Pre-Budget Report

The hon. Gentleman is right: we are forbidden, under the present laws, to reduce VAT to under 15 per cent. That is absurd, and we should have asked for a waiver from that requirement. We should not allow that to be a restriction at a time of national emergency. However, it is significant that, by the modesty of their package, the Government recognise that even these measures are at, or even above, the maximum that we can afford, and that more might have had a negative effect. We need to consider in what circumstances a budgetary stimulus or fiscal expansion has a positive effect, and in what circumstances it has a negative effect—the Government clearly fear the latter if they do more. Helpfully, the European Central Bank and the European Commission have studied the research done on all the fiscal—or so-called Keynesian—measures undertaken by different Governments in the past few decades. They come to some striking conclusions. They say that when Governments deliberately increased their borrowing to stimulate the economy, the effect of such expansionary measures was, at best, small. On half the occasions, the effect was the reverse of the Government's aim. My right hon. and learned Friend pointed out that we know from British experience that that is often the case. In 1976, we had what the Keynesians would call a contraction. Under the influence of the IMF, we cut spending and raised taxation. The effect was immediate. As Lord Donoughue said on Monday last week—and he was a member of Callaghan's Cabinet—the economy started recovering the next year, much more rapidly than expected. In 1981, 364 economists said, at what subsequently turned out to be the nadir of the downturn, that the measures that Lord Howe introduced in his Budget would accentuate the downturn because he raised taxes, cut spending and reduced borrowing. In fact, that marked the beginning of a sustained period of rapid growth. The documents produced by the European Central Bank also show that the opposite has happened. Governments introduced what they thought would be expansionary measures, but they had a contractionary effect—they are called contractionary budget expansions. That is our worry—that the Government have done too much and it will have a contractionary effect. The studies show that such measures are most likely to have the opposite to the Keynesian effect when the Government start with a high level of borrowing—precisely the position we are in. Other countries that have managed their finances prudently and have low borrowing are in a position to take expansionary measures, and I hope that they do so and create markets for us to grow through export-led growth, but we are not in a position to do that on any scale.