Cameron’s task to restore confidence

Anthony Hilton
3 Jun 2009

It is one thing to feel a bit depressed about the state of the economic world, indeed it is quite normal. It is quite another thing to think that today's problems and the policy moves launched by governments in reaction to the crisis spell the end of capitalism as we know it. Yet that seems to be what a surprisingly large number profess to believe.

But perhaps this is normal too. A recently published book, Animal Spirits by economists George Akerlof and Robert Shiller, focuses on the importance of psychology in economic decisions, something economists for the most part ignore because it does not lend itself to numbers-based modelling.

The authors uncovered a survey of business executives by Fortune Magazine in 1941. It was carried out shortly before Pearl Harbor brought the Americans into the Second World War, so was conducted while the country was still at peace and still preoccupied with shaking off the effects of the depression of the 1930s. It asked them what kind of capitalism would emerge from the depression.

The results were as melodramatic as a lot of the nonsense you hear today. More than half (52.4%) predicted an economic system in which government would take over many public services but still leave opportunities for private enterprise.

Over a third (36.7%) foresaw a semi-socialised society in which there would be very little room for the profit system to operate. More than 90% expected a radical restructuring of the economy that would decrease their expected returns from investing in business.

In other words, the economic downturn, even after they were long past the worst, had left the business community convinced that capitalism would never be the same again. The reality of course was that America carried on very much as before, and what changes there were did little to blunt its capitalist urges.

What is striking though is how close these thoughts were then to so much of what one hears today. Whether it is hedge funds promising to fight on the beaches and in the tax havens and in the Porsche dealerships against any possible regulation from the European Union, to bankers who are convinced that state ownership means they will never make a profitable loan again, to the business community which thinks the new world is bereft of opportunities for profitable new investment, overreaction seems to be the norm. And as in the 1930s, it is not their experience of the crisis itself that is the source of this collapse of confidence, but their fears of what government will do in response to it.

The insight of the Shiller/Akerlof book is its explanation of how confidence depends not on what has happened but on what people think might happen. It was not the economic malaise that made the 1930s recession so deep and long-lasting, it was the collapse of confidence that went with it, a collapse made worse in America, where much of the business community was deeply opposed to Roosevelt's policies.

Even then though, it is not what government was doing, it is what businessmen thought it was doing, or might do, that got them depressed and conditioned their actions. It is not how other people are actually behaving which drives confidence but how the business community thinks they are behaving or thinks they might behave in future.

Interestingly, a lot of this was obvious at the time in the 1930s but it did not seem to help them much. Roosevelt, of course, summed it up in his “nothing to fear but fear itself” speech but the concerns had been around long before that. Indeed a leader from the Times in 1931 talked of the decline of confidence as being at the root of the nation's troubles and added that it was “almost impossible to overstate the loss” which the nation inflicts upon itself by this lack of confidence.

It follows from all this that David Cameron's Tory party needs fundamentally to change its approach, given that it may well be in office in a year's time. It is of course the duty of the Opposition to oppose but it is well past time when it needs to show it can do rather more than that. The longer it delays, the harder it will make things for itself when it gets into office. Seeking to discredit every government initiative at every turn does not impress the voters, but it does depress them.

Every man and his dog knows the economy is in a mess, so what is the point of rubbing it in even more? What people need are some positive messages and positive ideas to move things forward so that they can begin to focus on “Life after Labour” and so they can begin to understand that we can and will emerge from these difficulties. If the Tories cannot come up with these ideas, and put them across in a way which lightens the public mood, then they will make their time in office very much harder than it might otherwise have been.

•Animal Spirits by George Akerlof and Robert Shiller, published by Princeton University Press £14.95