Balancing the budget now the general rule

By William Keegan

LONDON: You've heard about the New Economy associated with electronic commerce and the internet, but what about the New Economic Policy?

This is not the New Economic Policy (NEP) of the 1920s Soviet Union, when it was already apparent that communism was not delivering the goods. The New Economic Policy is the one under which governments of all colors take an active delight in raking money in rather than spending it.

After the World War II, budget deficits were a fact of life for most western industrial countries. Demand for public money to spend on infrastructure projects or health and education was such that governments found it difficult to keep the lid on public spending, however high the taxes.

But there was also an intellectual justification for not tightly controlling spending, because Keynesian economics had taught us that it made sense for governments to run deficits in order to keep economic activity and employment at reasonable levels. By contrast, in the 1920s and early 1930s governments had subscribed to the doctrine that, if the economy was depressed, then they too should cut back, thereby making it even more depressed.

Keynes himself never intended that budget deficits should become a way of life. He believed in balancing the budget as a general rule, but relaxing and tolerating, indeed encouraging deficits in order to fight the trade cycle and emerge from occasional recessions.

Like all good things, however, Keynesianism got out of hand, and in many countries deficit financing did become a way of life. As the deficits built up, so did the national debt, and with it worries in the financial markets about the profligacy of "big government".

Deficits were large in many countries despite high taxes. In late 1970s Britain the top rate of tax on income was 83 percent, and on investment 97 percent.

Few "taxpayers" actually paid those rates, however, because people who had that kind of money also had accountants, lawyers and easy access to the Bahamas, Bermuda and the Cayman Islands.

During the 1980s, Margaret Thatcher and Ronald Reagan led the onslaught against high taxes, to the point where neither the Clinton administration nor the Blair government of the 1990s (and 2000) has been notable for a desire to tax the rich.

The thing about Reagan was that, while going easy on taxes, he only talked tough about spending. Under Reagan the U.S. deficit went up and up. Thatcher was tougher -- although never quite as tough as she sounded -- and in the late 1980s there was even talk of paying off the national debt.

That brief episode was swiftly followed by the accumulation of one of the biggest deficits on record, under the post-Thatcher government of John Major in the early 1990s.

In their closing years the Conservatives began to get the deficit down and Labour, under Blair and Chancellor Gordon Brown, have continued the process. Two principal factors have helped them: one is the New Economics, which dictates that governments of the left take an almost macho pride in pleasing the bond markets at the cost of disappointing their own supporters; the second is that a period of good economic growth soon deals with the deficit, because revenue comes rolling in from a booming economy.

If anything the Blair government has aped the Clinton administration. It saw how Clinton took Fed chairman Alan Greenspan's advice about deficit and pleasing the bond markets, and how Greenspan subsequently presided over what has by any standards been a vigorously growth-orientated policy.

So here we are, on both sides of the Atlantic -- in France as well as Britain -- with debates going on about what to do with all these budget surpluses. And two wonderful ironies have appeared. It now looks as though the financial markets don't want all that government debt to be paid off, because they quite like holding government bonds after all. And, however great the surpluses, if you start spending them during a boom, you will overheat the economy. Surpluses have to be kept for a rainy day -- which is where John Maynard Keynes came in...

-- Observer News Service