An economics lesson for Matt Hancock

New Tory MP and former chief of staff to George Osborne, Matt Hancock, today takes to the pages of The Times to set out the Government’s case for its accelerated spending cuts programme. Hancock is an economist by training and worked for the Bank of England. Sadly, he’s let politics get in the way of the economics.

Matthew-Hancock After a preamble, Hancock’s argument begins by examining market confidence in the Goverment’s policy:

Dealing with a debt problem boosts confidence that the economy will be stable. Interest rates can be kept lower for longer as the Bank of England supports demand. International investors ask less of a premium on the money they lend.

This is happening. Market interest rates have fallen. This week the rating agency Moody’s said that the UK’s AAA credit rating is safe because of the Government’s action. Interest rates for government borrowing for two or three years have halved since the election. Lower interest rates both save money and stimulate the economy. I grew up in a family that ran a small business, so I know just how much businesses benefit from lower interest rates. Homeowners benefit from lower mortgage rates, which matters even more since household debts are the highest in our history.

The problem for Hancock is that the yield on 10-year gilts was falling while Labour was still in office and this decline has had very little impact on mortgage rates or bank lending. In any case, this needn’t be seen as a sign of confidence in either Darling or Osborne. US rates have also fallen over the same period. Markets are effectively downgrading the likely date of the Bank rising its base rates due to sluggish growth. Indeed, Moody’s statement earlier this week was clear that “slower economic growth” could jeopardise the rating.

Hancock goes on to look at how badly the cuts could hurt the economy:

I discovered that research into dozens of past fiscal tightenings shows that, more often than not, growth doesn’t fall but accelerates.

A study in 2003 by the European Commission found that of 74 consolidations examined, in 43 cases growth accelerated. In the mid-1980s, Spain, Portugal, Denmark and Ireland all had to rein in large deficits and their economies grew as a result. Finland, Sweden and Italy found the same in the mid-1990s. After the large cuts made by Canada in the 1990s, its economy then grew. More recently, after tackling its deficit, Sweden is growing at more than 4 per cent.

Again, the Tory MP is selective with the evidence. None of these consolidations took place on the back of what has been the world’s worst recession since the 1930s. In almost all of the scenarios he cites, growth was able to bounce back because global demand was buoyant, exchange rate depreciation caused export-led growth, and there was room for large falls in interest rates. None are possible or happening in this instance. The Bank of England – alongside many independent analysts – cut back its growth forecast in August citing the planned deficit reduction measures as one of the factors. In any case the study cited by Hancock only provides a 58 per cent success rate and correlation does not equal causation.

Next, Hancock claims there’s no need for a Plan B if the Chancellor’s “gamble” turns out to be wrong:

Evidence from the past also indicates how we can get this positive result. First, cuts are most likely to lead to growth where a credible plan is set out and kept to. Where countries give up on a programme of cuts halfway through, confidence is undermined and growth is harmed…

Some people who oppose the cuts keep asking: what is Plan B? But would you go into a marriage talking about Plan B? Who gets down on one knee and says: “Darling, let’s talk about what happens if this doesn’t work out”? Like a marriage, the surest way to end up on Plan B is to start talking about it.

So how does Hancock explain the Irish experience? Despite their cut, cut and cut again agenda, the markets are still not convinced by the Irish policy as Duncan Weldon expertly showed this week. Indeed, as the Irish economy has slumped, tax revenues have fallen from €47bn in 2007 to €31 billion this year. Indeed, Hancock’s marriage analogy is even more banal than Clegg’s household debt metaphor earlier this week.

Hancock’s next justification is of the 4:1 ratio of spending cuts to tax rises:

The second lesson from the research is that consolidation helps growth when it’s mostly done through spending cuts, not tax rises. The OECD say the best balance for growth is 80 per cent cuts and 20 per cent tax rises. If government is living beyond its means, growth can only come from private businesses; tax rises that discourage enterprise would harm any prospect of boosting that private sector growth. What type of spending is cut matters too. Maintaining capital spending and minimising public sector job losses by restraining pay and tackling welfare spending helps growth.

Why then does the OBR (Table C8 of the Budget) say that spending carries twice the multiplier of taxes? Spending cuts are also a much better way of guaranteeing unemployment since they directly affect public sector and contractors’ jobs.

Finally, Hancock tries to underplay the scale of the cuts to come.

