Allow the post-covid economic boom to run riot

If we follow America’s lead and tolerate much higher inflation, it will ease the transition to a new world

Should the UK be taking a leaf out of the American playbook and running the economy hot? Here in Britain, we’ve not had anywhere near the same level of debate on this question as the US, where extraordinary levels of fiscal and monetary stimulus – broadly similar to those seen during major wars – are being deliberately applied to the challenge of boosting endemically low levels of investment, this in the hope of transitioning workers away from deadend, low-paid jobs into higher-value forms of employment.

In this sense, Joe Biden’s grand “build back better” plan is not so different, at least in its intentions, from Boris Johnson’s levelling-up agenda. But it is better defined, and as is the American way, a good sight more welly is being put behind it.

As it happens, running the economy hot is not as much of a departure from prevailing monetary and fiscal orthodoxy as it might seem. The precedent has already been set by Donald Trump, who thought nothing of juicing an economy that didn’t obviously need it with a bumper package of tax cuts. It wasn’t the disaster many predicted; defying the textbooks, inflation remained tame in the face of strongly rising employment.

Biden is betting on something similar. Not until the economy reaches melting point does he intend to take his foot off the accelerator.

There was good news yesterday from the Bank of England, which forecast that the UK economy would be back to pre-covid levels of output by the end of the year – much faster than anyone dared hope even a few months back. After a record collapse in GDP, we are about to see record strong levels of growth. But cheering though that thought might be, we merely end up back where we started. In the meantime, we have still missed out on two years of growth.

Nor would anyone think that the pre-pandemic economy was in any way the sort of model you would want to aspire to. Ten years of fiscal belttightening and rigorously pursued inflation targeting had brought us back close to full employment by the time the pandemic hit, but productivity and wage growth had stalled, regional and wealth inequalities had widened, work had become increasingly insecure and part-time, and chronic deprivation had become the defining feature of many left-behind communities.

Unless such failings are answered, levelling up will never amount to any more than a cynical political slogan. So once again, might running the economy hot be part of the solution?

By this is meant not just borrowing to spend – the UK is for the moment already doing Herculean levels of that – but also turning a blind eye to inflationary risks, or even at least temporarily tolerating somewhat higher levels of inflation in the hope of kick-starting wage growth and therefore tech-driven investment in higher productivity output.

This is the attitude that seems to have taken hold in the US, whose central bank, the Federal Reserve, in any case has a less rigid approach to inflation targeting. By taking the view that a prolonged overshoot is fine if making up for a previous undershoot, the Fed has already quite significantly shifted the goalposts.

A certain amount of inflation is no bad thing. Too little, and spending decisions are delayed, causing the economy to stall. Too much, on the other hand, and money becomes increasingly worthless. Savings are destroyed, and the wheels of commerce progressively struggle to turn. But who is to say that 2 per cent, the level targeted by most central banks, is the right one? Why not 3 per cent, or even 4 or 5?

For the moment, the Bank of England appears willing to give growth a go. There is no overt tightening in policy flagged in its latest forward projections, despite the muchimproved outlook. But that’s only because the Bank’s Monetary Policy Committee sees inflationary pressures as temporary, with both growth and inflation returning to pre-pandemic normal sometime next year. Definitely lacking is any notion of deliberately running the economy hot, or indeed any pressure from the Government for the Bank to do so.

In some respects, their caution is understandable; the Treasury still cannot quite believe what it has already got away with – more than £400 billion of pandemic-related spending, virtually all of it financed by Bank of England money printing. Is that not risky enough? Perhaps best not to stretch the boundaries of currency and bond market tolerance any further by also seeming to ignore the inflation target.

Whether narrow inflation targeting remains entirely relevant to the fast-changing economic, political and social demands of our postcovid world is nonetheless an ever more pressing question. Economic orthodoxies never rule forever, and indeed tend to become positively damaging if obstinately resistant to new thinking and reform. Sudden change would be unwise, but the Bank must play its part along with everyone else in supporting post-pandemic growth. Going back to the way we were is not an option.