Enigma Variations
by Quinn
I’m well aquainted with the format used in the Liberal Democrat leaflets round our way; for one thing, I used to deliver the things during my formative years. They never used to waste much time fannying about with criticising the Labour party (or “Labour can’t win here”, to give them their full title). Even when Labour was in power in central government, those Liberal Democrat leaflets would concentrate their fire on the Conservatives. Sure, Labour would cop a bit of the flak and rightly so, but it was the Tories, being the main opposition on the local council as well as the challengers and former incumbents of the parliamentary seat that the Lib Dems would focus on. And this suited me fine, being a generally pro-Liberal but definitely anti-Tory kind of guy.
Which brings me to the latest Liberal Democrat leaflet, which dropped, through my door the other day. And what do you know? Now it seems that all of the world’s woes are Labour’s fault after all, while of the Conservatives we hear nothing much at all. It’s an understandable air-brushing of course; now that the Liberal Democrats are part of the national government in coalition with the Conservatives it’s no surprise that the tune has had to be changed. But seeing as this leaflet is billed as a “Local News Extra” (my emphasis) it would be nice if it perhaps featured some succour for locally born-and-raised rabid Tory haters such as myself.
But no, instead we learn about how the “Liberal Democrats in Government have been working hard to tackle the shocking legacy of debt left by Labour”. Which is fair enough. But I must have missed the bit where the Lib Dems continually complained about the gradual growth in public debt under Labour prior to the recession, then opposed the fiscal stimulus afterwards. I certainly remember them explicitly stating before the election that we should wait a while before tackling the budget deficit lest such a fiscal tightening should snuff out any nascent recovery. In all, it’s hard to see how the level of the debt today would have been all that different if the Lib Dems had themselves been in government for the last few years. So what has changed since the election and now? Oh, yes. Power.
Nowhere, I think, better shows the logical contortions that being a Liberal Democrat now necessitates than when the leaflet comes onto the subject of the Nimrod aircraft programme, which employs (or employed) hundreds of highly-skilled workers at the BAE Systems factory in Woodford within the Cheadle parliamentary constituency. Says local Lib Dem MP Mark Hunter
I am bitterly disappointed that Labour overspending has led to the MRA4 Nimrod Project being cancelled. It makes me so angry that people in this area are having to shoulder the burden because Labour spent and promised money they didn’t have.
But as it says elsewhere, “Mark has consistently supported the Nimrod project at BAE Systems in Woodford”. Doesn’t that mean that he himself has consistently supported at least that part of Labour’s monstrous overspending, which has led to that “shocking legacy of debt”? If Nimrod is an example of Labour spending money it didn’t have, why didn’t he oppose it all along? Unless, of course, he doesn’t consider Nimrod itself to be a waste of money, in which case why the hell is the coalition cutting it? Why not continue to support Nimrod since it is an example of good spending by the last government, oppose its cancellation by this current coalition government, and campaign instead for those many and varied wasteful projects to be cut instead?
Can you have it both ways, really? Is Nimrod a waste of money or not? If it is, why did you support it in the first place? If not, why are you cutting it now? Oh, who cares, let’s just blame Labour and be done with it.
As I said, locally the Conservatives are the Lib Dems electoral opposition; as you can see above, the leaflet even includes a handy graph to show you just what that means. So, while tediously predictable, it still seems daft that in a local leaflet the Conservatives get such a free ride; Labour, meanwhile, get both barrels, despite the fact that they don’t have a hope in hell of winning here at the next election. But then, if my current voting intentions are in any way indicative of wider opinion, neither do the Liberal Democrats.
The Obscurer 
As someone who is generally glad that the Lib Dems are part of the coalition government (i.e. I think this is preferable to a Tory government with no Lib Dem influence), can I attempt to defend them?
Firstly, anyone who is surprised or “disappointed” that the Lib Dems have sacrificed their principles as soon as they get a whiff of power strikes me as being hopelessly naive. The whole point of politics is to pick your battles and compromise. I would far rather Lib Dems concentrated their efforts on other areas than tuition fees. But then again, I should preface all this by saying that I think students should pay for their own education.
Where I think you’re being harsh is that you present this as though it’s solely being in power that has caused this u turn. The Lib Dem line is that they hadn’t appreciated the scale of the spending problems. I think this is worth considering. You’re quite right that they weren’t arguing against Labour’s spending record in opposition, and indeed neither were the Tories. But very few people were aware that there was a problem in 2006, and those that were were being dismissed as right wing ideologues, or “free marketeers”. I still haven’t seen any real acknowledgements that this wasn’t the case. Indeed as someone who warned that there was a recession coming I don’t feel vindicated, or that my thoughts are being taken much more seriously now.
