Labour, Finance and Keynes

Presented at the Progressive London Conference.

Blame for unemployment lies much more with finance than with industry. Mass unemployment is never the fault of the workers; often it is not the fault of the employers. All widespread trade depressions in modern times have financial causes; successive inflation and deflation, obstinate adherence to the gold standard, reckless speculation, and overinvestment in particular industries.

Worst of all has been the orthodox theory that bad trade calls for economy – economy in all new development, economy in wages, economy in social services, economy in employment, economy in enterprise, “freedom from thought.”

This disastrous doctrine dominated British policy between the wars. The Geddes Report, the May Report, the Snowden folly in 1931, all illustrate it. The cure for unemployment it was said, was to cut down purchasing power and stop development. This was believed and preached, not only by many political leaders, but by the Treasury, the Bank of England and all the rest of the financiers.

The Labour Party was right when it declared that all this was the exact reverse of the truth, and that the supposed cure made the disease worse. The best cure for bad trade is to increase purchasing power and to speed up development. The best preventative of bad trade is to maintain purchasing power and likewise to maintain a steady and well balanced programme of development. …

This view is now widely accepted outside the ranks of the Labour Party, by most economists, by many Government officials, by many business men, even by some bankers …

Finance must be the servant, and the intelligent servant, of the community and productive industry; not their stupid master.

This is official Labour Party doctrine. Unfortunately it is Labour Party doctrine of 1944, from the policy document ‘Full Employment and Financial Policy’ (FEFP). [1]

The central problem of our age is not growth or inflation, it is unemployment; the condition of the public finances is only a symptom of the failure of private finance to provide that employment, both in the special context of the present crisis, but also over the whole world for at least 30 years. The means to restore the public finances to health is to restore employment, and the means to do that is to reposition finance as servant to production and to labour.

I suspect that a good number of people in this room might agree. But it is not uttered in mainstream debate, and by that I mean in Parliament or playing out in the media from the Guardian to the FT. We are actively engaged in repeating the errors of the past, but at least in the past dissent was a feature of mainstream debate.

Over the course of the crisis, finance has successfully created the fiction that it is an unfortunate but necessary evil; and that the bloated public sector is the real problem. Mainstream debate concerns only the pace and extent of the cuts.

In the 1930s the extent of the dissent ruptured the Labour Party, as those that supported austerity and finance moved to join the Tories in the National Government. Those that stayed behind began to rebuild. They did so with the aid of Keynes’s theories that were emerging in parallel. Over the 1930s – under Hugh Dalton, above all in my view – the policies that were outlined in FEPF began to emerge.

Keynes saw that there are no natural forces operating to ensure that employment outcomes are optimal; especially forces that are independent of the prevailing financial conditions. Outcomes were determined by aggregate demand. Under liberal finance, demand would not only be inadequate for full employment, but would also be severely volatile.

Yet Keynes’s doctrine was profoundly optimistic. He categorically rejected the notion that the Great Depression indicated that the world had been living beyond its means. Instead he saw in the boom that preceded the slump, a glimpse of the prosperity that an organised economy might achieve. The task was to arrange matters so that the prosperity might be permanent. The world had only been living beyond the means of a finance-dominated economy, an economy orientated towards speculation and the special interests of the wealthy.

Keynes looked to instigate financial conditions to foster both private and public demand, underpinned by the idea that a society was able to afford whatever it was able to produce, not the other way around. The limits to activity should not be financial but real, by which I mean running out of people, materials and natural resources. Today of course we should give more emphasis to the last of these and to environmental constraint. Fundamental to this approach was firstly setting a low rate of interest for loans of all durations, and secondly harnessing credit creation so that banks were forced to finance government expenditure according to terms dictated by government.

From 1932 to 1951, the government did not allow Bank rate to budge from 2 per cent, and took deliberate action on the long rate, so that it fell from 5 to 3 ½ then 3 and then finally – and only briefly – to 2 ½ per cent, around the lowest rate in history. Government debt of 250 per cent of GDP in 1945 did not stand in the way of the greatest ever programme of economic and social reform under Attlee. We should dwell for a moment on the outcomes according to the official statistics. By 1949 the unemployment rate was 1½ per cent, GDP growth was 3¼ per cent, inflation was 2½ per cent. The public debt fell by and average of around ten percentage points per year. And these of course do not even come close to capturing the sheer scale of the wider social reform.

