5 August 2020

David Purdy writes on politics and economics and is a member of Democratic Left Scotland.

Post-pandemic recovery: prospects and policies

Covid-19 has taken a huge toll on the economy. David Purdy argues for a consideration that goes beyond the traditional demands of the global market economy

LOCKDOWN, restart, …, recovery? Fill in the missing links. The Covid-19 virus has not gone away and, indeed, may be here to stay. Meanwhile, the Westminster government’s haste to return to business as usual could yet unleash a second wave in the winter. But even if this hazard is avoided, the UK’s near-term economic prospects are poor. Already the “sick man of Europe”, with the continent’s highest excess death rate between March and June this year, the country could also suffer the worst recession. In March and April, GDP fell by a spectacular 20% and while the output of goods and services has risen since then, the pace and shape of recovery remain uncertain.


Figuring out how to emerge from lockdown and recover from recession in the midst of a raging global pandemic would be a tough call for any government at any time. An added complication for the UK at this time is its unfinished business with the EU. Having been returned to power at last December’s general election with a working majority of 87 and an indefeasible mandate to “get Brexit done”, Boris Johnson is determined to do just that. 2020 was meant to be the year when Britain regained its “independence”, “took back control” and embarked on a new era. But Brexit, upstaged by the coronavirus, is no longer newsworthy. The stalemate in negotiations between the UK and the EU over their future trade and other relations attracts little interest. And on 30 June the deadline for seeking an extension to the transition period beyond the end of the year passed almost unnoticed.


Some commentators have suggested that this unforeseen turn of events suits the government, enabling it to smuggle through a no-deal Brexit amidst the turmoil of the wider crisis. But this would be a big gamble. It is the “red-wall” seats the Tories took from Labour at the last election in Wales, the Midlands and the North of England, all areas with higher than average proportions of employment in manufacturing, that stand to lose most from the imposition of tariffs on UK exports and the introduction of customs checks on goods crossing the UK-EU border. And what if winter brings a perfect storm of mass unemployment and a resurgence of the virus as well as the fallout from a no-deal Brexit? How secure is the government’s position? I shall explore the politics of post-pandemic recovery in a later posting. Here, my focus is on policy issues.


After noting the novel features of the current recession and the government’s response, I examine the state of the public finances and, amidst growing alarm about the UK’s growing “debt mountain”, argue that we have nothing to fear but fear itself. I then turn to the looming jobs crisis and argue that measures to raise output and employment by boosting aggregate demand are necessary, but not sufficient to tackle it. Structural adjustment is also needed to re-employ workers displaced from the sectors worst hit by the pandemic: hospitality, retail, leisure and aviation. This will require Britain to raise its game in the provision of training, life-long learning and active support for those at risk of long-term unemployment. Properly handled, however, the experience offers an opportunity to prepare for the much greater structural challenges posed by global warming and the job-displacing impact of artificial intelligence.


A recession like no other

Technically, an economy is said to be in recession when GDP falls for two or more consecutive quarters. The severity of a recession is normally measured by its depth (the size of the fall in output from peak to trough) and duration (how long output goes on falling). We await confirmation for the second quarter, but it is already clear that in the first half of this year the UK experienced the deepest contraction in modern times. From May onwards, as the first steps were taken to ease the lockdown, economic activity picked up, but only a little, and there remains great uncertainty about the future. Forecasters argue about which letter of the alphabet or mathematical symbol best describes the pace and shape of recovery: V (a sharp rebound); U (a slower, more gradual upturn); L (a downturn with no upturn); or the square root sign (a partial recovery in which GDP falls short of its previous peak and starts flat-lining). This last scenario, which the Economist calls “the 95 per cent economy”, is quite plausible. Until a vaccine is discovered which confers immunity from the virus for more than a short time, the public health measures required to control it effectively reduce potential output.


Quantitative methods are indispensable tools for economists, but they need to be handled with care. It is a mistake to think of the economy as a self-contained, self-adjusting system, without reference to the natural world in which it is embedded or the historically-evolved political institutions and social norms that shape it. Economic models embodying this conception may yield serviceable short-term forecasts in periods of political stability and settled expectations, but are of little use in periods of organic crisis.


