The Least Blunt Instrument

25/05/2012 Leave a comment

I am often accused of being overly critical of the government. I am certainly critical and whether I am overly so depends to some extent on your personal perspective. I should be clear though, that I do think they have been unfortunate to be in power at such a difficult time. If you compare their predicament with those of many previous governments you would have to concede that they didn’t have much luck with the hand they were dealt.

In normal times, the UK has been shown to have a remarkably robust economy, able to deal with a huge amount of bad governing and still somehow manage to achieve growth. These aren’t normal times though and unfortunately for the current government they came to power at a time when the usual robustness of the UK economy could not be relied upon to deliver growth in the short-term. When Labour came to power in 1997, they would have had to implement something fairly ludicrous to avoid economic growth over the next couple of years. Cameron’s government was not so lucky – the choices they would have to make would decide whether, with natural robustness absent, the UK would recover or stagnate.

Anyway, this week the IMF warned that the UK economy was still all busted up and the government should start to think about a Plan B to encourage some growth. Well hoorah for that.

As I mentioned, the government has a tricky economic problem to solve and unfortunately only has four fairly blunt instruments trying to do it. Those four blunt instruments are:

Monetary Policies:

  • Cutting interest rates
  • Increasing the money supply (also, more confusingly, called “quantitative easing”)

Fiscal Policies:

  • Cutting taxes
  • Increasing government spending

With that usual robustness gone, I am very strongly in favour of some action to stimulate the economy. My favourite of the above is to increase government spending but as an alternative, the IMF suggested all three of the others. I suppose they might be reluctant to promote my favourite, having, at the start of the mess, advocated spending cuts to promote growth (oops!), but let’s look at how the other three compare.

Cutting Interest Rates
Cutting interest rates makes borrowing cheaper. If the private sector can borrow more cheaply then they are more likely to do so, thereby financing business expansion and job creation. We do have a problem though.

UK interest rates have been at 0.5% for three years. We could cut them a tiny bit more but we’re already so close to zero, there’s little room to make any real difference.

Despite the current low rate from The Bank of England, the banks themselves have not passed low borrowing rates on to the private sector. I logged onto my Internet banking the other day and saw an advert for me to take out a loan at 7.9% APR. I’m fairly sure I saw the same advert when interest rates were 4%. Banks simply don’t want to lend cheaply at the moment. Due to the economic climate they see people and companies as risky. And in fairness why shouldn’t they? The last time they lent to risky people their lending led to a global financial crisis. Banks are not going to start lending before the economy has recovered. Interest rate cuts won’t solve the problem.

Increasing the Money Supply
The Bank of England can print some money (they have the keys to the money printer). When they create money they can use it to buy bonds and other long term assets from the banks. By doing this they replace those bonds with cash that is free to lend. This blunt instrument has the same problem as the previous one though. It still requires the banks to actually lend to someone. If a bank thought it had a liquidity problem it would sell some bonds to the Bank of England and keep the cash. Its liquidity problem has been solved but no more money has actually been lent.

Don’t misunderstand me, low interest rates and an increase in the money supply have made things better than they would have been otherwise but while banks don’t want to lend, these measures are not enough to solve the problem.

Tax Cuts
Cutting taxes can stimulate the economy because people have more money to spend and in the economy your spending is my income. More spending means more income, more jobs and more growth.

This is ok as an idea as long as the tax cuts actually lead to more spending. So why might they not?

We could aim tax cuts at rich people but rich people already have plenty of money to finance their lifestyles so most of the extra money would simply go into their savings. Your spending is my income; your savings are not. Or at least they aren’t going to be any time soon. This is an inefficient way to try to make a short term stimulus to the economy.

We could aim tax cuts at the middle classes. This would be a bit better as they would spend more of it than the rich people. However, the middle classes at the moment, despite low interest rates, are firmly in save mode. Because the depression has no end in sight, middle income people are still worried about their jobs and many are probably regretting how little they squirrelled away in the good times. It’s more efficient to give them tax cuts than the rich but a lot of the extra money will still be saved. It’s still not that efficient.

So who’s left? Yes, the poor. If we cut taxes on the poor, much more of the money will be spent. Poor people for obvious reasons, save a much lower proportion of their income. If the government puts extra money in their pockets through tax cuts they will spend it.

So tax cuts can be good if they are focused in the right places.

Now that I’ve looked at the first three blunt instruments, I’ll talk about the other one – the one I like the best.

Increasing Government Spending
Let me start by making it clear that I am not such a lefty that I think all spending should always come from the government. I would love it if we had a private sector that was rapidly expanding and eating up all of the job applications from the unemployed.

I think even the austerity fans can probably admit this is not a fair reflection of reality though. So if the private sector doesn’t want to spend on something then the government can do so instead and as long as the public sector isn’t treading on private sector toes then every pound spent is a pound that would otherwise not have been spent and the economy has a very efficient boost. You might say that this logic makes it a policy that only works when we have high unemployment. Yep, it would be a terrible policy to pursue if employment was high and government spending were competing with the private sector. We’re a long way away from that situation at the moment though.

Like tax cuts, government spending needs to be carefully focused. If we choose this option we should spend the money on infrastructure improvements, renewable energy, school buildings etc. These are things we need to spend money on anyway. Far from being an excuse not to do these things, the depressed economy should be seen as an opportunity. The government can, at the moment, spend without any competition with the private sector and can later reduce its spending once the private sector is ready to run. This policy is, I think, efficient.

