Guest Essay: Frank Field MP
A Progressive Crisis
Progressive politics will take on a totally new form in the next Parliament, if not before. For over a century progressivism has been inextricably linked to a growth in government expenditure. The next Parliament, and perhaps the next two or three, will be concerned with raising taxes and cutting in real terms the size of the government budget. Even in these circumstances progressivism can rule.
The inescapable political agenda
A few simple facts. For the last forty years tax revenues have fallen between a floor of 32.4 per cent and a ceiling of 37.6 per cent of GDP. The most left wing of governments has not been able to push the tax take above this ceiling, nor have Conservative governments committed to the cutting of the size of government driven the proportion of national income taken in tax below this floor. Over the same four decades, public expenditure totals have come in between 36.3 per cent and 49.8 per cent of GDP. Here is the root cause of our current crisis.
In the good years the difference between tax revenues and total government expenditure was made up from other receipts such as the gross operating surplus. When those other receipts have not been available governments have simply resorted to borrowing. One source of our current weaknesses is that the Government has been borrowing during the periods of growth when tax revenues were buoyant. Over the last six years government borrowing has come in at over £200bn.
This level of borrowing is well down compared to its peak in 1993-4 when, coming out of recession, government borrowing topped 7.7 per cent of GDP. Yet even this figure will look modest when compared to the borrowing levels for which the government is now planning. It is already estimated that this time around the size of annual borrowing will exceed 10 per cent of GDP. Totals of £110bn and £150bn a year now drop from the mouths of ministers as though they were reading no more than a laundry list. My hunch is that these astronomical figures will prove to be underestimates.
The Government is now on a course of borrowing that is at a record post-war level in order to deal with a crisis whose root cause is in over-borrowing on a scale unknown for generations. This over-borrowing is both personal as well as public. The Government’s intention to borrow still more money will strike many people as a form of homeopathic economics – of applying more of the disease to cure the disease itself. The Government was right, I believe, to increase borrowing at the outset of the recession, but not for traditional Keynesian reasons of trying to set the level of monetary demand in the economy at the full employment level. Borrowing 10 per cent of GDP would strike most Keynesians before they recently lost their nerve as extraordinarily reckless deficit financing.
There was a case for stimulating the economy, but this case was less to do with economics than trying to capture public expectations about the course of this recession. How could government action prevent individuals and firms from believing that this downturn could become a slump and, by their behaviour, make such an outcome more unlikely? To change the course that public opinion might take, and thereby influence the actions of households and firms, any Government counter measures had to be dramatic in size as well as being well targeted. On both these criteria, of being large enough to capture public imagination, and quick enough to put the Government ahead rather than reacting to a worsening crisis, the Government strategy has failed. The Government’s weak financial position restrains the overall size of counter-cyclical measures. And from the outset, as Northern Rock began imploding, the Government’s reactions have not been anywhere near quick or decisive enough.
The progressive agenda
Progressivism, if it is to have any life over the next few decades must, firstly, bring public expenditure levels down towards the levels of revenue that can be raised from taxation. Current budget holders right across the public sector must, secondly, develop skills so that greater output can be obtained from cash limited budgets. Progressive politics will involve, thirdly, seeking new partnerships with taxpayers so that some of the main Government programmes can be taken over by taxpayers through new forms of collectivism, but at arms’ length from government. Fourthly, the Government must begin to tilt the economy away from borrowing towards saving, both for governments as well as for individuals and households. And, lastly, progressivism must try better to understand what are the mainsprings of progress in any society, how can these forces best be encouraged, and how those government actions which stifle such progress can be reined in.
The necessary plan of action has five key steps.
Step 1: Tax increases
Tax increases are now unavoidable even in the short run. The Government should seize this necessity and fashion it into an opportunity of making our tax system progressive. In times of economic decline it is more not less important to protect the poorest by developing a series of initiatives that shift any increase in the tax burden on to those who have the widest shoulders.
Central to any progressive reform programme will be a root and branch reform of our system of tax allowances – the sums that allow income to be exempt from tax. Before I became an MP I argued for a two part reform of (a) allowing non-structural tax allowances at the standard rate only so that they are of equal value to all taxpayers and not of greatest value to higher rate taxpayers and (b) beginning a process of phasing out these non-structural allowances.
This reform programme should begin by allowing pension contributions at the standard rate of tax only. This move alone is likely to raise £6bn and is a sum well in excess of the increase in tax revenue the Government estimates it will gain by raising the higher rate of tax for incomes over £150,000 to 45p in the pound.
Step 2: Cash-limiting public expenditure
Getting budgets within tax revenues will involve totally new skill sets. The task is simplest for politicians, for ‘all’ they will have to show is courage in the leadership they offer the country. It is the skills of budget holders that will over the longer term be more crucial to the success of progressive politics. How can cash-limited budgets result in improved services rather than, as they have in the past, resulting in service cuts to taxpayers?
