First, something amusing:
OK, break’s over. Come, muse, let us sing of Balls! I cannot agree too strongly with Mehdi Hasan when he says that sacking Shadow Chancellor Ed Balls would be madness. Ed Balls is one of a tiny number of people close enough to the Euro-Atlantic policy elite to matter who is not completely wrong about every issue of importance at the moment. Better, he is also in the tinier subset of this group who are trying to win politically, rather than writing letters to the editor or, yes, blogging.
But What About The Crisis?
The first key point in the anti-Balls case is that he bears some special responsibility for the financial crisis of 2007. In so far as anyone articulates this in detail, the idea is that he argued for Bank of England independence in 1997 and the transfer of its regulatory mission to the Financial Services Authority, and the corollary is that the FSA “failed” and that the crisis is all down to that.
The problem here is that the financial crisis was not just a problem of bank regulation in the usual meaning of the term. The financial product that did most of the damage was a bog standard mortgage. There was, as Dean Baker would say, a housing bubble! The number of Balls critics who believe that the UK should have, say, imposed quotas on mortgage lending, massively increased property taxes, changed its exchange rate policy to reduce the inflow of capital, or restricted the growth of the property-lending activities of the City in some other way is vanishingly tiny. In fact, many of the loudest anti-Balls voices, often the very same individuals, spent the mid-2000s yelling that stamp duty was too high and this-or-that Labour initiative was “a menace to property prices” or “a risk to our financial services industry”.
Most of these policies, further, were simply politically impossible in the UK in 2002, say. It is just about thinkable that Gordon Brown might have been convinced that the property boom was getting out of hand. But it is absolutely unbelievable that Tony Blair, the most electoral of prime ministers, would ever have consented to restraining the bubble that was making his key support base so rich. Really.
Of Course, Nobody Else Had Anything To Do With It, Not Me Sir
If letting the Bank of England be an independent central bank with a monetary-policy-only mandate was such a crazy notion, surely its Governor must have had something to say about it? And the broader economics profession? Well, the latter can be dealt with quickly. It’s a broken reed, but I remember 1997 and they lapped it up to a man, and they were still doing so in 2007.
But here’s the Financial Times‘s Chris Giles, profiling Mervyn King, who turns out to be an authoritarian workplace bully who was determined to have nothing to do with bank regulation and to make the Bank’s remaining responsibilities in that line a Siberia assignment for people who fell out with him. I discussed this with two Bank employees who at various times worked for him and worked in bank regulation and they approved every last word.
And the notion of the independent, monetary-policy-only central bank? Well, here’s Brad DeLong on just what a massively hegemonic chunk of global conventional wisdom it was.
But, But, But! What About the Broader UK Economy?
Didn’t the UK go into the crisis with its government debt already spiralling out of control? This is a point which is supported by Iraq-style Very Serious People of all parties and none. As such, it is of course nonsense, but it is nonsense that must be repeatedly cleaned up. Rust never sleeps, so here I am on the middle watch down at frame 73K with the intellectual angle grinder. The UK government net debt did not increase as a percentage of GDP between the .com boom/crash and the great financial crisis.
Here’s a chart of the annual surplus/deficit:
Here’s one of the stock of debt:
Further, the UK government’s debt in 2012-as-forecast broke down as follows: 47% the impact of the crisis, including 4% discretionary stimulus, 37% existing stock, and 16% for the “structural deficit” up to 2010. One lesson from the UK post-2010 is that the structural deficit is whatever you say it is, being deeply assumptions-dependent. But either way, 47 is lots more than 16.
(Source: Lib Dem economist Giles Wilkes and the IMF)
This is important, because it is literally impossible to get to a sane economic policy from pretending that the national debt hurtled upwards in 2005 and the economic event of 2007-2008 was a massive sell-off in government bonds. Similarly, you couldn’t get a sane foreign policy in 2005 from pretending that things in Iraq would be OK in a couple of Friedman units or perhaps a Chote.
But, But, But, But! Wasn’t It All An Illusory Consumer Binge?