So in summary, cut taxes for poor people and increase government spending. Yes, I know I sound like a terrible lefty for proposing that but I hope you see that I have taken time to explain why I think those policies have the best chance of ending the depression. If you think that the other options are better I would love to hear from you.

If, like the government, you feel that any kind of stimulus is a bad idea then that’s also ok. But bear in mind – no stimulus = no growth for a long time. It’s that simple.

RedEaredRabbit

Filed under Economics, Politics

Lies, Damned Lies and Austerity

17/05/2012 3 Comments

Today David Cameron once again reiterated his intention to continue down the path of austerity in order to sort out the UK’s economy. David does this a lot and continually comes back to his belief that government spending caused the mess and that only a severe reduction in government spending can restore economic growth. As you probably know, in contrast to David, I am in favour of an economic stimulus.

When I write about that on here I often receive comments along the lines of David’s – that government spending caused the mess in the first place and more of it would just cause an even bigger mess. I have perhaps not addressed this directly in the past so, hold on to your hats, I will do so now.

First of all saying that the cause of the mess was purely the previous government’s spending is at best an extremely simplified view. There were many factors that combined to cause the financial crisis. People who say it was caused by government spending are conveniently forgetting what the banks were up to. That’s another story though and I do need to address the misconceptions about government spending. I am going to try to explain why I think spending is sometimes a good idea and sometimes a bad idea and why at the moment I think it is a very good idea indeed. So here goes…

Over time the economy swings between periods of growth and periods of contraction. Governments (despite often making claims to the contrary) have never been able to stop this happening and perhaps this shouldn’t be too much of a surprise. After all, a government has only simple tools at its disposal and economies are complicated things in which bad things have a habit of finding ways to happen.

Although we should accept that there will always be good and bad periods in the economy we should also appreciate that the government is certainly not powerless to help out. A government can use some of its simple tools to reduce the impact and duration of the bad times when they arrive and bring back the good times as soon as possible.

One of these tools is government spending and to see how this can help we need to first take a look at the private sector. Companies in the private sector have important short-term financial goals. They generally seek to make a profit every year and additionally have certain cash flow considerations (e.g. they need to be able to pay salaries, buy stock, pay rent etc). So if their revenue drops off, they may well look to reduce their spending in line with it. If their revenue increases, they may well look to increase their spending accordingly. For example, if a company is doing badly they may reduce their costs by making redundancies and if a company is doing well they may take on more staff. Simple enough. Let’s look at what happens in economic cycles.

In periods of strong economic growth, lots of companies do well and expand and take on staff. In periods of economic contraction, lots of companies do badly and lots of people lose their jobs.

This means that private sector spending closely follows how well the economy is doing as a whole – when the economy is doing well, private sector spending increases and when the economy is doing badly, private sector spending decreases. These spending swings in the private sector actually amplify the effect of the economic cycle. i.e. the redundancies they make during weak economic times weaken the economy further because unemployed people stop having money to spend and rely on benefits and in weak economic times they cannot easily find new employment.

One way the government (or actually the Bank of England since it is now independent) can influence this is through changes in interest rates. By lowering interest rates, it becomes cheaper for companies to borrow money and therefor encourages them to spend.

There is a problem with this approach though as you can only cut interest rates so far. Once they are down to almost zero (as they have been in the UK for over three years) then there is no way to stimulate the economy by cutting them further.

Another way the government can influence things is by spending money. When spending in the private sector dries up the government can step in and fill the gap. Governments of developed economies (who borrow in their own currency) can borrow very large sums over very long periods of time and don’t have to worry about the same short term profit or cash flow issues that companies face.

When the private sector is expanding, the government can reduce public spending and let the private sector fill the gap. When the private sector is contracting, the government can increase public spending and fill the gap. If the gap is not filled then we end up with unemployment and recession.

That’s what happens if the government does nothing but now imagine an even worse situation. In this situation the government spending tracks that of the private sector. i.e. when things are going well, the government increases spending and when things are going badly the government reduces public spending. Pushing up government spending when the private sector is trying to expand will help boost the economy a bit but it is an inefficient use of funds because the public and private sectors are in effect competing against one another. Essentially we create a strong supply of jobs for which there is weak demand. In contrast, reducing government spending when the private sector is contracting further amplifies the effect of the downturn. In this situation we are reducing the supply of jobs when there is strong demand. In the latter situation the government may cause a full-blown economic depression from which the economy may take many years to recover.

Actually, that sounds familiar.

Anyway. During the years preceding the economic crisis, the UK was experiencing some unspectacular growth. The Labour government at the time coupled this with some unspectacular increases in government spending when they should have, if they were sensible, made some unspectacular reductions in public spending.

So yes, I agree that they got things wrong. Their increase in spending was certainly fairly benign compared with the current government’s version of what happened but yes, they would have been better to reduce spending overall.

Since the crisis hit, however, the economy has contracted hugely and the private sector has shed hundreds of thousands of jobs. Now we have one of those spending gaps I mentioned and it’s a really big one. This is why government spending now would be a good idea – we’re not competing with the private sector, we are simply trying to increase the supply of jobs to help meet the huge demand for them. Let me be very clear – I am not saying that fiscal policy under the previous government was right but just because they got it wrong does not mean that we should be backing a plan now that is even wronger.

