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The big US-UK divide

Cameron has enjoyed portraying in Washington that the US and UK are marching in lockstep towards early withdrawal from Afghanistan. But not on what matters even more – policy towards the deficit. There are two ways to deal with a big budget deficit: one is by cutting back expenditure (austerity) and the other is growth to expand revenues (stimulus).

The latter, US response, it can now be seen, has won hands down on all counts. On economic growth since the autumn of 2010 the US has expanded by a credible 2.2% while the UK has virtually flatlined at a mere 0.2%. Then there is the jobs crisis: since autumn 2010 the UK unemployment rate has risen by 0.7% while the US rate fell 1.1%. Osborne’s budget in a week’s time gives a chance for the UK government to learn from their mistakes and correct them: fat chance.

The underlying difference is the ideological one, Keynes versus Hayek. The latter taught that investors who created bubbles should be made to pay the price for their recklessness when the bubble burst, whatever the impact on the wider economy. The former advocated that when the private sector was flat on its back in a deep recession, government should expand the public sector in order to fill the gap in demand left by a retreating private sector.

Paradoxically, there is a case for both, subject to two caveats. One is that in a slump the pain of wholesale deleveraging is just too high in widespread bankruptcies and soaring unemployment, and therefore Keynesianism is the right policy in such extreme conditions. The other is that Hayek’s ‘mal-investors’ should indeed be targetted to avoid moral hazard (i.e. recklessness is given an incentive if it is always bailed out), but only when it doesn’t take down most of the rest of the economy with it

Will Osborne learn his lesson? If ever there was a broken political prediction – that the private sector will automatically advance as the public sector under unprecedented cutbacks retreats – it is now. But Osborne, the most politically motivated of Chancellors, will never admit his folly. Much sooner will be the rending of the coalition from a more viral source of tension – the increasingly uncontainable LibDem divisions over the NHS, taxing the rich, Lords reform and Europe.

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