monetary policy is tightening by the day in response to inflation concerns caused by supply side shocks, the effects of which should be ignored by the Monetary Policy Committee.

    This tightening of monetary policy is what is keeping the lid on the UK economy. It is as simple as that.

    (It maybe that this is also what Clegg is referring too concerning Europe. If so, it is even more inexplicable that he is not using his power and position to demand in his words ‘responsive’ in mine looser monetary policy.

    There has been a focus this week on the fall in real output in the first quarter of this year, but there is worse news, the latest figures for money (or nominal) GDP (or aggregate demand) in the first quarter of this year came in at the annualized rate of 0.2%. It used to average 5%.

    In response to a shift leftwards of the short run aggregate supply curve, the Bank’s policy of inactivity is causing the aggregate demand curve to shift to the left too.

    Result, lower output, lower demand, lower confidence, higher unemployment, lower taxes, larger deficit, more life chances destroyed, fewer opportunities.

    That is the scale of the disaster unfolding in front of our eyes and, as the IMF has said, this is leading to the permanent destruction of capacity. Permanently reducing long term aggregate supply.

    It’s just a pity the leader didn’t give his speech from a soap box outside the Bank of England.

    Moving up a gear should begin with sacking the Governor and sacking the MPC. Give power and responsibility for monetary policy back to elected, accountable politicians, changing the inflation target and emphasising the need for monetary policy to address aggregate demand and employment by whatever means it takes.

  • Daniel Henry 25th May '12 - 1:18pm

    Yes!
    Finally we’re talking about the need to address the lack of demand in the economy!

  • Alex Sabine 25th May '12 - 5:20pm

    What the GDP figures do not show is public spending cuts driving us into recession. Indeed, general government final consumption expenditure rose by 1.6% in real terms in 2012 Q1, while gross fixed capital formation (which includes both business and government investment) fell by only 0.3%.

    Comparisons with the US always miss the fact that the automatic fiscal stabilisers are much stronger in European countries, with their larger welfare states. In America a discretionary stimulus is required to achieve the same effect. In 2010 – under ‘Keynesian’ Obama – the US federal government cut its total spending by 2.9% due to the withdrawal of some stimulus measures, a much greater fall than the total reduction in real-terms spending which the coalition has undertaken to date. (Admittedly, US federal spending ticked up again in 2011, but only slightly. The cumulative tightening on the spending side is still higher in the US than the UK.)

    Bill: It might indeed be that the best way forward is to replace an inflation target with a target for stable growth in nominal GDP, as advocated by market monetarists – although I am sceptical that reliance on any single lodestar will ensure economic stability.

    What would not be wise is a return to the post-war system of demand management, which focused on ‘real demand’ (GDP at constant prices) and the pursuit of full (or, in official jargon, ‘high and stable’) employment.

    This made the crucial error of believing that real things, such as output and employment, could be affected permanently by financial manipulation, whereas in fact all that governments and central banks can hope to regulate directly by demand management are flows of money.

    The postwar focus on real GDP and employment targets meant that, when injections of demand failed to deliver the expected boost to output and employment, the standard reaction of governments in the 1960s and 1970s was to step up the dose. They thought they were boosting output and employment, when in fact they were simply boosting money GDP, with the main effects on the price component.

    So with each new stimulus, a greater proportion was dissipated in higher inflation and ever less fed through into higher output and employment. Over the 1974-79 period, the rise in nominal GDP of nearly 130% was reflected almost entirely in higher prices rather than real output growth. This occurred both because of the puncturing of ‘money illusion’ (higher inflation was anticipated so companies and unions factored that in to their prices and wage bargaining) and because other, non-monetary forces were reducing growth rates and increasing unemployment.

    Now, I agree the situation today is quite different. As you point out, GDP is more or less flat in money terms and is forecast to grow at historically slow rates in the coming years. Inflation has been persistently above target, and has been biting into living standards and eroding consumers’ spending power since 2010. But it is now falling substantially and – with the huge expansion in the Bank of England’s balance sheet offset by the contraction of commercial bank lending, and wage growth still very restrained – there is no imminent danger of runaway inflation.

    In these circumstances trying to boost nominal GDP (through further QE, credit easing or whatever) makes sense. But, in contrast to orthodox Keynesianism, there should be no question of injecting unlimited amounts of spending power in the pursuit of a previously set target for output and employment.