Anyway, to defend Mark Hunter – isn’t his argument that it’s only on taking office that he’s appreciated the scale of the problems? You seem to be arguing that Nimrod is either value for money or it isn’t, but the whole point is that your available resources determine whether or not something is value for money. It’s a bit like you trying to decide whether or not it’s worth getting a new car, and maintaining that your income is irrelevent.
The reason this is all unpalatable is because it’s about trade offs, and having to acceept that we can’t fund everything. I don’t think it’s unreasonable for Hunter to say that project X *was* value for money, but I’ve now recevied new information that suggests I’d over estimated how much money we had to spend, in which case it is no longer value for money.
I’m not so naïve that I don’t realise that life is about compromise and negotiation, just as I’m not being naïve when I shout at my kids and ask them “Why can’t you two just get on with each other?” Knowledge about how the world works in practice doesn’t prevent the issuing of frustrated cries of exasperation (or “blogging”, as it’s called online), and I hoped I’d made it clear that I understand why the Lib Dems are acting as they are, even if I’m not happy about it.
And I’d tentatively agree with you that a Tory / Lib Dem government is preferable to a wholly Tory government, but only if the latter had an overall majority, and that wasn’t an option. I’m also not personally too vexed about the tuition fees thing. I think the problems lies in the fact that the Lib Dems tied themselves too tightly to an absurd pledge that they thought they had little hope of implementing. I only wish the legendary unworkability of a graduate tax (my preferred system, and the Lib Dems’ too for over 20 years until this May) was discussed beyond the dismissive statement that “it’s unworkable”. But still, I’d take a rise in tuition fees over a proposal to simply make students themselves pay, which seems a great idea as long as you want access to higher education to be more related to parental wealth than students’ ability.
Also, I don’t buy the idea that the Lib Dems hadn’t appreciated the scale of the problem until they were in government; the deficit last year came in lower than that forecast in the 2009 Autumn statement, George Osborne is busy congratulating himself on having saved the economy with each positive economic statistic that is released, despite it being hard to imagine that his policies will have had much or any impact yet.
Finally, on Mark Hunter, I’d have no problem with him taking responsibility, pulling out the old “opposition is easy, government is about hard choices” line and saying that with new information he thinks Nimrod is no longer value for money and that regrettably it will have to go. Perhaps he does think that, but reckons that a leaflet through the door is hardly the best place to expound this thinking. But what he has actually done is take the weaselly politicians way out; to complain that the project is being cancelled in order to stay on side with many of his constituents, but put the blame on Labour so he can deflect the blame for his government’s decision.
(Finally, finally, I can’t help thinking this Austrian triumphalism at having predicted the crash is over-egging it a bit. You and others have written extensively on this and I remain unconvinced. Who didn’t think that there would be another recession at some time, and will be again? Who doesn’t think that interest rates will cause problems if set too low? Who didn’t think that debt levels were too high? Solutions are different things again.
I know you’re a fan of my analogies, so here’s one. Those who claim that they predicted the recession are like people who see a car driving too fast and predict it will crash. When it does, they say they have been vindicated, but it turns out that the driver had a heart attack. Those who believe they have been vindicated then state that it was the cars excessive speed that brought on the heart attack. Others say the cause of the heart attack was exogenous, though certainly the cars speed exacerbated the effects of the crash, but without the heart attack the speeding car may well have slowed down safely.
There you go, pick the bones out of that if you can be bothered; it’s not obvious to me which position is right.)
I can’t help thinking this Austrian triumphalism at having predicted the crash is over-egging it a bit. You and others have written extensively on this and I remain unconvinced. Who didn’t think that there would be another recession at some time, and will be again? Who doesn’t think that interest rates will cause problems if set too low? Who didn’t think that debt levels were too high? Solutions are different things again.
I think this is quite easy to settle – circa 2006/2007 there’s a very clear dividing line between those who thought that the economy was fundamentally sound, that interest rates *weren’t* too low, that debt levels *weren’t* too high, versus those who warned of a coming crisis.
I agree that there’s a bit too much triumphalism (although I would point out that a lot of that is being thrust upon Austrians as a sort of “build them up so we can knock them down”) but when you say that “who doesn’t think that interest rates will cause problems if set too low” I think you reveal your own knowledge of Austrian economics and are too generous about the majority of economists and economic commentators. The problems caused by artifically low interest rates is the core of the Austrian theory.
Regarding your analogy, I don’t get it. I am reluctant to claim that “I predicted the recession”, and am trying to avoid you tempting me into doing so (!) but it’s not so much that the car is “too fast” but that it is out of control. And it’s not that we retrospectively learn that the driver had a heart attack – the collapse of the subprime market and wider financial system (what I assume you refer to as the heart attack) is part and parcel of the car going out of control. Those of us who identified a subprime problem as a prelude to a recession did so because of the mechanism by which the recession occurs – malinvestment of capital.
