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- Herausgeber: Biteback Publishing
- Kategorie: Fachliteratur
- Sprache: Englisch
How did the UK transition from being the world's workshop to having the dependent, service-driven economy of today, prone to severe negative shocks and daunting economic challenges? In an urgent reality check that will embarrass politicians from all parties, hugely experienced economists Vicky Pryce and Andy Ross track the forces that have shaped the UK economy since the Industrial Revolution. Drawing on extensive front-line policy experience, they tackle complex issues such as the reaction to globalisation and the legacy of deindustrialisation; the responses to Brexit, Covid and the war in Ukraine; the impacts of climate change, inequality and immigration; and whether the lack of investment and low growth of recent years were, in fact, inevitable. Rather than placating populist sentiments with false promises, politicians must now be honest with the public about the difficult road ahead. After all, there will be no sudden economic reset. Advocating pragmatic solutions over political dogma, Mismanaged Decline proves that good economics heeds no ideology. At a time of rising geopolitical uncertainty, this balanced, non-partisan account offers a blueprint for a stronger, fairer and more resilient economy.
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Contents
Preface
MismanagedDeclineoffers an overview of the UK’s economy from the Industrial Revolution to the present. We distil the lessons to be learned from the myriad forces that have shaped the UK economy, offering a comprehensive assessment of what UK governments can and can’t achieve through policy. Drawing on extensive policy experience, we study both inexorable global forces and our many home-grown errors. The book does not always make for reassuring reading, as our message is often grave: unlike so many of our politicians, we explain why there are no magic solutions, why there will be no sudden economic ‘reset’ and why that only makes what we must do now all the more urgent.
The book tackles the reaction to globalisation and the trend to deindustrialisation, both of which have left a significant legacy, including on public finances. We consider the UK’s place in today’s much changed world order, while examining our ability to shape the structure of the economy and achieve sustainable growth in a post-Brexit, post-Covid, tariff-ridden environment, now also substantially altered by the wider impact of the war in Ukraine, AI and climate change. All this makes attempts at containing welfare spending, tackling inequality, managing immigration, strengthening skills and ensuring the regulatory environment serves us well vimuch more difficult to achieve. And in such an environment, policy mistakes have a larger and longer negative impact. In this context, we question whether the lack of investment and the low growth and productivity of recent decades were all inevitable or if different courses of action could have helped. Evidence and analysis, based on solid scrutiny of the data, have become crucial for the road ahead.
In Part I, we look at the implications for policy arising from the UK’s emergence as the first industrial nation, through deindustrialisation and globalisation to our largely service-based economy today. We consider the global events that have shaped our current economic standing, before running through a sequence of shocks that have troubled recent governments. Understanding the past, we argue, makes it easier to understand what needs to be done now.
In Part II, we look at the major economic issues facing the current government, informed by economic theory and real-world examples. We consider GDP, environmental imperatives, productivity, immigration and inequality, among other things.
In the third and final part, we look to the future, detailing our recommendations on what must be done to improve the UK’s economic performance. We argue that painful trade-offs will have to be made in the pursuit of economic growth, despite what some (at times deliberately) disingenuous politicians may tell us.
PART I
HOW WE GOT HEREviii
Chapter 1
From Top Dog to Lap Dog
The performance of the UK’s economy, and how we manage it, is vital to so much more than our material standard of living: it affects our wellbeing, drives much of our politics and shapes our society. It also largely determines our international status. The UK is still a relatively rich country, but our economy will not self-correct excessive inequality or automatically raise living standards, nor will it support public services on a sustainable basis based on current projections, even with record levels of tax.
Left to itself, a laissez-faire capitalist system does not automatically achieve these things. In truth, much of the private sector is dependent on government actions. The government can act in a number of important ways, including through the procurement of goods and services, such as from the pharmaceutical sector for the NHS or from specialist defence companies to meet military and security needs. They can use legislation, including regulations on banks to limit excessive risk-taking. They can control profits using windfalls and other sector-specific taxes, or use labour market rules and safety legislation, including setting the minimum wage and imposing non-discrimination rules or controlling salaries in the public sector. They can control prices, such as those for household energy since the war in Ukraine, or make trade and investment 2agreements with other countries/regions which can have a profound impact on sectors by altering the terms of trade and thereby affecting competitiveness. Immigration policy can alter labour and skills availability while also putting extra pressures on demand for social services. Competition rules can have an impact on market dynamics, while planning regulations can affect much of the housing and infrastructure sectors.
All these things, and many more, give governments considerable leverage to do ‘good’ if such controls are properly exercised. The list can go on and on, giving the government a lot of power – and with it, much responsibility. No country, of course, is either completely state-controlled or entirely capitalistic. But the first trick is knowing when to interfere or tweak what is already there and then, how. Of course, potential market failures have to be considered, as well as the value for money of each decision made. Where regulation and deregulation are concerned, proper impact assessments will be needed and unintended consequences and indirect and secondary longer-term effects will need to be considered.
Such things are, of course, bread and butter for economists. But, in the real world, there’s a need to properly assess how to balance the public and private to achieve the best results, which is by no means easy in itself. No desk-based analyst can tell you what the trick is. Trial and error, learning from (and admitting) mistakes and listening to advice are all key. Even if all this is done to perfection, the question remains: how can one possibly build enough resilience to withstand the international winds of change in an environment now increasingly dominated by two superpowers, the US and China? Add to this the emergence of new, harder-to-control digital currencies, the growth of financial technology (‘fintech’) and non-banking financial institutions, the abandonment of the old 3world trade order and capital flows that can be reversed at the touch of a button, and it becomes clear that the UK’s room for manoeuvre has become increasingly constrained.