    The more limited, and appropriate, aim is to reduce large deviations from underlying trend levels of unemployment and prevent the trend level itself being raised by persistent high unemployment (so-called ‘hysteresis’). Reducing this trend unemployment is a task not for demand management but for supply-side policies aimed at improving the functioning of the labour market.

  • Alex, you have I am sure, carried out an impeccable analysis from your economic standpoint. However, I am sure there are other views of the 60s and 70s. We should perhaps remember that some of the Goldsmith – Walker etc ideas of the early 70s pushed the economy towards the skewed and frail plant that it now is and the politics towards Thatcherism, and what is now called neoliberalism.

  • Alex Sabine 26th May '12 - 1:22am

    Tim13 – I assume you are taking your cue from the (very interesting) Michael Cockerell programme that was on the Beeb the other night, The Lost World of the Seventies, which featured Sir James Goldsmith and Sir Walter Walker, two rather paranoid cranks.

    I’m not aware that Sir Walter Walker was noted for his contribution to economic policy, while Jimmy Goldsmith – despite being the very archetype of a rootless, cosmopolitan tycoon – was a vocal critic of global trade liberalisation, but very much from the wilderness. His economic nationalism found few echoes in British politics outside the left of the Labour party (whose Alternative Economic Strategy was based on import controls and, ultimately, a siege economy).

    Anyway, neither of these characters had anything to do with British macroeconomic policy as it was carried out by the Keynesian establishment in both main parties and the Treasury in the 1960s and ’70s. It was the collapse of this orthodoxy amid 25% inflation, industrial militancy and currency crises that shifted the intellectual and political climate in the second half of the ’70s.

    The lesson I was suggesting we draw from that was that prioritising growth over inflation presents a false trade-off and will ultimately be self-defeating (for the reasons explained by Jim Callaghan to the Labour Party conference in 1976), whereas targeting a stable growth rate of nominal GDP is a more promising approach because of the built-in safeguards against either a collapse in demand or runaway inflation.

  • Bill le Breton 26th May '12 - 6:48am

    Prior to the introduction of the last dose of QE, the Bank of England’s estimate for inflation it was going to undershoot its target of 2%. Following that dose of QE future inflation is projected to be close to its target.

    That is why, at its last meeting, the Monetary Policy Committee of the Bank of England kept monetary policy as it was – no change in interest rates and no more QE.

    The Bank’s calculations factor in Government spending plans. Thus with the path of inflation ‘on target’ any fiscal stimulation will trigger Bank of England monetary tightening to offset the inflationary effects of the fiscal stimulus. UNLESS that target is changed.

    Let us look again at the key quote from the leader’s speech, “Fiscal action across the EU must be supported by responsive monetary policy – with central banks prepared to intervene aggressively to support demand.”

    Note he uses the term ‘fiscal action’ and not (@Henry) ‘fiscal stimulus’. In fact, if he is not advocating a change in the inflation target (of the Bank of England and the European Central Bank), the only way of providing the room for ‘aggressive intervention by central banks to support demand’ is for increased fiscal retrenchment. New and deeper cuts or higher taxes.

    It could be that he is just plain confused and that he was calling for both monetary and fiscal stimulus. If so, someone needs to tell him that in Spring this year he renewed the Bank of England’s target regime.

    Of course we don’t expect the leader to be an expert in economics, but we hope that he is properly advised and has the judgment to accept good advice.

    Perhaps one of them would tell us here at the Party’s most immediate forum, what the Party’s economic policy is – what the leader meant by that sentence – given that according to official figures there are 1,000,000 UK citizens out of work who do not wish to be, need not be and should not be.

  • Actually, Alex, your assumption is incorrect on the Goldsmith Walker issue – I didn’t realise that programme had been on! (I might have watched it) My understanding derives from a series of 3 programmes broadcast several years ago on the evolution of modern day laissez faire capitalism, and early attempts to push it in the direction it has gone.

    In terms of my general view – and I don’t pretend to be an economist, although I suppose I have a basic knowledge of the concepts involved – I think the most important issue pushing crisis (if it is such) now, is the same issue as in the 70s, ie commodity prices driven by high demand / scarce resource. The problem, IMO, with GDP growth as a solution, therefore, is that as measured at present, it will intensify one of the major drivers. I think this time around, unlike in the 70s, when we found a way out, is that peak production without serious social and ecological damage is being neared, and an easy way out is unavailable. We must therefore see what needs changing about our economic and business models in order to “save ourselves from ourselves”. So, in that scenario, the first thing to do is to ensure there is a very wide understanding of the problem in those terms, leading to product development with much longer life spans, more emphasis on repair and maintenance, a concentration on materials which can cause less damage to the environment, a return to greater equality across the world. Another key damaging agent to society and habitat across the world is armed conflict, and in a world of increasingly scarce, and highly priced natural resources, we need to ensure we collectively reduce the sources of such conflict.

