"George Osborne - A Supply-sider amid a Kettle of Keynesians"

Sydney M. Williams

Thought of the Day

“George Osborne – A Supply-sider amid a Kettle of Keynesians”

March 24, 2011

George Osborne, 39 and Chancellor of Britain’s Exchequer, and a member, according to the Financial Times, of the “braying upper class Bullingdon Club” at Oxford, has become the poster boy of fiscal hawks around the world. In less than a dozen years, Mr. Osborne rose from head of the political section of the Conservative Research Department to the second most important job in the British Cabinet. Last year, when he assumed the job, he was the youngest Chancellor in at least a century.

The Chancellor of the Exchequer is controversial. He is rich, looks it and has been caricatured, according to the FT, as a “sneering aristocrat.” He is not loved by the public, but hopes to be respected. One conservative observer said he is “like a submarine, surfacing to make strategic interventions then disappearing.” He is, according to the FT, obsessed with Tony Blair whom he refers to as “the master” and counts Blair’s A Journey among his favorite books. U.S. Secretary of the Treasury, Timothy Geithner, who comes from the opposite end of the political spectrum, recently said he was “very impressed” at Osborne’s start in the job.

Yesterday George Osborne presented the upcoming budget to Parliament. England, like most western economies, has been experiencing anemic economic growth. The Chancellor had imposed austerity measures in October when he announced £113 billion in spending cuts and tax increases spread over five years. Growth forecasts for the current fiscal year were recently revised down to 1.7% from the 2.1% estimated in November, following a 0.6% decline in fourth quarter GDP. At the same time, England is facing rising inflation. In February, the rate rose to 4.4% and Mervyn King, Governor of the Bank of England, predicted on Tuesday that the rate would rise to 5%. An increase in commodity prices – most notably oil, which is priced in dollars – coupled with a decline in the Pound, combined with Osborne’s VAT hike have created a scare. Slow economic growth and high inflation are reminiscent of the stagflation that infested the U.S. in the second half of the 1970s and the first couple of years of the 1980s.

In response, Mr. Osborne presented his Budget, a budget focusing on growth. The Budget sets four goals:
    • The most competitive tax system in the G-20;
    • To be the best place in Europe to start, finance and grow a business;
    • To be a more balanced economy, by encouraging exports and investments;
    • And have a more educated workforce that is the most flexible in Europe.

To achieve those goals, the following are some of the Budget’s provisions:
    • An immediate reduction in the corporate tax rate from 28% to 26%, with continuing annual reductions     of 1% for the next three years. To ensure this is not a net tax cut for banks, the bank levy rate will be raised.
    • Removing 100 pages from the tax code, including abolishing 43 tax reliefs as a means of simplifying the code.
    • Introduced a Fair Fuel Stabilizer that will raise the levy on oil and gas production from 20% to 32%.
    • The default indexation assumption for direct taxes will move to CPI and indirect taxes will be moved to the same basis when the fiscal situation allows.
    • ₤350 million worth of specific regulations will go
    • Existing regulation will be scrutinized by the public.
    • Funding 21 new Enterprise Zones, beginning in the areas with the greatest needs.

These are just a few of the initiatives the Chancellor mentioned. In his speech to Parliament, Mr. Osborne said, “In an age when businesses and capital and people can increasingly move anywhere, high tax rates can do real damage. That’s true for high corporate taxes. It’s true for high personal tax rates too. They crush enterprise, undermine aspiration and often undermine tax revenues as people avoid them.” Time will tell as to whether the Budget will be successful. When President Reagan cut taxes in 1981 to encourage economic growth, and Fed Chairman Paul Volcker raised the Fed Funds rate to defeat inflation, which was insidiously debasing the Dollar, the first effect was to induce a sharp but short recession. However, a year later the economy took off on what would be, other than a three quarter decline in 1991 and a two quarter drop in 2001, a twenty-six year period of economic growth. During that period interest rates declined 1000 basis points and the stock market rose twelve fold. The consequences of fiscal and monetary policy decisions, good or bad, are never seen immediately. But people do respond to incentives.

Supply-side economics, with their lower marginal tax rates and reduced regulation, incorporate ideas voiced thirty five years ago by Robert Mundell, a Nobel economist at Columbia and Arthur Laffer in response to Keynesians who had encouraged Nixon to go off the gold standard in 1972. The roots of supply-side economics, however, trace back to Adam Smith, David Hume, Alexander Hamilton and others. Essentially they pit those who favor smaller government against those who prefer a more intrusive government.

Again we are living in a world dominated by those who would expand the size of government and increase regulation. Certainly that is the path on which the U.S. has embarked. David Stockman, in an interview in the April issue of Reason, makes the perfectly valid point that “If we are not willing to actually shrink government spending, then we should pay full freight now…” While the statement, on its own, makes sense, the problem is that most of us do not trust government to use the increased taxes to fund existing programs or pay down debt. Congress’ habit of spending is difficult to break under any circumstances; history has shown they do not have the will to do so voluntarily.

Britain has chosen a different road. The next few years will tell the tale as to whether the alternative road – the austerity measures and growth incentives of George Osborne – will lead Britain away from her high deficits and feeble growth. I suspect they will.