In the meantime, of course, the underlying issues that plague most countries must be tackled while balancing the population’s expectations of improving living standards. But politicians are reluctant to admit that painful economic trade-offs will have to be made. This is especially true as populations age and the effects of climate change and AI on jobs come up against attempts to contain fiscal imbalances and ballooning debt. Instead, our leaders procrastinate in the hope that the economy picks up and stays up of its own volition. It won’t – not within this parliament or, most likely, the next.
Further deregulation, particularly of financial services, won’t work, as the list of unintended consequences is a mile long and the fallout from the financial crisis of 2008/09 lingers in the form of lower growth and productivity. There is a case to be made for easier planning laws to allow for more houses and infrastructure – both of which this country sorely needs – but laxer rules won’t do it, certainly not by themselves, as the UK’s record for implementation of any major project remains particularly poor. Brexit, despite promises by politicians, has not done it either.
Sadly, no party has magic solutions, as we discovered post-Brexit, and ‘magic money trees’ don’t exist. On the other hand, governments can certainly make things worse, even unintentionally. But the bullet will have to be bitten soon if our economic decline is to be halted and, if possible, reversed. This requires a good comprehension of what has and hasn’t worked before, of what has changed and why. To understand the UK economy in our rapidly changing world, we need to properly understand its past. Economies are shaped by their histories, their evolving political structures and, 4crucially, their interactions with other economies and cultures. In the jargon it’s called being ‘path dependent’: past choices and decisions dictate the path of the present.
* * *
We shall start this story with the Industrial Revolution, which we can safely say began in Britain and gave rise to the modern world. There is no precise date for when it started, other than that this revolution in both production and consumption is generally said to have found its momentum during the eighteenth century. Economic growth then was not considerably greater than the UK has since experienced, though it is still rightly called a ‘revolution’ as that increase in growth was sufficient to transform billions of human lives, helped by greater connectivity and expansion of trade and movement of people between countries and regions. After millennia of subsistence living for all but the wealthiest elites, the average citizen in the developed world today is materially rich beyond the wildest imaginings of those living in previous millennia. With our modern medicine, energy and clean water, plus a cornucopia of foods and myriad forms of entertainment, most of us in richer countries have a better and healthier standard of living than even those exulted emperors and monarchs of history and certainly better than the three-quarters of a billion people in the world still scraping a living or dying in absolute poverty.
From about the beginning of the eighteenth century, the transformation of production, as it spread out from the UK and then across the world, broke free from Malthusian constraints on living standards, producing a veritable ‘hockey stick’ upward kink in the historical graph of living standards when measured in centuries. 5This revolution gave Britain a head-start in becoming the world’s richest country. Adam Smith, who wrote the first ‘textbook’ of economics, The Wealth of Nations (1776), saw that a new epoch was arising but also reasoned that there would be new epochs in the future (an observation that is roundly ignored by contemporary free marketeers). For reasons we’ll explain throughout this book, we are, perhaps, seeing the beginnings of a new epoch now. As economic power tends to beget military power, for over a hundred years Britain was the world’s undoubted superpower, peaking in pre-eminence in the nineteenth century when Britannia truly ruled the waves and Victoria was not only the Queen but the ‘Empress of India’, sitting at the head of the largest empire the world has ever seen.
Britain’s military dominance rested on an economy that was hailed as the ‘workshop of the world’ because of an early lead in manufacturing. Despite a shock defeat in the American War of Independence in 1783, Britain’s relative military might enabled it to conquer poorer nations and capture colonies. It was an empire that at its peak included almost a quarter of both the world’s population and land area; commanding such a vast portion of the globe gave Britain a sense of its own towering superiority that remained until the mid-twentieth century. Many concerns about that period are surfacing now, but at the time the British came to regard the existence of the empire as God’s will, a belief summed up by Cecil Rhodes’s maxim, ‘I contend that we are the finest race in the world and that the more of the world we inhabit the better it is for the human race’ – a maxim enforced towards the end of empire by the Maxim gun.
AFTER EMPIRE
During its long age of empire, Britain’s economy came to rely 6heavily on its captive resources and markets, despite the claims of free trade. By the second half of the twentieth century, that order had well and truly crumbled and debts soared as the remains of empire became a liability rather than an asset; these debts were dramatically increased by two costly and bloody world wars. As late as the late nineteenth century, the UK was arguably still the number-one superpower, but other countries had been rapidly industrialising. Perhaps earlier, but certainly after two punishing world wars, it was clear that Britain had been comprehensively overtaken by the world’s new superpower, the United States of America. It was a painful reality for a nation so long used to being the top dog. Despite clinging to the trappings of empire and repeating jingoistic themes, leaders were forced to adjust to Britian’s relative decline as a superpower. Any uncertainty regarding such a decline was removed by the humiliating reality check of the Suez crisis, when the US under President Dwight D. Eisenhower effectively told Britain to ‘mind its place’ in the new world order.
Despite this, many ordinary citizens clung to patriotic delusions of grandeur and of British superiority. This romantic memory mixed with bigotry was so brilliantly parodied in the ’60s and ’70s by Johnny Speight with his comical creation Alf Garnett in the TV series Till Death Us Do Part. Even if the irony of Alf was lost on many of his fans, who relished him as a working-class hero of ‘patriotic white supremacy’, by the 1950s it had become clear to UK governments and informed observers that Britain’s past as a superpower was just that: the past.