If it is this simple though, why is our government backing an austerity plan at all? Given the above argument, isn’t it the exact opposite of what they should be doing? Yes it is. Politicians are people with agendas though.

Let me give an example of an agenda. Suppose you were a politician who very much liked rich people. Your ideal UK might consist of low taxes on rich people but that’s expensive so you might try to fund those tax cuts by severely cutting public spending. Of course, since most people are not rich, you couldn’t just say that’s what you were doing because you need more than just rich people’s votes to stay in power. You might therefore invest significant time and effort trying to convince people that government spending during bad economic times was a terrible thing and the only way to restore economic growth was through reducing spending and cutting taxes on rich people.

The government has managed to get away with it quite well so far because the economy is complicated so it’s very hard for people to know whether they are telling the truth or have a hidden agenda. Additionally, the government is extremely effective at misleading the electorate. For most people the “reduce spending when things are bad” makes a lot of sense because they are able to relate it directly to their personal finances. If I have a big credit card bill and my household income drops I’d better cut back spending and pay off my credit card, right? Yes, that’s right for your household but there is a subtle and very important difference between household finance and the economy as a whole.

In your personal finances you are only concerned about your own personal incomings and outgoings. In the economy though, your spending is my income and visa versa. If we decide to kill off spending in the economy we by definition kill off income too. The government continually draws an analogy with personal debt and never takes the time to explain this distinction.

You might say that you accept the above arguments but it’s too late for us to borrow money because we already have so much debt no one will lend to us. You’d be wrong though – we have people queuing up to lend to the UK at the moment. A developed economy borrowing in their own currency (this importantly excludes the Eurozone) has a truly amazing capacity to borrow money cheaply. If you think we’re anywhere near the limit then have a look at Japan’s government debt in comparison:

And guess what? They can borrow even more cheaply than us!

Also worth pointing out on this graph is how little our debt actually increased during the years preceding the financial crisis. Yes, it should have been reducing but it wasn’t exactly the mad spending spree that everyone seems to think it was. Labour had, on the eve of the financial crisis, more or less the same amount of debt they inherited when they were elected in 1997.

In summary there are three important points in this post that David Cameron doesn’t want you to know because if you know them his argument falls to pieces:

  • Government spending during a period of economic growth and spending during a period of economic contraction are very different things. Just because the former is bad does not mean the latter is, especially when interest rates are at zero.
  • The personal spending analogy does not work when considering the economy as a whole because one person’s spending is another person’s income.
  • There is plenty of scope for the UK to borrow money

I know this post is quite a lot to digest but I have done my best to explain why I think the things that I do. Perhaps you’ve read through the post and think my reasoning is wrong and David Cameron’s is right. Perhaps you think austerity really is the way to restore economic growth. That’s fine, after all David and I each have a theory and at the end of the day that’s all they are – theories.

I suppose though, if I were being really picky, I might point out that the growing evidence strongly supports my one.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , ,

Taking it on the Chin

11/05/2012 1 Comment

…when the facts change, the responsible thing to do is to examine the decisions you have made and to be willing to change your mind, however inconvenient that may be…not burying your head in the sand and ploughing on regardless…

So said Defence Secretary, Philip Hammond this week.

What was he changing his mind about? I don’t know, something about ordering the wrong type of aeroplane; the details are not material to my point. My point is that whether or not he made a bad decision previously, no matter how terrible his judgment at the time was, it is still a good thing to be able to adapt his policy now based on how things are going. The alternative would be, as he said, ploughing on regardless with a strategy that he knew wasn’t working. He may have made a bad decision in the past but this week he made the right choice.

Shadow Defence Secretary, Jim Murphy was not impressed though, gleefully calling it a U-turn and finding another occasion to use Labour’s new favourite word, omnishambles.

Omnishambles was very funny when Malcolm Tucker used it and still a bit funny when Labour used it the first time but (shambolic as the government is) it won’t be funny if we have to hear it every week until the next general election. Perhaps they should steal another Malcolm Tucker quote to keep things fresh. For example when David Cameron and George Osborne next take their seats in the House of Commons, Ed Miliband could shout:

Laurel and fucking Hardy! Glad you could join us. Did you manage to get that piano up the stairs ok, yeah?

Or they could just think of their own jokes.

Where was I? Oh yes. It is an unreasonable expectation that the government should get every policy perfect in the very beginning and never have to change it. If they implement a policy that later turns out not to be delivering the benefits that they predicted and they change it, not only should they not be ridiculed, I would say that they should be praised.

A more reasonable expectation would be that the government should continually monitor their policies, keep them if they are working and adapt them if they aren’t.

I wrote a whole post on this subject last year, Creationist Economics and in it I was fairly scathing of politicians’ ability to admit when they were pursuing a bad strategy and adapt it into a better one.

So could it be that politicians have learned their lesson and have abandoned Creationist Economics in favour of Evolutionary Economics? Let’s recap on what Philip said:

…when the facts change, the responsible thing to do is to examine the decisions you have made and to be willing to change your mind, however inconvenient that may be…not burying your head in the sand and ploughing on regardless…

And let’s have a look at how the government has applied these words of wisdom to their economic policy.

