Is there any alternative?

There is a black hole, we are told. A yawning one, that needs to be filled in, oooh, around 10 days from now, or we face some unmentionable doom. Fortunately, after a brief flirtation with Rule by Crazy Libertarian, the grownups are back, prepared to take tough-but-necessary actions such as (checks notes) raise income tax and cut future public spending, during a time of persistent economic weakness.

That’s one version.

Then there is another. “Fiscal black hole” is nonsense. In the elegant words of Jo Michell, all we are talking about is the “nominal difference between an arbitrary target and an imprecise and uncertain forecast”. We have set ourselves the challenge of setting fiscal policy at the level at which a single agency (the OBR) in possession of a single model and its best guess as to the behaviour of unknowable variables will conclude that another variable (Change in Debt/GDP ratio 5 years out) is around zero. Every pound short of that level is a “hole”? Nonsense

Or, as Chris Dillow in a blog on a similar subject says

Fiscal black holes… are not objective physical facts, but are subjective economist-made artefacts. This is partly because they are products of economic forecasts and any forecast, as Carsten Jung says, “depends hugely on the assumptions for economic growth, inflation and interest rates.” But it’s also because, as Ed Conway says, “they exist only relative to particular fiscal rules.”

Change the assumptions, change the rules, and the hole might double, disappear, or even become whatever is the opposite of a hole. So stop treating it like a fact!

There are good and terrible points being made on both sides of this. My thoughts are all a-jumble so I am just going to gather what I think are the strong points on each side and try to work out where I stand. Let’s start with the hawks.

Even the moderate fiscal conservatives feel vindicated by September. Their instinct is simple and consistent: there is a line you should not cross when increasing government borrowing. They think this line is always quite close, and it comes particularly close during times of rising rates and inflation. That we don’t know just where the line lies is really frustrating for said fiscal conservatives, leading them to be accused of crying Wolf! with no sign of the wolf. But in September, Kwasi Kwarteng and Liz Truss charged right over it, crashed the gilt markets, wreaked havoc on pensions and basically handed over control to the people who lend us money. For fiscal conservatives it is obvious: September turned the theory into fact – and they find it quite ludicrous that anyone might question the need to bring order to our future finances.

How much to tighten isn’t clear – this is an art, not a science But the fiscal conservatives believe we have chosen a pretty loose rule! To give the UK a full five years merely to get debt/GDP on a downward pathway is fairly lax – particularly given the target gets easier, the higher the debt/GDP ratio. And points about uncertainty and arbitrariness are facile. Forecasts are always given with large margins for error. So what? Things might get better, but they might also get worse! All we can say is that if policy was appropriate in March, we now have far fewer resources than 8 months ago, and much more to pay for, thanks to rising energy bills and interest costs. Oh, and economic growth is much slower …

On the subject of which, “but the economy is weak” does not give the doves a get-out call. Voices expressing incredulity at the prospect of future tax rises and spending cuts in the teeth of a recession have failed to notice the difference between deflationary and inflationary conditions. In the former – as in 2008-10 – extra government spending/higher deficits may replace the nominal demand being sucked out of the economy. During inflationary 2022, with resources stretched everywhere, every extra pound of spending forces the Bank of England to tighten more. In fact, that was pretty much was Truss and Kwarteng incompetently and spectacularly demonstrated.

In the view of the fiscal conservatives, the alternative to setting out a plan to deal with future deficits is to allow the market to expect higher and higher public debt as a share of GDP, into the future. This risks a dangerous spiral, as the market comes to suspect that higher inflation might be on the cards, which means higher nominal interest rates, a higher debt interest bill, more borrowing and so on. Faith in the currency evaporates, and soon the government has lost all control.

That’s their case. I think it is entirely internally consistent, and may even work politically – the Conservatives are never happier than when insisting all parties cleave to their tight-money policies too. It shoots more Labour foxes than Tory ones. This is why …

The opponents of blackholology have a right to be suspicious Own the language, and you get to own the policy space. Even if meant in good faith, anyone insisting only a certain set of answers can be good enough is closing down the debate. Every repetition of “fiscal black hole” is drowning out alternative ideas.

