divimg alt="" src="http://hits.guardian.co.uk/b/ss/guardiangu-feeds/1/H.15.1/84041?ns=guardianpageName=Comment+is+free%3A+Tomorrow%2C+Mr+Darling+must+introduce+morality+into+the+Citych=Comment+is+freec3=The+Observerc4=Pre-budget+report%2CEconomic+policy%2CCredit+crunch+%28Business%29%2CAlistair+Darling%2CLabour%2CTax+and+spending%2CEconomics+%28Business%29%2CBusiness%2CExecutive+salaries+%28Business%29%2CObserverc5=Personal+Finance%2CCredit+Crunch%2CNot+commercially+useful%2CBusiness+Marketsc6=Will+Huttonc7=2008_11_23c8=1122582c9=articlec10=GUc11=Comment+is+freec12=blogc13=c14=Comment+is+freeh2=GU%2FComment+is+free%2Fblog%2FComment+is+free" width="1" height="1" //divpThe pre-Budget report is the most important economic moment in the 11-year life of the Labour government. Chancellor Alistair Darling has to walk the finest of lines. He has to marshal well-directed and overwhelming financial force to limit recession, while simultaneously and credibly persuading everybody that he has not lost control of the longest sequence of big Budget deficits outside wartime./ppGet it right and Labour has a chance of winning the next election. Get it wrong and his party will be back in the wilderness./ppFor the last six weeks, Treasury economists and officials have been assessing and reassessing the outlook for the economy and the government's rapidly deteriorating finances. Meanwhile, the wider economic news has got ever gloomier. It will be no surprise that the Treasury is forecasting a significant recession and slow recovery. The problem is that the banking crisis has wrecked the relationships and assumptions on which economic forecasts are made. Reality could be very much worse than expectations./ppThe City of London has landed our country in a mess. Nobody has yet gone as far as the Swiss UBS and invited the incompetent, overpaid monsters at the top to repay their bonuses. They should. Sir Tom Mckillop, outgoing chair of the Royal Bank of Scotland, is so far alone in saying sorry to his investors. Yet having mistakenly once lent far too much, banks are now mistakenly lending far too little./ppAddressing this crisis - as much moral as economic - should be at the heart of the pre-Budget statement. Keynesian economics, I have repeatedly argued, is not so much borrowing and printing money in recessions - although vital in an emergency - it is using every tool possible to persuade and cajole banks and building societies to lend./ppDarling must concentrate his limited funds on creating instruments and policies to stop the destabilising herd effects. The more effective and imaginative he is, the more he will be able to argue that the downturn will be limited and the more the public finances can be stabilised./ppHe has already signalled a willingness to overhaul the cautious and punitively expensive small business loan guarantee scheme. Young small businesses pay 2 per cent on top of their borrowing rate as an insurance policy to reassure the lending bank it will get its money back. The insurance premium needs to be slashed and every small business should qualify. Banks would start to provide much needed working capital./ppBut Darling needs to go much further. For a relatively small amount of money - low billions - he could radically extend cheap insurance schemes across targeted areas of bank lending so that banks would know that, come what may, they will get their loans repaid and thus lend with more confidence. For example, banks used to issue securities to raise money for mortgage finance; the market is shut, but could be reopened, as Treasury adviser Sir James Crosby has urged, with a guarantee. Darling should do it./ppThe same principle should extend to home owners. Darling should create a scheme to allow ordinary borrowers to insure the equity in their homes so they can lock in some wealth. We also need to take the first steps towards the reinvention of the bust British banking system. Darling should announce a new national infrastructure bank along the lines Barack Obama has suggested in the US. /ppHe should also announce a major inquiry into British corporate governance. We can't go on with a system in which directors essentially award themselves bonuses for non-performance. I would introduce a financial services bonus tax - 75 per cent for one year bonuses, but tapering downwards to the standard tax system for long-term bonuses./ppThese measures won't stop the recession, but they could mitigate it. And Darling badly needs a powerful story about why this will be a nasty recession but not worse. As it is, the character of this downturn is devastating the government's tax receipts. More than a quarter of corporation tax came from the financial services sector in 2006/7. No more. Capital gains tax folds in an era of plunging property and share prices. Income from stamp duty on house sales will fall by two-thirds. This recession is going to hit the tax base much more savagely than the last one in the early 1990s./ppThen the peak budget deficit, driven by social security spending and falling tax receipts, rose to nearly 8 per cent of GDP, which in today's terms would be around pound;120bn. This time round, it is bound to be higher. The peak deficit in this economic cycle could rise to 10 per cent of GDP or a mind-boggling pound;150bn. Only between 1940 and 1945 will the UK have borrowed so much for so long./ppThe Conservatives' political bet is that if there are further tax cuts and spending increases, financing these moves is going to force the government into a corner. Which is why Darling's extra borrowing has to be used effectively and boldly; although the deficit is necessarily high, we are at the limits of normal finance without resorting to the money printing press and there may be more demands on the state further to recapitalise a bust banking system before the recession is over. /ppHis firepower has to be directed overwhelmingly on boosting bank lending. He should not be seduced into permanent tax cuts but, instead, offer a one-off tax credit for the low paid who are most likely to spend it. Anything left should be focused on incentives for employers to retain workers, public works programmes and bringing forward whatever capital spending he can. Don't underestimate the capacity of very low interest rates and a devalued pound to help to put a floor under the economy./ppThere are no easy fixes. The next 18 months are going to blight all our lives. Which is why there must be a moral dimension to tomorrow, along with the economics. Darling cannot legislate for those bonuses to be repaid or history to be rerun, but the truth should be baldly stated. It was the greed of a few that has plunged the many into hard times./ppFighting this recession should lay the foundations for a different way of doing capitalism in the future, one that is fairer, longer term and less skewed towards the interests of the City. The rebuilding of the financial system and a more moral system of taxation must begin tomorrow. /ppIf Alistair Darling and Gordon Brown dare to say it, they would find not just their party but the whole country behind them./pdiv style="float: left; margin-right: 10px; margin-bottom: 10px;"ullia href="http://www.guardian.co.uk/business/pre-budget-report"Pre-budget report/a/lilia href="http://www.guardian.co.uk/politics/economy"Economic policy/a/lilia href="http://www.guardian.co.uk/business/creditcrunch"Credit crunch/a/lilia href="http://www.guardian.co.uk/politics/alistairdarling"Alistair Darling/a/lilia href="http://www.guardian.co.uk/politics/labour"Labour/a/lilia href="http://www.guardian.co.uk/politics/taxandspending"Tax and spending/a/lilia href="http://www.guardian.co.uk/business/economics"Economics/a/lilia href="http://www.guardian.co.uk/business/executivesalaries"Executive salaries/a/li/ul/divdiv class="guRssAdvert"a href="http://ads.guardian.co.uk/click.ng/richmedia=yessite=Commentisfreecountry=(none)spacedesc=rsssystem=rsstransactionID=1227399527460112300260553996"img src="http://ads.guardian.co.uk/image.ng/richmedia=yessite=Commentisfreecountry=(none)spacedesc=rsssystem=rsstransactionID=1227399527460112300260553996" border="0" //a/diva href="http://www.guardian.co.uk"guardian.co.uk/a copy; Guardian News Media Limited 2008 | Use of this content is subject to our a href="http://users.guardian.co.uk/help/article/0,,933909,00.html"Terms Conditions/a | a href="http://www.guardian.co.uk/webfeeds/1,,1309488,00.html"More Feeds/a