Last week's Comprehensive Spending Review detailed the largest cuts to public spending since the Second World War. In John Van Reenen’s judgement, the speed and scale of the cuts are not economically justified because the previous government’s plans would have also dealt with the deficit with much less danger to the economic recovery. The Review is also unjust, hitting the poor much harder than the rich.

Van Reenen, John

English

Research Papers in Economics

blogs.lse.ac.uk http://blogs.lse.ac.uk/politicsandpolicy/2010/10/26/the-2010-comprehensive-spending-review-the-
economics-of-the-cuts-agenda-are-neither-justified-nor-just/
The 2010 Comprehensive Spending Review: The economics
of the cuts agenda are neither justified nor just
Last week’s Comprehensive Spending Review detailed the largest cuts to
public spending since the Second World War. In John Van Reenen’s
judgement, the speed and scale of the cuts are not economically justified
because the previous government’s plans would have also dealt with the
deficit with much less danger to the economic recovery. The Review is also
unjust, hitting the poor much harder than the rich.
Last week Chancellor Osborne spelled out the details of the most draconian
spending cuts in a generation. He believes that these were economically
inevitable and morally justified; in the words of Mrs Thatcher “There Is No Alternative”. I
disagree – cuts on this scale are not an inexorable law of economics, but rather a political
choice.
Earlier that week I met one of President Obama’s senior economic advisers in Washington to
discuss US policy, and the contrast to the UK was stunning. The focus in DC is how to create
growth and sustain jobs. The obsession in London is balancing the budget in a single
parliament.
In the October Spending Review ﾣ80.5 billion of cuts were announced (a minor revision down from ﾣ82.8
billion in June’s ‘emergency budget’). The plan is to reduce the budget deficit from around 10 per cent this
year to 2.1 per cent in 2014/15, with the aim of stabilising the national debt. This would mean a drop in
borrowing from ﾣ149 billion in 2010/11 to ﾣ37 billion in 2014/15.
The question is not whether the deficit has to be brought down: it does. But serious deficit reduction would
also have happened under the previous administration. The difference is that the coalition has accelerated
the deficit reduction plan and increased the bloodletting in public spending. The fiscal tightening is 6.2 per
cent of GDP by 2014/15 compared with 4 per cent under Labour and it is beginning sooner (e.g. 2.1 per
cent by 2011/12 compared with 1.1 per cent). Labour would have halved the deficit by 2014/15, Chancellor
Osborne plans to eradicate it completely. Between now and 2014/15 the coalition will cut public spending
from the ﾣ50.9 billion planned under Labour to ﾣ80.5 billion.
Why the plan is wrong
Unjustified: Needless risks to economic recovery
The British economy is in a fragile state – removing big chunks of demand in such a time is a very bad idea.
It risks pushing the country into another recession, which would make the public finances worse rather than
better. More importantly, it will prolong unemployment risking a return to the long-term jobless rates that were
the norm in 1980s Britain.
The government claim that the bond markets need additional ‘assurance’ that Britain is tackling the deficit.
There is no rational reason why this should be the case. Public debt levels are around ﾣ953 billion, which at
around 65 per cent of GDP is well below the average of the last three centuries (118 per cent between 1688
and 2010). And Britain has never formally defaulted on its debt (there is a historical debate over whether the
1932 events of the inter-allied debt and reduced coupon were defaults or not). So talk of us being ‘bankrupt’
and going the way of Greece is really just scaremongering.
The government argues that the IMF has given the austerity programme its official blessing. In fact, things
are much more nuanced. If one actually reads the latest IMF World Economic Outlook, it clearly spells out
the likely falls in output caused by severe deficit reduction. The IMF argues that fiscal consolidation has
particularly severe effects on reducing GDP when (i) other countries are simultaneously cutting their deficit
(so there is little foreign demand to pull up exports) and (ii) monetary policy is weak because interest rates
are near zero.
Both of these factors are now at hand and in such a situation the IMF suggests reducing the public spending
to GDP ratio by 1 percentage point will cause about a 2 per cent fall in short-term output. I supportquantitative easing, but I am not convinced that this will be sufficient either in Britain or the US to
counterbalance a fiscal retrenchment on the scale currently planned.
The IMF’s analysis is consistent with that of my colleague at LSE’s Centre for Economic Performance, Ethan
Ilzetzki, who has shown by looking at data from 48 nations over several decades that in the right environment
stimulus programmes can and do work. Another CEP colleague and new Nobel laureate, Chris Pissarides’
life work points to the severe costs of long-term unemployment. I concur with his view that the government is
cutting “too much too quickly”.
A sensible plan would be to slow the deficit reduction while the world climbs out of recession. This was
broadly the policy under the last Labour government. The stimulus programmes and bank bail outs –
opposed by many Conservatives – prevented a second great depression. We seem to be suffering from a
kind of collective economic amnesia, with the deficit being blamed on uncontrolled spending whereas it is
fundamentally the creature of the recession. The political fall-out has boosted the right, strengthened the