Fortunately, perhaps, the British Empire and economy had needed to develop sophisticated financial and commercial services to support its global trade and industry, and so during the second half of the twentieth century, as its manufacturing was replaced by 7imported manufactured products, Britain’s role as a financier and provider of services became increasingly important as its primary source of wealth. Despite Winston Churchill’s expressed wish to ‘see finance less proud and industry more content’, the percentage of the workforce in manufacturing dropped from around 40 per cent at the turn of the twentieth century to less than 10 per cent by 2020. By contrast, services employed less than 40 per cent of workers in 1900 but now account for over 80 per cent.
Such deep structural shifts in the economy are often driven by global changes in the competitiveness of nations, and they are not easily reversed by government policies even though they have profound social and economic impacts. They drive changes in employment patterns, entrench regional disparities, deepen feelings of prosperity and create resentment. The north of England, for example, had relied on textiles and heavy industry such as shipbuilding; the Midlands had engineering, particularly automotive production; Scotland had heavy industry and shipbuilding; and Wales had coal mining and steel. These activities had sustained their regional economies and infrastructure for many decades and inculcated strong local identities and attitudes.
THATCHER AND THE END OF ‘BUTSKELLISM’
John Maynard Keynes is still a giant in ‘macroeconomics’: the study of how the economy as a whole works – and, sometimes, doesn’t. Keynes (it rhymes with ‘brains’) ignited an intellectual revolution in the way economists thought about the properties of capitalism and hence the role and responsibilities of governments. His most celebrated work was The General Theory of Employment, Interest and Money, usually abbreviated to just the General Theory. The General Theory’s message that governments had a direct responsibility for 8protecting the populace from the vagaries of capitalism fitted well with the sociopolitical solidarity that had arisen as a result of the Great Depression of the interwar years and the horrors of two world wars.
This post-war consensus, born from much misery, came to be called ‘Butskellism’, combining the surnames of two Chancellors of the Exchequer: Hugh Gaitskell (Labour, 1950–51) and Rab Butler (Conservative, 1951–55). The name arose during the 1950s to describe the prevailing consensus between the two main parties, who largely agreed on using Keynesian economics to manage the macro economy, keeping unemployment low and providing a ‘cradle to grave’ welfare state to relieve poverty and mitigate inequality. They also agreed that there should be a mixed economy of private enterprise and nationalised industries. It was a one nation inclusive approach to economic policy and social issues. For a long time this ‘Golden Age of Keynesianism’ – mixed in with a dose of socialism – seemed to work: from the 1950s to 1965 the populace enjoyed an increase of around 40 per cent in their living standards, although growth was a rather stop-and-go affair. Harold Macmillan, the Conservative Prime Minister from 1957 to 1963, captured the mood of many with his boast, ‘You’ve never had it so good.’
Rising living standards made falling behind other comparable economies more palatable for proud Brits. The UK’s growth was considerably outpaced by competitors: France by 50 per cent, Germany 250 per cent and Japan 400 per cent over the same decade. This was compounded by the rapid deindustrialisation of much of the UK during the ’70s and ’80s, which saw the loss of millions of manufacturing and extractive jobs and brought unemployment, poverty and long-term decline to whole regions. The bitter resentment and loss of self-esteem this engendered was captured by the 9popular ’80s TV series Boys from the Blackstuff, written by Alan Bleasdale. Set in Liverpool, the series depicted the deep resentments, desperation and strain on mental health brought about by unemployment, poverty and regional decline, summarised in the central character’s constant plea for work: ‘Gizza job – I can do that!’
This loss of ‘traditional’ industrial jobs was a result of numerous factors: global competition, technological change, poor industrial relations and, as the unemployment rate tripled, the deliberate economic policies of the Thatcher government from 1979. The experience of ‘stagflation’, the decline of traditional regional industries and poor industrial relations – particularly during the ‘Winter of Discontent’ of disruptive strikes under the Labour Prime Minister, James Callaghan – had given the political momentum to the Conservative Party for the general election of 1979. The first woman to be Prime Minister won a decisive victory that began some eighteen years of Conservative government. Under Margaret Thatcher’s premiership, the Conservative Party, though not all Conservative MPs, broke with one nation Conservatives (whom Thatcher described as ‘wets’).
Mrs Thatcher viewed a mixed economy with its large state as simply ‘backdoor socialism’, an attitude epitomised by perhaps her most famous remark that ‘there is no such thing as society’ – though many of her admirers insist the quote has been widely misunderstood. To counter the greatly increased inflation of the 1970s – but against the advice of the strongly Keynesian stance of almost all economists of the day – her government embarked on a decidedly non-Keynesian ‘monetarist experiment’ (discussed further in Chapter 3), combined with high interest rates and financial deregulation, which clearly favoured finance over industry (despite Thatcher’s proclaimed adoration for Churchill). Financial 10deregulation allowed increased competition, innovation and hence growth in the banking and financial sectors, but with an increase in risky loans and, in effect, bets. ‘Reaganomics’, named after Thatcher’s contemporary and friend, US President Ronald Reagan, also pursued a policy shift to the right.
Many economists believe that such deregulation also allows for long ‘Minsky cycles’ of credit expansion that inevitably end in painful ‘corrections’ when the extent of the expansion is revealed, perhaps decades later, as discussed in Chapter 3. The fear is that this build-up of apparent wealth is merely ‘funny money’ and not grounded in real income-producing assets. The growth of finance, and the discovery of North Sea oil, likely prevented the value of the pound sterling decreasing as much as it would have done otherwise, but that didn’t help UK manufacturing to remain competitive. To be fair to Thatcher, as we have seen, the process of deindustrialisation had started before she had become Prime Minister and would accelerate under the administrations of both Tony Blair and Gordon Brown. During her premiership, the high interest rates – implemented to restrain monetary expansion and combat inflation – also depressed the economy; this, combined with North Sea oil, kept the exchange rate up. The tragic result of reduced spending and high interest rates was a sharp increase in job losses, leaving a legacy of greatly increased unemployment. Sadly, instead of North Sea oil revenues being used to set up a sovereign wealth fund, it was largely squandered on welfare payments for the unfortunate victims of widespread economic decline – a decline accelerated by the Margaret Thatcher/Keith Joseph ideological ‘monetarist experiment’.
