History could have predicted a global financial crisis
David Hall-Matthews |
During Wednesday's Budget debate, David Cameron rightly ridiculed Gordon Brown's claim to have ended boom and bust. For the leader of any national economy - especially the U.K. with its particularly high exposure to global markets - Brown's claim was risible and irresponsible, and probably now much regretted. Worse, Brown's defence - that this is an unexpected global financial crisis - demonstrates an exceptionally weak, or at best highly selective, understanding of economic history.
For at least 200 years, the United Kingdom's economy has been based around international trade - to a far greater extent than other advanced economies. On the eve of the current recession, its ratio of exports and imports to Gross Domestic Product was by far the highest in the G8. It was therefore entirely predictable that a global downturn would have worse effects for Britain than its competitors, as has now been confirmed by the International Monetary Fund.
Britain has done very well out of its globalised economy, which has such deep historical origins that its risks and failings could not reasonably be blamed on any particular government. But with a better understanding of history, the Prime Minister could have anticipated the dangers of being strapped in on the global rollercoaster.
Since the global economy was developed through a series of free trade agreements in the mid-nineteenth century - accelerated by colonialism and by the "Most Favoured Nation" principle of mutual tariff reductions that preceded the World Trade Organization - every period of growth and every recession has necessarily been global. And almost every crisis has been financial.
The long-forgotten depression of 1873 - which saw every nation but Britain and Denmark scurrying back to protectionism - was triggered by a currency crisis. The 1929 crash was also primarily a banking collapse. The 1980s recession was somewhat different, due to the oil crisis, though the high interest rates created by petrodollars again deepened and lengthened its global impact.
Alistair Darling is correct, however, in drawing the lesson from the 1930s depression that Keynesian state investment is necessary to kick-start the British and global economies. Immediate retrenchment would only prolong the agony, and David Cameron's insistence on it suggests an equally poor historical grasp. But there is also another, more important, lesson to learn from the 1930s: economies must be kept open and international trade stimulated. Heavy, self-interested protectionism not only stifled any hope of economic growth, but contributed to the rise in international hostility in the build-up to the Second World War. After a few wobbles during his election campaign, President Obama has shown some awareness of this risk, but dangers still lurk. Seventeen members of the G20 have implemented some form of protectionism in the last year. There is a fine line between supporting, say, British workers and interfering harmfully in global trade.
Governments should also seek to stimulate sectoral and geographical diversity in their economies. Ever since the classical economic liberal creed was set out by Adam Smith and David Ricardo, nations have been encouraged to focus on areas of comparative advantage in global markets. In more recent, neo-liberal, times, this has worked well for Britain - under Margaret Thatcher and Tony Blair - as well as for India, which like the UK has focused on the service sector, and China, which has emphasised cheap manufacture.
The risks, however, are twofold. First, a one-way bet increases the scale of difficulties a national economy has to face if their leading sector hits global trouble, as financial services have now done. Second, over-emphasis on one area can create "Dutch disease", whereby other sectors are squeezed out, leading to a regionally imbalanced economy, as is all too evident in the UK today.
The budget demonstrated Alistair Darling's recognition of this problem. Promising not to neglect the financial sector's still huge potential for future profits, he also sought to stimulate regional industrial development in advantageous areas like advanced technology and low-carbon energy. But the amounts announced to achieve this were inadequate.
The underlying problem, amply demonstrated in the budget, is that it is hard to fix the roof during a downpour. Labour know what to do, more or less, but no longer have the capacity to do it - unless they bite the bullet and go begging to the IMF, whose track record is firmly to oppose Keynesian measures and state subsidies. Now we know how developing countries' finance ministers must have felt, ever since the start of their own long-standing debt crisis in the early 1980s.Please note: Views expressed are those of the author.