It begins thus:
A Labour government will cut the deficit every year. The first line of Labour’s first Budget will be: “This Budget cuts the deficit every year.”
This is, of course, silly. It amounts to a promise to tighten fiscal policy even if the economy weakens. The statement could be rewritten: "if a recession occurs, we'll make it worse."
Granted, few people expect a recession in the next five years. But this means little. Recessions are unpredictable - or at least unpredicted.Any sensible economic policy would take into account the risk of bad times. Labour's doesn't.
You might object that recessions could be offset by monetary policy instead. I'm not sure. A rough and ready calculation shows the problem.
The OBR's current forecast is for the output gap to narrow from 0.6% now to zero by 2019*. However, its data show that the standard deviation of the gap since 1973 has been 2.2 percentage points. So let's assume that a shock of this magnitude happens. The OBR estimates (pdf) that this would increase government borrowing by 1.1 per cent of GDP through normal automatic stabilizers. To cut the deficit every year in the face of this incipient increase thus requires a discretionary fiscal tightening of 1.2 percentage points. How much monetary loosening would be necessary to offset this?
Obviously, it depends upon the size of the fiscal multipliers. Let's call these one. We'd then need a monetary stimulus sufficient to raise GDP by 3.4%: 1.2% to offset the fiscal tightening and 2.2% to close the output gap.
Now, the Bank of England estimates that the first £200bn of QE raised GDP by 1.5 per cent. Simply scaling this up implies that we'd need £450bn of QE to raise GDP by 3.4%. This would take total QE to £825bn.
I reckon this is errs on the low side. For one thing, my assumption about multipliers might be low given that these are bigger (pdf) in recessions and at the zero bound. And for another, QE was probably more effective in 2009 than it would be now because gilt and corporate bond yields back then were higher.
I'm not sure this is attractive. It's would mean nationalizing more than half of government debt. And - given that QE raises asset prices - it has distributional effects which Labour supporters might not like.
Granted, there might arguably be more effective forms of monetary ju-ju such as raising the inflation target or green QE. But Labour's manifesto, as far as I can see, is silent on these.
Labour's promise to cut the deficit is, therefore, not a sensible one. Deficit reduction should be contingent upon the state of the economy.
It is, though, easy to see why they have made it. The party is simply bowing to the economically illiterate demands of mediamacro and bubblethink. When much of our ruling class - the coalition and the media - is stupid, then acting stupid yourself might be the best option.
Herein, though, lies my problem. I like to think that this promise is just a lie - that if the economy does weaken, Labour would claim force majeure and abandon it.
But there's a danger here. In Influence, Robert Cialdini describes how some Americans who were captured (pdf) by the Chinese during the Korean war were asked to make pro-Communist statements.Many of those who did so subsequently collaborated with the Communists to a greater extent than necessary. This, says Cialdini, shows that we have an instinctive desire for consistency. Having made a statement under duress which we believe to be false, we go onto behave in a way consistent with it.
In the same way, Labour's promise, daft as it is, might actually constrain their future behaviour. People who act stupid might become stupid.