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Britain is staring down the barrel of a self-inflicted economic catastrophe. This week saw the pound fall to an all-time low against the dollar amid a mass sell-off of U.K. bonds. Analysts are laying the blame on just one man.
Kwasi Kwarteng, 47, has been chancellor of the exchequer, Britain’s top economic position, for less than a month, but he’s hardly inexperienced. Before he became a member of Parliament in 2010, he had worked at investment banks and hedge funds. He studied at Eton College, earned a doctorate from Cambridge and was a Kennedy Scholar at Harvard. An economic historian by training, he’s written several well-received books and won numerous scholarships.
And yet, within weeks of entering new prime minister Liz Truss’s government, this economic expert appears to have tanked the British economy.
How did this happen?
On the surface, the story seems simple. On Friday, Kwarteng announced a “mini-budget.” In fact, it contained major moves such as the abolition of the top income tax rate of 45 percent for people earning more than 150,000 pounds and a scrapping of the cap on banker bonuses.
The broad range of tax cuts included in the package are expected to dramatically decrease government income. But at the same time, Truss’s government planned to spend even more enormous sums of money to insulate consumers from soaring energy bills that are partly the result of the war in Ukraine. This means that it is borrowing a large amount of money amid rapidly rising prices.
It doesn’t take a doctorate from Cambridge to see that those sums simply don’t add up.
The markets’ reaction? Panic. On Monday, the pound fell to the equivalent of $1.03 — a 22 percent decline from six months before. Inflation, already high, is expected to soar as interest rates rise, adding to what has been dubbed the “cost-of-living crisis” in Britain. Two days later, the Bank of England stepped in with an emergency pledge to buy unlimited bonds in a desperate bid to shore up the British economy.
The International Monetary Fund — one of the world’s top financial institutions — weighed in with the sort of rebuke usually reserved for tinpot dictatorships and banana republics. “The nature of the UK measures will likely increase inequality,” the U.N.-backed fund said in a deeply critical note published Tuesday.
The mini-budget looks to be a bigger disaster for the British economy scale than Brexit, the pandemic and the war in Ukraine. So, why did Truss’s government do it?
Analysts have been left scratching their heads, particularly as Truss’s government flouted requirements for the budget to be appraised by Office for Budget Responsibility.
But many believe that clues can be found in Kwarteng’s writings on economics, which detail a disputed — arguably, radical — view of the benefits of extremely free trade. Most notable is a book written by Kwarteng, Truss and other Conservative MPs that was published in 2012, titled Britannia Unchained.
That book argues that Britain had become a “bloated state” with “high taxes” and “excessive regulation” and that only by taking an aggressively free-market, libertarian stance would shake the country into powerful economic growth. In this view, Britain looks particularly terrible when compared with fast-growing Asian economies.
“Whereas Indian children aspire to be doctors or businessmen, the British are more interested in football and pop music,” the book wrote.
The authors of Britannia Unchained were, at the time, accused of chasing headlines. But as the Financial Times noted this week, Kwarteng’s other work on economic history shows an embedded distrust of financial markets and bankers that is newly relevant.
His doctoral thesis — focused on the less-than-headline-grabbing topic of William III’s decision to reissue England’s coinage in 1695-96 — argued that “the interest of the goldsmith and banker was anything but inimical to the wider good of the nation.”
Few would argue against the idea that Britain’s economy needs some sort of shake-up. The economy has slumped since the financial crash of 14 years ago, with a mean growth rate of just 1 percent for the years since compared with 2.7 percent between 1948 and 2008.
Kwarteng’s mini-budget appears to be creating a kind of supply-side economics shock therapy for Britain. The inspiration may come from America and, in particular, the U.S. counterpart to the British chancellor’s idol, Margaret Thatcher: President Reagan, who was said to be “starving the beast” when cutting back on state funding by diminishing government income.
As Adam Tooze, a Columbia University economist, put it for the Guardian this week, the market chaos could theoretically aid this idea: “Cut taxes and, as public revenues contract, this will create irresistible pressure for spending cuts. The argument is all the more urgent if you can invoke pressure from the financial markets.”
But Britain is not America. “Reaganomics” had the backing of not only the world’s strongest economy but also its preeminent currency, the mighty U.S. dollar.
The Britain that Truss and Kwarteng are leading has neither. Some of their keenest supporters have yet to admit that Britain is a fading power, increasingly irrelevant economically as its growth stagnates. The Financial Times’s Janan Ganesh wrote this week that “so much of what Britain has done and thought in recent years makes sense if you assume it is a country” of 330 million people with $20 trillion annual output.
Judging by the reaction to the mini-budget, the markets just don’t buy it. Bankers do not believe that the cuts will lead to growth. Some appear genuinely shocked that the British government would make a choice to boost its deficit by so much at this time — and do so not because of economic hardship, but because of political choices.
“It’s not so much that the package is large, but that the government doesn’t seem to mind — and at times seems to welcome the controversy of a strategy that rebels against orthodoxy,” J.P. Morgan wrote in a note to clients later republished by the Wall Street Journal.
Kwarteng and his allies appear to have been taken by surprise by the market reaction. But they have offered little public comment to reassure bankers, let alone the country. “He doesn’t seem very focused on or politically very sensitized to the impact of interest rates going up on mortgages,” one unnamed member of Parliament told the Economist.
Tony Travers, a politics professor at the London School of Economics, told The Washington Post, “They are prepared to risk unpopularity because they think it will work in the long term.”
If it does eventually work, much of the praise will probably go to Kwarteng rather than Truss, whose political and economic views appear to have faltered significantly over time. Kwarteng is seen as a true believer in supply-side economics, one who was described as “essentially an academic” by another MP’s wife. The son of Ghanaian immigrants, he is also the first Black person to hold the position of chancellor of the exchequer.
And if it doesn’t work? There is already speculation that Truss’s government will sink before the next election, which under current rules must be called before January 2025. That would mean the fifth British leader in a decade or less, political instability on top of economic instability.
And Kwarteng, the economic historian, will have earned himself a place in the economic history books: As the chancellor who proved his own ideology didn’t work.
(DS)