Mainstream economists habitually describe untoward events perceived to have originated “outside” the economy – a natural disaster, a political upheaval or, curiously, a financial crash – as “exogenous shocks”. But applied to the event that triggered the current recession, this label is misleading. Pandemics are not natural events like volcanic super-eruptions, geo-magnetic storms or asteroid strikes. Rather, they are threats to humanity generated by the activities of humans themselves, a feature they share in common with global warming and nuclear war. Covid-19, like HIV, Ebola and Sars before it, is a disease which has been transmitted from animals to humans as a result of human pressure on the natural world. Economic growth, population growth and farming methods that involve the rearing of vast numbers of animals in unhealthy conditions and in close proximity to humans increase the risk that pathogens will cross species barriers. And modern civilisation makes it easier for pandemics to spread: high population densities produce high R-values, and rapid, long-distance transport conveys pathogens to the ends of the earth, while reducing the degree of separation between human population clusters. The outbreak of Covid-19 may have come as a shock, but hardly an exogenous one.


The policy response to Covid-19 has also been unlike anything we have seen before. Since the Great Depression of the 1930s, governments in the developed world have generally tried to avoid or at least mitigate recessions. But the lockdowns that led to the 2020 recession were deliberately imposed by governments, acting on the principle that their first duty was to protect public health and safety (salus populi suprema lex). Output and employment fell not because of a sudden, large and unforeseen drop in spending on goods and services, but because governments decided to close down entire swathes of economic activity.


Recessions of choice are not unknown. On three occasions in the past hundred years – 1920, 1980 and 1990 – British governments have resorted to shock treatment in order to halt a runaway boom and/or beat down inflation, raising interest rates to stop credit expansion and taking an axe to public expenditure to balance the budget. Each time, savage deflation presaged a radical change of policy regime: in 1980, for example, the first Thatcher government abandoned the pursuit of full employment and made the conquest of inflation the sole objective of macroeconomic policy. And each time, the inevitable, anticipated and, indeed, intended consequence was a sharp fall in output and employment and a rapid and substantial rise in unemployment, which in turn put downward pressure on the growth of money wages and prices. In 1990, the Chancellor, Norman Lamont, casually remarked that unemployment was a price “well worth paying” for lower inflation, omitting to mention that it was the unemployed themselves who were paying this price.


In 2020, by contrast, the government’s aim was to curtail production while at the same time preventing bankruptcies and protecting jobs. The introduction of lockdown was accompanied by a further loosening of monetary policy designed to hold down the cost of public borrowing so that the government could finance a significant rise in spending without having to worry about the subsequent cost of servicing the debt incurred. Government support for business included 100% guarantees for up to £300 billion of bank loans – equivalent to 16% of GDP – as well as grants and tax-holidays. And under the Coronavirus Job Retention Scheme, firms hit by a sharp fall in demand were given the option to furlough their workers instead of sacking them. Those on furlough received 80% of their salary up to a maximum of £2,500 a month, with the bill being picked up by the Treasury. There was also a parallel scheme to support the incomes of self-employed workers.


These hastily improvised measures were widely welcomed. By May, 9.3 million workers were furloughed, 2.3 million self-employed workers were receiving income support, and a further 2.8 million people were out of work and claiming work-related benefits. There were holes in the extended social safety net, leaving another million or so workers to fend for themselves. Nevertheless, nearly 45% of the workforce received some kind of support. In this unexpected way, the old labour movement demand for “work or full maintenance” finally came close to being realised, at least for the duration of the emergency. But when would it be safe to remove temporary wage subsidies? And in the meantime how were they to be paid for?


“Debt mountains” and deficit hysteria

Fighting a pandemic is expensive. Besides the financial costs of mothballing businesses and protecting workers, the government had to cover additional spending on the NHS and other public services plus the loss of tax revenue due to the recession. In the second quarter, public borrowing hit nearly £130 billion, twice the budget deficit for the whole of the previous year, and the Resolution Foundation, a think tank, has forecast a budget deficit for the current fiscal year of £350 billion, equivalent to 18% of GDP. Meanwhile, in May, the UK’s total public debt passed a psychological threshold, reaching £1.95 trillion, equivalent to just over 100% of GDP. Should we be afraid?


The short answer is no. Before explaining why, I need to define some key terms. Public debt is the cumulative sum of budget deficits – minus surpluses – stretching back in time to the emergence of the modern state: the early 18th century in Britain’s case. In order to compare this sum with GDP, the latter too must be measured in money terms: that is, at current, not constant prices. This measure is known as nominal GDP. By definition, the growth of nominal GDP is the sum of real (or constant-price) growth plus inflation.


