The Governor of the Bank of England and Tory back benchers join Boris Johnson to reject the A-word – Austerity

Andrew Bailey, Governor of the Bank of England 

Because of Covid 19,“ the UK is facing a mega recession” warns the Institute of Fiscal  Studies. It’s hardly a surprise to learn more every day about the dire state of yet another part of the economy.

GDP is forecast to slump by 25-30 per cent this quarter, and millions of jobs could be destroyed – with no guarantees about the recovery.  

Official figures yesterday showed a 5.8 per cent fall in March alone – even though the lockdown was only fully in force for a week of that month.

The government’s Office for Budget Responsibility watchdog is due to update its own grim estimates later. The IFS said it expects ‘the recession to end all recessions.

As governments deliberately ran down the economy in response to the plague, what they do now to start firing it up again is more important than ever. In response to a leaked Treasury report recommending tax rises and spending cuts, the pro Tory Times and Daily Telegraph have united to warn the Government off returning to austerity. It’s more than possible that the paper was leaked to provoke such a response. If so, it worked.

The opponents of austerity have a friend in court. The new Governor of the independent Bank of England Andrew Bailey has told ITV ‘s Robert Peston that the Bank is prepared to buy the billions of debt for repayment well into the great blue yonder.  Bailey reckons the UK can get away with avoiding massive and immediate  debt repayments. The effect on the value of the pound would be limited as most of the rest of the world which desperately needs to revive international trade, is the same boat.

Bailey told Peston that one of the main purposes of the Bank buying £200bn of government debt – and probably more over the course of the Covid-19 crisis – is to “spread the cost of this thing to society” and help the government avoid a return to austerity.

Peston asked Bailey if the government would have to return to austerity and make spending cuts because of the hundreds of billions of debts being accumulated by the Treasury through its many schemes to limit the harm to our prosperity of the coronavirus epidemic.

“We can help to spread, over time, the cost of this thing to society, and that to me is important. We have choices there and we need to exercise those choices”.

It is very unusual for a central bank governor like Bailey to disclose that it is purchasing the debts of the government to – in effect – bail out the government in a borrowing and spending crisis.

From the Times lead

Boris Johnson has been warned by senior Conservatives that he risks “entrenching” the impact of the coronavirus crisis if he raises taxes or cuts spending.

An internal Treasury document said that the pandemic would cost the exchequer almost £300 billion this year and could require income-tax rises, a two-year public pay freeze and an end to the triple lock on state pensions.

One cabinet minister said that such an approach risked jeopardising growth and suggested that the additional borrowing should instead be treated like a wartime debt and repaid over decades. “It is completely the wrong approach; it would entrench the downturn,” the minister said. “We should be looking at policies that open up the economy — we will need fiscal stimulus. Taxes need to be lower rather than higher.”

The Treasury document set out a proposed “policy package” of tax rises and spending cuts and forecasts that Britain would have a £337 billion budget deficit this year, against £55 billion in the March budget. It suggested that tax rises and spending cuts that would raise up to £30 billion may be needed to help to fund the increased level of debt.

Official figures showed yesterday that the economy contracted by the fastest rate on record in March, with forecasters suggesting that GDP could fall by up to 30 per cent in the second quarter. Paul Johnson, head of the Institute for Fiscal Studies, warned that Britain was facing a “mega-recession”.

 

Ambrose Evans Pritchard of the Daily Telegraph has gone ultra Keynesian

There is a special place in Purgatory for Her Majesty’s Treasury. It came close to subversion during the Brexit drama. Its Covid-19 blueprint for fiscal retrenchment borders on macroeconomic insanity. The 10-page ‘policy package’ leaked to the Telegraph – hopefully for the purpose of discrediting it – is a sure-fire formula for structural damage and an economic depression. 

“It is crazy. We should be cutting taxes to support the economy as we slowly come out of this,” said one prominent central banker.  “The idea that we need significant spending cuts or tax rises is completely wrong. The debt will take care of itself.”

Everybody has been hit by the same economic shock and everybody is throwing away the rule-book.  The US is majestically splashing €4 trillion of fiscal stimulus – current and planned – and the Federal Reserve is mopping up T-bills and up junk bonds on the open market. Have the bond vigilantes recoiled at this insolent heresy? Has the dollar crashed? Of course not.

“Austerity destroys productive capacity. It lowers future growth and lowers the future tax-take, so it’s counterproductive for public finances. You need to grow your way out of debt,” said Carsten Jung from the Institute for Public Policy Research.

The key point is that when you have plenty of slack – a big ‘output gap’ – the fiscal multiplier on public investment and infrastructure is extremely high. The borrowing pays for itself by turbo-charging GDP. It is an accelerant. It lowers the debt ratio over time (ceteris paribus). 

Recent scholarship suggests that the multiplier is even higher than previously supposed – often nearer 3.0 – in a becalmed global economy. The Treasury got this wrong. It continues to get it wrong.

The Covid-19 shock is a strange sort of recession. The ‘costs’ are partly a statistical illusion. Fiscal money is flowing from part of the economy to another part but it is not being destroyed. Nothing is destroyed as long as firms and households are kept whole.

Some argue that once we go much beyond eight weeks of closure the damage starts to metastasise. We are nearing that threshold. It explains the immense pressure to reopen the economy and damn the torpedoes. This is understandable but let us not lose our heads.

All it takes to whittle down the debt ratio is to restore the trend path of nominal GDP and let organic growth do its magic. Nothing else is needed. The whole notion that we cannot afford to overcome this crisis without draconian consolidation is dangerous bun