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No Policy without Theory

In a recent article in the New Statesman, Vince Cable responded to some of my arguments against austerity. The Business Secretary commended me for lifting ‘the dispiritingly low level of public debate’. A week and a bit later, Lord Mandelson, the former Business Secretary of the Brown Government criticised the current Labour Shadow Treasurer Ed Balls saying: ‘the whole argument about whether we’re cutting too far and too fast, it’s in the past. It is rather predictable party political stuff from over the dispatch box, and it is a bit tiring to the public’.

This is the typical view of a clever but un-intellectual politician. What Peter Mandelson does not realise is that any economic policy has to rest on an intellectual foundation. The only available intellectual alternative to “cutting too far and too fast” is that provided by Keynesian theory. Keynesians have no problem in explaining why so-call fiscal consolidation in the UK and the eurozone has not brought about recovery.

For Keynesians, fiscal austerity is the right policy to restrain a boom – not to cure a slump. If, in a slump, in which the private sector is trying reduce its spending, the government also tries to reduce its spending, the result will be a contraction of national income. And what is more: the government’s deficit reduction strategy will also be aborted, since the contraction of the economy results in lower government revenues. This is roughly what has happened, and is still happening, in the UK today.

In this situation the right policy of government is to increase its spending or, I would prefer to say, increase its borrowing for investment. This will cause a rise in national income, an increase in government revenues and, very soon, a reduction in the public deficit. The crucial point is that policies which make perfectly good sense when an economy is at full employment make no sense at all when there are large unemployed resources, as there are throughout Europe at present.