But if the hole is so much bigger won’t the cuts hit more? I looked at the numbers. GDP grew by 1.2 per cent in the last quarter. By contrast the extra £6 billion cuts this year announced by the coalition amount to 0.1 per cent of GDP per quarter. Over the next five years, the scale of the extra cuts is the same. Compare that with the huge boost from showing the world we have got to grips with our finances. After all, the size of the State and the size of the economy are not the same thing.

On this point, Hancock’s grasp of the facts exits stage far-right. £6 billion of spending cuts this year will be followed by £23 billion next year rising to £83 billion by the end of the Parliament – nearly 14 times the pain already experienced.

Hancock ends by claiming, “The evidence is clear: we can keep growth going and sort out our finances — so long as we stick to the plan.” His evidence owes more to wishful thinking than any real grasp of the dismal science.

http://twitter.com/shamikdas/status/25294543560 Shamik Das

An economics lesson for Matt Hancock – @wdjstraw takes the Tory to task for his Times article: http://bit.ly/daYVaY on @leftfootfwd
http://twitter.com/sinnaluvva/status/25294627805 Malcolm Evison

RT @leftfootfwd: An economics lesson for Matt Hancock http://bit.ly/daYVaY
http://twitter.com/othertpa/status/25294676991 Other TaxPayers Alli

Excellent take-down RT @leftfootfwd An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/samtarry/status/25294700522 Samuel Tarry

@wdjstraw @leftfootfwd Fisks Matt Hancock's economics http://www.leftfootforward.org/2010/09/an-economics-lesson-for-matt-hancock/
http://twitter.com/wdjstraw/status/25294711143 Will Straw

Boy George's boy, Matt Hancock MP, ignores the economic evidence in his Times piece today http://bit.ly/daYVaY
http://twitter.com/brianfmoylan/status/25294750765 Brian Moylan

RT @wdjstraw: Boy George's boy, Matt Hancock MP, ignores the economic evidence in his Times piece today http://bit.ly/daYVaY
http://twitter.com/andy_s_64/status/25294790109 Andy Sutherland

RT @wdjstraw: Boy George's boy, Matt Hancock MP, ignores the economic evidence in his Times piece today http://bit.ly/daYVaY
http://twitter.com/duncanweldon/status/25295042337 Duncan Weldon

RT @leftfootfwd: An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/raymondonia/status/25295416944 ray turner

RT @wdjstraw: Boy George's boy, Matt Hancock MP, ignores the economic evidence in his Times piece today http://bit.ly/daYVaY
http://twitter.com/hangbitch/status/25295582391 Kate B

Fisking Matt Hancock http://bit.ly/aa175x Nice takedown by @leftfootforward
http://twitter.com/their_vodka/status/25295872537 their_vodka

RT @hangbitch: Fisking Matt Hancock http://bit.ly/aa175x Nice takedown by @leftfootforward
Mr Jabberwock

“The problem for Hancock is that the yield on 10-year gilts was falling while Labour was still in office”

But only because everyone knew that Labour was going to loose the General Election.
http://twitter.com/punkscience/status/25298001365 punkscience

RT @OtherTPA: Excellent take-down RT @leftfootfwd An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/garydunion/status/25298017056 Gary Dunion

Have just been sent an email from @wdjstraw with the subject line "Fisking Matt Hancock." *doubletake* (It was about http://bit.ly/aa175x)
Evidence based.

Mr Jabberwock is probably right. There were swings in such indicators of market confidence when the markets thought that labour would get back in. Either way, Labour’s leading economic voice- balls- has stated he would abandon deficit reduction plans. Wouldn’t that spook the markets?
http://www.order-order.com Guido Fawkes

Correct Mr Jabberwock, in fact as I blogged and Newsnight followed up, the pound was tracking polling, if Labour upticked the pound went down. Gilt traders and other financial player believed the Tories were going to win. Look at how the market backed off when there were rumours Clegg would do a deal with Labour…
Will Straw

Hold on Mr Jabberwock, Evidence based, and Guido – the markets might have been expecting a Tory victory but they got a coalition, the single thing that they were said to fear. In any case, external factors rather than the markets’ election predictions are a much more likely explanation.
MattNW5

Only if you want it to be Will. Your argument doesn’t stack up at all I’m afraid. The tracking againt polling appeared statistically significant at the time (admittedly based on Guido’s graphs). The market expected a conservative win and responded accordingly. It feared a Labour victory or policy paralysis from a hung parliament minority administration. In the event in got neither, so happy days are here again. Eventually.
MattNW5

PS – and your £83m “cut” by the end of the parliament is relative to what exactly? It sure ain’t nominal or even real year on year amounts is it?
Evidence based.