The ratio of public debt to GDP rises and falls over time, peaking at the end of major wars. In 1945, it stood at an all-time high of 250%. Thereafter, with nominal GDP rising at an average rate of 5% a year – 2.5% real growth plus 2.5% inflation – it fell steadily, reaching 100% in 1963. Prior to the 2008-9 recession, the ratio was 40%. Over the past decade it rose to just over 80%. At present, thanks to the global pandemic, public debt ratios are rising in all the advanced countries: the IMF expects the average to exceed 120% this year.


Governments in the developed world borrow in their own currencies, mainly from their own citizens and institutional investors. For pension funds and insurance companies, government bonds – traditionally known in the UK as gilt-edged securities or “gilts” – are staple investments offering modest yields in exchange for safety.


Central banks manage public debt. Since 2009, they have been buying up government bonds from the private sector. This activity, known nowadays as quantitative easing, has several effects. It lowers or holds down interest rates, enabling the government to borrow without the cost of servicing its debt eating up too large a portion of its tax revenues. Central bank purchases also remove government bonds from private portfolios and place them on the balance sheet of the central bank. Here they remain until either the central bank sells them back to the private sector or the bonds reach maturity, at which point the claims they represent are extinguished.


When central banks buy bonds, they create money. In some circumstances this might generate or fuel inflation. But this is hardly a serious risk in a recession: the current rate of inflation in the UK is well below the Bank of England’s official target of 2% a year. In any case, as noted above, inflation reduces the real value of debt and thus provides a less painful way of lowering the ratio of public debt to GDP than premature attempts to balance the budget, which risk choking off economic recovery and setting the stage for a return to fiscal austerity.


Resistance to deficit financing stems in part from ideas rooted in popular common sense: for instance, that thrift and efficiency are the mark of good government. This is a sound precept in conditions of full employment, but not in a depression. Another example is the belief that managing an economy is like running a business or a household. This analogy is wholly misconceived. It is, of course, a good idea to live within your means if you want to stay out of debt. But as we have seen, a government which borrows in its own currency and has its own central bank can always meet its financial obligations.


The fear is sometimes expressed that resort to deficit financing in a national emergency – a severe recession, a major war, a global pandemic – will become addictive, prompting sectional interest groups to make ever-increasing demands on government, undermining fiscal discipline and unleashing social mayhem. This could happen, but there is no reason why it should, let alone must. And the implication, that fiscal and monetary policy should be governed by invariable rules, is neither realistic nor responsible. It makes no more sense to insist on following rules designed for “normal times” in an emergency than to persist with emergency procedures once the need for them has passed.


The looming jobs crisis

There is, however, good reason to fear the onset of mass unemployment. Between April and June, 650,000 workers left company payrolls. Most of them have dropped out of the workforce rather than becoming unemployed, for the official unemployment rate has not risen since March, when it stood at 3.9%. This is partly because, with the number of unfilled vacancies down by 50%, those who have lost their jobs see no point in looking for work. The number in this position rose by 250,000 in the second quarter, the largest since records began in 1971. In addition, working mothers who lost their jobs during the lockdown have borne the brunt of childcare and home schooling. And every day brings fresh news of redundancies. More will follow as the Job Retention Scheme is wound down over the next three months: it is expected that between 10 and 20% of furloughed workers will not be re-employed. The Office for Budget Responsibility, the government forecaster, has suggested three “scenarios” for the rate of unemployment by Christmas: a best case of 10%, a worst case of 15%, and a central case of 12%, a rate last experienced in 1986. If this educated guess turns out to be right, some 4 million people will be unemployed.


What actually happens will depend, in part, on the state of consumer confidence. Even workers who remain in employment and suffer no loss of income will save more and spend less for fear of losing their jobs. Public health policy could make a difference too. In the first phase of the coronavirus crisis, the authorities in England and Scotland pursued almost identical policies and made the same mistakes. But once the explosive spread of Covid-19 had been contained, they diverged. Aiming to reduce the rate of new infections as much as possible, the Scottish government was cautious about lifting the lockdown, whereas the Johnson administration, impatient to “get the economy moving”, was prepared to take more risks. The former approach may well give people more confidence about returning to work, using public transport, visiting crowded places and spending money. We shall see. At the moment, the rate of new infections in Scotland is only one tenth the rate in England, where local lockdowns are in force or under consideration in several large towns. A generalised second wave would be a devastating blow not just to public health, but to the resilience of the economy and the authority of the UK government.