Last week, the government got a fairly massive kicking at the local elections and therefore had the perfect opportunity to review the policies that weren’t working and adapt them. The early signs were good:

George Osborne:

The government understands your message. We take it on the chin and we have got to learn from what you are saying.

David Cameron:

The message people are sending is this: focus on what matters, deliver what you promise – and prove yourself in the process. I get it.

But does he really “get it”? David Cameron a couple of days later:

…we can’t let up on the difficult decisions we have made to cut public spending…

David and George say they understand exactly why they lost loads of votes and it was because, although their economic policy was really popular, they lost votes because they were focusing on other things too – people were worried they would reform the House of Lords or legalise gay marriage rather than purely focusing on their excellent work on the economy. In other words, this seems to be the government’s interpretation of the message the electorate were sending:

Dear David and George,

We love what you are doing with the economy, high five! Absolutely love this economic depression and always thought that having a job was overrated.

But, (and this is a big but) we have to let you know that we are voting for someone else because of your evil attempts to have a discussion about whether all of your unelected posh mates should be responsible for deciding the laws of the land. Additionally we are all intrinsically homophobic and hate the fact that you might consider treating homosexuals as equal citizens.

And in any case, it’s not like the government can possibly do more than one thing at once.

Kind regards,

The Electorate

P.S. In addition to the above, this vote is definitely in no way influenced by your NHS reform, which was also really popular.

David and George say they “get it” and want to “take it on the chin” but in reality all they are doing is trying to market a disastrous election result as support of a failed economic strategy, and opportunistically trying to bin some other proposals that don’t fit in with their own idealism.

Since I don’t think they did “get it” I’ll offer an alternative interpretation of the message from the electorate:

Dear David and George,

You said that you could revive the economy through spending cuts. You said that in 2011 we would have 2.6% economic growth but we had none and now we are in a recession again. You said that your spending cuts in a depressed economy would bring growth through “confidence” but two years later there is still no growth. We are in the worst depression in recent history, worse than The Great Depression of the 1930s – and your continual refusal to change course has put us here. Your policy is not working and while the opposition’s is at best vague, we need to send you a message to let you know that we think you have no idea what you are doing.

Kind Regards,

The Electorate

P.S. Don’t try to get out of this by saying something pathetic like we want you to put House of Lords reform or gay marriage on the back burner – you should be able to do more than one thing at once.

David and George’s public interpretation of the electorate’s message is so ridiculous that it’s funny. What is less funny though is that two years after promising growth and prosperity through spending cuts all we have is economic depression. But what exactly should they do about it? Let’s ask Philip Hammond:

…when the facts change, the responsible thing to do is to examine the decisions you have made and to be willing to change your mind, however inconvenient that may be…not burying your head in the sand and ploughing on regardless…

Well said, Philip. I couldn’t have put it better myself.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , , , , ,

Depression

25/04/2012 4 Comments

Do you remember that time that Alistair Darling did that terribly apolitical thing of trying to tell the truth and said there was a recession coming that would be the worst since the Great Depression? And then Gordon Brown “unleashed the forces of hell” on him? I think in hindsight, there are a couple of interesting points to make about this event.

The first one, which is important to Christians, is that the forces of hell are clearly far weaker than we were taught at school. As we can see from this recent interview, Darling is alive and well, having suffered little more than a minor singeing of the eyebrows.

Secondly, we can say that Alistair was wrong. The Office for National Statistics published their quarterly Economic Review today and conveniently it contained some figures comparing the current economic cow-pat with that of the Great Depression. The below graph shows their results of comparing quarterly GDP against the pre-crisis peaks. The red line shows how GDP has changed since Q1 2008. The blue line shows how GDP changed for the equivalent period in the Great Depression (starting at Q1 1930).

(I have added a green dot to show when David Cameron came to power.)

Darling got it wrong because the current depression is actually worse than the Great Depression. By this stage in the Great Depression, the UK was going through a period of significant economic growth and had already passed the pre-crisis peak. The UK’s current GDP is still 4.3% lower than it was at the start of 2008.

The report said also, as you have probably heard today, that the UK economy has now contracted in two consecutive quarters and therefore, by the government’s definition, we are once more in recession.

If the government had achieved 0% growth as opposed to -0.2% in the first quarter they would have avoided recession and the media would be reporting it as such. The media, I feel, often puts so much weight on whether we are in or out of recession that we are essentially missing the big picture. Look at the red line on the graph above since David Cameron was elected and you see the real picture. We might be technically sometimes in growth and technically sometimes in recession but what we are actually in is a sustained period of economic stagnation.

Predictably, Cameron and Osborne have each made statements today saying that they will be strong in the face of the recession and stick with their current policy of reducing government spending. It makes me want to weep. Recession, stagnation, whatever you want to call it, this situation was caused by them. The government’s fiscal policy since they took office has been the exact opposite of what was needed to create growth in the economy and the effects are there for all to see.

When proposing a stimulus, I am often told that spending more would send us into a recession! Well, without spending more we’re now back in one but nevertheless I will explain my stimulus thoughts in a bit more detail.

Let’s take a look at say, renewable energy. By 2020 we are legally obliged to have 20% of our energy consumption coming from renewable energy. How’s that going to happen? Well it won’t happen without investing a lot of money building wind farms, tidal power stations and the like. This is money we need to spend anyway – we have agreed to be legally bound to the target. Why not bring the investment forward and spend the money now? The difference in government debt between spending the money now or in a couple of years is nigh on nothing and believe me, we won’t even get close to that target if we don’t get our arses in gear.

