The banks did cause the deficit
My good colleague John Rentoul has posted an admirably clear blog on the causes of the fiscal deficit.
Answering the question “How much of the budget deficit was caused by (1) having to bail out the banks, and (2) Labour over-spending?” John’s response is ”(1) None of it, and (2) About a third”.
He’s right that the Treasury might end up making a profit on the disposal of its RBS and Lloyds shares (although no one can be sure about that). And he’s right that the 3 per cent deficit Gordon Brown was running as Britain entered this crisis means that the deficit now is higher than it otherwise would have been. His estimate of about a third seems reasonable.
But my problem with John’s blog is that it gives the misleading impression that the crisis in the public finances is nothing really to do with the behaviour of the banks.
What John doesn’t mention is that the banking crisis gave the UK economy a heart attack and that this had a disastrous impact on the public finances. Between 2007-08 and 2009-10, nominal GDP fell by 1.4 per cent (£20.6bn). And tax receipts dropped by 5 per cent (£27.3bn). It’s this sudden collapse in economic activity, brought on by the bursting of the bank-inflated credit bubble, which is responsible for the bulk of the deficit. Yes, the previous Government could have cut its spending as revenues fell, but that would have made the slump deeper and the deficit still greater.
Here’s what Adair Turner, the head of the Financial Services Authority, had to say in a recent speech about the costs of rescuing banks in the US and the UK:
“Direct support costs are swamped by the macroeconomic harm produced by the financial crisis. US public debt to GDP will increase by at least 50% in this recession, even if the direct cost of support ends up as zero. UK public debt similarly will increase by at least 50% of GDP, even though the direct costs may not exceed 5%.”
When analysing the damage inflicted by the banking sector on the public finances, it’s vital to look not just at the direct public cost of bank recapitalisations, but also the wider macroeconomic impact of their reckless behaviour.Tagged in: banks, deficit, Gordon Brown, John Rentoul, labour
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