Why Did We Let The Crisis Go To Waste?

“Only a crisis - actual or perceived - produces real change. When that crisis occurs, the actions that are taken depend on the ideas that are lying around.” If this quote by the Nobel Prize winning economist, Milton Friedman, is true, the Left’s response to the financial crisis of 2007/2008 - particularly the Brown government between 2007-10, but also the Miliband leadership that followed - has been a monumental failure.

Ten years on from the start of the economic crisis this is a popular view. “We let the 2007 financial crisis go to waste” writes Torsten Bell, Director of the Resolution Foundation in the Guardian. Similar arguments have been made by economist Anatatole Kaletsky in Project Syndicate; by Martin Sandbu in the Financial Times; by Ryan Avent of the Economist in Democracy; and by Naomi Klein in her new book ‘No is Not Enough’.

These commentators find their evidence in the response of policy makers to the Great Depression and the Second World War. Following those events there was a clear break from the orthodoxy with the instigation of bold Keynesian spending programmes, the creation of ambitious new social institutions such as the NHS and the introduction of regulation to curb the excesses of the financial sector.

By contrast, in most ways post-crisis policy has reinforced, rather than overturned, the existing orthodoxy. Austerity has passed the costs of the crisis onto ordinary people and has left many of our most prized social institutions on their knees. Meanwhile, there has been little serious attempt to re-write the rules of our economic system to promote sustainability, social justice and equality.

Why did progressive leaders not do more? Ironically, it was partly a result of their initial success: it was precisely because policy makers were so quick to respond with strong monetary policy (and, initially fiscal policy) that the immediate economic and social costs of the crisis were lessened, cushioning not just ordinary people but also the system that had caused the crisis.

However, at a deeper level, it was also because on the eve of the crisis, progressives had bought into the status quo to such an extent that they had no alternative manifesto to replace it. In the UK this was undoubtedly exacerbated by the fact that the Labour Party was in power as the crisis hit, but, more fundamentally it was a result of the Left’s decision to embrace the intellectual framework of the Right either through choice or perceived necessity.

As a result, their policy prescription was captured by the idea that markets are, on the whole, efficient, and that the ideal society is ‘meritocratic’ rather than redistributive. Being a progressive under Blair and Clinton became about using tax revenues to soften the hard edges of free markets rather than intervening in their rules and regulations to drive equality and social justice. As such, they failed to pin the responsibility for the crisis on the existing orthodoxies and to provide a credible but bold alternative when the time came.

This analysis begs the question ‘what should the Left have done after the crisis?’. Some may argue that this a pointless line of questioning; after all the opportunity to take a different path has been and gone. But, as George Santayana once said “those who fail to learn the lessons of history are doomed to repeat them”.

With many of the public seemingly questioning austerity, and many of the underlying causes of the financial crisis still alive and well - consumer debt for example, which is once again at record highs - now is exactly the time for analysing what a bold alternative would look like. In what follows, I argue that three key arguments would have had to be made and won for the Left to have used the crisis as a catalyst for bold change.

Argument #1: Invest To Save (We Are Not Greece)

The first key argument relates to the issue that more than any other has shaped domestic policy in the UK over the last decade: fiscal policy. In the immediate wake of the financial crisis, policy makers across the globe quickly recognised the need for some kind of fiscal stimulus package to avoid another Great Depression. The UK played a crucial - if not, the leading - role in this effort, brokering a $1tn deal at the G20 summit in 2009. Moreover, the stimulus worked, with the World Bank arguing that it had “broken the fall" of the global economy.

Nevertheless, as corporate debt turned into government debt, the discussion in the UK quickly turned to the need for fiscal consolidation, fuelled by spurious comparisons with Greece and sketchy academic studies claiming the existence of ‘expansionary austerity’. The result was a change of government and the rise of austerity which delayed the recovery. For example, according to the OBR’s (conservative) calculations, austerity took 1 per cent off economic growth in both 2010-11 and 2011-12, not to mention the longer term social damage.

In hindsight, Alistair Darling’s call for ‘cuts deeper than Margaret Thatcher’s’ and Labour’s subsequent failure to defend increased spending during the leadership election were fundamental missteps. They ceded the ground to the Right too easily. Instead, the Left should have rebutted comparisons with Greece – the UK, after all, has its own currency and central bank - and openly made the case for government investment.

A bold fiscal plan post-crisis might even have gone as far as the introduction of ‘helicopter money’: fiscal expansion overtly funded by permanent money creation (something akin, though not identical, to what Jeremy Corbyn has referred to as the ‘peoples' quantitative easing’). Helicopter money was originally proposed by the Nobel Prize winning economist, Milton Friedman, but has been widely considered taboo because of its tendency to drive inflation, when used in excess (e.g. the Weimar Republic).

However, more recently it has gained mainstream backers including Lord Adair Turner, formerly Chairman of the FSA, who argues that there is no inevitability to this outcome. Providing it had been used in moderation, within a solid institutional framework, “we would now have a slightly higher price level, slightly higher levels of real output, lower debt levels as a proportion of GDP, and higher interest rates.”

Moreover, there is an argument to be made that Helicopter Money would have also helped address one of the most problematic post-crisis problems: stagnating wages and inequality. This is because unlike Quantitative Easing, which has inflated asset prices and thus primarily helped the wealthy at the expense of the rest, it would have gone directly into the pockets of ordinary people.