These policies never failed, they were undermined and dismantled in a manner that is pure class conflict. Note first how the FEFP approach cut across traditional battle lines between left and right.

The solution to economic failure was not a wholesale move to a state planned system. The state had a vital role in 1. setting the framework for economic activity, 2. through an extended role in the provision of services such as welfare, education, health, 3. in instigating schemes of public works such as housebuilding, and 4. through the nationalisation of some industries, but there was still place for market forces. Indeed average government expenditure under Attlee was low relative to what came later.

Workers and businesses were found to have shared – though obviously not entirely common – interests, but these interests were entirely opposed to the interests of finance. These new battle lines were certainly problematic for Tories – is it business or wealth that they support? – old or new money? Matters are politically more convenient if these interests coincide. Keynes calls the Tories’ bluff.

Equally, no doubt many on the left felt – and feel – that the contradictions of capitalism cannot be so simply resolved. Perhaps not. But for the brief period when the system prevailed, the record was impeccable.

The clear loser was finance. The reforms could and did improve the lot of the great majority of the population. But for established financial interests, the impact was ruinous. While there was still a need for banks – even banks in the private sector – the extent of financial activity especially speculation and the associated rewards were vastly reduced.

The authors of FEFP were very alive to these dangers:

But some of the old counsellors, who misguided past Governments, are still hovering about in Whitehall and the City of London. We must watch such men.

In government, the dangers became a reality. Keynes stayed at the Treasury on Dalton’s request, but he died in April 1946. Labour Treasury Ministers faced constant pressure, from the Bank of England especially, to undo the technical processes that supported financial policy for full employment. For example they agitated constantly for a rise in Bank rate – pressure that was resisted by each of Dalton, Cripps and Gaitskell. Systems for creating credit to finance government expenditure were discontinued. And the cheap money policy was undermined, of which Dalton later observed:

The forces against me, in the City and elsewhere, were very powerful and determined, … I felt I could not count on a good chance of victory. I was not well armed. So I retreated.[2]

In the final reckoning, the Labour Government could not withstand extent of the opposition. The expenditure demands of the Korean War put inflationary pressure on an economy that was already at capacity. The consequent policy battles cost Labour power. In a moment of remarkable frankness, David Kynaston the City historian observed:

On the night of the 25th [October 1951] and the day after, the F[inancial] T[imes] sponsored a large election results board near the Royal Exchange, and crowds of City workers thronged the street to cheer Churchill home. The six-year nightmare was over. [3]

With the Tories back in power, within a few weeks Bank rate was raised and revived as an instrument of policy management.

Nonetheless Labour had achieved so much, that the Tories could hardly fail. Retaining a good deal of control over finance and with serious manipulation of economic policy to fit the electoral cycle – in a manner that disgusted Gaitskell – they held on to power until 1964.

By the time Labour were finally returned to office, the central role of finance in political and economic debate had been lost. There were no efforts to restore the policies that the Tories had dismantled. Indeed the Labour Government would concede still more power to finance, especially with Roy Jenkins as Chancellor [67-70]. But of course this was only the beginning.

The most important economic feature of the post-war era is then the revival of finance to the terrifying extent and dominance it has achieved today.

It has left utter disarray in its wake.

I contend with some certainty that the fortunes of finance have been bought at the expense of the fortunes of productive activity and employment.

Another generation has re-learnt the lessons that the Labour Party learnt in the 1930s and 1940s. Yet the mainstream politicians are so very far from the solutions. I guess that there is a fear of straying too far from ‘consensus’. But consensus as failed. Somebody has to call it how it is.

Those who erected the finance –led system have betrayed society.

We know the solution. The task must be to persuade everybody not only that there is an alternative, but an alternative that is perfectly viable and, indeed, very good.

(1) Report by the National Executive Committee of the Labour Party to be presented to the Annual Conference to be held in London from May 29th to June 2nd, 1944; Transport House, Smith Square, London, S. W. 1. BACK TO POST

(2) Hugh Dalton (1954 [1922]) Principles of Public Finance, London: Routledge, p. 239.BACK TO POST

(3) David Kynaston (2001) The City of London, Vol. IV, A Club No More, 1945–2000, London: Chatto and Windus, p. 46. BACK TO POST