Borrowing for growth - some advice for Ed

Earlier this week Labour leader Ed Miliband made the case (somewhat haphazardly) for more short-term borrowing to stimulate the economy.

Not unexpectedly, Miliband's reluctance to admit that an alternative to austerity might involve borrowing was seized upon by the the right wing press.

Miliband's unease reflects a battle within Labour that has yet to be won. Seumas Milne analyses that ongoing political fight in his Guardian column. As Milne correctly observes:

"The Tories want to lure Labour into signing up for the same medicine – or a mildly watered down variant – as they did in the far more benign economic environment of 1997.

"If Miliband and Ed Balls (who still defends the 1997 decision to stick to Tory spending limits) fall into that trap, it would be a disaster – both for Labour's election prospects and the chances of rebuilding an economy that delivers for the heavily squeezed majority".

But I want to look at the economic timidity (and the power of the Tories' economic framing) that made Ed stutter in that interview.

Ed should have responded by saying this:

"Yes of course it means borrowing - but borrowing to grow the economy. George Osborne is borrowing over £240 billion more than he said, our debt is rising, because his policies are failing. He has to borrow for his failure, we would borrow for growth."

The graph to the right shows how Osborne's plan set out in his emergency budget has faltered - as many predicted it would - due to the self-defeating nature of austerity policies in an economy with already weak demand.

Labour should be ramming this home. The choice - framed by the Tories and put to Labour - is not between cutting spending or borrowing more. It is between borrowing for failure or borrowing for growth.

Ed Miliband should have had these arguments to his fingertips. The Labour leadership still seem caught in this false trap between borrowing or austerity. This stems from the acceptance of another narrative that Labour borrowing and investment in public services is the reason for the deficit today. It's not, no matter what economic illiterates like Liam Byrne scrawl.

In office New Labour spent less as a percentage of GDP than the governments of Thatcher and Major (as this graph shows) and had reduced the national debt prior to the economic collapse caused by the banking crisis (as this graph shows).

So while Ed should swat aside the silly jibes about Labour's spending, saying:

"The last Labour government invested in public services, while the governments of Thatcher and Major spent more on social failure, just like David Cameron's government today."

Finally, Labour's borrowing plans. All the World at One furore was caused by Ed Miliband's plan for a temporary VAT cut - "The point I was making yesterday was to get growth going by cutting VAT, then over time you will see borrowing actually fall. That was the point I was making."

There's a good solid case for permanently reducing VAT - a regressive flat tax - and redistributing the tax burden onto those on higher incomes (e.g. restoring 50% tax rate) or by taxing wealth (mansion tax). Assuming some revenue neutral combination of the above, there is a stimulus effect because poorer people have to spend their income, whereas the rich invest their surplus wealth. Taxing wealth of course unlocks capital.

However, a temporary VAT cut (and the timid message it sends) is hardly the most effective way of stimulating demand.

Why not instead argue for a mass housebuilding programme - that would create thousands of construction jobs (a sector where there is excess capacity) and more in the supply chain. Getting people into work (or more work) means more taxes and fewer benefits.

Building new homes, with a hefty chunk of council homes, would also meet an urgent social need and provide revenue to local government through rents. The knock-on impact of furnishing new homes would also boost the retail sector.

Housing is of course only one example, but there are others from new energy infrastructure, energy efficiency programmes to new transport networks.

By enmeshing economic stimulus with meeting social need, Labour could then mobilise thousands of people into backing their demands. But that needs the political fight to be fought and won within the party ... back to Seumas.