Not surprisingly, the break with the post-war mixed economy consensus – which in effect abandoned whole regions to industrial 11decline and eschewed the Keynesian principle that it is a prime responsibility of government to keep unemployment at low levels – was bitterly resented by many. Thatcher’s supporters, on the other hand, saw her as an ‘Iron Lady’, a radical political giant taking on left-wing vested interests who were challenging the democratic will with their industrial unrest. She was hailed as a modern-day Boudica, resolute in making tough decisions to steer the UK away from post-war decline, and on towards a bright new future. Most notably, in a bitter and protracted dispute, she defeated the powerful miners’ union that had all but destroyed the previous Conservative government led by Edward Heath.
Under Thatcher, London and the south-east benefitted from global trade, heavy deregulation and investment in infrastructure, while leaving the deindustrialised regions stuck in vicious circles of high unemployment, poverty, poor health, de-skilling and social discontent, with underperforming schools and shorter life expectancies. Inequality soared, though that was largely the result of the top incomes pulling away from the pack. Meanwhile, as Oliver Bullough has described in his book Butler to the World, too few questions were asked about the propriety and origins of the money flowing into the UK finance sector. The hedonistic excess of financial deregulation was perfectly captured by Gordon Gekko’s ‘Greed is good’ speech in the 1987 film Wall Street. By contrast, the desperation of the ‘left behind’ UK workless was portrayed in the popular bittersweet 1997 comedy The Full Monty, where unemployed men feel compelled by their desperation and humiliation to organise and perform a local strip show for money, in an attempt to restore some self-respect.
This regional disparity remains very much alive. Today, London is home to only an eighth of the UK’s population, but it alone 12accounts for almost a quarter of the UK’s GDP (or gross domestic product, the nation’s aggregate level of output, discussed at length in Chapter 6) and together with the south-east, for well over a third of total UK GDP. For better or worse, the whole of Britain is now deeply reliant on the economic success of London and the south-east, although large cities such as Edinburgh and Manchester have their significant part to play. The forces behind these regional differences also persist today: in terms of job creation, London has experienced a relative boom since 1997, with 54 per cent more jobs, while the north-east and west Midlands created fewer than 10 per cent more jobs, despite a population growth in some regions of almost 20 per cent. Deindustrialisation, of course, continues to be a powerful factor behind these entrenched regional disparities.
This pattern of contrasting regional fortunes, together with tax cuts for higher earners, deregulation and reductions in social welfare spending, all led to a very sharp increase in inequality during the Thatcher government, and that substantial increase remains to this day, with the top 1 per cent having pulled even further away from the mass of the population. The much-vaunted ‘levelling up’ initiative was never going to seriously dent this historically embedded and globally charged inequality. It’s hard enough to turn a tanker, let alone the direction of a country, a fact that Donald Trump will be finding out to his country’s, and the rest of the world’s, cost.
THE GREAT MODERATION
Increased income and regional inequality became structurally embedded and were not reversed to a significant extent under the subsequent Labour governments of Tony Blair and Gordon Brown (1997–2010). Nevertheless, from 1993 to 2007, consecutive Conservative and Labour governments enjoyed a more stable period 13for the economy that came to be known as the ‘Great Moderation’. This period saw low inflation, high employment and steady growth, earning it the nickname ‘NICE’ as an acronym for ‘no-inflation continuous expansion’ (discussed further in Chapter 3). With further deregulation and increased innovation, financial services grew substantially and the City of London remained a global financial hub; retail businesses enjoyed growth fuelled by rising disposable incomes and consumer confidence, as well as from their own impressive increases in productivity; the construction sector boomed because of low interest rates, financial deregulation and rising incomes; the technical sector grew rapidly with heady advances in IT and telecommunications. These concurrent booms fostered the attendant growth of professional services such as consulting, legal work and accounting. Although the Great Moderation had set in under Conservative Ken Clarke’s chancellorship, it was Gordon Brown who presided over most of it as Chancellor, from 1997 to 2007, leading him to proudly, if recklessly, proclaim that New Labour had ‘ended economic cycles of boom and bust’. Cue much rejoicing and hubris among economists who felt that their profession was, for once, riding high in public opinion.
Financial deregulation, both in the UK and the US, allowed for great innovation in ‘exotic’ financial services and instruments, often complex and little understood even within finance. This fostered a massive increase in private debts, often arising due to fancy things like ‘derivatives’ – which are really just bets. Although Gordon Brown did add more to government debt than he should have done, it was the private sector debt overhang caused by ‘debts and bets’ that caused the Great Financial Crisis of 2007/08, and hence the Great Recession from 2008; it certainly wasn’t the level of UK government debt as was so widely and gleefully blamed in the media. Put 14simply, the crisis wasn’t caused by too much government spending, or, as the comedian Alexei Sayle pithily put it, because of ‘too many libraries in Wolverhampton’.
THE GREAT FINANCIAL CRISIS
The impact of the Great Financial Crisis and the resulting deep recession on government dept was huge, due mainly to the consequent decrease in tax revenue as GDP contracted (see Chapter 3 for more detail). This sharp increase in the ‘national debt’ was used by the Conservative Chancellor George Osborne to justify dramatic public spending cuts, with rather daft memes such as Labour having ‘maxed out the government’s credit card’. Osborne made ‘getting the debt down’ his top priority, though it can be cogently argued that his policies in fact made it harder to reduce government debt. They certainly slowed subsequent growth – as the then newly created fiscal watchdog, the Office for Budget Responsibility (OBR), felt bound to report at the time – and weakened the UK’s capacity for longer-term growth. Given the impact of the Great Recession on tax revenues, some longer-term fiscal realignment was always going to be necessary, but to cut spending while the economy was still so weak went against the advice of most economists.
