IT SEEMS ironic that on the very day when Gordon Brown became the longest-serving Chancellor since William Gladstone, the Governor of the Bank of England should issue his sternest warning so far about the dangers of the present boom in house prices, and the related borrowing and consumption binge. Could it be that Mr Brown will take his place in history, just as Britain takes its final steps down the primrose path to national bankruptcy?
Mr Brown may take pride in his image as a puritanical son of the manse, but for all his boasts about prudence, stability and caution, his political popularity (which, unusually for a Chancellor, far exceeds that of the Prime Minister) is attributable to the unprecedented growth of consumption, borrowing, property speculation and government spending during the seven years since he took charge. In the next few years this borrowing and spending spree will have to come to an end.
But let me add an important qualification: the unsustainable orgy of government spending, personal borrowing and consumption which Britain has enjoyed under its “Iron Chancellor” is not a delusion or a pre-election ploy, still less a symptom of economic mismanagement. On the contrary, it is a sign that the British economy has gradually transformed itself from the sick man of Europe into one of the strongest and healthiest economies in the world.
When Mr Brown took over as Chancellor, the British economy was still in tottering convalescence after the financial crises of the 1970s and 1980s. They had culminated in John Major’s Exchange Rate Mechanism debacle (White Wednesday) in 1992. Today Britain has the lowest unemployment and steadiest inflation of the G7 countries, is the only major economy to have avoided a single quarter of declining output since the turn of the decade, and has overtaken Italy, France and Germany in terms of national income per head.
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As Adam Smith said, “consumption is the sole end and purpose” of all economic activity. Thus to attack Mr Brown as a “boom and bust Chancellor” simply because the country is enjoying a consumer boom is to misunderstand economics. The consumer boom and the related upsurge in house prices is a natural and desirable consequence of Britain’s improving economic performance.
But that does not mean that house prices and consumer spending will rise for ever. Until recently house prices and levels of mortgage borrowing were not unreasonable, given the enormous decline in interest rates since the mid-1990s, the steady improvement in most Britons’ employment prospects and the long-term upward pressure on prices exerted by population growth and strict planning constraints. House prices are still not nearly as overvalued as those who compare the present situation with the Lawson boom of the late 1980s suggest.
But given the continuing surge in prices over the past few months, even perennial optimists such as myself must now admit that property in most parts of Britain is becoming very expensive by any reasonable standards. That is essentially the message the Bank of England now tries to convey whenever it gets the chance.
If many consumers and homeowners choose to ignore the Bank’s warnings about inflated property prices and the impact of rising interest rates on high levels of borrowing, some will eventually get into trouble, but it is hard to see why the Chancellor, the Government or the Bank should be blamed.
The success of Britain’s economic management will not be judged by the fortunes (or misfortunes) of particular homeowners and borrowers who choose to play the housing market as if it were the stock exchange. The test will be in the resilience of the British economy: its capacity to continue growing with low unemployment and stable inflation as house prices stabilise or fall. This is the real issue in assessing both Mr Brown’s place in history and the prospects for the British economy in the next Parliament and beyond.
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In this respect, there are four reasons for optimism and two for concern. Let me begin with the bad news. The first reason for concern is the propensity to strangle enterprise with bureaucracy and regulation. Most of this regulation, to be fair to the Chancellor, is not of the Treasury’s doing and much of it is demanded by European laws which Mr Brown has opposed.
The second worry, which is Mr Brown’s responsibility, concerns the funding and delivery of public services. There has been nothing wrong with the rapid growth of public spending so far because most of this was required to make good the underinvestment and the decline in relative wages of the Tory years. It is illogical to attack the “waste” of public money on “unproductive” pay increases in the public sector and then to bemoan the shortages of nurses and policemen or the decline in status of doctors, teachers and university staff.
The problem lies not in the present public spending policy but in the absence of a long-term strategy for financing the rapidly improving social services which an affluent and ageing society is bound to demand. To pay for these improving services, the Government will have either to appropriate an ever-growing proportion of national income in taxes, or come up with new ways of financing and providing social services, in which private spending and markets will have to play a much larger part. This is the fundamental conundrum of the welfare state in an increasingly prosperous society — and Mr Brown has refused even to think about it.
But turning to the good news, the consequences of over-regulation and failing public services will be played out over decades, rather than months or years. In the meantime, the macroeconomic prospects for Britain should remain quite bright even if some people over-extend themselves in the property market and end up losing their shirts.
The first three reasons for optimism are familiar. Everybody now acknowledges the high-quality macroeconomic framework created by the Bank’s inflation target and Mr Brown’s fiscal rules. Everyone also knows about the labour market reforms and the privatisations of the Thatcher era, which have allowed the low inflation demanded by the monetary framework to coexist with rapid growth. Another necessary condition for the improved macroeconomic management is less widely acknowledged but even more obvious — the acceptance after White Wednesday in 1992 of a freely floating exchange rate, after nearly a century of futile and disastrous efforts to peg the pound to gold, the dollar or the mark.
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But there is a fourth long-term structural advantage which is not yet fully recognised. Globalisation, technological change and the centralisation of Europe’s financial and business services in London have all played to Britain’s comparative advantage in knowledge-based services. The goods which Britain has never been good at making and has had to buy from the rest of the world — mainly mass-produced manufactures, ranging from toys and textiles to cars and machine tools — are getting dramatically cheaper in world markets, as a result of technological progress and intensifying competition from China and other Asian countries.
Meanwhile, the things that Britain has always been quite good at selling to the world — financial and business services, scientific research, education, culture and so on — are going up in price. The result has been a large increase in Britain’s relative wealth and living standards, substantially outpacing the reported rate of productivity growth.
Because of these four seismic shifts in its macroeconomic structure, Britain should continue to prosper, especially in relation to the rest of Europe. Whether Mr Brown deserves credit for this achievement can be left to the judgment of history. Mr Brown was certainly lucky to take over as Chancellor when he did. But then, as Napoleon said, a great general makes his own luck.
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