These budget holders are the commissioners of services bought by hospitals, schools, as well as town halls. How do we get the best and most successful practice universalised? The programme will need to be driven through by a senior cabinet member and a public/private partnership task force is required to staff the minister’s department.
The market rules OK?
Political leaders of both major parties are committed in the long-term to bringing Britain’s national accounts into balance. What is lacking is any commitment to action in the short-term, and the short term is important as it is in the immediate future that the Government may be forced into such actions. The Government intends to bring the public finances into balance – but only in the long-term. Keynes once said that in the long-term we are all dead. Action now is required to prevent the dead part of the prophesy becoming true for Great Britain Limited.
Unless resolute action is set in motion now there is a serious possibility of a sterling crisis (a real achievement in itself as we have a floating exchange rate) interacting with a gilts strike of such severity that the British economy will be damaged permanently.
Practically all commentators dismiss this scenario as scaremongering. But it is important to remember it is this very same group of the commentariat that first prophesied no crisis and then, as economic reality slowly dawned upon them, went along with the Government’s grossly over-optimistic predictions of a short setback and a quick recovery. Since October it has seemed to me that the crisis would be worse in this country than elsewhere.
Sterling remains highly vulnerable. It has fallen by nearly 30 per cent since January 2007. The gilts market is already reacting to the beginnings of the biggest ever flotation of government debt since World War Two. I believe the latest prediction from Morgan Stanley (reported in the FT on January 29, 2009), that the flotation of the Government’s record-breaking debt will have no effect on the gilt market is simply naïve. Let us leave aside Morgan Stanley’s own track record as a bank in the lead up to the present crisis. Let us look to much more certain sources for our information, and particularly to what the market has been saying. In the ten days up to February 4 interest rates on gilts have risen by over 50 base points and the offloading of Government debt is still to commence in earnest. Steeply rising gilt interest rates will push up long term interest rates in the economy and cut at the very roots of economic recovery.
Further, the Government’s estimates of the size of its debt are simply wrong. I argued, soon after the publication of the Pre-Budget Report, that its predictions for unemployment levels for the end of 2010 will, appallingly, be breached by the middle of this year.1 Surging unemployment totals alone will push up government spending further whilst simultaneously reducing tax revenues.
All these negative factors in the market are in play and make counter action urgent.
Step 3: National financial recovery strategy
There are two compelling reasons why a national financial recovery plan must be launched now. The earlier the measures are taken to bring the Government’s budget into balance the less severe will be the remedial measures. More importantly, though, the Government must prevent the financial markets forcing it to act by calling a gilt strike. A national financial recovery plan must be made up of four inter-linking parts.
Move one is for the Government to rule out the possibility of simply buying its own gilts – the ‘smart’ move being advocated by many of the very same people who landed us in this crisis. The Bank of England has nowhere near met its inflation target and I don’t buy all this talk about deflation in the medium term, inflation will be back to haunt us. The fires of inflation must not now be fed needlessly by printing money. Stoking the fires of inflation for tomorrow’s world will set back even further the chance of recovery beginning sometime in the next Parliament.
Move two entails the Bank of England ceasing to cut interest rates. The bank rate lever is no longer connected to the real economy. Lowering interest rates has not increased the amount of credit, or cut the cost of credit to firms. Instead of thrashing around and throwing money at the banks the Government should now target taxpayers’ help. Part of the planned borrowing should be used for the Bank of England to buy company debt. In this way the liquidity of firms will be directly increased. Further, now that the country possesses three nationalised banks, the Bank of England, Northern Rock and Bradford and Bingley, the Government should channel credit to firms directly through these organisations if the other banks fail to provide adequate levels of working capital to viable firms that would otherwise go under.
Move three entails the Government scrapping its regulatory system and giving the Bank of England sole charge in regulating the banking system. Had not the Financial Services and Markets Act 2000 taken this authority away from Bank, dividing it amongst three bodies, it is difficult to believe that we would have been facing the current severity of the downturn. The Bank should again be charged immediately to re-establish a division between the high street or retail banks, with their own deposit rules, and the merchant bank class who may wish to specialise in greater risk taking.
Move four may prove the most contentious. The Government should begin discussions with the other major political parties on implementing now a programme to increase taxation and cash limit public expenditure. That programme needs to be announced in the next Budget, it must initially entail the outline plans for the next decade, and the all-party negotiations must be serious and pursued until this plan is agreed across the parties. For the reasons I have outlined here failure to forge a voluntary agreement to secure our country’s longer-term prosperity increases the likelihood of the market imposing these conditions, and for these conditions to be agreed and accepted not during careful negotiations, but in the panic conditions of a financial turmoil the like of which we have not experienced since 1931.