The authors of this book, having both worked at the centre of government at the time, acknowledge that there was indeed ‘no money left’ in the Treasury’s coffers once the emergency was over. It’s also true that everything that could possibly be done was thrown into the economy to support it during the crisis at huge cost; this included nationalising the Royal Bank of Scotland. And it exposed the perils of too much dependence on the contribution of the financial sector to the UK’s productivity, much of which proved to be an illusion. But it also revealed the dangers of lax regulation at a time 15of rising financial interconnectivity, meaning controlling events in other jurisdictions could have serious indirect, and sometimes direct, consequences back home. The global financial system was in peril with another recession looming. Without decent public infrastructure, business investment is discouraged, which contributes to low growth. The Eurozone went into an even more severe existential crisis due to mistaken over-tightening and the UK itself is still keenly feeling the impact a decade or more later.
Even the fiscally conservative then Permanent Secretary to the Treasury, Lord Macpherson, seems to have conceded that, with hindsight, the Treasury should have borrowed more when interest rates were low, in order to foster higher investment in public infrastructure and education. Not that it didn’t borrow – in fact, as a result of the need to sustain the economy and prop up the financial system, the size of public sector debt trebled between 2010 and 2019. But while the cost of servicing the debt fell significantly as bond yields were slashed and the Bank of England cut the central bank rate to nearly zero, the benefit of extra spending was not seen across the population as a whole. Little went into supporting or rebuilding infrastructure, which has held the economy back ever since.
Low growth and austerity heightened the social resentment of those who felt left behind, particularly in the regions that had already experienced relative weakness as traditional industries went into long-term decline. This discontent has shaped populist political developments ever since and can be blamed for the ‘slow economic puncture’ of Brexit (of which, more in Chapter 5). Largely against their own interests, the regions hit hardest by deindustrialisation voted overwhelmingly to leave the EU.
In 2019, incoming Prime Minister Boris Johnson attempted to counter this resentment and to boost overall growth with his 16‘levelling up’ policy. Despite gallant efforts by some outstanding officials and the former chief economist of the Bank of England, Andy Haldane, such policies lacked the resources to significantly reverse the UK’s regional disparities. Funding for regions across England had suffered since the abolition of the regional development agencies in 2011 by the Conservative/Liberal Democrat coalition (bodies like the non-partisan think tank Centre for Cities argue that the cost of reducing disparities has increased since). More recent developments such as Covid, the war in Ukraine and US tariffs haven’t helped. Regions outside London and the south-east are, in general, more dependent on manufacturing exports, which have been hit by persistently higher business electricity costs than competitors elsewhere. The disturbances during Covid and the supply chain issues that ensued also affected shipping costs and general access to essential inputs. With world trade and ‘globalisation’ slowing down, this poses a big and costly problem for the regions, and for the whole economy, to overcome.
All of this risks the perpetuation of a ‘doom loop’ for poorer regions, as young people choose to leave for better opportunities in richer cities (although we saw some movement out of London during Covid, this seems to have been reversed in recent years). As the local workforce dwindles, so the local authority’s funds are reduced, placing further strain on the local authority’s already stretched debts and making regional disparity worse, so more people leave. This kind of loop is already prominent in some other countries including Italy, Japan and South Korea.
It is not even clear that attempts to focus on regions are necessarily good for overall economic performance as, in a global world, it is perhaps cities rather than countries that now compete with one other. Indeed, studies show that it is the fact that government, 17regulators and the entire ecosystem of lawyers, asset management, stock exchanges and commodity exchanges, as well as accountants, actuaries and hedge funds, are all centred in London that supports the city’s standing as the globe’s number two financial centre after New York. Despite this, Labour’s latest spending review, industrial strategy and defence industrial strategy – all produced within a few weeks of each other in mid-2025 – have a strong ‘place’ dimension in relation to public funding and encouragement of the private investment behind it. But the cost may prove too high.
The problem was that, overall, wealth appeared to be increasing rapidly during the Great Moderation, meaning a buoyant financial sector and so more tax revenues for the Treasury. Perhaps because of this, few people in government paid the issue of burgeoning private debt much heed. Unfortunately, the UK’s academic macroeconomists had largely taken their eye off the financial ball, preferring to immerse themselves in highly abstract models which overlooked the importance of the finance sector and, too often, bore scant relation to the real world. Some practice-oriented economists did call out warnings of impending financial crisis, but perhaps there were just too many stakeholders in important places who were enjoying the political success of a buoyant economy (not to mention significant bonuses). Or perhaps it was simple complacency as things seemed to be going so well. To be fair, identifying an asset bubble isn’t overly straightforward, as asset values depend on a future that cannot be known with any certainty. That said, it’s widely known that unless private debt is in the longer term ‘justified’ by being anchored to real returns from assets, then eventually the bubble will burst. And burst it did, dramatically and globally, in 2007.