Rishi Sunak’s July mini-budget was distinctly underwhelming. The scale of additional spending commitments was high by normal standards, though lower than it seemed because some of them had been announced before. Even so, the offer of a bonus of £1,000 to employers for every furloughed worker they re-employ will make little difference to their calculations. And while a £2 billion “Kickstart Scheme” to provide six-month work placements for 16-24 year-olds is a good idea, it will need to be better-resourced if it is to stem a surge in youth unemployment. The Chancellor’s summer statement also included more conventional stimulus measures targeted on hard-hit sectors. But whether a cut in VAT from 20% to 5% for hospitality and leisure services will overcome customers’ fears is open to doubt, and the “eat out to help out” discount for restaurant meals taken in August is a joke. All this said, Sunak stressed that his announcements were next steps, not final steps, a hint perhaps that there would be further expansionary measures in the autumn budget, along with forecasts and policy costings. Then again, he may simply be intending to wait and see.


Structural unemployment and the four economies

If the recovery falters, a large fiscal stimulus will be needed to give it a boost. But this alone will not suffice to tackle the jobs crisis. The job losses so far sustained in the battle against Covid-19 have been concentrated in hospitality, retail, leisure and aviation. These are mostly labour-intensive sectors – aircraft manufacture, as distinct from air travel, is an exception – and all of them will be affected for a long time to come, no matter what happens to aggregate demand. Through no fault of their own, the workers displaced are not going to be re-employed and need publicly organised, tax-financed support in finding alternative employment, both through the social security system and through active labour market policies, especially retraining. At the same time, except for certain areas that depend heavily on tourism, the sectors hardest hit are not geographically concentrated, so the recession and its aftermath will not devastate entire towns and regions, as happened in the industrial shake-out of the early 1980s.


Structural unemployment is a familiar problem in capitalist economies. Firms are under pressure to innovate in both products and production processes, and although technological change and economic growth generally create new jobs, they also destroy existing jobs and sometimes entire sectors of employment. Furthermore, when companies can locate production almost anywhere in the world and can outsource activities to where the costs of labour and materials are lowest, jobs for life are hard to find. The standard response is that displaced workers should retrain and/or move. But this takes time and resources; people’s lives are enmeshed in social networks and relations; there is no guarantee that the type and number of new jobs will match the supply of displaced jobseekers; and there is no process internal to capitalism through which displaced workers acquire the skills required in new jobs and/or move to the locations where they are to be found. This institutional vacuum can be filled, but only by creating properly-resourced public agencies to provide information, counselling, financial support and opportunities to retrain, gain experience or upgrade qualifications. The Nordic countries are good at active labour market policies; with some exceptions – demobilisation after the Second World War (though this involved expelling women from the workforce so that former soldiers could return to civilian employment); redundancy and redeployment programmes in some of the old nationalised industries; and the New Labour government’s New Deal for the young unemployed – Britain has been bad and must do better.


More generally, as Andrew Gamble (2018: pp 46-7) has argued, a progressive response to the current crisis needs to recognise that there is not one unified economy, but several economies, related in complex ways. There is the globalised market economy, where goods and services are internationally traded and activities are driven by the pursuit of profit, competition and shareholder value. There is the local or foundational economy, employing about one third of the workforce and comprising the production and distribution of food, the organisation of vital services like education, health and social care, and public utilities such as transport, heat, water and light. There is the reproductive or household economy, which comprises the unpaid care activities necessary to secure the biological and everyday reproduction of human beings. And there is the green economy, a transforming presence alongside and within all three of the other economies, monitoring the impact of human activities on the biosphere – carbon footprint, use of natural resources, impact on biodiversity – in a sustained effort to develop ways of living in harmony with nature.


Economic activity and growth are traditionally assessed from the standpoint of the global market economy, as if this was all-important. But if we view economic activity from the perspective of the local economy, the household economy and the green economy, we get a very different idea of what matters, what counts as success and what our society’s economic goals should be. A progressive economic programme needs policies for all four economies, with human well-being at the centre of its concern. And above all, it must be transformative, attending to the urgent needs of the present in ways that anticipate and help to create a greener, fairer and happier future.

Reference

Andrew Gamble (2018) Open Left: The Future of Progressive Politics (Policy Network: Rowman and Littlefield International Ltd, London)