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The British economy has suffered from myriad defects that make its management especially challenging. They also make the coalition government’s decisive and radical approach to policy essential.
The budget deficit of 10 per cent of gross domestic product means that, in a world of financial markets nervous about sovereign debt problems, the government runs the gauntlet of a confidence crisis unless we plough ahead with our deficit-reduction commitment. The government has so far been vindicated by low bond yields, at German or French – not Spanish or Portuguese – levels, keeping down the cost of capital.
The abnormal level of personal debt, which we inherited from our Labour predecessor, and the legacy of a housing bubble, act as depressing influences on consumer behaviour, and make it necessary to secure growth through exports and business investment.
But the overweight, badly damaged banking sector acts as a continuing drag on access to finance for business, especially small business. And where there is encouraging growth, in manufacturing, it follows a decade and a half of hollowing-out, which has destroyed a lot of capacity and skills.
These problems define the government’s strategy, which is to maintain a consistent approach to deficit reduction, fix the broken financial system and create conditions for sustainable growth. The model of future growth emphasises private investment, exports and a business-friendly approach that encourages start-ups and the development – and job creation – of small and medium-sized enterprises.
Rebuilding business confidence after the financial crash and recession will not be an instantaneous process, but the government’s growth review – published alongside last month’s Budget – sets out some of the supply-side reforms necessary to support and sustain it.
There are several strands to these reforms.
First, corporation tax cuts and other tax changes will increase the post-tax return on investment and send a signal to inward and émigré investors that the UK is now an attractive place to do business.
Second, they signal a strong commitment to removing unnecessary barriers to investment and growth. Planning reform will tilt the bias back in favour of sustainable development, and a combination of deregulatory measures will turn back the tide of unnecessary rules weighing on business.
These will include a three-year moratorium from new domestic regulations for micro-companies (those with fewer than 10 employees), a rigorous “one-in, one-out” process, an end to gold-plating of EU regulation, employment tribunal reform, and a bonfire of many of the existing 21,800 regulations.
Cumulatively, these changes will make it easier to start and grow businesses and to hire staff.
Third, the government is deploying scarce public finances to interventions, which will support growth; funding a big increase in apprenticeships; creating a network of technology and innovation centres; investing in science infrastructure; and capitalising at a higher level the Green Investment Bank, which will, it is hoped, leverage billions more of private investment into high-risk projects.
The Budget itself has been welcomed by business groups. The main criticism relates to growth projections for the current year being revised down from 2.1 per cent to 1.7 per cent. This entirely reflects the weak quarter we saw last December, which has a larger effect on the level of output in 2011 than in 2010.
And because this happened when Labour’s spending plans were largely still in place, it is naive for the opposition to claim that it was all about the coalition government’s cuts.
Figures from the Institute of Fiscal Studies show that the previous government initiated the fiscal squeeze in 2010.
Even the lower growth number is far from the double-dip recession predicted by opposition critics since the day we entered office. Such critics demand to know how the government would respond to lower-than-expected growth.
There are several answers.
The first is that the core plan to address the structural deficit must remain in place. The recession left the country much poorer; it makes no sense to continue with plans that presuppose unaffordable levels of spending.
Then there remains considerable built-in flexibility in fiscal policy, as the government is cutting not only the cyclical but also the structural deficit. Automatic stabilisers continue to operate.
Third, we should remember that monetary measures played a far greater role in bringing the economy out of recession than discretionary fiscal policies, and continue to be potent.
The main compensatory measures would be through monetary policy: restraint in increasing interest rates to “normal” levels, and potentially further quantitative easing, in some form. Any sign of a serious slowdown would strengthen the hand of the Bank of England’s monetary policy committee in using accommodative monetary policy to offset deflationary risk.
For the government, there is an equilibrium to be reached between maintaining confidence in the country’s solvency through fiscal discipline, and not choking off recovery. The verdict of markets, multilateral economic organisations and business groups has been that it has struck the right balance.
The writer is secretary of state for business, innovation and skills
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