First published in the Telegraph on 19 March 2009
In the horror movie that is the UK recession we are rapidly approaching the climax. Those early scenes when blissful ignorance turned to trepidation and then suspense are over. The ghastly face of this ordeal has emerged from the shadows.
It is one thing for economists to drone on that this will be the worst recession since the Second World War. It is another for unemployment figures to show, as they did yesterday, a bigger monthly increase than has ever been recorded. This is no simple, isolated City slowdown, no healthy adjustment of imbalances: families are being uprooted, scars are being branded on to neighbourhoods across Britain and the risk of serious social upheaval is becoming palpable.
The toll that unemployment will exert on public finances is no less terrifying. The key statistic is not that the overall jobless total has climbed past two million, but that in February alone 138,000 more people joined the million-plus claiming jobseekers’ allowance. Every time one person loses their job and signs on it costs the Government twice – once in the income tax it foregoes and once in the outlay on benefits. There is the longer-term, more nebulous cost to Britain’s competitiveness in having so many potential workers disheartened and disaffected. When you add this public finance morass to the hundreds of billions of pounds spent propping up the banking sector, it is clear that, should the Tories win the election next year, they will inherit a more parlous legacy even than that imposed on Margaret Thatcher in 1979.
The toll of the financial and economic crisis, even assuming the nationalised banks will eventually be sold back into the private sector, will be similar to that of a major war. The national debt is likely to rise from around 40 per cent of gross domestic product to closer to 100 per cent.
This is hideous but not necessarily disastrous: other countries throughout Europe have even bigger mountains of debt, which will expand at a similar pace. The big question that ought to obsess the Tories is whether the market will put up with it. Just because the prickly topic of Britain’s creditworthiness has dropped out of the headlines in the past few weeks doesn’t mean it is no longer an issue. There is a thin red line between where we are now and an IMF bail-out.
Britain’s existence as a developed economy depends on the appetite of overseas investors to buy the debt issued by the Government. An extra gush of gilts into the markets over the coming months, as the unemployment toll increases and the Treasury is forced to borrow yet more, will test that appetite. In the short term, the Bank of England has become the main buyer of these bonds through quantitative easing, but this cannot go on forever. Let’s say the economy starts to recover next year, as the Tories are taking office. At that point, not only will the Government be issuing a torrent of debt and bonds, but the Bank will also have to start selling off its own stash as it reverses the money-printing operation. Will the markets put up with it?
That depends on whether it is believed that the Conservatives will bring down an unsustainable and unhealthy budget deficit to a more realistic level. For better or worse, the Tories have failed to convince political or economic opinion-formers of their credentials, as Geoffrey Howe managed in his opposition years before becoming Chancellor.
But this distrust is easily reversed, through bold, simple, clear proposals for bringing to an end a decade of waste, overborrowing and mismanagement in the public sector. The Tories have taken an important step, proposing the creation of an independent committee to monitor government efforts to cut the deficit to a particular level. This radical proposal has not been given the attention it deserves due to the financial crisis. The Conservatives should also set a specific target to which they will reduce the size of the public sector and the tax burden in five and then 10 years. This needn’t mean a bonfire the moment they come into office. Indeed, cutting public spending is foolhardy in the teeth of the recession. But they must send an explicit message to markets and voters that they will preside over a fiercely pared-down state.
When the crisis does pass, the world will face a post-apocalyptic economic landscape. The countries that thrive, that won’t face crippling interest rates and the ever-present threat of capital strikes, will be those that dramatically cut the size of the public sector; those that prove, when it comes to public spending and borrowing, that they are good for their word – not those, like Britain under the present Government, that have become repeat offenders in pushing up deficits.
This is not a case of ideological impetus but sheer economic necessity. Some see the crisis as an affront to Conservative economic policy. On the contrary, it could be a real opportunity.