‘In 1925 sterling had been restored to the gold standard at pre-war gold parity; it was realized that this parity somewhat over-valued sterling, so that British exports were unduly expensive, causing a tendency towards balance of payments deficit. It was believed that a reduction of the internal price level in Britain would soon correct this over-valuation; this belief was not justified by events, and in the late twenties Britain seemed more or less immovably stuck in the middle of the ‘ideal’ adjustment process, with abnormally high short-term interest rates and with much more unemployment than in most other countries, but without any marked tendency for this unemployment to lead to reductions in wages or prices of British goods. The situation was aggravated by conditions in other countries; for example, France returned to gold at an under-valued parity but was unwilling to permit inflation, while several producing countries were already running into difficulties.’
This is from A.C.L. Day’s 1963 corrected first edition of Outline of Monetary Economics (p.498-499). Of course, one could argue that the 21st century economy of the UK is different from that of the 1930s. However, it is interesting to note that the idea of internal devaluation had failed and that it created high unemployment. Those arguing for austerity today should present a theoretical model now and justify their policy by scientific reasoning.* Otherwise, policy makers will enter history books as the originators of a farce named austerity. And their place will be rightly deserved, since the UK is not member of the European Monetary Union and therefore the exchange rate is a policy tool available.
* N.B.: Crowding-out in the textbook IS/LM model does not count, since money is created endogenously by the financial sector and not controlled by the central bank. We have seen over the last years the simultaneous rise of private and public sector debt in many countries, among them prominently the United States. Therefore, it cannot be argued on the grounds of the IS/LM model that a decrease in public borrowing causes an (automatic) increase in borrowing by the private sector and that this leads to more (physical) investment.