Will, but wasn’t that because all assumed evidence, advanced significantly by yourself, stated that a coalition was likely to be LAB/LIB? It was the labour position that the markets feared. Putting Balls at the helm would really spook them.
http://twitter.com/richardwatts01/status/25299889812 Richard Watts

This is very scary stuff: http://www.leftfootforward.org/2010/09/an-economics-lesson-for-matt-hancock/
Dominic Eagleton

Mr Jabberwock, the chart linked to in this blog shows the trend for bond yeilds has been downwards since 1998. Did everyone know Labour was going to lose the 2010 election back then?

Evidence based, Ed Balls wants to abandon the coalition’s deficit reduction plans (which are also spooking market players) because they threaten to strangle the economy and deepen the deficit, and because maintaining demand is the right response for now.
Tom White

What is Guido doing here? Hasn’t he got better things to do? Like throwing some dubiously based allegations around, and enjoying the homophobic reactions to his blog…?
http://www.idlepenpusher.blogspot.com idle pen pusher

“The problem for Hancock is that the yield on 10-year gilts was falling while Labour was still in office and this decline has had very little impact on mortgage rates or bank lending.”

The problem for Straw is that this is because of the Tory poll lead and prospect of cuts. And are you kidding about very little impact?

“Spending cuts are also a much better way of guaranteeing unemployment since they directly affect public sector and contractors’ jobs.”

Wrong. Public spending guarantees unemployment, cuts reduce unemployment.

“£6 billion of spending cuts this year will be followed by £23 billion next year rising to £83 billion by the end of the Parliament – nearly 14 times the pain already experienced.”

Except that public spending cuts are tiny. How much lower will real public spending be in two years time than now? 20%? 10%? 5%? Not a bit, 2%!
Evidence based.

Dominic, what evidence is there that Coaliton plans are spooking the markets? In fact its the opposite; Moody’s, one of the biggest credit rating agencies, came out to say that it was because of this that they were not downgrading the UK’s credit rating.

Bond yeilds were down from 1998 as the UK was going through an unsustainable bubble. Like everything else in that period, the statistics then can’t be comparable to things now.
http://torylies.blogspot.com Richard Blogger

@MatNW5 Huh? “statistically significant”? Let’s have the figures then, please.

If the market didn’t like Labour why didn’t we have a crisis in the gilt markets from 2008 to May 2010? Long term trends are much better indicators (as Will showed with the 10 year gilt yields) than day to day fluctuations. Any evidence based scientist knows that.

I am not surprised that Guido came up with this non-scientific analysis, let’s face it, he thinks that those people who bet are a good indicator of policy.
http://billyblofeld.wordpress.com Billy Blofeld

Will,

Shame you left out the quote where Hanckock links the economics of Ed Balls with Bob Crow in the same breath…….

…despite a hang over and being sat on a train at 7am – that phrase made me twitch a tiny smile this morning….
Chris

Good article, it has prompted a flurry of far-right sockpuppets so has obviously hit a nerve. After a meltdown caused by Neo-Liberal bollocks, you’d have thought some of these loonies would have a re-think but no such luck; with a solid brass neck they’re trying to pin the blame on the public sector. Already the BoE are discussing more QE so god knows how anyone can argue with a straight face that Osborne’s cuts are good for the average person.

@idle pen pusher – I particularly like your reasoning, or lack of, public spending guarantees unemployment because…you say so…thoroughly convincing. Now run along and blow virtual smoke up that little pin head Hannan’s ass.
http://www.order-order.com Guido Fawkes

“Far-right sock-puppets”? You need to sort your logic and terminology out. I comment on here because Will writes intelligently and I think it worthwhile to explore the arguments.

I actually predicted gilt yields would plummet if we had a coalition government in April.

http://order-order.com/2010/04/18/the-change-coalition/

and I said Osborne was wrong to claim otherwise and lo it came to pass

http://order-order.com/2010/05/25/markets-like-the-change-coalition/

Betting markets are useful indicators as academic studies have demonstrated – in April the betting markets gave a coalition goverment a 56% probability.
http://twitter.com/aliunwin/status/25309190570 Ali Unwin

The comments on @wdjstraw 's Fisk of Matt Hancock's Times piece are worth a read: http://cot.ag/c63rI8
Will Straw

Thanks for the comments. Just to be clear, it’s always good to have a range of debate on here and I don’t myself see Guido, Billy or ‘Evidence based’ as “sock-puppets” just people with a different opinion.