Or how about schools? I find it hard to believe that there are not thousands of state-funded schools not needing their ailing buildings, classrooms, gymnasiums fixing and rebuilding.

As you can see, I am not promoting the idea of spending money on things we don’t need – we need to do these things anyway so this money has to be spent sooner or later. All I am proposing is spending it now, at a time that we have economic stagnation and lots of people waiting for the jobs that such spending will create.

The government chose to implement a policy that opposed basic macroeconomic theory and that policy has had exactly the effect that basic economic theory predicts – depression. So how could they have got it so wrong? How could they not see that the fiscal policy they were pursuing was not just erroneous, it was completely irresponsible and entirely negligent?

One may as well ask, how could they not see that cutting tax on the rich at the expense of the poor was a terrible idea? Or, how could they not see that selling places at the Prime Minister’s dinner table in return for influence over government policy, was both morally and democratically abhorrent?

The answer is both surprisingly simple and hugely depressing. This government, (as with many other governments throughout history and throughout the world), did not come into power, assess the circumstances and devise the best possible policies to benefit the population and the country as a whole. They came into power with a particular idea of how they wanted the country to be. It involved private health care, lower taxes on the rich and yes, low government spending.

The fact that basic economics said that cutting spending would screw the economy was totally irrelevant. They probably knew it would. Their efforts have not gone into putting good policies into being but have instead gone into trying to make the country into their Etonian Utopia. They have cleverly coupled this with a massive campaign of bad marketing to mislead the electorate into thinking that all of these things are necessary. They know that economics is not a subject that is easily understood by the majority of the public and know they can use this to their advantage.

In forcing through the changes they wanted to make anyway, they have unnecessarily caused a depression on a scale not seen in recent history. As a direct result of these policies, people have lost their jobs and people have lost their houses.

If the 1930s was the Great Depression, then our current day situation will surely be looked on in history as the Even Greater Depression.

And the most depressing thing of all is that this was completely avoidable.

RedEaredRabbit

Filed under 10 Posts You Should Read, Economics, Politics Tagged with , , , , ,

Blessed are the Rich

26/03/2012 2 Comments

Excessive travelling for work has meant little blogging of late. The coalition’s cutting of the highest level of income tax has not failed to catch my eye though.

The main arguments for these type of tax cuts always seem to be that we are unfairly penalising the wealthy, that we are making the UK a terrible place for the rich who will all leave and (even more bizzarely) that tax cuts on rich people will mean higher tax revenues overall.

The OECD recently published a report on income inequality. You can read the whole thing here but this is a graph from the report showing how the share of the income received by the richest 1% has changed between 1990 and 2007 (data for the UK is to 2005, see footnote).

Income inequality 1990 - 2007

Income inequality 1990 – 2007

So, of the countries featured, the UK has the second highest level of inequality between the top 1% and the bottom 99% after the US and has seen that measure of inequality rise from 9.8% of total income in 1990 to 14.3% in 2005.

The income of the rich has been diverging from the income of everyone else for a long time and cutting their income tax is not really a brilliant idea in these circumstances. The Osborne fans will tell me it will boost the economy and help sort out the economic mess they inherited from the last government. I’ll respond pre-emptively – the current economic problems were really not caused by the rich not being rich enough.

If you want to believe that tax cuts for the rich is a good thing then fine, we’ll agree to disagree but can you honestly look at the graph and say that the richest 1% have been getting a raw deal or that the UK is a bad place for rich people?

If you answered “Yes” to those two questions then you probably also think we are all in this together.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , ,

The Austerity Fairy

25/01/2012 14 Comments

Today I’ve been playing with the greatest toy ever created. It’s not a Sony Playstation and it’s not a Pokemon. It’s a Rubik’s Cube.

The Problem

The Problem

One of the things that makes a Rubik’s Cube so great is that the problem you are trying to solve is very easy to understand. From the time you first picked one up, you understood exactly what you had to do – arrange it such that each face of the cube was the same colour.

The Solution

The very best people in the world have solved it in under 10 seconds, putting through around 5 moves per second.

I’ve just tried making 5 moves per second and I couldn’t even get close.

Let’s imagine taking someone who could move the cube this fast but didn’t know what they were aiming at, that is they know there is a single arrangement of the cube they are aiming for but don’t know what it is so they need to try every possible permutation. I done a sum and by my reckoning, assuming they were able to go at 5 moves per second and were able to keep track of every permutation they had tried so that they never hit the same one twice, it would take them around 274 billion years to get through them all and be sure to have hit the solution.

6 seconds vs 274 billion years – the importance of understanding the problem you are trying to solve.

So anyway, the economy is shrinking again – down 0.2% in the final quarter of 2011 😦

George Osborne was not worried though:

We have the right plan and we’re going to stick with it!

In fairness to him he was half-right. We are going to stick with it.

George thinks the problem is spending. He thinks that as long as we spend less, at some stage the Austerity Fairy will show up and magic the economy back to health.

He blamed firstly, the reckless spending of the Labour government. Let’s get this one out of the way quickly with the IMF data I’ve put on here before. Between 1997 when Labour came to power and 2007, the year before financial meltdown, the UK’s debt as a proportion of its GDP was the lowest in the G7. In every single year:

Government debt as a percentage of GDP (Source IMF)

Government debt as a percentage of GDP (Source IMF)

Yes, the UK is the orange line at the bottom.

