More Evidence, This Time From Britain, That Conservative Economic Policy and Austerity is a Failure

Not That The Evidence Matters

As we have commented several times before on this Forum, the different approaches to the Great Recession by Britain and America can be viewed as a laboratory experiment in economics.  In America the Obama administration addressed the problem with fiscal stimulus, albeit insufficient and misguided fiscal stimulus.  In Britain the Conservative party took power and decided austerity was the solution.  Here from The Economist are the results for the U. S. Britain and some other countries.

And here is what is happening, despite British claims that the policy is working.  The graph on the left shows economic growth on an index basis, with the first quarter of 2008 equal to 100.  the graph on the right shows the components of British spending.  Canada of couorse has done the best because tight bankiing and housing regulation prevented much of the crisis that affected the U. S. and Europe.  The graph on the right with British spending shows that the private sector spending in Britain has been totally unresponsive to Conservatives and their economic policy.

The longed-for rebalancing away from such ephemeral sources of growth has not materialised. Investment is shockingly low. The biggest slice, investment by firms, is down by a colossal 34% since 2008 in real terms. Spending on machines is 33% lower, on vehicles 38% lower. Even spending on computers has fallen. The state has contributed to the imbalance. Public investment and house-building is down by 13.5% while government consumption is up 6% (see chart 2).

Ships still carry containers full of air away from Britain. Sterling has dropped by 25% in trade-weighted terms since 2007, making exports cheaper for foreigners to buy. Yet total exports are 1.5% lower and the trade deficit has hardly budged as a share of GDP. The combination of humdrum sales overseas and a slack home market helps explain why manufacturing output is down 11% in five years.

And note that the austerity has in Britain not been all that great, that government spending is actually the one area of increase.  Just imagine how bad things would have been had political pressure not prevented the Conservatives from doing what they really wanted to do and engage in massive cuts in public spending.

So why did Britain exhibit such a failure in policy if they didn’t even implement it very well.  Businesses and consumers are not stupid.  The government announced it would cut spending and cut demand. Business and consumers reacted accordingly. 

The one good news in Britain has been employment, but that has a dark side also.

Yet even if services surge, it will be years before GDP returns to its old levels. This sits awkwardly with Britain’s employment figures. Since the trough at the end of 2009, private-sector employment is up by 1.6m and is now 500,000 above its 2008 peak. Since GDP is far lower, this means British workers have become much less productive.

The fact that employment has been so strong is a tribute to Britain’s flexible labour market. As workers’ productivity fell and firms’ prospects worsened, wages were cut, capped or boosted by less than inflation. Real wages are now 9% below their peak. The slump has hit pay rather than jobs (see chart 3).

Any hope that Britain and the rest of Europe will change.  No, that would be admitting they were wrong in the first place.  Keynes was British, too bad they don’t have sense enough to listen to him.  Cutting wages is not the road to recovery, it reduces income which reduces consumption which reduces investment.  Everyone has known this for over 70 years.  Britain continues to deny reality, but denying reality does not make reality go away.