A New Golden Rule

Dan Corry, Peter Kenway, Steve Barwick

What went wrong with the UK economy started going wrong several years before the financial crash of 2008. During the crash it got very much worse. It is still seriously wrong even now. Just as it dragged Labour down, so it will drag down the coalition. As a result, the government that follows the coalition needs to learn the right lessons from Labour’s past. The economic situation in 2015 is going to be different in many ways from what it was in the years leading up to 2007, but in a crucial respect, it is very likely to be fundamentally the same. What we are talking here is the corporate sector and the way that it has ceased to be the driver of the UK economy.

While many of the immediate – and deeper – causes of the financial meltdown rested elsewhere, the economy was becoming unbalanced. The public sector deficit is one aspect of this imbalance. But it is not the only one. Much less discussed is another side of it, the corporate sector –Britain’s companies, large and small – behaving as long term savers, spending less than they earn.

There are many reasons why a long-lasting corporate surplus – hoarding – is a problem but the simplest is that if the economy is to grow and develop, it is companies that need to lead it. Far from always having more money than they know what to do with, there ought to be times when dynamic and innovative companies know of more things to do than they have the money for.  In short, companies as a whole should, for some of the time, be net borrowers. Yet for ten years now they have been net savers and on a big scale.

Labour, along with just about everyone else, missed this shift in the behaviour of the corporate sector balance sheet. Previously it had been cyclical; since 2002 it has been permanently in surplus. That does not mean it is permanent for ever, but for the time being, and the foreseeable future, it is. In looking to the future, Labour must cope with the consequences of this shift and find ways of addressing it.

Labour has promised that it will set out new fiscal rules for 2015 before the next election Unlike both Labour’s original golden rule, and Osborne’s increasingly discredited 2010 alternative, policy must focus on more than the public sector alone. The key requirement is that government must take the corporate sector surplus fully into account in policy making. More precisely, ‘taking it into account’ means, firstly, that the collective behaviour of the corporate sector and its surplus should be an object of government policy and secondly, that reductions in the public sector deficit and reductions in corporate sector surplus are linked.

In order to give the corporate sector surplus the status it requires, we advocate that it should explicitly appear within a new golden rule, to capture the way that reductions in the public sector deficit depend upon reductions in the corporate sector surplus. Others may feel that this is too strong and merely want it to sit alongside a new rule. Either way, putting the corporate sector surplus at the heart of economic decision making is the key. For so long as the surplus seems permanent, that remains the case.

Such a rule has several characteristics. First, by bringing both the public and corporate sectors into the picture, the rule refutes a key tenet of conventional wisdom for 25 years that the only imbalances that matter are those in the public sector – that only the public sector can muck up the market, but not the other way round. Events have proven that wrong and the rule responds.

Second, critics of austerity, proven amply right by events, argue that the pace of deficit reduction should be slower. The trouble with this argument is that it is incomplete. What it is missing is any indication of how much slower, or slower for how long.  A rule that includes the corporate sector surplus creates a yardstick against which to calibrate the speed of public sector adjustment. It is not perfect and it is not straightforward. But in principle it is correct in a way that no one sector rule possibly can be.

Third, the rule carries the message that restoring the corporate sector to normality is the government’s business. The key to this ‘restoration of normality’ is reform. The urgent reforms that are needed will include – but are not restricted to – ones directed at financial regulation (though not just stability) and corporate governance (including possibly strengthening shareholders).

Finally although this analysis is aimed at the Labour party and its supporters, the lessons may have a wider significance. The Labour government of 1997 to 2010 was not particularly left wing. Its economic policy was based on established, mainstream economic thinking – even though from that base it tried to alter the way the market economy it inherited worked in a more social democratic direction. It is therefore entirely plausible that some of its successes and failures reflect strengths and weaknesses in mainstream views of how economies work.

Certain elements of those views continue to hold sway and have become intensified – especially a fairly hands-off approach to corporate behaviour. As its policies are different, so the economic effects of the coalition are different from those of Labour. But if those policies end up delivering nothing more than austerity without end, those policies too will also be judged as a failure. The relevance of the Labour record to those parts of the coalition who are willing to listen is that they may give clues to where the coalition, too, has gone wrong.


  1. George Talbot

    True government must take account of the corporate sector’s balance sheet and reducing its surplus would help government reduce its budget deficit. But more than an augmented golden rule is required.

    For years, governments in high wage nations have run large budget deficits to absorb the surplus savings that are generated in the global economy. The US became the borrower of last resort to keep the Washington Consensus on the road. And finance got individuals and companies in the UK dangerously into debt too. After the credit crunch, Brown’s government bravely borrowed hard!

    Proposals for workable economic and financial systems must ensure that new saving and investment will balance and that wages will maintain demand without borrowing or retail price inflation. These and other conditions must be met nationally and globally.

    This would be hard but the postwar system worked quite well and its essential features could easily be developed for current circumstances. Yet politicians and think tanks offer minor fixes and sanguine words to gull electorates. Must truthful analysis and responsible synthesis be set aside until revolutions return and war threatens?

  2. Jenny Rathbone

    To this we must add dealing with the other surplus: the amount of money locked up in property. All this capital invested in housing is unproductive; it doesnt produce anything beyond a roof over our heads. How can we stop people/companies hoarding houses and land? Is a Land Value Tax the answer and if so why is it not mainstream Labour policy?

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This is an extract from the Fabian Report “A New Golden Rule”. Read more about it here.