I don’t think you’re right about what you seem to be saying is the uniqueness of the Austrians’ view of interest rates. If that were the case then we would expect the BoE MPC to decide on interest rates by drawing lots, but they don’t. I can agree that, given what I’ve just said, Austrians were in a minority in feeling that interest rates were too low prior to the recession, but that then is more a difference in technical judgement rather than anything else. I doubt that anyone, though, was genuinely happy about household debt levels and booming house prices in the UK, it’s just a question of what to do about them when the prescription could cause greater problems, and any politician would be reluctant to end the party and suffer the criticism. Gordon Brown, though, did actually raise stamp duty in order to quell house prices, and to universal acclaim!*
The point of my latest weak analogy, meanwhile, was to say that it’s easy to predict a recession and then point to a recession as vindication; but that doesn’t mean the resulting recession is actually the one you predicted. You obviously think it is, but I’m not wholly convinced. As another example, I thought that the austerity measures taken in Ireland could very well cause their economy to tank; two years on I’ve been proven right! I don’t feel vindicated, though, as I think there are other issues at play, but that hasn’t stopped others of a like mind claiming that their warnings on Ireland have come to pass; I think the difference between them and me is more down to their greater self-confidence rather than their economic know-how.
The reason I doubt that Austrians foresaw this recession is because, while I can accept that interest rates were too low and encouraged risk taking (although that could as much be down to over-confidence caused by the “great moderation”, to which the only solution presumably is regular forced recessions?) it wasn’t so much sub-prime loans that were the problem (not necessarily an issue as long as banks hold enough capital and the risks of default are priced in, although you’ll say this it is inevitable failing when credit becomes so cheap) as that junk was then packaged up, given a AAA rating and sold on. Remove that element and I don’t necessarily think we’d get this recession now. For sure, there would still be imbalances and asset bubbles and high debt, accidents waiting to happen, and perhaps there would have been another recession ready to come along just as Austrians did predict. Or may be action would have been taken to engineer a fabled soft landing, ie. no heart attack, and eventually the speeding car would safely slow. The latter, admittedly, is unlikely however, for as I said before, which politician would want to stop the party?
*I know, I’m sure stamp duty was increased to raise revenue rather than dampen house prices, but the response to that action shows how difficult it would be for a politician to act against asset bubbles and debt levels. Which perhaps supports the view that an Austrian-predicted recession was an inevitability. It’s just that I think the one we got wasn’t quite as the Austrians predicted, albeit high household debt and booming property prices compounded the problem, at least in the UK.
1. Uniqueness of Austrian’s view of interest rates
The reason the MPC don’t draw lots is because they use the bank rate of interest to manipulate aggregate demand in order to hit a price level target. If inflation is running at 2% then they do *not* see a problem with low interest rates, almost by definition. They certainly don’t believe that if interest rates are below their “natural” level this creates misallocations of capital, an unsustainable boom, and an inevitable recession. Again, this is the core of the Austrian theory. Many people have retrospectively relied on this theory to explain what happened, but this merely shows that they have become “Austrian”. The fact that it seems pretty obvious to you is, I would humbly suggest, due to you being more exposied to Austrian ideas than the MPC.
Remember that in 2006 the debate was whether there was a housing bubble at all – websites like housepricecrash were seen as being a minority view.
And of course if the MPC did take the Austrian view seriously they wouldn’t try to centrally plan the interest rate, and the MPC would be abolished. The Austrian criticism of the MPC is the same as the criticism of the CAP for trying to regulate the price of wheat, etc.
2. Predicting recession
I think the difference between them and me is more down to their greater self-confidence rather than their economic know-how
I agree completely, but that doesn’t mean we’re all equally ignorant. I do think that events have been a vindication for Austrian ideas, but note that no school of thought is better at arguing against the ability to forecast than Austrians. We’re in danger of being left with the people who understand 20% of the economy remaining silent whilst the ones who understand 5% taking centre stage.
3. Other factors
In my talks on the financial crisis I have used the “great moderation” as an example of a type of knowledge problem that contributed to the crisis. The idea is that excess credit creation means that a boom must occur, but we have no way of knowing a priori when and where and in what form. It is additional factors such as US housing policy, financial regulation, conflict of interest between ratings agencies and investment banks, overconfidence, greed, etc that channeled that excess credit into sub prime mortgages and the housing industry.