The answer is no. As John van Reenen and others at the LSE pointed out (monster PDF), Labour productivity in the UK grew at an annualised rate of 2.8% from 1997 to 2010, even counting in the crisis. Productivity growth in the UK was better than France or Germany and as good as the United States during the so-called productivity miracle. About 0.4% of this was accounted for by finance, and the definition of the metric excludes changes in the value of real estate.
In fact, if there was a problem, a large part of it was that the growth in productivity didn’t make it into wages and therefore didn’t get near the consumer economy. Ex-housing, consumption didn’t grow faster than productivity.
Correct Actions on the Stall Warning
Also, the UK’s policy response to the crisis was, it now becomes blindingly obvious, a huge success. Here’s the flight-data recorder tape that shows the real economy hitting the crisis, and importantly, when:
The blue line, on the left-scale, is unemployment, the green line, also on the left-scale, is youth unemployment, and the red line on the right scale is the employment-population ratio. Watch it plunge in 2008! I use this metric because it was precisely what David Blanchflower was watching that year on the Bank of England’s monetary policy committee, while he repeatedly argued for interest rate cuts and Mervyn King thought everything would be cool in a Friedman unit or two.
In the winter of 2008, Gordon Brown, Alistair Darling, and Ed Balls reacted correctly to the stall warning – they dealt with the banks, allowed the automatic stabilisers to kick in, let the pound devalue, got King to act, and also chucked in a (relatively small) fiscal stimulus. Darling and Brown also did something else which is undervalued in all this, which is that they changed the composition of public expenditure as well as its quantity, by bringing forward capital investment and especially construction projects.
The economy was growing again by the end of 2009, and strongly. It was creating jobs. The public finances were improving, and repeatedly surprised on the upside. Too much recent British politics is explained by the fact that the forecasts of 2009-2010 were based on the horrible month of December, 2008, the depths of the recession and structurally usually a weak month for UK tax receipts.
And now, well:
It’s snowing; I presume that’s going to be the explanation for something in due course.
The Man Who Was Wrong vs AF447 Economics
Ed Balls was wrong to think the British economy of the mid-2000s was fine. As we have seen, there was plenty to be said for it. However, there were serious problems, notably the housing bubble, the dangerously big banks, and problems of regional and class inequality. But at least Balls believes that he was wrong. The continent of Europe is crawling with economists who know they are right.
This is where the Iraq-style Very Serious Person phenomenon kicks in. The best way of spotting a VSP is to look for the man whose policy advice never changes in substance from the average of other VSPs, whatever has happened in the false world of reality. So we have people like ex-Labour spin doctor Hopi Sen.
I’ve repeatedly crossed swords with him on precisely this issue, and here I go again. Back in 2010 he believed Labour shouldn’t risk disagreeing with George Osborne on economic policy, and certainly shouldn’t let Ed Balls near it, because Osborne was right and Balls had spent all the money before the crisis. Later, he believed Labour shouldn’t risk disagreeing with Osborne because there was a chance it might turn out OK in a Chote or two and that would be tactically embarrassing. Now, he argues that the OBR’s forecasts are so menacing that Labour shouldn’t risk disagreeing with Osborne’s policy because there is no alternative.
Of course, the OBR’s forecasts are based precisely on the continuation of current policy. Further, the OBR’s forecasts have repeatedly turned out to be worthless, but that is a secondary issue. The key point here is that the VSP never wavers from the elite consensus in terms of the final net-net output, whatever the input. (It will surprise no-one that he was wrong about Iraq.)
The upshot is what I called AF447 economics; the crew of Air France flight 447 were a highly specialised group of experts, respected and trusted by society, who blew it so comprehensively it took years to gather enough evidence to prove that they blew it and the aeroplane was entirely functional at the moment of hitting the sea.
Specifically, they failed to diagnose the original problem, and the worse things got, the more they clung to their original failure to diagnose it, which led them to make everything worse. We will never know what they were thinking as they kept the stick fully back all the way down in a stable stall, but I think it is a fair guess that they had a lot of arguments why they were right and it was going to work any second now.
Very serious people, if you will.