There is an entertaining debate (well, it is entertaining if you are an economist) in the FT about the conduct of economic policy in the UK.  On the side of realism is Martin Wolf who argues that Britain’s austerity is indefensible, on the side of the austerians is Chris Giles whose latest defence of zombie economics is to argue that ‘Osborne is too timid, not too austere’.

Giles’s defence ignores the key point that there is slow growth and excess capacity in the UK economy; and that the problem is a lack of demand that cannot be cured by a monetary policy that has reached the limits of its effectiveness.  Instead, he puts forward three arguments in defence of Osborne.

First: ‘Britain’s public finances are in a terrible state’.

This is the usual refrain from the austerians but fails to address the case that both the deficit and the debt is not high by historical standards and is easily fundable at negative real rates of interest.

Second: ‘if austerity was to blame for the shortfall in nominal and real growth, you would expect to see it reflected in weaker than expected private consumption.’

The first impact of an austerity package based on expenditure cuts will be on the contribution of Government expenditure to GDP.  And this has fallen significantly , in particular public sector investment fell by more than 20% in 2011 and is expected to have fallen by another 9% in 2012 (OBR).  The second order effect will be on private consumption – not only though tax increases but also through its impact on expectations. And private consumption is weak; it fell by 0.9% in 2011 and is expected to have risen by only 0.5% in 2012 (OBR).  It is important to note that in normal times (remember them?), private consumption grows at between 2% and 2.5% per annum.

Giles does argue that ‘by far the most important cause of stagnation was the terrible export performance’.  Yes, export performance is poor, largely because of austerity policies in the Eurozone.

Third: ‘Mr Osborne’s case for boosting monetary activism, particularly going further with the Treasury and the BoE’s Funding for Lending Scheme, is supported by sustained weakness in business investment compared with previous forecasts.’

Business investment is low – and monetary activism is doing little to resolve the problem. The banking system is failing to provide funds for businesses but the investment strike is a product of austerity.  Businesses are not investing because economic activity is depressed; it makes no sense to invest in new capacity when existing capacity is underutilised and the economy is flatlining.

The case for austerity is weakening as the economy stagnates.  But, ultimately, it is not economics but politics that is driving the Government’s agenda.