The fiscal conservatives are inconsistent on the subject of uncertainty. One minute we are told that we don’t know at all where some terrifying fiscal cliff-edge might lie. Next we are expected to believe that the Kwarteng Truss GiltClusterSplat was the scientific test needed to tell us exactly where it is – for anyone – to a fine degree, binding any future government. What if all what we learned was that a particular noxious brew of institution-flouting, unaudited tax-cutting, Laffer-worshipping recklessness, at a time of scary energy prices, was perfectly timed to wreck fragile market sentiment?

In fact, the whole idea of a cliff-edge is misleading – it is far too discontinuous Economics is mostly about marginal decisions, not sharp cliff-edges. This isn’t like reaching critical mass in a nuclear explosion, or a jenga tower collapsing on itself. The gilt market is £2trn of very tradeable paper, part of an international financial system that enables constant comparison with lots of very similar paper. Sure, markets can be irrational and there can be unexploded mines like “liability driving investment” (see Toby’s explainer). But this is about shifting prices, not black-and-white, live-or-die decisions. Yes, borrowing more might raise interest rate. That is a cost. But such costs should be weighed against the benefits you might gain from borrowing.

There is something deeply sub-optimal about a government being forced into producing new tax-raising and spend-cutting plans in a rush, during a time like this. Step back for a moment, and think about what this autumn of chaos has brought us. A few months ago, we might reasonably have expected the Chancellor, going into 2023, to have to deliver bad news to the country. We are poorer, and our needs are greater, and something has to give. But no-one, anywhere, was expecting this demand for a solid plan of tax rises and spending cuts, nailed down, by mid November! Mature, well-run economies are not dragooned into behaving this way. Forcing public spending and personal taxation to be more volatile in order that the Government Borrowing pathway be less volatile – that is kinda nuts. The Government is the one that has the greater leeway to be flexible!

What do I think?

I think “fiscal black hole” is terrible language, and can indeed represent an attempt to close down debate about the choices we still face. It is part of an understandable effort on the part of the government to reframe the terrible things they need to do as an regrettable, objective fact that they stumbled upon. “We found a fiscal hole, and alas we must fill it, like a grown up”.

But my verdict is that the UK is in that hole, and opponents of the language are missing out on the imperative to be properly, justifiably furious at how we have been driven into this hole. Don’t go around denying that governments for the next 5-10 years have a helluva mess to clean up – because they do! Focus on whose fault it is!

Perhaps another government could take more of a risk with the future fiscal situation until the great uncertainties of late 2022 have cleared up somewhat. We are in volatile economic times. Gas prices, the Fed, something may change. Bond markets will calm down, and realise we are not all crazed destroyers of institutions (see my piece). Maybe it would emerge that our situation is better than we (or rather the OBR) now reckons.

But it could be much worse, too, and because of the multiple risks the government took with the economy, it may not be rational for this government to take any more risks now. Conservatives may see it this way: restore stability at the cost of worse public services, and they may face the loss of 200 seats in 2024. Repeat the gigantic screwup of this autumn, and they could lose 300, and disappearing from politics altogether. Rediscovering the tough-choices politics of 2010 is maybe the best they can hope for.

Let none of this obscure the extraordinary scale of economic failure that reaching this point represents. The UK government is acting like it is running a developing market economy in the late 1990s, the kind with an immature financial system and untrusted currency, ordered by the Washington institutions to tighten both monetary and fiscal policy at once. What a dismal position for Britain to be in.

That we are in that position is the clearest failure of economic statesmanship in the UK’s modern history. Nothing comes close. It is not just the Truss episode but everything that led up to it. Allowing public services to be run on such a shoe-string for so long (see Stephen Bush’s favourite chart here). Blithely pushing for a Brexit deal that so damaged our long-term growth. Kidding the Party that it can always ask for tax cuts and be granted them. Encouraging a Trump-lite disrespect for good economic institutions.

You may ask: what should the opposition’s policy be? I haven’t the space, but I don’t think they should deny that there is a gigantic mess to clean up. There is one. Looking at the steaming wreck of what the other side has left them to deal with, they can have confidence that the passengers would now much prefer a different driver, whatever the route.

Published by freethinkingeconomist

I'm former special adviser (Downing Street 2017-19, BIS from 2010-14), former FT leader writer and Lex Columnist, former financial dealer (?) at IG, student of economic history, PPE like the rest of them, etc, and formerly in my mid-40s. This blog has large gaps for obvious reasons. The name is dumb - the CentreForum think tank blog was called Freethink, I adapted that, we are stuck now.

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Freethinking Economist

Economic advice. No longer special.

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