Next he blamed Europe. Wait a moment – is that the same Europe who are also awaiting the arrival of the Austerity Fairy? How’s that working out for them? Oh.

Much as George would like it, it’s actually not all everyone else’s fault. The reason George has not solved the problem is because, like the poor bugger spending eternity on a Rubik’s Cube he doesn’t understand the problem he is trying to solve.

The problem isn’t that we currently have too much spending. The problem is a lack of growth and high unemployment. Let me explain further.

In normal economic times when employment is high, if the economy starts looking a little shaky the Bank of England can cut interest rates. Lower interest rates make people want to save less money and spend more. When people spend more the economy picks up. Even Robert Peston knows that.

We are not in normal economic times though. Interest rates have been at an all time low for almost three years and you know what? No one is spending. For the rising number of unemployed this is understandable but for the people who kept their jobs why would they be saving more and spending less with such low interest rates?

It’s fairly simple. In an economic depression, even those people with jobs are scared that they might not have jobs at some time in the not so distant future. What would happen if they were made unemployed? Probably they wouldn’t walk straight into another job so they save. Even with crappy interest rates they save.

We have reduced interest rates pretty much as far as they can go but have still not got people spending again and we have therefore become stuck in something that economists call a liquidity trap. We have nowhere to go with interest rates so as long as the economy is weak no one will spend and as long as no one will spend, the economy will be weak.

This is the problem. Understand that much and the solution is a bit easier to grasp – you plug the gap with government spending until employment goes back up to healthy levels and people are spending again. When people are spending again, then you reduce it.

Even if George were able to grasp the economic problem, it would lead immediately him to a political one. How would he possibly explain to the public that for the past 20 months he had pursued exactly the opposite strategy of the one he should have? It would be political suicide. He’s not going to do that.

Better to take David by the hand and skip off together down the road to nowhere in search of the Austerity Fairy.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , , ,

Economic Bloodletting

19/01/2012 7 Comments

In older times bloodletting was a common medical practice. A doctor would treat a poorly patient by pumping out a few glugs of blood in the hope that it would cure them. The patient would then decline a bit and the doctor would say, “It’s more serious than we thought!” And he’d pump out some more blood. The patient would then get even worse and this bizarre cycle would continue, often until the patient died, at which point the doctor would say, “Well we did our best but they were clearly beyond saving.”

In 2010, the coalition government inherited a poorly economy. (Can you see where I am going with this?) They decided that what it needed was less spending. Less spending they claimed, would have the economy back on its feet in no time.

They predicted that with some much needed spending cuts, economic growth in 2011 would be 2.6%. Then a couple of months later with an even more sickly economy they predicted that with some more spending cuts, 2011 would enjoy economic growth of 2.3%.

November 2010 came though and the patient had deteriorated. 2011 economic growth was now predicted at 2.1% – despite economic bloodletting things were looking bleak. What this patient really needed was… bloodletting.

By March 2011 they had downgraded the annual growth from 2.1% to 1.7% but maintained that the patient’s only hope was spending cuts.

By November, the annual growth prediction was downgraded to 0.9%. We’ll soon see what the real figure was but it is clear that like the quacks of ancient times, the government is unwilling to recognise that there is any link between the treatment and the illness.

Some will disagree that this policy had anything to do with the worsening economy. What is indisputable however, is that the government’s policy of austerity has not led to the economic benefits that they predicted it would.

So let’s think about an alternative policy. Another option is that when the economy is weak we should pursue policies that encourage economic growth and employment. When unemployment rises, there are two immediate consequences. Tax revenues drop and government spending on benefits increases. Then public spending decreases because fewer people have money to spend, and those in employment save more because they are worried about rising unemployment. When public spending decreases, the economy weakens further, the whole thing becomes self-perpetuating and if unchecked we end up where we are today in an economic depression.

The government would say that you can’t spend your way out of recession. They say it all they time. It’s entirely incorrect though – government spending increases economic growth. So a better way of doing things might be to increase spending during a recession and then cut it back once the economy had recovered, employment had gone back up and tax revenues had gone back up. You could also supplement this with some taxes on the wealthy. So we have found a policy that is better than the government’s. Great! Let’s get ’em!

Oh, hold on. Where’s the opposition gone?

Oh dear.

The Labour party it seems, have decided not to take a stance against the spending cuts. Well, I think they have decided that. If I’m honest I’m not absolutely sure. For the past 18 months they have sort of said that they oppose them but have never really laid out a clear alternative. Now Ed Balls has decided that they would not commit to reversing spending cuts whilst maintaining that the government is cutting “too fast and too hard”.

Well I am confused. If they think we are cutting “too hard” but wouldn’t change the policy of cutting exactly this hard then what exactly are they proposing? Labour seems to have moved from a bit wishy-washy to some bizarre conflict of agreeing with government policies whilst saying they are bad.

If I were Ed Miliband, every time David Cameron said during PM’s Questions, “you can’t spend your way out of recession!” I would stand up and read bits out of a first year Macroeconomics text book to him.