deficit hawks and now risks a repeat of what happened in the US in 1937 and Japan in 1997 when premature
withdrawal of demand led to a double dip recession.
Unjust: Hitting the poor where it hurts
The coalition claims that the deficit reduction programme is “fair”. Under any reasonable use of language, it
is not. The government’s tax and benefit reforms mean that (with the exception of the richest 2 per cent of
the population) the poor will pay a proportionately larger fraction of their income than the rich. Without the
tax increases already announced by Labour it would be even more clearly regressive. And if we factor in that
the public services are disproportionately consumed by the poor then it would be even more regressive still.
So the denial of this fact by the Prime Minister and his Deputy relies on some fancy verbal footwork over
what “fairness” is. To be charitable perhaps they mean “fair” for future generations by reducing the deficit.
There is definitely an intergenerational issue due to pension and health liabilities, but whether the current
deficit is dealt with in 2014/15 or 2017/18 will hardly make a difference to those very long-term problems.
And in any case, as I argued above, if the deficit is actually made worse by premature cuts then we will hurt
both current and future generations.
It ain’t all bad
Lest I be accused of being hopelessly partisan, let me point out that there are many elements of the
government’s package I support.
First, raising the retirement age to 66 by 2020 is the right thing to do as people are living longer and
healthier. I have little sympathy for the French antagonism to raising the retirement age to 62.
Second, removing child benefit from higher earners is also right (although explicitly means testing or taxing it
would have been simpler).
Third, implementing the Browne Review and abolishing the fees cap is the only way to save our universities –
one of Britain’s few world-class industries. I hope the government does not lose its nerve here or use this as
a cover for simply withdrawing money from the university system still further.
Fourth, I support the concept of a pupil premium to help pupils from low-income families improve their school
resources. But combining this with an 11 per cent cut in the education budget means only a very small real
increase in current expenditure combined with a massive cut in capital investment.
Fifth, the idea of a universal benefit combining and simplifying the existing web of benefits and tax credits is
right. The problem is in executing this. Changing Council Tax Benefit into a discretionary grant for local
authorities will actually accomplish the opposite.
Overall, deficit reduction does offer an opportunity to increase public sector productivity that can and should
be greater. There are many ways to do this through improving management practices as I have argued
elsewhere.
Why pursue an unnecessary policy?
Why did the coalition move so far from the March 2010 deficit reduction plan? I have heard ministers say “it’s
simply arithmetic”; but this isn’t true – there is a sound economic basis for a more gradual exit strategy. I
think the fundamental reasons for extreme austerity are political and ideological.
On the political side, pushing through maximum pain now enables them to say that it was all the fault ofOn the political side, pushing through maximum pain now enables them to say that it was all the fault of
Labour wasting money. This is what most new CEOs do – get the bad news out, sack a bunch of people and
blame the old lot. The high deficits shared by most advanced nations are overwhelmingly due to the
recession, stimulus packages and bank bail-outs. The Keynesian policy responses helped save us from a
near death experience for the global economy.
The previous government did have some culpability for two reasons. First, weak financial regulation and the
implicit bailout promise led banks to indulge in overly risky behaviour: but remember that the Conservatives
were arguing for even more deregulation, not less. Second, more should have been done to reduce the
structural deficit when times were better. There is no harm with high public spending per se – the
Scandinavians seem to manage it pretty well. But taxes have to be raised by more than the Labour
government was prepared to do in order to pay for them.
Beyond raw political tactics, Conservative ideology plays an important role in extreme austerity. The explicit
aim is to cut back the size of the state quickly to where it was in Labour’s early days of the late 1990s. The
next stage will be to go even further. There does not seem to be much of a coherent view of what the state
should do, however, and the shape of the budget seems to be focused mainly on just cutting. Many
economic liberals would cheer this as a good thing – the smaller the state the better. Yet the coalition seems
reluctant to wear the mantle of Thatcherism. It would be better if they were honest and accepted that this
indeed is what they are doing.
The coalition’s extreme austerity policy is the biggest economic gamble I have seen a British Chancellor take
in my lifetime. With my heart, I hope for the sake of the country the wager pays off, but in my head I fear that
this unjust, unjustified and unnecessary programme will cost us dearly as a nation.
Click here to respond to this post.
To access the Government Spending Review source documents and key commentaries, see the clickable
list here.
Cuts logo is courtesy of Eric Tastad and the Creative Commons.
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The 2010 Comprehensive Spending Review: the economics of the cuts agenda are neither justified nor just .

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