Will this recession signal the end of neoliberalism? Don't celebrate too soon
Things will have to get a lot worse before UK policymakers ditch the current model for a new Keynesian revolution.
The UK economy has been in a terrible mess for the past five years. A massive financial crisis necessitated the nationalisation or part-nationalisation of several banks. The years 2008 and 2009 saw the deepest recession since the 1930s and this is being followed by the slowest economic recovery for more than a century. The latest data suggests that the economy was back in recession at the end of 2011 and in early 2012, and output is still more than 4% lower than at its peak in early 2008.
As a result, unemployment has increased by more than 1 million in the past four years and long-term unemployment stands at its highest level since 1996.
Meanwhile, the Bank of England's monetary policy committee has lost control of inflation. In 37 of the past 60 months, and in every one of the past 24, consumer price inflation has been one percentage point or more above its target rate. Furthermore, even before the financial crisis and recession began, the economy was delivering for only the wealthiest in society, while real median wages stagnated.
With this plethora of bad news, it is not surprising that many are ready to condemn the main elements of neoliberalism to the scrapheap.
But, as yet, there is very little to suggest that a paradigm change – by which I mean a substantial shift in the accepted way of thinking about the economy – is imminent. Indeed, apart from a new regulatory regime for the financial sector and some toughening of regulations covering the banking sector, it is largely back to business as before. Bankers are again getting huge bonuses, the MPC still has a mandate to keep inflation close to 2%, and a centre-right government is making large cuts in public spending while cutting corporate tax rates and promising deregulation.
There are two big reasons for neoliberal thinking still holding sway. First, things have not been bad enough for a paradigm shift.
This may seem a strange thing to say, given the depth of the recession and the extent of the squeeze in the living standards of low- and middle-income families. But, at about 8%, unemployment is far below the levels seen in the Great Depression, when it exceeded 20% between 1931 and 1933. If unemployment is the biggest effect a recession has on people's lives, the current experience falls a long way short of that which helped to usher in the Keynesian revolution in economic thinking and policymaking.
Similarly, the combination in the current downturn of a 5% peak inflation rate and 8.5% unemployment feels less bad to most people than the 1970s, when inflation peaked at 27%, unemployment stood at 6% and the government had to ask the IMF for a bailout.
In both the 1930s and the 1970s, the economic crisis was so awful that confidence in the political class's ability to manage the economy collapsed. A paradigm shift became almost inevitable because no one believed in the old paradigm.
But, on its own, this collapse in confidence was insufficient. The second big reason no paradigm change is imminent is that there are not enough new and sufficiently developed economic ideas waiting in the wings to coalesce into a new economic paradigm. Keynes said it took a theory to kill a theory; neoliberalism will survive until there is something to replace it.
By the end of the second world war, the Keynesian revolution was sufficiently developed for the Labour party to offer a comprehensive new approach to economic policymaking. Similarly, in 1979, the Conservative party was able to present the main elements of neoliberal thinking as the solution to the economic problems that blighted the economy in the 1970s. There is nothing comparable for the opponents of neoliberalism to latch on to today.
Other factors have conspired to shore up neoliberalism in the UK. Labour was in power during the financial crisis and recession, so it was always likely that it would be ousted afterwards. A centre-right government is a natural defender of neoliberalism, not one to kill it (under Hollande, France may be going in the opposition direction). In addition, the economic crisis quickly mutated into a government deficit crisis in parts of Europe, and the perception that deficit reduction was now the overriding economic priority took hold. Unless it was centred on a credible deficit reduction plan, it became impossible for any new economic thinking to get a hearing in the mainstream. There was very little space in which an alternative to neoliberalism could develop.
Perhaps it is too soon for a new paradigm to have emerged. It was over a decade after the depth of the Great Depression in the early 1930s that Labour came to power with a new economic programme. It is quite probable that several more years of economic austerity – low growth, high unemployment, squeezed living standards and deteriorating public services – will create the massive loss of faith in neoliberalism needed before change can occur. A collapse of the eurozone, if it occurs, could certainly serve to accelerate this process.
But the challenge of developing a different economic model will remain. Opponents of neoliberalism need to formulate a new approach to economic policymaking, not one that tinkers at the edges of the existing model. This will involve rethinking the objective of economic policymaking to bring in non-monetary measures of progress, such as wellbeing, and to take account of resource constraints. It will involve a re-examination of the ways in which public policies can best promote full employment. And it will involve developing new rules for fiscal and monetary policy. There is much work to be done but, until it is done, politicians will struggle to build a consensus for change.
Large parts of the thinking that has dominated economic policymaking in the UK for the past three decades should be consigned to the dustbin of history, but I fear there is life in the old neoliberal paradigm yet.