During the financial crisis, a substantial proportion of the UK’s apparent wealth was exposed as a complex network of ‘debts and 18bets’, rather than being based on real income-generating assets. And so, inevitably, this financial house of cards came tumbling down. It works a lot like this: Peter owes Paul who owes Mary who owes Osama who owes Simon who owes Khaleda. If Peter defaults, then Paul can’t pay Mary who can’t pay Osama who can’t pay Simon who can’t pay Khaleda. Now, replace these names with financial institutions and the scale of the problem rapidly becomes huge due to such extensive financial ‘contagion’. The problem for anyone trying to predict when the bubble will burst is that, until the defaults begin, the balance sheets can look healthy, as the liability of debt on one balance sheet appears as an asset on someone else’s balance sheet. This makes so-called ‘macro-prudence’ difficult – as the billionaire investor Warren Buffett put it, ‘It’s only when the tide goes out that you learn who has been swimming naked.’
The financial system could withstand some more minor financial institutions going bust, but when the major investment bank Lehman Brothers became the biggest ever bankruptcy in 2008, it sent shockwaves throughout the global financial system. Modern financial systems are sustained by confidence, and so the failure of such a large and well-respected finance house as Lehman Brothers led to a severe loss of confidence in financial markets. This caused widespread panic and a desperate selling off of assets as they tumbled in price, followed by a subsequent credit freeze that affected economies worldwide. The ‘NICE’ party had ended suddenly in a crash.
It was all rather like holding a party in a visibly dangerous building. If you’re not in the building then you’re not at the party, and so you enter, while keeping one eye fixed on the exit. The problem is that everybody else at the party is doing the same. When the fire breaks out, everybody rushes for the door, quickly causing a block, 19and all but a lucky few get burned. That is – to stretch the analogy – unless the government steps in, but to save those at the party they’d have to singe everyone else. All the bonuses enjoyed in the finance sector had already been pocketed, so to prevent an even more disastrous crash the public were forced to suffer, as the banks were bailed out while public services were severely cut. As a tented village of protestors appeared outside St Pauls, Andy Haldane, yet to become chief economist at the Bank of England, bravely said, ‘Occupy has been successful in its efforts to popularise the problems of the global financial system for one very simple reason: they are right.’ Many of the financial organisations that had in many ways contributed to the crash were rescued as ‘too big to fail’ because of the implications for the system as a whole.
The financial crisis caused the Great Recession, from which growth has yet to properly recover. Productivity – the output an economy receives from its inputs, which is what ultimately matters for rising living standards – suffered across the developed world and has been almost flat in the UK since 2007. It’s worth remembering that growth in the economy is achieved by getting more people in employment to produce more goods and/or improving the output per worker or, an even better measure, output per hour. With a given labour force, output per hour worked must keep rising if growth is to be sustained. By simply increasing population through immigration, growth could improve, but often at the expense of GDP per capita, unless the people arriving have higher skills and less need for public services. Higher productivity growth therefore boosts growth and improves tax take while feeding into improved public services and infrastructure and reducing the need to resort to more borrowing.
Taking in the severe negative shocks of Brexit, Covid lockdowns 20and the invasion of Ukraine brings our outline of the UK’s recent economic history almost up to date. It’s worth noting at this stage a few damning facts: the UK has one of the highest levels of inequality in the developed world – it would be the third highest, after Bulgaria and Lithuania, if measured against EU countries. Our public services are in a poor state. Business investment is chronically lower than in comparable countries, especially important as productivity remains flat. GDP per head is about 20 per cent down on where it would have been had the ‘NICE’ period continued, with stark impacts on tax revenues and the fiscal balance. Indeed, the estimates suggest that if growth had continued along its pre-crisis trend, GDP in the UK would now have been some 36 per cent higher, a larger impact than that experienced by the UK’s major competitors. GDP per head is instead some £11,000 lower than it would have been according to Institute for Fiscal Studies (IFS) analysis in mid-2024, and an ageing population will likely add further strain to public finances.1 But sadly, there is no longer a centrist consensus across the main parties; indeed, there has been divisive fragmentation, especially in the era of Brexit, and a disturbing rise of far-right populism, stemming from regional decline, austerity and the scapegoating of immigration as the cause of all our ills.
The links between economic stagnation, inequality, globalisation and the rise of neoliberal oligarchs and the far-right are complex but very real, with profound political consequences. The US is the most unequal country in the G7, though even in Europe the richest 10 per cent of the population receive 30 per cent of the Continent’s entire income and own 50 per cent of all its wealth. The UK is similar, languishing thirty-fourth in the Organisation for Economic Cooperation and Development (OECD) inequality list of thirty-eight countries. When factors relating to education, such as length of 21schooling, are added, the UK’s ranking in the UN’s Human Development Index (HDI) index is a slightly more respectable thirteenth – still far from good enough.
The opening up of markets as a result of globalisation, usually encouraged by economists, has its downsides as well as its benefits. The upside is a dramatic reduction in global poverty; the downside is that the free movement of capital and goods and the financialisation of economies has exacerbated the inequalities in many countries, creating structural changes and resentments that have fuelled right-wing populism, leading to Trump’s two administrations.
In short, although our troubles pale into insignificance when compared to the world’s most desperate people, the UK economy is not an encouraging sight to see. Before looking in more detail at some of the major economic events outlined in this chapter, we’ll bring our economic history up to the present.22
Chapter 2
Where Are We Now?
Following Liz Truss’s infamous 2022 mini-budget, there were many claims that the economy was broken. ‘Broken’ is journalistic hyperbole, not a term used in economics, and it isn’t strictly true that Truss, the UK’s shortest-serving Prime Minister, crashed the economy. In September 2022, the interest rate on UK gilts (government IOUs are called ‘gilts’, as they once had gold edges and today are metaphorically ‘as good as gold’, in that the government is extremely unlikely ever to default on them) rose by over 100 basis points in four days, which clearly came with the risk of increasing the interest the UK has to pay to service its national debt. But GDP did not ‘crash’, though the turbulence in the bond market was most unhelpful. Of course, as with Conservatives MPs and the Great Financial Crisis, Labour MPs felt duty-bound to insist Truss did crash the economy (to such an extent that the beleaguered former PM sent a ‘cease and desist’ letter to Keir Starmer, warning him against repeating the claim).
