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The Government argue that withdrawing the fiscal stimulus too soon will risk provoking a double-dip recession. That is wrong for several reasons. The first reason is that it is an argument for never taking action. If withdrawing the supposed stimulus has a negative impact, it will do so next year, the year after or the year
after that; after all, it was several years after the recovery had begun that the double-dip recession occurred in the United States in the 1930s. That was not because action was taken in the first or second year of the recovery; the action was taken three or four years later, in 1937. Like a lot of the arguments that the Government put forward on many of their policies, it is an argument for not doing anything.
The second reason is that the stimulus effect of a deficit is grossly exaggerated. This country has a bigger deficit than almost any other comparable country in the world, yet it is the last to come out of recession, so there has not been a vast stimulative effect. Likewise, its removal will not have a vastly depressive effect.
The third reason is that the Government's argument ignores the fact that the effect on improving confidence of action to get the deficit under control far outweighs the impact of the loss of Government expenditure feeding into the economy if the fiscal contraction and consolidation take place sooner. The fourth reason is that we are dealing with a structural deficit, and the way to tackle that is to make structural changes, which takes time. If we do not start thinking them through and implementing them now, we will not get the benefits until it is too late.
So, there are sound reasons in principle for disagreeing with the Government's view that there is a great danger in starting the process of fiscal consolidation at the first possible opportunity, and there is plenty of evidence in practice. We have seen Governments do this before. This country has previously started the process of fiscal contraction before the recovery has been long established. In 1976, the Labour Government did just that-they had to, because the International Monetary Fund told them to do so. At a recent seminar in the City, players in those past crises revealed that Jim Callaghan was quite keen to do it anyway and found what the IMF said to be a useful excuse. Lord Donoughue, the head of his policy unit at the time, said that having argued internally and with the IMF about whether they could avoid taking such action, they were struck by the fact that when they did so renewed growth in the economy came much more rapidly and strongly than they had anticipated and that the effect was positive, rather than negative.
In 1981, the Conservative Government took such action. Some 364 economists wrote to The Times saying that any attempt to reduce the deficit at the bottom of the recession would turn that recession into a continuous downward spiral from which there would be no hope of recovery. Almost from the day that their letter was delivered and published in The Times , and, simultaneously, Geoffrey Howe-now Lord Howe-introduced his Budget, the economy started to recover. The effect on confidence outweighed the direct Keynesian effect.
Plenty of evidence from overseas supports what I am saying. An excellent study that I have mentioned before in this House-I have still seen no evidence to suggest that the Government have yet read it-has been produced by the European Central Bank. Its occasional paper series No. 38 "Economic reactions to public finance consolidation: a survey of the literature" is very revealing. It reveals that on many occasions the effect of reducing Government spending, and even sometimes of raising taxes, in order to produce fiscal consolidation is positive. It states:
"The issue attracted much renewed interest in the light of the experiences of fiscal consolidation in Denmark (1983-86) and
Ireland (1987-89). In spite of the severe restrictive policies pursued in the two countries during the periods concerned, their rates of growth showed significant increases on previous years."
There was also a study of some 18 OECD countries over the last 30 years of the previous century which showed a range of expansionary and contractionary episodes. The conclusion was:
"The effect of fiscal policy therefore becomes non-Keynesian"-
that is to say that a contraction of the deficit produces expansion of the economy-
"when large and persistent budgetary adjustments are implemented."
That is precisely the circumstance that we find ourselves in today. By contrast, another study mentioned in the document considered five rather similar OECD countries: Australia, Canada, Germany, the United Kingdom and the United States. It concluded that
"the effects of fiscal policy on GDP and its components"
"become substantially weaker over time"
"effects have been mostly negative".
In other words, a contraction in the deficit produces a sufficient return in confidence to produce expansion in the economy.
So, we have the evidence to know that we ought to be taking action now. The sad truth is that we have a Government who are unable and unwilling to face up to reality, who are putting their party political interest before national interest, who are using tired economic dogma against actual experience that has been studied and seen to operate on the ground, and who make easy promises before the election, leaving tough choices until afterwards.
Mr. Timms: I am listening to the right hon. Gentleman's speech with interest. He presented the handling of the 1980s recession to us as a success. He will recall, as we all do, the fact that unemployment reached 3 million in that recession. Surely there are lessons to be learned and we should not be repeating that experience.
Mr. Lilley: We should not. We started then from a very different situation, with massive over-manning in both the public and private sectors. Because of changes in the economy and in trade union law, that situation was seen to change. That happened in other countries that moved from a very socialised economy to a more liberal one, as a result of being too socialised and too syndicated in the first place-of having that mass over-manning. My point was that the contraction in the deficit produced an expansion in output of activity. That surely meant that there was less unemployment than there would otherwise have been, unless the Financial Secretary is saying that we should-well, I cannot see any alternative.
Ms Keeble:
I want to underline the point made by my right hon. Friend the Financial Secretary. Does the right hon. Gentleman not accept that in the early 1980s and early 1990s the social unrest created by the fiscal consolidation sparked riots in most of our inner cities? One of the telling things about this recession is that although we have seen such a level of unemployment
and repossessions, the country has held together-touch wood-remarkably well. There has been a sense that we are pulling together to get people through a real crisis.
