The Voice of a Siren

Do you remember Going for Gold with Henry Kelly? No? Come on, did you never have a school-day off sick in the early 90’s? In case you haven’t watched it, someone has helpfully posted a whole episode on YouTube:

If you don’t want to watch all of it (and I recommend you don’t) – at least watch the opening titles. Probably the worst TV theme song that’s ever been made.

So now we’ve reminisced, we’re going to have a quick quiz now, in the format of Going for Gold. Fingers on buzzers.

WHAT AM I? I am a chronic condition of subnormal activity for a considerable period without any marked tendency either towards recovery or towards collapse.”

; Only Fools and Horses Christmas Specials?

Incorrect. Knut, you’re out of the rest of the round.

; Steve Martin?

Incorrect. Bjorn, you’re out of the rest of the round.

; An economic depression?

Correct! RedEaredRabbit, you’re through to today’s final!

#Win

The definition wasn’t really Henry Kelly’s. It was that of John Maynard Keynes and he wrote it in 1936. Although written 72 years ago, you could easily mistake it for something written yesterday describing the current state of the UK economy. We haven’t imploded but there’s no growth and the economy continues to operate below potential, with lots of workers available to work but a lack of demand for their services.

A common misconception is that a depression is just a long recession – i.e. the economy has to shrink quarter on quarter for a long time. A much better way of thinking about it is that, following a recession, the economy operates below potential for a long time. So what do I mean by ‘below potential’?

I mean that at the moment our economy:

• Is much smaller than it used to be
• Has the potential to a produce a lot more goods and services than it does
• Does not produce more goods and services because we choose not to produce them

That sounds crazy. If we can produce them then we should, right?

The economy is largely based on supply and demand. At the moment we are all good to go on the supply side but we are have a major problem on the demand side and this is very important in understanding why we are in depression and also important in understanding what we should do about it.

I can explain this a bit better with some examples.

The car manufacturer is producing fewer cars because fewer people want to buy cars. She could easily employ more people and produce more cars but as long as the demand for them is low she won’t do it. Her costs would go up and her revenue would stay the same. She is waiting for the economy to recover before producing more cars.

The garden centre owner is growing fewer plants because fewer people want to buy plants. She could easily employ more people and grow more plants but as long as the demand for them is low she won’t do it. Her costs would go up and her revenue would stay the same. She is waiting for the economy to recover before growing more plants.

The car manufacturer and the garden centre owner can easily ramp up their operations because taking on new employees is easy – their are lots of people who need jobs. They don’t though because demand for their products is low.

The people who don’t get jobs because the car manufacturer isn’t taking on staff don’t buy new plants from the garden centre. The people who don’t get jobs because the garden centre isn’t taking on new staff don’t buy cars from the car manufacturer.

You can see how the whole thing is self-perpetuating. Remember, my spending is your income and your spending is my income. At the moment I am awaiting for you to spend before I can spend and you are waiting for me to spend before you can spend.

We just looked at two examples but this is the case across the whole economy. The demand for goods and services is low, therefore spending is low, therefore income is low, therefore the demand for goods and services is low.

While everyone waits for everyone else we have economic deadlock and the economy is depressed. We need to appreciate this problem in order to know what to do about it.

Suppose that the government took a look at our school buildings and admitted that they probably need investment. Workers are easy to come by when unemployment is high, so they have no trouble in finding available resources to work for the next few years repairing, rebuilding and redecorating old classrooms, school halls and gymnasiums. The newly employed workers have cash in their pockets and so they start to buy other things like plants for their gardens. The garden centre take on more staff and now there are even more people with cash in their pockets. They start to buy cars and so on.

That’s how government spending solves the problem. The government could spend on pretty much anything to solve the problem with demand but it makes a lot of sense to spend it on things like schools and renewable energy because that is money we need to spend soon anyway. We can wait another five years to do it or do it now but we spend pretty much the same amount of money either way.

Not everyone agrees with this solution though. The UK government for example, believes that if they cut spending, rather than increase it, everyone will become more ‘confident’ and they’ll then start spending. How this works is a bit of a mystery but we are continually assured that it does work. Somehow.

So how’s that policy going? The latest figures are out so without further ado… let’s update The Depression Tracker!

(The blue line is the Great Depression of the 1930s and the red line is the current depression.)

Damn, that doesn’t look very good. Here’s George Osborne’s reaction:

You will hear those arguing that we should abandon our plan and spend and borrow our way out of debt…these are the siren voices luring Britain onto the rock. We won’t go there.

George had clearly been working on that metaphor. Probably for most of the three months since he had to explain the last set of figures.

Here’s David Cameron’s reaction:

My message today is clear and unequivocal. Be in no doubt: we will go on and finish the job.

Finish it? Starting it would be nice. The economy is smaller now than when he took office.

The confidence argument is great for soundbites but do any of its proponents actually bother to look at the data? Do they actually look at figures like those in the graph above and think, “Hold on a moment, if my argument was a good one, that graph would not look like that.”

Not only is it not backed up by evidence, the logic of the theory seems extremely shaky. From where exactly is the car manufacturer suddenly going to gain the confidence to start employing people and building more cars? I can understand a person gaining confidence from seeing sustained economic growth but no one is going to look at that graph, see what the government has done to the economy, get all confident and then go on a massive manufacturing bender.

Referring to people as “sirens” for making a logical, evidence-based argument as opposed to an illogical, fantasy-based one demonstrates the heart of the problem. A problem that started as an economical one is now purely political, and it is two-fold.

• We have a government whose base political beliefs are centred around a small public sector, so they will try to bring this in irrespective of the economic situation.
• We have a government who have so publicly trumpeted the economic growth that austerity would bring that they simply cannot go back on it now without committing political suicide.

Remember, the depression definition though. Despite the 0.7% contraction in Q2 we are not falling off a cliff. We will almost certainly do better in Q3 – it is virtually impossible for us to repeat a quarter that bad. And when we get a recovery in Q3, the government will be saying it is advocation of their policy.

It won’t be though. The underlying problems will remain and while we wait around for those problems to be solved by ‘confidence’, our economy will continue to flat-line, and millions of people who want to work will be forced, because of those two political problems, to sit at home, waiting for the demand to return to our economy.

And how long will that take? Well, we know from our economics textbooks that long-term output is determined by the supply side. That is, as long as the depression isn’t so bad that we lose our ability to make things, we will eventually recover anyway but we also know that we have all of the tools available to fix the problem with demand right now, so why not do it? After all, as John Maynard Keynes said, in the long run we are all dead.

With this government though, sitting around waiting for the long-run to sort things out is all the help our unemployed are going to get.

Where’s Going for Gold when you need it?

RedEaredRabbit