We will never know exactly what the long-term consequences of the 2022 mini-budget might have been, as Truss quickly ditched her Chancellor, Kwasi Kwarteng, and appointed Jeremy Hunt. Hunt reversed most of her policies, except the sorely needed electricity price cap which Rishi Sunak had failed to introduce as Chancellor. 24The delay in introducing this cap can be blamed for much of the UK’s subsequent rise in inflation, which was above the G7 average in the period following Russia’s invasion of Ukraine. As energy prices were perceived to be rising out of control, inflationary expectations shot through the roof; the government offered little support and were soon met with higher wage demands.
The day was also saved by the Bank of England reversing its intention to embark on further quantitative tightening at the time of the 2022 budget; that is, it started selling the bonds it had bought during the long period of quantitative easing. Quantitative easing had started with the financial crisis and risen substantially after the Brexit vote, only to rise further during the pandemic when the government’s fiscal stimulus was sorely needed to sustain the economy. Instead of its intended tightening in 2022, the Bank of England started buying bonds again, albeit in a limited way and for a limited period, to calm the markets and prevent part of the financial sector entering serious difficulty. This reduced pressure on capital markets and brought bond yields down. At the time of writing, however, we are very much back to those high borrowing costs again, with the current Labour government engaging in extra borrowing, ostensibly to finance investment. Bond rates are also back where they were during the short-lived Truss era, and so the UK government must spend some £100 billion-plus a year just servicing the national debt.
To be fair to Liz Truss, it wasn’t all her fault. Her action on the energy price cap probably saved money by avoiding a fall in GDP, and she has a point when she says the Bank of England played a large part in the mini-budget debacle. Indeed, following the shock to bond markets, which had a ‘contagion’ effect on other countries, Kwarteng was in Washington DC for a key International Monetary Fund (IMF) meeting. He was privately trying to reassure US 25bankers, politicians and diplomats at the British Embassy that the UK ‘was committed to fiscal responsibility’ and even that the Bank of England was one of the UK’s ‘finest institutions’. Apparently, his claim about the Bank of England prompted applause from just one person in the room, who turned out to be a board member of a British bank.
The unprecedented market movements were down to two key factors: the September mini-budget announcement of expansionary fiscal policy and the forced sales by liability-driven investment funds (LDIs). LDI funds are an investment strategy mostly used by pension funds and insurance companies to match assets with their long-term liabilities. The aim is to ensure that assets grow and are available in a way that matches the timing of the amounts that they need to pay out. The mini-budget hit a pensions industry that had over-leveraged with LDIs and a Bank of England reversing quantitative easing. As the value of the LDI investments held by pension funds fell in value, they were forced to sell off bonds to maintain their balances. That only made the value of bonds fall even further, forcing the Bank of England to start purchasing bonds to drive the price back up. The unofficial blog written by Bank of England staff, ‘Bank Underground’, estimated blame was split equally, with LDI-selling accounting for half of the decline in gilt prices during this period and fiscal policy accounting for roughly the other half.1
LEARNING FROM LIZ
It is always important to keep an eye on the market for the IOUs that the government issues. Of course, an excess of gilts, or a loss of confidence in them, will lower their price and hence make government borrowing from the markets by selling gilts more expensive. Equally, an expected fall in their price – say, because a future rise 26in interest rates is expected – can lower their price in the present. Around the time of Liz Truss’s mini-budget, neither her Chancellor, Kwasi Kwarteng, nor the Bank of England was being particularly prudent. Although the Bank of England subsequently took decisive action to restore market confidence, and Truss subsequently sacked her Chancellor and then stepped down herself, there was a worrying period when it seemed that the UK might be lumbered for some time with a ‘moron premium’ on its debt. In the event, the damage is probably largely confined to those unfortunates who were seeking mortgages or renewals of loans at the time.
Liz Truss has since admitted that her plan to cut the 45p top rate of tax may have gone too far, but she insists it was not fair to blame subsequent interest rate rises on her mini-budget. She was never exonerated, and despite her cherished vision of ending a ‘low growth high tax spiral’, the unfunded tax cuts were seen as inflationary and hence likely to lead to higher interest rates and thus a fall in the price of gilts – in short, an increased cost of government debt. Truss is correct that it was all exacerbated by the preceding attempt at unwinding quantitative easing by the Bank of England, though this was known shortly before the infamous budget. In addition, her telling the OBR to ‘keep out of it’, in effect, was not likely to inspire confidence that she hadn’t precipitated an ever-increasing deficit and higher interest rate. If all this wasn’t bad enough, her sacking the well-respected Permanent Secretary to the Treasury, Sir Tom Scholar, added to the impression among many that she was reckless. What the Truss debacle does demonstrate, however, is that nowadays the market for government debt can’t be taken for granted.
As explained earlier, so long as the UK government can call on the Bank of England to buy up its debt, it can never actually default. That does not mean, however, that there is no problem in running 27an ever-increasing structural deficit. It will eventually lead to a loss of market confidence in the value of gilts and could even engender accelerating inflation. If the government has to offer a higher interest rate to borrow, then more of the revenue it collects must go towards servicing its debt. Again, borrowing, and even sometimes the ‘printing’ of new money to finance investment, can lead to self-sustaining long-term fiscal health. And eventually, the bill for social support and public services must be paid for through taxation to avoid long-term damage to the economy (notwithstanding shorter periods of recession when the debt should be all but ignored to get the economy going again). No amount of clever playing around with accounting identities removes the long-term real resource constraints.