Step 4: Returning part of Government programmes to the people while encouraging savings
Step four begins to enact a longer term policy for returning to civil society parts of the Government’s programme. Longer term reforms must be pursued simultaneously with the other parts of this action plan if the financial markets are to be reassured to a degree that they continue to buy record levels of Government debt. How can a large part of public expenditure be returned to taxpayers, either as individuals, or in new collective non-state organisations? Pensions are a huge part of the state’s budget and will grow over time due to an increasing proportion of the population over retirement age. Yet the universal pension is woefully inadequate and as a consequence the means-test pensioner budget will explode. How is it possible to get taxpayers to take back greater responsibility for their old age?
The Pension Reform Group (PRG) has submitted proposals to Gordon Brown and David Cameron. The idea is to build up a funded scheme, i.e. increase savings, to run alongside the current tax base pay as you go pension. The aim is within four decades to lift all pensioners off means-tested welfare and thereby save it running at an annual rate of £15bn. The scheme is redistributionary as the poor are subsidised by better off workers. But all of us get a guaranteed minimum pension which the vast majority of us cannot buy in the private market. Individuals know that other savings, over and above their contributions to this scheme, are kept intact. This universal protected pension thereby rewards savings rather than the Government’s means tested pension credit approach, which deals out penalties on any savings pensioners hold.
The PRG proposals therefore increase savings in two distinct ways. First, as has just been noted, individuals are not penalised by loss of means tested help if they save. And because the scheme covers everyone, including those too poor to make contributions, those individuals know that once they have been helped, or have sprung themselves out of poverty, any savings they are able to make, even if for only short periods of time, will be kept in full and not clawed back. The message is clear: saving pays dividends.
Second, the Universal Protected Pension (UPP) provides a mechanism for the whole of society to save for retirement. A funded scheme is fundamentally different from the current national insurance pay as you go scheme whereby today’s contributions are not invested, but are paid out to meet today’s pension bill. This pay as you go activity needs to continue, but to be accompanied by a funded scheme which is built alongside it. Over time the funded scheme becomes an ever more important determinant of the total level of scheme-members’ income.
The macro-level of the nation’s savings might not necessarily be increased by the size of the contributions made to the new scheme. Some contributions may be offset against other savings. But where compulsory contributory savings schemes for pensions have been introduced, as in Australia, society’s overall level of savings has increased.
There is one further advantage in the PRG’s reforms over and above taking one large section of the Government’s budget and planning for this expenditure to be met in other ways. The PRG has set out fairly detailed proposals on the governance of the UPP. A key requirement here is that the ownership of the scheme will be in the hands of an organisation owned by the membership and set at arms length from the Government. Civil society would thereby be strengthened and enforced mass state dependency for pensioners phased out. This proposal takes the development of the progressive agenda onto a new and most challenging stage.
Step 5: Encouraging the mainstreams of social advance
Here is progressivism’s biggest challenge. For over a hundred years, particularly over the last fifty or more, citizens have been directed to feed on the nipple of state socialism, to use Correlli Barnett’s evocative phrase. This feeding process has all too often stifled enterprise and personal initiative. This was not always so. A century ago Britain was characterised as a country strongly based in delivering its public services (though they were not usually thought of in such terms) through civil society – in particular mutual societies, friendly societies and trade unions. Few observers then thought that a century later Britain would be characterised by one of the most centrally directed deliverers of community services.
Decentralising decision making and ownership, and the delivery of services by individuals and local associations, is important in its own right as part of the next step of progressivism. But re-localising common services is valuable in a more important sense. This environment is most likely to nurture those values of social entrepreneurialism and social responsibility that are crucial to social advance.
At this stage politicians need to declare how they see social advance being achieved. While of course there is always a role for macro-initiatives, I believe that more secure social advance is achieved if the basic impulses in human beings, to do good and, likewise, to wish to improve the conditions of their families and friends, are enhanced rather than restricted.
Here the debate turns back to the steps described in the previous section. There has been a slow build up of means tested assistance during the post war years. That rate of growth accelerated under the Thatcher and Major Governments, but has escalated under Gordon Brown. Because means tests all too often penalise personal initiative and the taking of personal responsibility for oneself and ones family’s well being, they have a cruel paradoxical effect. Means tested assistance initially helps the recipient by increasing their income. But that immediate help extracts a heavy price in that it carries sanctions against any recipient who tries to improve their income and livelihood. Means tests are the most important single obstacle to allowing the natural mainsprings of social advance to operate.
The country is in grave peril. Centre Left progressives can decide merely to watch from the sidelines on how the structural budget deficit is dealt with. Or it can forge a new progressivism based on tax increases and cash limited public sector delivering improved services. This new progressivism will require politicians developing new abilities to work across parties. It will also require politicians at the centre retreating from those activities they are not that good in carrying through. Much social advance is achieved by politicians giving range to the individual’s impulse to do good and to look after their family and immediate friends. They must learn when to step back.
Frank Field is Labour MP for Birkenhead and former Minister for Welfare Reform. His blog is at www.frankfield.co.uk.
A shortened version of this essay appears today in The Independent.
1. Box B1, p. 188, Pre Budget Report, HM Treasury, November 2008.