Mr. Hands: Better than the Government.
Mr. Lilley: My hon. Friend on the Front Bench makes a valid point-the country might have been holding together, but the Government clearly are not. However, let me address directly the hon. Lady's serious and important point. I do not want to return to the previous speaker and to re-fight the battles of the '80s, but my point is that the Keynesians argued that that consolidation of the budget deficit would intensify the recession and they were proved wrong. That is the simple point that I want to put across. The economy, far from going into a deeper recession, began a strong and prolonged recovery. Perhaps the hon. Lady can think of other ways in which that recovery could have been made even greater and stronger, but she has not pointed out what they might be and nor has anybody else I know. I want to allow other people to take part in the debate, because I want to hear what they have to say.
How do we cut expenditure? We want to cut expenditure in ways that do not throw people out of work and that do not undermine public services. We have to recognise that we have one of the most expensive public sectors in the EU. It is heading for, and is set to reach, more than half of our GDP. Moreover, one of the biggest impacts within the sector has been the increase in the pay budget. I draw the House's attention to a study produced just a few days ago by the Centre for Economics and Business Research, which gives all the facts and figures and says that if the public sector pay bill had risen in line with the private sector pay bill over the past two years, then taxes, or borrowing, could have been £11 billion lower. One of the main agents of the growth in the deficit has been the fact that the public sector pay bill has been out of control in the past couple of years. It must be brought back under control in the interests both of controlling the deficit and of reducing the impact on jobs in the public sector. We do not want to lose a single job if we can help it, if those jobs are valid or if people can be moved to do something more useful.
We must learn to say no to new ideas-that probably applies as much to Opposition parties as to the Labour party-and we must not be in the business of adding to our spending commitments. We must also learn from the private sector the lessons of lean production and how constantly to improve the value for money that one gets from any given number of people. The way to do that is not through top-down statements that we are going to change it all through a few edicts from some great man, even though we can recruit some great experts in efficiency. Ultimately, it means doing in each Department what I started to do in my Department-the Department for Social Security-and asking people at the sharp end of the Department how they could do their job more efficiently.
It was quite difficult to get my managers to do that. They came back and told me that they had spoken to the area managers. I said, "I didn't ask you to do that. I want you to speak to the people who actually fill in income support claims, or who help to monitor invalidity benefit claims, and ask them how they could do their job better." No one had asked those staff that before,
and they came up with an enormous range of sensible ideas for improving efficiency. The target was to improve efficiency by 25 per cent.-in other words, to reduce the number of jobs by 25 per cent.-but they participated in the exercise because no one had ever asked them before how they could do their job more effectively. They knew that they were doing lots of things in very inefficient ways, and they wanted to do them better. Most people in the public sector want to do their job better and have the public interest at heart. We must do that at the micro level, through every Department, to harness the experience and expertise of the people at the sharp end of each Department.
Mr. Cash: Will my right hon. Friend give way?
Mr. Lilley: If my hon. Friend will forgive me, I am just drawing to a close.
If we do that, we can make the process of fiscal consolidation less painful than it would otherwise be. However, no one should pretend that it is not going to be painful, and no one should forget who is to blame for getting us into this crisis.
3.43 pm
Mr. Michael Meacher (Oldham, West and Royton) (Lab): What has been rather depressing about listening to the speeches of Opposition Members is how exclusively they seem to be concerned about the interests of the financial markets and how little concern they appear to have about the wider interests of the people of this country. All this is rather like a double-take of the Geoffrey Howe Budget of 1981, to which the right hon. Member for Hitchin and Harpenden (Mr. Lilley) has just referred. That Budget decimated the industrial economy and, as my right hon. Friend the Member for Holborn and St. Pancras (Frank Dobson) has said, produced a lower rate of growth over the relevant period than in the preceding period of the 1970s, which was extremely difficult because of hyper-inflation due to oil prices. It is rather tragic that minds seem to be closed to the idea that there are alternative ways of dealing with the deficit that will not be so socially destructive and that could be more effective in the long run. That is what I want to discuss.
I shall focus on one crucial aspect of the pre-Budget report, which has had a little attention today but which has not been properly faced up to: the Treasury's assumptions about growth over next year and the year after. The Chancellor's view, as he expressed it, was that the worst is over. As we all know, the contraction of 4.75 percent. in 2009 is a post-war record and borrowing this year is on course to reach a peacetime record of 12 to 13 per cent. of GDP, yet the economy is forecast to rebound by 1 to 1.5 per cent. this year, rising to 3.5 per cent. in 2011-12. That would enable the Government to achieve their target of halving the deficit within four years, without the savagery of the full cuts that the Tories are clearly planning if they were to win the election. That projected growth is absolutely crucial to the PBR strategy but where is it going to come from? That is my question.