And it doesn’t stop at economic policy. Opposition to the government’s proposed health care reforms have come more from doctors than they have from the Labour party despite the government’s argument being shown to be based on completely false statistics. We have a Secretary of State for Education who thinks we should fire more teachers for poor performance. If I were in opposition I think my criteria for firing secretaries of state would include trying to spend £60m on a boat for the Queen and £400,000 on personally inscribed bibles.

In my frustrated state, I am quickly running out of parties to vote for:

  • The Conservatives –  Implementing poor policies with no end in sight
  • The Labour Party – Unable to convey an alternative
  • The Lib Dems – Presumably I don’t need to explain
  • UKIP – Xenophobic
  • BNP – Racist
  • Green Party – In no way prepared for government but might have to look at them now

Ed Miliband’s time is running out to provide coherent opposition to what is going on. He was a good politician in government but for whatever reason he has been positively ineffective in opposition. A recent poll said that the UK public trusted the coalition more on economic policy than they did the Labour Party. I am in no way surprised by this. While I think the coalition policy is bad, it is at least coherent and clearly communicated. Rather than think of a better one, Labour seems to have given up and said, “That’s popular, let’s say that too!”

And say it they did. In a completely incoherent way.

The Conservatives might be poor when it comes to forming policies to gain economic growth, put people into jobs, or improve education and the NHS but never underestimate their brilliance when it comes to making a crap policy sound like common sense.

It is a fragile brilliance though and as their dumb marketing machine rolls forward we can see quite a few gaping holes at which to aim our wrath. I really do believe that a few carefully placed, well-argued policies could derail the whole thing but sadly I see no sign of them on the horizon.

And so, I am making one last, desperate, heartfelt plea:

Could the real opposition please stand up?

RedEaredRabbit

Filed under 10 Posts You Should Read, Economics, Politics Tagged with , , , , ,

Crappy New Year

04/01/2012 Leave a comment

As far as the economy goes, 2011 was a bit of a poo. It was also the year in which my already extremely shaky faith in politicians hit an all time low and so, as we enter a new year it is natural for us all to look forward and wonder what 2012 might bring.

So where better place to look than David Cameron’s new year speech? I’ve just watched it on YouTube. If you’d like to you can do so here or read the full transcript here. If you can’t be bothered then don’t fear, I have a selection of the best bits below.

On 2012, David says this:

It must be the year we go for it – the year the coalition government I lead does everything it takes to get our country up to strength.

I’d kind of assumed he was already going for it in 2011 but it seems as though he wasn’t. It does beg the question as to what exactly he was doing. Was he perhaps biding his time? Was he just waiting for the economic depression* to reach a certain level of calamity before calmly springing into action? Or perhaps he was just lulling it into a false sense of security?

Anyway, let’s not dwell on that. We are “going for it” now so let’s look forward:

The coming months will bring the global drama of the Olympics and the glory of the Diamond Jubilee.

It gives us an extraordinary incentive…to look our best: to feel pride in who we are and what – even in these trying times – we can achieve.

I know that there will be many people watching this who are worried about what else the year might bring…The search for work has become difficult… I get that… I know how difficult it will be to get through this – but I also know that we will.

This all sounds deeply uplifting until you think about it – at which point it makes absolutely no sense whatsoever.

I’ll start with the Olympics. I am glad that we have the Olympics and I even have some tickets for the tennis. I’ll also watch loads of it on the TV and cheer on the UK’s athletes all the way. Having said that, I don’t really understand the link David is making. What has getting excited about the Olympics got to do with finding a job? Is he implying that unemployed people just need some motivation? I hope not but either way I don’t understand it.

About the Diamond Jubilee I’ll be honest and concise – I don’t care. I absolutely could not possibly care about anything any less. The country’s most privileged family celebrating another milestone for the length of time they have been living a life of ridiculous luxury is I think, if anything, demotivating. If I were unemployed and having severe difficulty in making ends meet I’m not sure the royals having another party at the country’s expense would be the motivational catalyst that propelled me back to employment.

Back to David:

Too often our schools aren’t up to scratch, our hospitals aren’t always clean enough and our police don’t catch criminals. Brilliant and committed people work in public services – but somehow the system stops them doing their job. So we’ll change it.

Ok, but tell me how. The current government has cut funding for education and the police without providing any coherent policy on how, with less funding, those services will be improved. We’ve heard the big society idea about parents running schools but I don’t think too many people found it coherent. I find the policy of changing schools into “academies” to be at best confusing. The news is full of teachers’ concerns about this policy and rather than offer a clear explanation to ease these concerns, the government instead chooses to label the teachers as “ideologues happy with failure“.

If a government chooses to cut funding for education and the police whilst at the same time maintaining that education standards will rise and crime will go down, then the public deserves a very clear explanation of exactly how this will be achieved.

(I do appreciate though, that in 2011 the government hadn’t started going for it yet, so perhaps a good explanation is just around the corner.)

The NHS on the other hand does have a protected budget but the government’s justification for reform is one of the most shameful examples of misleading the public I have ever seen. I wrote about that here.

Onwards and downwards:

I will be bold about working to cure the problems of our society. While a few at the top get rewards that seem to have nothing to do with the risks they take or the effort they put in, many others are stuck on benefits…

David said exactly the same thing many times in the run up to the election but in the 20 months since he took over he has done nigh on nothing about the former problem of the few at the top (other than attempt to cut inheritance tax on the very rich) and in dealing with the latter has responded by cutting benefits and public services. In this respect, not only has he not been going for it, he has been going for the exact opposite.

