Keith Marsden: Gordon Brown's Boom and Bust

Mr. Marsden, a fellow of the Centre for Policy Studies, was previously an adviser at the World Bank and senior economist in the International Labour Organisation.

Less than two years ago, Gordon Brown was riding high in the opinion polls. He was lauded by his Labour colleagues as the best Chancellor for 60 years. His boasts about his own performance were endorsed uncritically by much of the media .And his favourite slogan was “no more boom and bust”.

Today, his popularity among the public and the press is at record lows, and he faces a growing leadership challenge in his own party. The British economy is suffering from a meltdown in the financial and housing sectors, surging inflation, accelerating job losses and a looming recession. 

Was Britain’s success in the good times the result of Gordon Brown’s policies as Chancellor, or due more to a benign global environment? And is the current slowdown in Britain’s economy caused by external factors outside his control, as he maintains? Or did he fail to take decisive action to prevent bubbles forming in Britain’s financial and housing markets?

The IMF reports that the global economy was particularly buoyant over the last decade, until recently. Real world output expanded at an average annual rate of 4.4% from 1999-2008, up from 3.2% in 1989-98. Britain’s growth rate also increased from 2.0% to 2.7% over these two periods, but lagged behind the rates achieved by 17 out of 29 countries classified by the IMF as advanced economies.

Gordon Brown brags about the economic stability achieved during his reign as Chancellor. But The OECD says that only 5 out of 30 member states experienced a recession (fall in GDP) in any one year during the last decade, compared with 21 during the previous decade when the Conservatives were in office. Furthermore, the boom in Britain’s financial, real estate and business services sectors created the illusion of overall economic strength and stability. This claim ignores the stagnation or decline in the production industries (mining and manufacturing).

Value added generated by finance, real estate and business services rose by 55% in Britain from 1998 to mid 2008, but fell by 2% in production industries over the same period. Employment numbers in production activities shrank from 4.7 millions in 1998 to 3.0 millions in July 2008, but expanded in financial intermediation, real estate, renting and business services from 5.1 millions in 1998 to 6.6 millions in June 2008, according to Britain’s Office of National Statistics. 

Brown also claims credit for monetary stability, through his decision to make the Bank of England independent and give it the prime task of controlling inflation. Yet a major factor has been the rapid growth of cheaper imports. The OECD records that prices of imports of goods and services into Britain fell by an average annual rate of 1.7% from 1997-2004, while the share of imports in total final expenditure rose to 24.6% in 2006 from 18.0% in 1996. These cheaper imports benefited British consumers, but had negative impacts on large sectors of British industry. Output in the textiles and textile products and leather goods industries fell by 36% and 53% respectively between 1998 and 2006.  Significant declines also occurred in wood and wood products, pulp and paper, rubber and plastic products and electrical and optical equipment. 

It is only recently that a significant jump in import prices (by 7.9% in 2008 compared with 0.9% in 2007) has pushed up consumer prices by nearly 5%. Moreover, Brown’s record in combating inflation compares unfavourably with some of Britain’s competitors. The increase in Britain’s GDP deflator, which measures price changes in the overall economy including public services, averaged 2.5% annually from 1998-2007. It rose by 1.9% annually in the Euro area and 2.3% in the U.S. 

The current turmoil in Britain’s financial and housing markets cannot be blamed solely on excesses in the U.S. sub-prime mortgage market, as Gordon Brown claims. It has home-grown causes which should have been recognized by the government and the Financial Services Authority, and pre-emptive action taken earlier. The house price bubble ballooned faster in the U.K than in the U.S. The OECD reports that the U.K. house price-to-average income ratio, expressed as an index number in relation to the long-term average = 100, rose from 79.2 in 1997 to 135.5 in 2004 and 149.3 in 2007. In the U.S., it went up from 87.5 in 1997 to 101.7 in 2004 and 109.7 in 2007. 

Household indebtedness also became a bigger relative problem, and sooner, in the UK. The OECD says that total household financial liabilities, expressed as a per cent of disposable income, increased from 104.8% in 1997 to 153.1% in 2004 and 176.9% in 2007. Included in these figures, mortgage liabilities rose from 76.7% to 114.4% and 132.4% of household disposable income in the same years. In the U.S., total household financial liabilities went up from 96.2% of disposable income in 1997 to 127.1% in 2004 and 141.2% in 2007. U.S. mortgage debt also climbed more slowly and to lower heights than in Britain. The corresponding U.S. figures are 64.3%, 92.3% and 105.8% respectively. 

Gordon Brown was happy to see the credit and housing bubbles boost Britain’s overall economic growth rate. And no doubt he was pleased by the spread of home ownership among Labour supporters, encouraged by the availability of low-interest rate mortgages. But his Scottish prudence, another of his famous boasts, has been sorely lacking. He ignored moral hazard and the riskiness of the new-fangled financial instruments, because they appeared to serve his political purposes. And the same criticism applies to his handling of the government’s finances, where a surplus of revenue over spending of 0.1% of GDP in 1997 has reversed to an OECD forecast deficit of 3.4% of GDP in 2008. Moreover, these figures exclude massive amounts of off-budget capital investment in public services, which often haven’t delivered the promised benefits.

With the Conservatives enjoying a lead of 28 points over Labour in recent opinion polls, no wonder many Labour MPs fear that they will lose their seats at the next election. People want a government that tells it as it really is, and acts accordingly.