It is true, of course, that there are some real signs of recovery. They include the unprecedentedly fast turnaround of financial markets, which some say has never happened so quickly in 300 years. The assumption is that somehow that will drag the real economy up behind it, but that
remains to be seen. Other factors are the slowing in the increase in unemployment, which is very welcome, the lower rise in home repossessions than in previous downturns, and the greater support for youth employment brought about by the Government's present expenditure of £5 billion on job placements for 18 to 24-year olds and the increase in training and apprenticeships. However, my question remains: all that is important and useful, but will it add up to a huge surge in growth to 3.5 per cent. within two years?
In the boom years before the crash in 2007, household consumption contributed 1.75 per cent. of growth each year, with business adding about another 0.25 per cent. for a total of 2 per cent. That, of course, was in the fat years but now-after the worst recession since the war, the collapse of large elements of the banking industry, a big drop in house prices, a record fall in investment and with tax rises and spending cuts being promised by all parties-the Treasury is looking to household spending contributing 2 per cent. to growth in 2011-12, and to business adding another 1 per cent. I simply ask again whether that is credible.
Unemployment is still expected to rise to 2.8 million, and family budgets remain tight. Pay cuts, pay freezes and short-shift working are still spreading across the country. I ask again: where is growth on a sufficient scale going to come from?
In my view, the essential element missing from the PBR is a major injection of demand in the public sector. The private sector will not provide that demand, because there is no prospect of profitability until there is a much more visible turnaround in the real economy. Quantitative easing even of £200 billion has not provided the necessary level of demand up to now, as the banks have used the money not to increase lending to struggling businesses but rather to consolidate their balance sheets. In any case, we understand that the Bank of England seems minded to call a halt to quantitative easing once gilt purchases hit £200 billion in February.
Moreover, the injection of demand that we need will certainly not come from private consumption because, as we all know, the level of consumer debt is not far short of the whole of GDP. So the only way to inject the necessary demand into a very weak and fragile economy is through massive public investment in job creation: not £750 billion, which was spent bailing out the banks; and not £200 billion of quantitative easing, which has been much less effective than expected. A fraction of that could be used to underpin large-scale job creation in sectors where it is desperately needed, such as house building.
There are 12,000 people in my constituency alone on the waiting list for a house, and I am sure that the situation is much the same throughout the country. House building is at its lowest ebb for 80 years, and with a recession that is an extraordinary combination. We need such investment for the restoration of our creaking infrastructure and to blaze the way for the new green and digital economy, which I think all Members agree is where the future lies.
Why do the Government not make that investment? I suspect that it is because they came into office committed, after the Thatcherite monetarist years, to a complete repudiation of Keynesian demand management. The Opposition absolutely share that view, but I had rather higher hopes for the Government. We certainly heard
that view in the speech from the Opposition Front Bencher, the hon. Member for Runnymede and Weybridge (Mr. Hammond). The story is well known, but I am embarrassed to recall that in 1997 the then Chancellor, the current Prime Minister, said that he was pursuing a regime of neo-classical endogenous growth theory. Shorn of the unfortunate terminology, it means that demand should be generated by the enhancement of supply within the economic system: from education, improvements in training, increased research and development, which is necessary, the commercialisation of science and so on. That, combined with Friedman's quantitative money theory, which was prevalent in the 1970s, certainly provided the basis for Mrs Thatcher's macro-economic policy. It is a quixotic, old-fashioned and perverse Tory theory, and regrettably-very regrettably-new Labour took it over wholesale in 1997.
The policy works fine when other vigorous, external sources of demand such as strong export demand from other countries, major technological breakthroughs or continuing private sector investment are in place to drive the economy, as they were in the boom years of 1994 to 2007. The policy works disastrously when there are no strong external sources of demand, as there were after the infamous 1981 budget, which over the next four years pushed unemployment up to 3.2 million; and as there are now, after 2008, when unemployment is still heading towards 3 million and when even the type of fiscal expansion that in 2000 countered the downturn from the dotcom collapse is not possible because of the budget deficit. If there was ever a time for Keynesian measures to restore demand in a very fragile economy, it is now.
The black hole in the PBR is not the opaqueness about where the cuts will fall, as the Opposition have repeatedly taunted, but the lack of any action to create the 500,000 to 1 million jobs that the economy desperately needs. Of course, the enormous budget deficit must come down; we all agree about that. But it is far better to do so by getting people off unemployment and housing benefits and back into work, where they start contributing to income tax, national insurance and VAT. The alternative, of rapidly making drastic cuts in public expenditure, clearly appears once again to be Conservative policy-but probably on a greater scale than any of us have yet realised. However, that could well have the opposite effect of turning a deep recession into a vicious spiral of decline, and prompt an even worse double-dip slump.
That is exactly what happened in Japan in the late 1990s, when after a lost decade the Government increased public expenditure but also increased taxes. They did that prematurely and suffered the consequences of another lost decade. It was the same when Roosevelt came to office. He was a balanced-budget man, but he saw the plight of the country and got expansion going with the new deal. By 1935, two years later, there was an improvement-an expansion-in the economy, but at that point he started to raise taxes and the United States went into a fairly serious further decline from which it did not escape until the war.
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