There may well be a correlation between Labour’s poll lead and gilt yields but that doesn’t prove causation. Much more likely, not just in my opinion, that the decline reflects the relative security of the bond market.

idlepenpusher – You don’t prove anything by linking to your own blog, I’m afraid. Ricardian Equivalence is an economic theory with scant evidence to support it in the context of the last three years. But if it does prove to be true, it’s a medium term phenomenon. The job losses from the masochistic spending cuts will take place in the short-run.

As for your 2% point. You’re wrong. Public spending will fall from 47.3% this year to 43.9% in two years time [Table C6 of the Budget]. The vast majority of this spending is either explicitly (health, DfID) or implicitly (unemployment benefit, child benefit, etc) protected. The result is that non-protected departmental spending will have to fall 23% over the next four years – a huge amount which will lead to thousands of job losses, increased poverty, and rising inequality. The argument is about whether it’s justified, not whether it will happen.
http://twitter.com/lucyproctor/status/25310544048 Lucy Proctor

Hancock demolished RT @leftfootfwd: An economics lesson for Matt Hancock http://bit.ly/aa175x
http://www.idlepenpusher.blogspot.com idle pen pusher

Will,
TME in 2010-11: £697bn
TME in 2012-13: £711bn
After expected inflation, that’s a 2% cut. How on earth can you argue that’s wrong? It’s highly specious to argue that economic growth = public spending cuts. If the economy grows from period 1 to period 2, buying exactly the same value of services at does not constitute a ‘cut’. That’s like saying a striker who scored one goal in one match and two in the second ‘cut’ his goal scoring because someone else also scored a goal in the second match while he was the only goal scorer in the first. That really is contorted logic.

In general, the (tiny) cuts will allow additional room for economic growth and higher prosperity in rough proportion to the size of the cuts. In particular, the larger cuts in some areas (to fund increases or freezes in other areas) will of course lead to redundancies in those areas. You need either cuts in the private sector (via bankruptcies or downsizing caused by tax rises or crowding out in bond markets) or cuts in one part of the public sector if you insist on expanding another part of it. You can’t avoid this.

I can’t prove anything by linking to anything. I can save myself from writing something out again and make a comment shorter, though. As for the ‘scant’ evidence, compare Germany with the US.
Richard

Can any of you well enlightened comentators tell me why it is OK for local govt to borrow to fund growth and service provision and it is wrong for National govt?
http://ucl.ac.uk/cancer StephenH

Re the market discussion. Note the large fall in interest on UK debt today because the US are injecting more stimulus (not cutting). Presumably because they hope this will stimulate world growth???

http://bit.ly/cAz79m
http://billyblofeld.wordpress.com/2010/09/23/praising-a-leftie/ Praising A Leftie « Billy Blofeld

[...] A Leftie 23 09 2010 A quick note to give a thumbs up to Will Straw who patiently lets me rant against the insanity of the left and the corruption of science in the [...]
http://ucl.ac.uk/cancer StephenH

‘I can’t prove anything by linking to anything. I can save myself from writing something out again and make a comment shorter, though. As for the ‘scant’ evidence, compare Germany with the US.’

@idle pen pusher there are two US to Germany comparisons by Krugman that may surprise you….

1. It’s GDP has performed pretty similar to the US
http://krugman.blogs.nytimes.com/2010/08/24/what-about-germany/

2. And the German government has actually spent more than the US through the crisis
http://krugman.blogs.nytimes.com/2010/09/10/ever-expanding-government/
http://billyblofeld.wordpress.com Billy Blofeld

Some words in praise of Will Straw.
http://twitter.com/spottiswoode_h/status/25321441098 Spottiswoode

Ouch! RT @leftfootfwd: An economics lesson for Matt Hancock http://bit.ly/8X4KGZ
http://twitter.com/wdjstraw/status/25328037769 Will Straw

The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/ianrobo1/status/25328377538 ian robathan

The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/notlob2008/status/25328496323 notlob

@wdjstraw:Irish economy shrinking 1.2% in Q2 makes Matt Hancock MP piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/ci_wells/status/25328923137 Ciaran Wells

RT @wdjstraw: The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/matthewrhodes/status/25328990201 Matthew Rhodes

RT @wdjstraw: The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/maenllwyd/status/25329023603 Dominic Smith

RT @wdjstraw: The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://twitter.com/cllriangilbert/status/25329710719 Ian Gilbert