When Liz Truss was forced to step down in humiliation, her failed co-contender for the leadership of the Conservative Party, Rishi Sunak, took over, becoming the UK’s first British Asian Prime Minister. His Chancellor, Jeremy Hunt, quickly reversed almost all the Truss/Kwarteng mini-budget fiscal proposals, but he didn’t reverse the direction of government debt. In fact, Sunak was rebuked by the statistics watchdog, the UK Statistics Authority, for claiming that his government had reduced the debt.
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For all that we have said above, Britain remains a rich country, with considerably lower taxation than in many other western European countries. However, as we have seen, there certainly wasn’t an encouraging backdrop for the incoming Labour government in July 2024.
Perhaps scarred by the persistent and oft-repeated myth that 28Labour caused the Great Financial Crisis through overspending, Keir Starmer and Chancellor Rachel Reeves made much of their ‘fully costed’ manifesto proposals. Predictably, after they won the general election, Labour ‘discovered’ a £22 billion ‘black hole’ in the nation’s finances, left by the previous government. It’s certainly true that some imminent costs to the Exchequer went shamefully undeclared to the OBR by the Conservatives. This amounted to perhaps £6 billion, including the asylum hotel costs which hadn’t had funds allocated and the recommended wage rises for public sector workers (such as doctors and train drivers) which weren’t allocated in the departmental budgets for the years ahead. And there’s no doubt Jeremy Hunt did leave Labour with a £20 billion hole in terms of the two cuts of 2 per cent each in the National Insurance contribution (NIC) for employees, amounting to some £10 billion in January and then again in April 2024, just before the elections in July 2024.
Labour’s position wasn’t helped by their promise not to raise income tax, NIC or VAT in their manifesto. Rachel Reeves felt she could ‘excuse’ harsh fiscal measures by citing this ‘black hole’; the problem she faces is that this doesn’t placate those losing out, nor their supporters and lobbyists, including many of Labour’s own backbenchers. And constantly banging on about how grim things are is hardly a boost to the confidence that encourages consumer and investment spending.
In truth, it was apparent to any informed observer well before the election that, unless public services were destined to become even poorer after an already lean decade of funding, or government debt be raised even higher, taxes would have to be increased. The IFS had been plain about the matter for a considerable time, claiming to anyone who would listen that both parties were maintaining a ‘conspiracy of silence’, and mocking any notion of ‘fully costed’ 29manifestos. Of course, the IFS also pointed out that the Liberal Democrats had even higher spending plans, while the Greens and Reform offered substantially larger numbers that were deemed ‘wholly unattainable’.
DOES LABOUR HAVE ‘FISCAL SPACE’?
The Telegraph journalist Tim Stanley, in his review of our 2015 book It’s the Economy, Stupid, claimed the authors ignored the fact that Gordon Brown had severely diminished the ‘fiscal space’ left to tackle subsequent crises. Indeed? The Conservative Party’s continued accumulation of debt during the Great Recession, the extra support after the Brexit vote, additional expenditure on furlough during Covid and the subsidisation of fuel bills after Putin invaded Ukraine all prove that Stanley is wrong. Now, it’s true that some economists get dangerously close to the belief that government debt doesn’t matter at all; when the economy is in a recession such an approach has merit, as recovery takes priority at such times and a recession is particularly bad for government debt anyway. Other economists, typically to the right, say reducing debt must always be paramount, and so they advocate large cuts in spending and in the size of the state, often while hoping somewhat contradictorily for tax cuts.
As usual, the truth lies somewhere in between. The oft-made claim that government debt must be a burden on future generations is more tenuous than many believe; if it was this straightforward then debt could be passed on by future generations to their future generations and so on. Also, if fiscal multipliers are sufficient, and in a recession that is more likely, then increased government spending may in fact reduce the ratio of debt to GDP over the short to medium term. Importantly, as with any sound business investment plan, if borrowing is used wisely to increase future growth, then 30longer-term debt may be permanently reduced, and markets can appreciate that. The OBR seems to accept this, including the positive productivity impact. That said, there is no doubt that the direction of the economy is disconcerting for any government that wishes to preserve, let alone improve, public services without further tax increases.
WHAT ABOUT THE FISCAL RULES?
Low economic growth and depleted public services facing ever-rising demands make it hard for any Chancellor to meet their own ‘fiscal rules’ – those rules set by individual Chancellors as a constraint upon themselves – and breaking these is not a new phenomenon by any means. In June 2010, then Chancellor George Osborne declared that the ‘deficit will be eliminated to plus 0.3 per cent in 2014/15 and plus 0.8 per cent in 2015/16. In other words, it will be in surplus’. Having missed that target by some £75 billion, Osborne then committed himself to a surplus by 2020. When David Cameron felt obliged to resign as Prime Minister following his gamble with the Brexit referendum, incoming Prime Minister Theresa May and her Chancellor Phillip Hammond could see that even Osborne’s new target was unrealistic. Inevitably, May moved the goalposts in 2016 and kicked the surplus target down the road, stating, ‘We have not abandoned the intention to move to a surplus. What I have said is, we will not be targeting that at the end of this parliament.’ This was followed by Hammond announcing in 2018 that the deficit should be ‘falling to just 0.8 per cent by 2023–24’. Quelle surprise, this was also unrealistic. Covid, of course, allowed Rishi Sunak to prioritise dealing with a pandemic and so not to worry about the fiscal rules, with a declared promise to do ‘whatever it takes’. This was echoed by Boris Johnson, with his reassurance, ‘We are absolutely not going back to the austerity of ten years ago.’
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