So you’re correct – remove some of this historically contingent elements and we wouldn’t have seen the same recession. But I’m not sure who you’re arguing against here. It would help if you listed some of the “Austrian economists” you are accusing. If you look back at what I wrote, you’ll (hopefully) see a restraint that acknowledges this.
Again, I think you’re attempting to attribute too much. No half-decent Austrian would try to call the market. The point is that we can point to underlying, structural phenomena that tell us what the general movements will be. I’m not trying to argue that Austrians “predicted the crisis”, but I’m saying that events should mean that we receive greater attention and respect.
I think we’re in danger of splitting hairs regarding interest rates. Clearly the MPC do think that interest rates can be too low; the fact that in your opinion they misjudged how low was too low, and had too narrow a focus on headline inflation and in doing so ignored asset bubbles, doesn’t alter that fact.
I also think that many (most?) people I know reckoned that house price inflation was ridiculous from about 2003 onwards, although whether they thought that constituted a bubble is another thing. But I have a wee problem with the bubble concept. It is easy to see house prices collapse and say there was a housing bubble; but let’s say that house price were affordable given wage rises and the constant ratcheting up of equity. Come the recession, though, with redundancies, wage freezes and a tightening of credit, and not surprisingly house prices fall. But does that necessarily mean there was a bubble, or is it just a reflection that economic circumstances had changed for the worse? (Note, I’m not saying there wasn’t a bubble, just saying I think it’s more complicated than simply pointing to a fall in house prices.)
Finally, if I have got the wrong impression of “Austrian triumphalism” then I hold my hands up. When I read lines such as “as someone who warned that there was a recession coming I don’t feel vindicated” I do read it as coming from someone who feels they predicted the crisis and are missing out on a righteous feeling of vindication because people still don’t get it. If I’ve got that wrong then I’m happy to acknowledge that fact.
PS: Thanks for the pdf. I’ve converted it to a .mobi file to read on my Kindle (an early Xmas present, woo-hoo!) when I get a spare moment. That’s a statement of intent, right there.
I disagree about whether this is splitting hairs – there is a very important substantive difference between mainstream economists and Austrians when it comes to the manipulation of interest rates. Yes, the MPC might believe that interest rates could be too low (I’m not arguing that they think interest rates have no effect on the economy), but they would deem them too low if inflation is above target. You seem to be maintaining that they are aware of Austrian-type concerns about misallocations of capital. I see no evidence of this in the minutes, and when I’ve spoken to MPC members about this they’ve confirmed this impression.
On house prices I’d agree that the general public were more in tune with what was going on than economists and economic commentators – don’t forget that most mainstream economists do not have a theory of bubbles since this impies irrational behaviour. Even those who accept bubbles may occur tend not to think it’s possible to identify them before they burst! You go on to show that it’s still not clear that there was a bubble – indeed there are good arguments to say that the fundamentals were in place and the rise in house prices was just demand and supply. I think this demonstrates my point that there wasn’t widespread agreement that a bubble existed, and this is still subject to debate. I agree that it’s more complicated than pointing to a fall in house prices, but I’m on the record saying there was a bubble in 2004 and 2005 and stand by that.
When I read lines such as “as someone who warned that there was a recession coming I don’t feel vindicated” I do read it as coming from someone who feels they predicted the crisis and are missing out on a righteous feeling of vindication because people still don’t get it. If I’ve got that wrong then I’m happy to acknowledge that fact.
I’m not being precious here. I’m referring to mere blog posts here as opposed to opinion editorials or investment reports or parliamentary submissions so I’m not suggesting I’m a martyr or anything! But it’s a simple statement of fact, in April 2007 I wrote, “We’ve been living beyond our means, and the crunch is coming”. Given that it seems conventional wisdom that “no one predicted the crisis” I think this is pretty prescient. Indeed given that the majority of economists failed to see it coming, all I’m saying is that my commentary is above average quality and therefore at the margin my stock as an economist should rise slightly. I don’t feel righteous about it, but I note that I’ve done more public speaking this year than ever before – mostly on macroeconomics – so clearly some people seem to think the Austrian position has something to contribute.
The fact that Larry Elliot, Martin Wolf, Anatole Kaletsky feel the need to talk about Austrian economics (albeit not important enough for them to read and understand!) is the type of vindication I’m talking about. I do fear that we’ve not done enough to seize the moment, but the stock of Austrian economics has certainly risen and that’s due to a greater demand for Austrian explanations.
I provide more evidence for these ideas in the pdf, so I’d be really interested in any feedback. Also, here are some of the posts I’m referring to:
http://thefilter.blogs.com/thefilter/2009/12/put-your-money-where-your-mouth-is.html
http://thefilter.blogs.com/thefilter/2010/10/who-predicted-the-financial-crisis.html
And here’s the video of a recent talk: