Britain’s Austere Future: Zombie Flick or Godzilla Movie?

Mark Blyth

The Triple Crisis Blog is pleased to welcome Mark Blyth as a regular contributor.

In my first triple crisis piece I wrote about John Quiggin’s new book thesis concerning Zombie Economic ideas. Lead zombie of the moment is the idea of fiscal austerity as the way out of the crisis, despite oodles of evidence to the contrary. In short, we need to cut budgets to restore fiscal sanity, and we know that this is the way forward since small open economies in the 1980s (Ireland, Belgium, Denmark) that cut their budgets still grew. The economic (ir)rationale for this has been pointed out by Krugman, Stiglitz, and others. But for me the most interesting, and most tragic part of this story, are the distributional consequences of these policies, and the politics that they engender.

The first problem with such a policy is that if it works at all, it only works when everyone else is growing. If everyone else shrinks at the same time then what is individually rational becomes collectively disastrous, and viciously zero-sum. The second problem, the distributional one, is who pays for this debt crisis? The answer is ‘not those who made the mess in the first place’ – namely, finance. Instead, the double ‘put’ (quite literally) is on those who can afford it least, lower income taxpayers and consumers: once in the form of the bailouts, lost revenue, and lost growth, and now twice in the form of the fiscal consolidation (zombie-slashed public services) needed to pay back the debt generated from the bailout.

It is in this context that the much-anticipated budget cuts of the British government announced last week come to the fore. Britain has embarked upon a giant natural experiment to settle the stimulus versus austerity debate once and for all by plumping for austerity, and on a truly epic scale.

As Reinhardt and Rogoff remind us, approximately eighty percent of the time you have a banking crisis it will be followed by a sovereign debt crisis. As the public sector levers up to compensate for the fall in private spending, deficits are generated and new debt issues become a necessity. The UK economy was hit harder than many of its European peers when finance imploded because a full quarter of all British tax receipts came from the financial sector. This, plus the effect of the British economy’s automatic stabilizers, resulted in a budget deficit of 10.1 percent of GDP by 2011, with British government debt issues rising to 58.5 percent of GDP to plug these gaps. This ‘death spiral,’ so the argument of the British government goes, has to be reversed since ever-increasing debts will lead to ever-increasing interest payments, eventually turning Britain into Greece. To avoid this the proposed sacrifice is a $128 billion reduction in public spending over four years, which it is hoped will reduce the budget deficit from 10.1 percent of GDP to 2.1 percent by 2014. Virtue, it seems, favors the bold.

Now let’s put a human face on this explosion of virtue: 490,000 jobs. Those axed will find their benefits reduced, and now time-limited, in a weak economy with already high unemployment. As well as cuts there will be tax increases, but nothing too risky. Those at the top end of the income distribution will have their £1,000 per year child benefit stopped, and all will feel the pinch of an increase in value added tax (VAT). I say all, but as the most regressive tax the increase in VAT will mostly affect the poor. Consumers, in such a world, will now consume less, and with the private sector as a whole deleveraging (paying back debt) it is inevitable that national income will fall. The bet is that such a fall will be temporary, however, since virtue will be rewarded with lower interest rates as deficits are reduced and the recovery takes hold. That at least is the official story.

But how did the implosion of an elite-focused private sector composed of heavily leveraged financial companies writing deep out of the money options become a problem to be solved by those at the bottom of the income distribution? Part of the answer is the structural position of finance, especially in the UK. Too big to fail and too important for tax revenues, and the recovery (supposedly), those who made the mess are proving adept at avoiding paying for it. But part of this is also ideology. Rahm Emmanuel supposedly said, “You never want a serious crisis to go to waste,” and then wasted it. The British Conservatives are making no such mistake.

Consider not just the asymmetry of who pays, but the targets themselves. Despite David Cameron’s very public embrace of the UK’s public health care system, the rest of the state is still fair game for the Conservatives, and this crisis really is too good an opportunity to waste. Although the details of these cuts are still vague, the broad outlines are already clear. Those thrown onto welfare will find that welfare much reduced. The universities, no friend of the Conservatives for many a year, are expecting massive reductions in their teaching budgets The recent Browne Review on higher education set 2011-12 English University teaching funding at £700 million, down from £3.9 billion, at a time when young people cannot get jobs. Taxes are only meaningfully raised regressively, and the government’s new bank levy, the centerpiece of making the bankers pay, was noted by the Financial Times to be “too small to matter.

Finally, consider the overall macro-economic target of these policies. One lesson of the 1990s was that for countries joining the Euro through adherence to the highly restrictive Maastricht criteria (3 percent budget deficit, 60 percent debt to GDP ratio, inflation rate no more than 1.5 percent higher than the three lowest in the system) the costs in lost output, employment, and growth were oftentimes more than the benefits of joining. So why then is Britain deleveraging from a debt to GDP ratio lower than that of the Maastricht target (58.5 percent as opposed to 60 percent) and targeting a budget deficit lower still (2.1 as opposed to 3 percent)?

Well, one answer to that is the complement to who pays – who wins? And the answer to that depends upon what assets you hold over the next few years.

There are four ways out of a financial crisis. First, you can default. But with below-Maastricht debt levels and fear of the bond-market vigilante, the UK is nowhere near doing that. Devaluation is an option, and the Pound has lost value, but so have other currencies, notably the dollar, so there are limits there. So we are left with two choices: inflation or deflation.

If you hold real assets, inflation can be a free gift (consider all those folks with mortgages in the 1970s that saw half the cost of their houses disappear in the great inflation). So for those with debt (held as a debtor) inflation is a winner. For those with debt on the other side of the balance sheet – (debt held as a creditor) – it’s a disaster. For these folks deflation, especially if it happens to someone else at the other end of the income distribution, is the preferred outcome.

Seen this way we get some clue as to why ‘austerity’ is the new ‘there is no alternative’ narrative. If inflation and default hit the powerful, and devaluation (exporting the costs of adjustment onto foreigners) has limits, then the only way forward is deflation. Those with ‘real money balances’ will have them restored, while those with real assets (or no assets) will take the pain. Meanwhile, a long held Conservative objective, the shrinking of the state, goes ahead in the name of pulling us back from the “brink of bankruptcy.”

I used to think that John Quiggin’s view of austerity, as a zombie economic idea was the right metaphor. After this week I think it’s better to think of this whole episode as a Godzilla movie. Even if the policy fails, you will at least have slain the real monster – the state.

11 Responses to “Britain’s Austere Future: Zombie Flick or Godzilla Movie?”

  1. Al Williams says:

    > If you hold real assets, inflation can be a free gift (consider all those folks with mortgages in the 1970s that saw half the cost of their houses disappear in the great inflation). So for those with debt (held as a debtor)

    What about people, maybe younger people, who have been excluded from the property ladder, but have amassed some savings desperately trying to build a deposit?

    Do they really fall on the “creditor” side, and so should see their savings eroded by inflation to help preserve the boomer generation once again inflate their way out of on-credit purchases (another foreign holiday, plasma TV, house)?… Which way to the barricades, did you say?

  2. Hi Mark:
    Any discussion of debt default must be prefaced by a differentiation between domestic and foreign currency denominated debt. It’s not the same to compare the British debt in pounds with, for example, the Greek debt in euros, or the Argentinean debt in dollars. In a very strict sense, there is no default in domestic currency denominated debt. The worst that can happen is that in order to hold this domestic debt economic agents will demand a higher rate of interest or prefer cash, forcing the monetization of debt. In the first case, the central bank can always intervene (e.g. quantitative easing) in order to keep interest rates at low levels, as it was done in the US during the Great Depression and also right now. In the second case, monetization will only lead to inflation if the system is at full employment, or if agents prefer currency substitution, i.e. choose to hold a foreign currency, forcing depreciation and higher prices of imported goods. That is why the conservative notion of austerity is problematic, since the stimulus in domestic currency cannot create inflation (not in the middle of a recession) and cannot lead to default. It is the economic equivalent of the theory of intelligent design. No fundamental disagreement with your points. I would just note that it’s seldom the case that debates like austerity versus stimulus are solved by experiments like the British one. The survival of irrational arguments is in some way related to political expediency, I believe. In the US, among economists, the consensus is that fiscal policy was irrelevant for the recovery in 1930. The classic paper by was Christina Romer, the person in charge of defending our last fiscal stimulus. You have to love the irony.

  3. Mark Blyth says:

    Dear Al and Matias

    Thanks to both of you for for the feedback.

    Al, I think Matias answered your question about inflation – ” That is why the conservative notion of austerity is problematic, since the stimulus in domestic currency cannot create inflation (not in the middle of a recession) and cannot lead to default.”

    M, thanks for the thoughtful post. I agree with the domestic default stuff to the extent that it is domestic, composition matters, which is why ireland should be very very afraid and the UK is not far behind. In this case its the private share of the total external liability that is the issue. So why the UK is so bent out of shape about the public debt is like the tail wagging the dog. See

    Love the Romer Irony!

    I’ve written a fair bit about why economic ideas stick around. John Quiggin’s new book is worth a look. There is a hyperlink in the post.



  4. Kevin P. Gallagher says:


    I think readers will find it interesting that the economic consensus is that fiscal policy was irrelevant for the recovery of 1930s. Can you write a short comment on that with some links?


  5. The conventional view among economists, but not historians, suggests that the Depression resulted from a monetary contraction caused by the rules of the Gold Standard (Eichengreen, Temin), or by a failure of the Fed (Friedman & Schawrtz; Metlzer), worsened by banking failures (Bernanke). Regarding the end of the Depression the consensus is that fiscal policy was weak (Brown; Romer) and that gold inflows that were not sterilized were central for the recovery (Romer; Meltzer). In that sense, even monetary policy was botched during the New Deal in the convebtional view. A summary of these views is available in Romer’s entry for the Encyclopedia Britannica I’m finishing a paper trying to show the relevance of fiscal policy, and wrote a while ago a paper (published in a book edited by Robert Leeson, American Power and Policy) on the role of monetary policy There are a few good answers to the conventional view. Greg Hannsgen at the Levy has a few papers, and I recommend the following Also, Jamie Galbraith’s post at TPM is very good. Both show that fiscal policy and employment creation during the New Deal were quite successful. Hope this helps.

  6. I agree with Mark Blyth that the Tories motives for banging on about the debt are devious (and same goes for Republicans in the US). However I don’t agree that this is the ONLY reason they “bang on”. Another reason is that neither the Tories nor anyone else (Mark Blyth included) can work out how to do fiscal consolidation without causing austerity. (Mark Blyth claims there are only two equally unacceptable solutions to the latter problem: inflation and deflation.)

    There is actually a very easy way to consolidate without suffering any austerity. It’s thus. Step 1: print money and buy back the debt. That on its own would be too inflationary. So (step 2) implement a policy which produces money for the buy back in a DEFLATIONARY manner, and that is to raise taxes and use the money collected to buy back debt.

    As long as the amount of money printed and collected in tax are such that the inflationary effect of the former equals the deflationary effect of the latter, there is no overall inflation or deflation, and meanwhile one can pay back debt at any rate one chooses. For more details on this, see:


  7. I agree with what Paul Krugam said about Government’s pursuit of austerity. It would damage Britain’s future.

  8. An interesting discussion is worth comment. I think that it is best to write extra on this matter, it won’t be a taboo subject but generally people are not enough to speak on such topics. To the next. Cheers

  9. Have you ever thought about adding a little bit more than just your articles?
    I mean, what you say

    is important and all. But think of if you added some great visuals or video clips to give
    your posts more,

    “pop”! Your content is excellent but with pics and video clips, this website could

    certainly be one of the greatest in its field.
    Very good blog!

  10. Alejandra says:

    I intended to write you this bit of remark to be

    able to say thanks over again over the amazing things

    you have contributed here. It was quite shockingly open-handed with you to give unhampered what many of us could
    have offered for sale as an electronic book to get some cash for
    themselves, chiefly now that you might well have

    tried it in case you decided. These tricks

    likewise served to

    become great way to understand that someone
    else have a similar dreams the same as mine to grasp a

    little more concerning this matter.

    Certainly there are millions of more fun opportunities ahead for individuals that look over your


  11. The Age of Austerity is over. This is not a prediction, but a simple statement of fact. No serious policymaker anywhere in the world is trying to reduce deficits or debt any longer, and all major central banks are happy to finance more government borrowing with printed money.