Argument #2: Markets Are Inefficient

The second argument takes aim at market fundamentalism: the root cause of the financial crisis. Because, in stark contrast to John F Kennedy’s assertion in his 1962 State of the Union, that “the time to repair the roof is when the sun is shining”, the immediate aftermath of the crisis was the ideal moment for progressives to strike a fatal blow against market dogma.

It would be silly not to recognise that some progress has been made on this front. Banks now have a capital base three times stronger than 2007 and regulation across the financial sector is a lot tighter. Moreover, the wider conversation about markets has clearly changed, even if the policy response hasn’t much. “We reject the cult of selfish individualism…(and)…do not believe in untrammeled free markets” reads the Conservative Party manifesto in 2017. Quite a turn-around from the Thatcherite messages of 70’s and 80’s.

However, rhetoric aside, we cannot escape the fact that the option of radical reform was largely bypassed after the crisis. In the financial sector the most obvious example of this is that the ability to create money - and therefore to determine the,level of debt in the system - has been retained in the private sector, relatively unconstrained. Indeed, our response to the crisis has largely been to try to encourage banks to create more debt, by making more loans. It is, therefore, unsurprising that McKinsey recently found that no major economy has decreased its debt to GDP ratio since 2007.

A bold response to the crisis would have been to go further on regulation. Some have discussed stripping private banks of the ability to create money - so called 100 per cent reserve banking - which would see banks simply act as an intermediary between savers and lenders. This would certainly be one step too far for many and remains virtually politically impossible. But much higher equity requirements - which currently sit at around 4 per cent,meaning banks only have to hold four pence in savings for every pound lent out - should have been introduced to contain debt creation and instability.

Perhaps even more importantly, the Left missed its opportunity to ensure that the failure in financial markets translated into a change in the public’s appetite to intervene in all ineffective markets, from housing to energy; water to electricity; labour to loans. Put more simply: the Left should have been quicker to pin the crisis on market fundamentalism and use it as an excuse to reform corporate governance, strengthen collective bargaining and fundamentally reform the housing sector to name just a few.

Argument #3: Inequality Breeds Instability

Finally, the crisis also exposed the gross inequality present in our society. As millions of ordinary people lost their homes, savings and jobs many, bankers took home huge bonuses. Fred Goodwin of RBS became the most widely discussed example of this when he pocketed nearly £3 million in bonuses, and retired with a pension worth £700,000 per year, just before the organisation revealed that it had made a £24bn loss and required a government bailout.

But he was just one amongst many: between 1985 and the onset of the crisis the share of income going to the top 1 per cent increased sixfold, with up to 60 per cent of this increase going to workers in the financial sector. This was driven both by higher wage packets (and bonuses) but also by falling tax rates: indeed, Thomas Piketty argues that these two trends were self re-enforcing because lower taxes increased the incentive to lobby for higher pay.

This was the Left’s cue to bring inequality to the front and centre of the policy agenda again. However, to do this, they would have had to overcome the view amongst mainstream progressives at the time, that policy makers should be “intensely relaxed about people getting filthy rich” to quote Peter Mandelson, because this would stimulate growth and eventually ‘trickle down’ to greater prosperity for ordinary people (or at least the view that anybody who said otherwise would be unelectable). Had they been able to do this, two arguments should have been at the heart of the progressive response.

Firstly, that the higher wages and bonuses earned by individuals at the top of the banking sector occurred not because of they were more productive but because they were more powerful (in other words, rent-seeking). This power was used to embed a bonus culture in the financial sector which, in turn, encouraged much of the risky behaviour that caused the crisis. In particular, it created an incentive to increase short term profits - via riskier loans - even at the expense of long term stability.

And, secondly, that this increased incentive to make riskier loans fed into a higher demand for borrowing by ordinary people on low and middle incomes as result of inequality. This argument has been made subsequently by one of the only economists to predict the crisis, Raghuram Rajan - as well as the IMF, who found that as people’s, real incomes stagnated, they looked to maintain or increase their consumption (‘keeping up with the Jones’) by borrowing more money.

These arguments could have been deployed - quite apart from the wider moral and social imperatives - to make the case for urgent post-crisis measures to bring down inequality (especially spiralling incomes at the top). Proposals from the late Tony Atkinson, including an increase in the higher rate of tax (up to 65 per cent), and from Thomas Piketty, recommending new taxes on wealth, have been forthcoming since, but the opportunity to implement them has already passed.


These three arguments combined - on fiscal policy, markets and inequality - would have set out a radically different path to that taken by politicians in the wake of the economic crisis. The policies they imply - only some of which are set out above - would have delivered a quicker and more complete economic recovery; reduced the risk of a further economic crisis in the future; and helped deliver a more just and equitable society.

Instead, policy makers opted to rescue the status quo: with the full cost of this failure - in addition to lower economic growth, stagnant wages and stubbornly high inequality - only now being felt. In particular, we are now lurching from an economic shock to a political one, with people across the developed world increasingly turning to populist and nationalist movements, to fill the void left by bold progressive alternatives.

“People who have a stake in their society protect that society, but when they don’t have it, they unconsciously want to destroy it”. These are the words of Martin Luther King, who as Nick Cohen notes in the Observer, “was speaking of blacks in the segregated south of the 1960s. But his words apply as well today.”

If progressive politicians and political parties want to prevent a further turn in this dangerous direction they must confront the issues, raised by the crash, 10 years on, in order to understand its lessons and to deliver the bold reforms our economy and society so desperately needs.

Harry Quilter-Pinner is a Research Fellow at IPPR.