Alistair Darling – a Chancellor who will go down in history (in a good way); and was Margaret Thatcher really a public sector axewoman?

Now that the new UK government is bedding in and getting ready to unleash austerity upon us, I thought I’d quickly look back at the last Labour government and tell you something that you won’t want to hear: the last Chancellor Alistair Darling did a very good job.

There were three significant tests given to him during his 3 year Chancellorship.  Of those, I think that two were passed with flying colours, and on the final test we’ll probably never know whether he was right or wrong.  The first test was the run on Northern Rock in September 2007.  This was the UK’s first bank run in 150 years (since Overend Gurney crashed in the 1860s causing 300 companies to fail) – and at the time both the Bank of England, obsessed with the concept of moral hazard, and the Conservative party, would have let the bank fail.  It’s sobering to look back at how close we came to a full scale run on the UK’s banking system at that time – and perhaps how close we would have come to civil meltdown had the ATMs stopped working.  Alistair Darling’s decision to support Northern Rock (and later the other major high street banks) was a game changer, and set a global precedent for the correct response to a run on a retail bank.

The second big game changer came a year later.  US Treasury Secretary Hank Paulson was desperate to find a buyer for Lehman Brothers, the failing US investment bank.  None of its US competitors would buy it without significant government support.  In Andrew Sorkin’s brilliant account of those times, Too Big To Fail (a must read) he recounts how Barclays were on the brink of buying Lehman – before a phone call from Alistair Darling made it clear that that would not be allowed to happen.  Andrew Sorkin claims that a furious Paulson said that “the British have grin-f*cked us” – and Lehman filed for bankruptcy by the end of the weekend.  We’ll never know whether Barclays buying Lehman Brothers would have lead to its downfall, and systemic implications for the UK banking system – but we do know that Barclays was subsequently able to buy the best bits of Lehmans out of bankruptcy for a song, without exposure to the toxic parts of the business.  If the US government was the seller, yet no US bank was a buyer despite having had unprecedented access to the Lehman books, it should have raised a lot of warning flags.  Again, a big call, and one that turned out to be the right one.

The final test was the decision to maintain fiscal stimulus for the UK throughout 2010, despite the widening budget deficits.  Thanks to the General Election result we’ll never know whether that would have been the right thing to do – certainly Keynesian economists like Paul Krugman are adamant that any contraction in government spending in the current fragile economic environment will be the trigger for a severe double-dip.  David Cameron today announced “painful” cuts ahead that will affect “our whole way of life”.  So the jury is out on this final big decision – Darling’s enemies will argue that the Labour government of which he was a key player was responsible for the exploding deficit in the first place.  Whilst he didn’t become Chancellor until 2007 when things had started to go bad, the New Labour project did loosen fiscal policy when times were good (and befuddled current spending with “investment”) giving deficits nowhere to go but up when the economy turned.  Much of this current deficit problem was baked in the cake thanks to our deteriorating demographics, or results from the correct decision to bail out the banks – but Labour’s pro-cyclical fiscal expansion must also take a share of the blame.

I wonder how we’ll judge George Osborne’s Chancellorship when it comes to an end?  Whilst Nick Clegg has claimed there will be no return “to the savage cuts of the Thatcher years”, it’s interesting to note that apparently our “folk memory” of the Thatcher cuts is defective (according to a Stumbling and Mumbling blog post here).  Apparently the Thatcher government only cut public spending in one year, and froze it in another.  The blog’s author Chris Dillow suggests that the reason we all imagine there was a huge spending contraction in that Conservative government is because public spending grew at a slower rate than under the previous Labour government.  It’s certainly interesting that the incoming Conservative government will be far more aggressive with the spending axe than Thatcher ever was – and perhaps Mervyn King’s reported comments about the incoming government being out of power for a generation as a result of the austerity that they would implement isn’t far from the truth.  We’ll find out in 5 years’ time – if not sooner.

The value of investments will fluctuate, which will cause prices to fall as well as rise and you may not get back the original amount you invested. Past performance is not a guide to future performance.

Jim Leaviss

Job Title: CIO Public Fixed Income

Specialist Subjects: Macro economics and fixed interest asset allocation

Likes: Cycling, factory records, dim sum

Heroes: Brian Clough, Morrissey, Neil Armstrong

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