    I am unsure whether your nominal GDP is a concept which is compatible with the style of thinking I have described – if it starts to lead in a more promising direction, bring it on. But we do need new and different indicators for our macroeconomics (and probably at micro level too), and an understanding that we have to work together to develop a world where we can live sustainably.

  • Incidentally, Alex, my view on the 60s and 70s, which is hopefully self explanatory, is that the economic analysis applied by laissez faire supporters was deeply flawed, and has led us much more seriously off track since.

  • There’s not a lot you can learn from the 60s or 70s. This recession has been caused by economic polociess closer to the early part of the 20Th century. The result of deregulation and supply side thinking is a false sense of money. The truth is that borrowing increased because wages no longer really cover economies based on home ownership and in some cases the general cost of living. Tax credits were introduced because wages were too low. Also during the Thatcher and Major years interest rates were high and unemployment barely shifted from the three million mark. IMO the trickle down effect only happened in the form of increased borrowing. The point is that a county with some very rich people is not the same thing as a rich country.. The last 30 years has seen a reduction in living standards, the entrenchment of money going to money, the loss of egalitarian ideals of progress , stagnation and collapse. Plus the idea that you can have permanent growth is dubious.

  • Alex Sabine 26th May '12 - 2:49pm

    I specifically acknowledged that there wasn’t a parallel between the 1960s/70s and now. But if we are talking about a new framework and remit for monetary policy that stands a chance of being durable, it needs to be robust against all the possible dangers, the more traditional one of inflation as well as the current one of debt-deflation. Failure to build in anti-inflationary safeguards into a new framework would simply spark bond market panic and capital flight.

  • “To date, the rules of exchange for the Coalition have been clear: the parties can differentiate on all manner of issues but when it comes to overall macroeconomic and fiscal policy they have to be seamless. It’s the glue that binds. True, Clegg emphasised that the new edict for the Treasury was agreed by Cameron, so it would be wrong to overstate this, but any perception of disagreement between the coalition parties on core economic strategy would be poison for them. … Politically, the coalition urgently needs to work out exactly how it wants to evolve its economic narrative in the light of shifting events and then stick firmly to this script. And it might be a good idea if the Chancellor led the way.”

    The above quote seems to go to the heart of the matter. There are clear differences of nuance, if not approach, to the manner in which Vince Cable and Nick Clegg address economic policy issues vis a vis Cameron/Osborne. Libdem ministers have focused far more on stimulus efforts and the need to address structural imbalances than conservative ministers who have emphasised low interest rates and structural deficit management as the key elements of economic recovery.

    The economic problems of the 1970’s were the culmination of a long period of decline in the relative competitiveness of British industry versus its principal industrialised competitors. The devaluation of 1967 and successive post-war attempts at fiscal stimulus could not arrest this decline and induced inflation followed by rising unemployment. The oil price shock of 1973 brought these issues to a head. A collapse in the commercial property market was followed by a double-dip recession that ultimately led to a run on sterling and the IMF bailout of 1976.

    Revenues from North sea oil since the 1980’s, industrial relations reforms, the growth of financial services and exponential growth in debt accumulation have seen us through in recent decades. With the rise of major new competitors in China and elsewhere, we confront once again the challenges of how to pay our way in an increasingly globalised and competitive world.

    Whether temporary stimulus measures will be effective now in kick-starting the economy without generating inflation is dependent on the extent of the output gap that exists. There is strong evidence that there are very substantial idle resources in terms of both manpower and plant and equipment in the construction industry. A targeted stimulus focused on public and private house-building could well pay for itself and assist in deficit reduction.

    The development and construction of economic infrastructure is an essential element of maintaining and improving our economic competitiveness. It would be short-sighted and counter-productive to delay such infrastructure development on the grounds of deficit reduction, particularly when it is just as lkely that the deficit will increase as a consequence of lack of growth in the economy.

