First published in the Telegraph on 15 May 2008
The twilight years of Labour governments are always like this: the pound in freefall, the economy sliding towards a possible recession and the public finances out of control. And the ultimate bill left in the hands of households, blameless in every respect but for their foolish decision to vote the ministers in.
We are heading for the nastiest economic storm in at least a decade and a half – far worse than anything the dot-com bust and the Asian crisis could throw at us. With luck, it won’t be as nasty as the early Nineties housing crash and recession, though there’s no guarantee. We may not face the rocketing inflation and diving economic growth of the Seventies, but at best we are suffering from stagflation-lite.
True to form, the Labour reaction has been dismal: to borrow more, to throw fiscal caution to the wind, to encourage strikes by slapping long-term pay deals on public sector workers and to hope like hell the ordure doesn’t hit the fan. It will, of course, though, with economics, these events are always in slow-motion rather than one sudden splat. That said, by any standards the spray of bad news over the past week or so has been pretty overwhelming.
First came confirmation from the Royal Institution of Chartered Surveyors and Council of Mortgage Lenders that activity in the housing market has fallen off a cliff and that the mood is even worse than in the last crash. Then the housing minister Caroline Flint unwittingly revealed her assessment that prices could drop by 10 per cent this year alone – a sign at least that economic realism has not deserted all corners of Whitehall (though with families receiving repossession orders at a rate of 300 a day, such insights are hardly inspired).
Meanwhile, at 3 per cent, inflation is a full percentage point over the Government’s target. Oil prices have hit a record high of $125 a barrel and many experts think they could reach $200. Food prices have soared so sharply that many families’ shopping bills may have jumped by a quarter in the past year. Higher prices are not a surprise, but they are a serious dilemma for the Bank of England.
Does it cut interest rates in an effort to make life more bearable for households, bringing down their mortgage bills, or leave them higher, which will keep the economy, and by extension inflation, a little weaker? The answer is the latter, or so it seems judging by Governor Mervyn King’s latest assessment of the economy. Yesterday he pooh-poohed the idea that the Bank could cut borrowing costs twice more before the end of the year. At best, he indicated, we can expect one more cut, bringing the official rate to 4.75 per cent. The message is that the next few years will be a painful but necessary medication for a sick economy. We are now facing up to the consequences of more than a decade of overspending and over-borrowing. It is not merely that we have been living beyond our means: it is that we have barely even noticed.
My scary statistic of choice here is the average family’s real disposable income – the amount left in our pockets after tax, mortgage costs and inflation are taken off. Over the past four years, this has been increasing at half the ideal rate of around two per cent, as our wages have been eroded by higher taxes and debt costs. The year before last, this measure of households’ spare cash increased at the slowest rate in a quarter of a century. Did anyone notice? Hardly, because we were borrowing even more in order to fund our extravagant lifestyles.
Over the next few years, disposable incomes will grow at an even slower rate as they are eaten up by higher living costs, but with stricken banks far more reluctant to lend, we will find it all but impossible to borrow and make up the difference.
The consequences are as unpalatable as they are inevitable. House prices will fall, and will not start to rise again for some years; we will all have to cut back significantly on our spending, with less cash in our pockets and costlier goods in the shops. Travelling abroad is already far more expensive: the pound has fallen by 12 per cent against a basket of currencies since last summer, most markedly against the euro.
People are already losing their jobs as companies find ways of cutting their costs. Official statistics showed yesterday that unemployment, which until recently looked at its most healthy since the Seventies, is on the rise. The only hope is that most of those laid off will be Eastern Europeans who will return home rather than sticking around – good news for the labour market, if not for those seeking a cheap plumber.
From all of the above you might have got the impression that the Labour Government is blameless for the economic crisis, but this is only one third true. The credit crunch may have been sparked by problems in the US housing market, but the UK is facing a nastier slowdown than most other advanced economies, and Gordon Brown is responsible.
He may get kudos for granting independence to the Bank of England in 1997, but he is guilty of not ordering it to pay more explicit attention to rising asset prices – a move which might have prevented the housing bubble.
He is guilty of taking an axe to Britain’s pensions system, leaving most households far worse equipped to face the costs of retirement.
He is guilty, in typical Labour-style, of overspending massively, leaving public finances in a worse state than almost any other major economy. Only now – too late – are we starting to see the consequences: Alistair Darling can barely afford this week’s tax cut, and will have to scrap the giveaway after a year unless he breaks his borrowing rules.
If Labour history is any guide, the rule will go out the window, and one of the Government’s last threads of economic credibility will snap. If history is any guide, we know what happens next.