Reeves v the markets: ‘Three lessons from past Labour governments’

Earlier this week government yields – the amount of money governments pay to borrow money – rose to their highest levels since 1998.  Given governments rely upon such borrowing – last year alone the government borrowed £125.1bn – this additional cost reduces the amount they have to spend on other policies.

Some have been quick to point out the fallout from this, such as a weaker pound. The fallout is not just economic, Rachel Reeves has also been urged to ’abandon her trip to China’, suggesting the problems cannot be defined simply business as usual. 

Others warn that this could derail the government’s spending plans and priorities, as it is risks eroding the headroom – the amount of money the government has to ’play with’ outlined by the Chancellor in her Budget.

Drawing upon the academic scholarship, and my own research, I argue that there are three lessons that are applicable to economic crises. 

1. Crises can, and do, bring down Labour governments

Sajid Javid once, mistakenly, claimed that every Labour government left an economic crisis. Though inaccurate ,a number of Labour governments have been beset by crises. Exploring the history of these crises can offer insights into the extent of Labour’s contemporary problems. 

No government wishes to become associated with a crisis. Crises are obviously negative entities, and often used by opposition parties to denote policy or governance failures – the Conservative Party drew upon notions of the Winter of Discontent in their 1997 manifesto, while their 2024 manifesto talked about Labour’s role in the banking crisis. 

We may be someway away from this scenario yet and there are significant differences not only in the severity of this week’s events (so far) and previous crises but also in Labour’s (and Starmer’s) position.

Labour currently have a402 seats in Parliament compared to the minority governments of 1929-31 and 1976-79. Equally we are just months into the current Labour government, in contrast to the 2008 crisis which emerged over halfway through the 2005-10 government – meaning there is plenty of time to respond to events, recover or indeed deteriorate.

READ MORE: What is behind Labour’s polling woes and what can the party do to turn the tide?

2. Labour has historically been unable to challenge economic orthodoxy

Throughout its history Labour has viewed a successful, capitalist economy as the first stepping stone towards a fairer society.

Throughout the Party’s first few decades key figures argued that the transition to a socialists (broadly defined) economy would not come from what Marx saw as the inherent contradictions of capitalism but from a strong growth model. It was also argued that the economy and politics could be separated; Ramsay MacDonald in 1931 argued that the crisis was the market on trial – not the government.

Likewise Blair saw a strong economy as laying the foundations for increased government spending on social programmes such as Sure Start. Akin to this in 2008 Brown and New Labour accepted the narrative of “too big too fail” and recapitalised (bailed out) the banking sector fearing that this option has lower costs in the long term than letting the banks collapse. 

One difference between Blair and Starmer, however, was that the formers economic inheritance was actually quite good. The economy had been consistently growing after Black Wednesday in 1992 while inflation and interest rates were low, certainly compared to the two previous decades.

Contrast this with 2024, where economic growth having stalled in the last decade and a half partly due to austerity, inflation and interest rates declining but still higher than recent history. 

Starmer may therefore be unwilling or unable to pursue a new economic model. Meaning that he, like other leaders, will likely ultimately conform to market orthodoxy, and reduce government spending. Memories of and narratives about Liz Truss further act as a stark reminder of the perils of trying anything deemed too radical.

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3. It’s ‘not (just) the economy, stupid’: Media reporting sensationalises events

Another important factor, often as important as the economic data itself, is the media’s reporting of events. Politicians and commentators often talk about the “confidence of the markets” – something which is crucial given the reliance developed nations have upon (obtaining) debt. 

In 1931 Labour Chancellor Phillip Snowden established the May Committee to try and convince colleagues for the need for cuts to benefits. Far from doing so, its conclusions – the need for £120m savings – gave the impression that Britain was bankrupt and led to a banking crisis, which ultimately led to the Party’s split and the formation of a National Government.  

Similar arguments have been made in the case of the Winter of Discontent whereby media report overexaggerated the impacts of strikes, and aspects of the 2008 crisis.

Here the so-called ”run on the Rock” was not a product of the bank’s lending book – which was actually very strong – but a belief that the bank was at risk of collapse following reports it had asked the Bank of England for funding.

Akin to conforming to prevailing economic norms, Labour has tried to maintain the confidence of the market by developing ‘fiscal rules’. 

Gordon Brown as Chancellor introduced such rules justifying an economic rationale for government borrowing. His ‘Golden Rule’ sought to alleviate market fears that the New Labour government will borrow only for investment purposes and not unsustainable amounts of money “for day-to-day spending”.

This was designed to protect those the government borrowed from and avoid spooking the market, preventing any large external shocks to the economy caused by higher borrowing costs. 

Reeves, like Brown, also introduced a number of new fiscal rules upon taking over from Jeremy Hunt in the Summer – in part to reinforce notions of credibility following the previous Labour government. 

However, given the constraints and the removal of the economic headroom outlined in the budget, Reeves and Labour may have to choose between cutting spending, raising taxes or loosening fiscal rules which state that borrowing must fall in five years – just as Gordon Brown had to do in 2009. He increased the top rate of income tax to 50 percent.

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