The United Kingdom’s Dramatic Response to the Economic Crisis—Posner

The new coalition government in England is embarking on an ambitious austerity program.  One goal is to eliminate 490,000 jobs in the public sector; a related goal is to slash government expenditures by 19 percent over the next four years. Administrative budgets—overhead—of government agencies are to be slashed by 34 percent. (The U.S. population is five times as great as the U.K.’s—so imagine our eliminating 2,450,000 public sector jobs!) By a combination of tax increases and spending cuts, the U.K. government hopes to eliminate the annual national budget deficit, currently more than 11 percent of GDP (similar to ours), by 2015. Among popular programs to be trimmed or eliminated are housing subsidies for middle-class persons. Defense expenditures are to be reduced by 8 percent, education spending by 3.6 percent, and the teaching budgets of public universities by 40 percent. Since spending on technical subjects is to be protected, other disciplines, such as the humanities, will face especially steep cuts and tuition will rise. 

England can make dramatic changes in policy overnight because its government is extremely centralized. The Cabinet dominates the House of Commons, thus fusing the executive and legislative branches (the legislative branch is effectively unicameral—the House of Lords counts for little), and except in Scotland and Wales, there is no regional autonomy, as there is in the United States by virtue of our federal system. Except in wartime, we cannot make major policy changes in a hurry, though the Obama Administration managed in two years to make more changes than any President, in a comparable period, since Lyndon Johnson (and much of the groundwork for his “Great Society” legislation had been laid in the Kennedy Administration and gained momentum from Kennedy’s assassination). 

England’s economic crisis is a great deal like ours; its response has been dramatically different. England, Keynes’s homeland, has rejected the Keynesian solution to depression or recession, which is to stimulate consumption by deficit spending aimed at increasing the incomes and confidence of the public; the Obama Administration has embraced the Keynesian approach (which Americans call “stimulus’), though its implementation has been erratic, in part because of deficiencies of timing, design, and execution, and in part because of political resistance. 

But the two nations’ diametrically opposed approaches have this in common: both proceed, in part, from a desire to use an economic crisis as an occasion for long-term economic reform. Both administrations are looking beyond the crisis. Both believe that the crisis has made the public receptive to reforms that they would resist in times of prosperity. The English government, being dominantly although not entirely conservative (for it is a coalition government and the Liberal Democratic Party is the junior member of the coalition), wants reform in the form of a leaner government. Our government, being dominated by liberals (at this writing, though perhaps not for long, both Houses of Congress, as well as the Presidency, are Democratic), wants a larger government, which will expand public subsidies of health care, increase regulation (and not only of financial institutions), and combat global warming with taxes and subsidies. 

Both approaches risk making the economic crisis, which as I said is similar in both countries, worse in the short run, though long-term benefits of the attempted reforms may outweigh present costs. England is slashing public payrolls and subsidies at a time of high unemployment and economic anxiety, and this may reduce economic growth in the near term. The U.S. government is frightening business by its regulatory measures, the health reforms that may well increase the labor costs of business, the prospect of higher taxes, anti-business rhetoric, and a general ambition to make government larger and more aggressive, which is unsettling the politico-economic environment of business. There is a sense too that in their impatience to bring down the unemployment rate, the Federal Reserve and the Treasury may soon embrace policies that sow the seeds of future inflation. Uncertainty causes businesses and consumers alike to tend to freeze—to save (in “safe” forms that don’t promote productive investment) rather than spend—and the Obama Administration has increased the level of economic uncertainty in the United States. 

Unfortunately, as we have learned in the last two years, the economics of the business cycle, and in particular of the business cycle when it enters a deep trough, are not well understood. It is possible to tell a “story” about how the English program will stimulate investment and consumption by convincing businesses and consumers that a leaner government will conduce to faster economic growth. But there is an equally plausible “story” about how the English program will reduce growth by reducing employment and incomes, and that what both England and America need is further deficit spending to increase incomes and employment. There is too much uncertainty, compounded by the dramatic economic changes occurring in major trading partners of England the United States, to be confident that one “story” is true and the other false.

What may make the prospects for England brighter than those for the United States regardless of which story is true is that the English people are famously patient and stoic, and the English government as I said unusually centralized, and this combination may give the government flexibility in adjusting its policies to changing economic conditions. If anti-Keynesian policies don’t work, the government can switch to Keynesian policies. 

We don’t have that flexibility. Not only is our government highly decentralized, but our politics appear to be approaching gridlock, in which neither political party will either raises taxes significantly nor cut public spending significantly nor even resist new spending programs. The Keynesian approach has been discredited, whether rightly or (as I think) wrongly in this country, but fiscal rectitude (as one might call the English approach) seems unattainable here as a political matter.

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Britain's 'Great Recession' started in the spring of 2008 and ended in the summer of 2009. This is based on the technical measure of 'recession' - two 'quarters' of the year, back-to-back where the size of the economy shrinks, as measured by GDP.
It was thought the economy shrank a total of 6.3% but a change in official measurement in October 2011 suggested the decline was in fact 7.1%.
The economy then raced out of recession faster than expected (see the chart above) but faltered again late in 2010, with the heavy snow of December blamed for much of it and slowed to a snail's pace in the first half of 2011.
The big question now is whether debt woes in the eurozone will derail the global economy - and damage Britain's chances of continuing growth. The Treasury's latest poll of economists suggests growth of 1.1% for 2011, down from a projection of 2% at the start of the year. For the record, the Centre for Economic & Business Research (CEBR) was the most realistically downbeat at the time with a forecast of 1.1%

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