The Two-Edged Stimulus Britain Can’t Afford

David Cameron recognizes the folly of fiscal stimulus but the Bank of England is driving up inflation.

London, England, December 4, 2010
London, England, December 4, 2010 (Steve Harris)

Britain’s economy is on the brink of recession after barely growing in the last year and it faces acute risks from the debt crisis in the eurozone, its biggest trading partner. Critics of the ruling coalition say budget restraint is to blame for the malaise but just how much spending has been cut?

Opposition leader Ed Miliband, suddenly concerned about the deficit, urged the government to change direction “for the sake of the country” last week. “Austerity at home, collective austerity abroad is no solution to the problems of jobs, growth or the deficit,” he said. To stir job creation, the socialist urged immediate stimulus measures, including tax cuts. Imagine that.

The reality is that Britain can’t afford it. Its deficit it still as big as Greece’s while government spending accounts for half of gross domestic product. Total public-sector spending, in real terms, is almost 4 percent higher this year than it was in 2009, Labour’s final full year in power.

When the Conservatives and Liberal Democrats engaged in a coalition last year, accountants at PricewaterhouseCoopers estimated that “Britain would have to make across the board budget cuts of 5 percent a year to come close to cutting the deficit in half by 2014.” They even assumed a slight economic upturn that’s unlikely to materialize due to Britain’s high energy costs and the spiraling debt crisis in Europe.

Prime Minister David Cameron recognizes that too often, government is what’s standing in the way between entrepreneurs and wealth growth. He has vowed to fight the “enemies of enterprise” and cut regulations but one out of five Britons is still employed by his government. The top income tax rate is 50 percent and the level of government debt, though ambiguous, is eye watering.

Officially, Britain’s debt stands at roughly 62 percent of GDP or nearly £1 trillion but that doesn’t include its huge pension liabilities. When factored in, according to the Treasury, Britain’s actual debt equals 173 percent of GDP. According to independent analysis, it could be double that number.

Meanwhile, the Bank of England has been injecting some £275 billion into the economy, corresponding to nearly 20 percent of GDP, in monetary stimulus. This policy David Cameron has explicitly endorsed. He ruled out fiscal stimulus this summer, saying that no country can afford it anymore. “They have all run out of money.” So the answer is printing more of it?

The only sensible policy is for the central bank to stop the printing presses — which not only undo the very modest pay increases that Britons still enjoy but exacerbate the credit dislocations that were at the heart of the financial crisis — and for the government to start cutting red tape as well as future pension commitments to simultaneously encourage private-sector investment and shore up public-sector finances.

That’s what austerity would look like. The halfhearted “conservative” policy that Britain has now is not enough.

This article also appeared at The Cobden Centre, November 26, 2011.

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