    Monetary policy should maintain the principle of sound money by supporting and contributing to the medium and long term fiscal plans of the government. It seems likely that nominal GDP targeting is a more appropriate measure than inflation targeting in this respect.

  • I think it would be great if the Government did more to make business loans more accessible to the small time businessperson! There are plenty of empty businesses where I live – Good Luck to Mr. Clegg!!

  • Alex Sabine 27th May '12 - 4:03am

    Agree with most of what you say there Joe. A couple of additional points:

    – The quite extraordinary money supply growth and credit expansion of the ‘Barber boom’, and the reckless public spending binge of the outgoing Tory government in 1973 and incoming Labour government in 1974, were major aggravating factors in the mid-1970s crisis, on top of the long-term relative decline and terrible industrial relations. It all added up to a much worse outcome for the UK than other open trading economies like Germany, which accepted that it could not reflate its way out of the crisis, and ended up taking a smaller hit to living standards as well as experiencing nothing like the UK level of inflation.

    – As you rightly point out: “Whether temporary stimulus measures will be effective now in kick-starting the economy without generating inflation is dependent on the extent of the output gap that exists.

    Intuitively, it seems obvious that there is a large amount of spare capacity in the economy, but perhaps this is too complacent a view of the supply shock dealt by the crisis. Economists from Barclays Capital assessed the output gap in some detail in their contribution to last year’s IFS Green Budget. Partly based on the pattern of inflation over the past few years – and allowing for ‘cost-push’ pressures like higher food and commodity prices – they judged that “there is compelling evidence to suggest that a model with a small output gap does a somewhat better job at explaining recent events, in the CPI space, than one which incorporates a big one.”

    http://www.ifs.org.uk/budgets/gb2011/gb2011.pdf
    (pp 25-31)

    The OBR has since shifted towards their view, by revising down their estimates of potential GDP and therefore the output gap, and correspondingly revising up the structural component of the fiscal deficit. Of course the problem with policy-making based on cyclically adjusted indices and estimates of the output gap is that we won’t have a clear picture for years to come! Perhaps the OBR is simply extrapolating lower potential GDP ‘backwards’ from lower actual GDP, which could indicate a degree of circularity.

    But there is at least a real possibility both that the supply shock from the crisis was greater than was perceived at the time, and that there will also be ongoing effects in the form of lower potential GDP growth. For example, there may be a downward trend in capacity utilisation reflecting a shift in the role of financing, with companies choosing to maintain bigger buffers against fluctuations in demand by operating at less than full potential (based on an expectation that the cost of finance will turn out to be permanently higher post-crisis). Barclays Capital didn’t actually assume this for the purposes of their central estimate, but still reckoned potential GDP growth would be only 1.75% per annum in the years to come.

  • Bill le Breton 27th May '12 - 8:59am

    Alex and Joe, the forces behind wage push inflation are much, much lower than they were in the ‘70s. The fear of a spiral is more emotional than logical.

    Therefore, rather than be spooked by the unknown size of the output gap, why not add the *monetary* stimulus now – change to expected NGDP target with a catch up element until we return to the long term trend – and, if there are signs of ingrained inflation (not oil, other commodities, tax, or exchange rate shocks), rein in the stimulus by the means available to the Bank of England?

    That is how we shall determine the actual size of the gap – by reaching for its limit and touching it.

    This is best done under the direction of the Quad and not the Bank’s MPC. They would have the flexibility, the responsibility and the accountability + they would have the unrestrained ability to communicate ‘the plan’ and thus to influence expectations.

    Central Bankers do not like to conduct themselves in such clear terms, but clear terms are what are needed if confidence and expectations are to be reversed. But it is the function of political leadership.

    Also, you both point to the dire state of the UK economy in the 1970s and the double dip recession. Yet elsewhere it is exactly the generation that entered the (non existent) jobs market and decline standards of living of those years who are now said to have had an easy time. We didn’t and we were frightened and we were very pessimistic about the future, but we were wrong.

    That is why I think all this nonsense about us entering a period of much lower growth is exactly that. It is borne out of the present woes. Good political leadership can move us forward. That requires change to monetary policy accompanied by a narrative of why that change is taking place and what it will lead to.

    We still need to know what the economic policy of the Liberal Democrat leadership is. Clegg made seems less clear in Germany because of his confusion over suggesting more aggressive monetary policy without changing the ‘instructions under which the monetary agent, the Bank, is operating.

    Who advises Clegg on economic policy? Does anyone know?

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