New research shows that Plan B will fail

New IEA research released

A new report released today by the Institute of Economic Affairs, No Case for Plan B – Lessons for the Great Recession from the Great Depressionargues that any switch to a Plan B on the economy which involves more government borrowing will not boost growth and will instead simply increase government debt.

Key findings:

  • The recessions of the 1920s and 1930s were overcome through varying approaches to monetary policy, but, in both cases, with a commitment to fiscal austerity.
  • Contrary to popular belief, economic models demonstrate that Keynesian stimulus policies would have had little effect on the overall outcome in the 1930s.
  • Current levels of government borrowing are far higher now than in the 1930s and this, combined with other aspects of the policy environment, means that looser fiscal policy would have even less effect today.
  • Four years into the Great Depression, economic growth took off and returned the economy to full capacity within another four years. This was in an environment of fiscal austerity and a broadly balanced budget.
              - With much higher levels of government borrowing, there is no realistic possibility of such
                a positive outcome today.
  • There is room for debate about whether monetary policy should remain loose. However, the realistic choices are between:
              (a) Loose monetary policy and fiscal austerity.
              (b) Tight monetary policy and fiscal austerity.      
  • However, supply-side liberalisation would be a very important complement to fiscal austerity.

Commenting on the report, Mark Littlewood, Director General at the Institute of Economic Affairs, said:

“With growth proving elusive, the calls for abandoning austerity are getting louder – this report shows such a course to be madness. History shows us that fiscal restraint is a pre-requisite to economic recovery. The government must hold the course.

“George Osborne last week stuck to his spending policy, but not his deficit reduction policy. This report shows why abandoning his deficit plans would be such an error.”

Prof Philip Booth, Editorial Director at the Institute of Economic Affairs, said:

“Any Plan B based on further government borrowing will fail. State spending currently accounts for over half of our national income and our budget deficit sits at £165bn. So to suggest that our economic woes can be solved by further borrowing is wrong.

“There is a myth that the Great Depression was made worse in the UK by fiscal austerity; however this new report shows that a Keynesian stimulus would have had negligible effect even in the 1930s. With a sovereign debt crisis currently raging, the government must hold the course on fiscal austerity and be far bolder with supply-side reform. Last week’s Autumn Statement was disappointing in both regards.”

 

Notes to editors

To arrange an interview with Mark Littlewood (Director General of the Institute of Economic Affairs) or Prof. Philip Booth (Editorial Director at the Institute of Economic affairs) please contact Ruth Porter, Communications Director, rporter@iea.org.uk or 077 5171 7781.

The full report No Case for Plan B – Lessons for the Great Recession from the Great Depression by Prof Kent Matthews can be downloaded from