RT @wdjstraw: The Irish economy shrinking by 1.2% in Q2 makes Matt Hancock MP's piece today on cuts driving growth look even dafter http://bit.ly/8X4KGZ
http://www.touchstoneblog.org.uk/2010/09/web-links-for-23rd-september-2010/ Web links for 23rd September 2010 | ToUChstone blog: A public policy blog from the TUC

[...] An economics lesson for Matt Hancock Will Straw has an excellent post on Left Foot Forward, taking apart the argument that eliminating the deficit is essential for growth. Will points out that the coalition's favourite examples of countries growing after making cuts are all times when demand was growing in the rest of the world, making export-led growth much easier to achieve – for more on this argument, see Jayadev and Konczal's "The Boom, Not the Slump" at http://www.rooseveltinstitute.org/sites/all/files/not_the_time_for_austerity.pdf Related posts (automatically generated):Budget 2010 must include support for industrial investment [...]
Mr. Sensible

‘Idle Pen Pusher’, spending cuts reduce unemployment? What on Earth?

Spending cuts effect jobs, not just in the public sector; in the private sector.

Look what’s happened to the likes of construction since the BSF announcement?

Just remember what Cable said yesterday about maintaining demand.

And Hancock talks about keeping interest rates low, but the VAT increase won’t exactly help to keep a check on inflation, and then this could in turn lead to pressure on interest rates.

In any event, I completely agree with this article. And, like you Will, I think it is good we have the debate on here, whatever I think of what some people are saying.
http://twitter.com/guyaitchison/status/25352710837 GuyAitchison

RT @leftfootfwd: An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/nextleft/status/25353177476 Sunder Katwala

RT @leftfootfwd: An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/beaubilly10/status/25353338332 fljf

RT @leftfootfwd: An economics lesson for Matt Hancock – fisk of his Times article http://bit.ly/daYVaY
http://twitter.com/yorkierosie/status/25353851593 yorkierosie

RT @leftfootfwd: An economics lesson for Matt Hancock http://bit.ly/aa175x
http://www.idlepenpusher.blogspot.com idle pen pusher

StephenH – first graph is very dodgy, start from when the recovery started (in Germany first, not US) and it looks very different. Second one I looks like it ignores transfer payments. Why? That money counts, too. Giving cash to people in exchange for being unemployed or having children is no less a fiscal stimulant than giving them cash for writing reports about diversity.

Mr sensivle – Government spending can only increase equilibrium unemployment rates. The more it spends, the more unemployment there will be (once the economy has adjusted to that spending). And vice versa. Sure, if you fire people they’ll mostly be unemployed a while till they get a new job, which will increase unemployment during that time. But once they’ve all got jobs, total unemployment will be lower. I’ve explained why here
Mr. Sensible

IPP I just think you’re plain wrong.

The OBR itself talked about 600000 job losses across the public sector, and a leaked Treasury slide reported in the Guardian in July expected 700000 jobs going in the private sector due to lost public sector work, as well as presumably less spending power by those already out of work causing a continuum.

I believe that a few months ago the CIPD suggested that unemployment could stay close to 3 million for all of this parliament.
http://www.idlepenpusher.blogspot.com idle pen pusher

Mr Sensible – imagine what would happen if we weren’t to cut. Firstly, confidence in the government would fall. People would begin to wonder whether the government would start printing money to pay the bills or whether it would simply keep on borrowing £150bn/year. Neither would be pretty. Interest bills would soar and we’d find ourselves in a Greek mess in short order. Would we slash back public spending then, or hike taxes? Or just default on the debts? What do you think all that would do to unemployment?

And think about those companies that went bust because taxes were higher. If we didn’t raise taxes then we’d have to borrow the money, which would mean less finance for business, because lenders would be lending their capital to the government instead. That means unemployment and bankruptcies. Or perhaps you’d just print more money and let inflation run riot?

But if we do cut spending then people are not going to be worried about the government defaulting on their loans so they’ll lend more cheaply to the government. There will be more capital available for private borrowers. People won’t fear runaway inflation.

You need to think beyond the immediate effect of firing a public sector employee and think what effect lower taxes and less crowding out in the capital markets has on employment and growth. As Blair has said, it’s private enterprise that will provide the jobs and the growth to get us out of the current situation, not the state.
http://www.leftfootforward.org/2010/10/matthew-hancock-theresa-may-equality-act/ Hancock breaks ranks with attack on Equality Act | Left Foot Forward

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