So none of his speech so far made sense. What rabbit was he going to pull out of the hat that would possibly address all of the glaring holes in his arguments?

I profoundly believe that we can turn these things around. That’s what I mean by the Big Society…

I lost the will to live at that point.

RedEaredRabbit

* Yes, I said “depression” – the word that politicians around the world have been avoiding like the plague. It’s been three and a half years. Perhaps in 2012, their New Year’s resolution should be to wake up and call it what it is.

Filed under Economics, Politics Tagged with , , ,

The French Disconnection

15/12/2011 Leave a comment

Today, Christian Noyer, the chairman of the French Central Bank called for the credit rating agencies to focus on downgrading the UK before looking at France. His comments came in response to S&P placing France on “CreditWatch” – essentially monitoring it closely and considering an imminent downgrade.

The UK, Noyer argued, should be ahead of France in the queue for downgrades because it has:

  • a higher deficit
  • higher inflation
  • lower growth

Now, I have no love for rating agencies but he has missed the point a bit. If the factors he mentioned were the only factors then fine but he forgot to mention anything to do with the reasons S&P gave for putting France on CreditWatch, namely that the countries using the Euro are in a massive pickle and their politicians have proved unable to decide upon a way to depickle themselves.

I understand why he’s upset with the UK. David Cameron’s performance last week of refusing any attempt of negotiation in favour of showing his backbenchers that he is tough on Europe and tough on the causes of Europe was probably not our proudest moment.

Even so, Noyer should have a bit more compassion. He might have to deal with Cameron every now and then but in the UK we have to deal with the guy every day, and it’s hard enough without foreign central banks petitioning the rating agencies for a UK downgrade.

Yes, our finances are in bad shape but we are a long way from risking default. How he could compare the UK’s credit worthiness with France’s without mentioning the Euro-shaped elephant in the room shows he is either clouding his judgment because he is in a big huff with David Cameron or he is simply disconnected with reality.

We might have equally incompetent politicians running our country but while we are not using the same currency as Greece or Italy and while we have the ability to determine our own monetary policy, it should be no surprise to Noyer or anyone else that when it comes to worries about debt repayments, all eyes are on Europe.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , , , ,

We need to talk about Europe

08/12/2011 Leave a comment

In the run-up to the last election, much was made of the UK’s poor financial situation. We were told repeatedly  by the Conservatives that after years of irresponsible borrowing, our finances were the worst in the developed world, that we were on the point of bankruptcy and that if we didn’t immediately reduce the deficit then no one would lend to us.

18 months on, we’ve achieved nigh on no economic growth and despite the government’s cuts have continued to increase our debt at more or less the same rate.

This leads me to wonder – if our finances were so bad then and have got worse since, why is it that we can continue to borrow money so cheaply when no one will lend two Drachmas to all of those struggling economies in the Eurozone? Something doesn’t add up.

First, let’s look at whether our finances were really the worst in the developed world. This is a graph of government debt as a percentage of GDP for each country in the G7. The data is taken from the IMF website.

Government Debt as a Percentage of GDP (source IMF)

Government Debt as a Percentage of GDP (source IMF)

You see that orange line at the bottom? That’s the UK. Were we really borrowing so irresponsibly for all of those years under Labour? That’s a matter of opinion but if we’re on the naughty step then it’s pretty crowded.

On a side-note, Japan’s is quite impressive, isn’t it? They seem to be in a Ponzi scheme with their own public but Japan could be a million blog posts on its own so I’m not going down that avenue.

Turning our attention to the Eurozone, you will have noticed in recent weeks that Angela Merkel has blamed the current crisis on the irresponsible fiscal policy of certain member nations – i.e. that they have screwed the Euro by living beyond their means.

Here’s some more data from the IMF website showing some Eurozone economies’ borrowing as a proportion of GDP from the adoption of the Euro up until 2007, the year before the financial crisis.

Government debt as a percentage of GDP (Source IMF)

Government debt as a percentage of GDP (Source IMF)

Ireland and Spain reduced their debt significantly in this period. Italy reduced theirs a bit and although it was pretty awful in 2007, it was even worse when they joined the Euro so I don’t understand the sudden surprise now.

Anyway, it’s fairly clear that while Italy and Greece maintained high levels of borrowing throughout this period, Ireland and Spain did not. Merkel’s claim that each of these nations brought it on themselves purely through their government borrowing is not backed up by the figures. Ireland arrived on the eve of the financial crisis with much lower borrowing rates than they’d had historically but their economy imploded spectacularly nonetheless. Saying that the problems are purely down to fiscal policy is quite bizarre.

Another factor, which Merkel hasn’t wanted to mention, is monetary policy. In the UK when our economy got into difficulty the Bank of England cut interest rates and they have been sitting at a tiny 0.5% for the last two and a half years. Conversely, in April, egged on by Germany, the European Central Bank started to increase interest rates in the Eurozone and perhaps it should not come as a surprise that this coincided with the start of the current crisis.

The fragile Eurozone economies didn’t want higher interest rates but they could do nothing about it. Germany wanted higher interest rates because they were worried about inflation and so the weaker economies had to pay for this through lower growth and higher unemployment.

When the fragile Eurozone economies want to borrow money, lenders look at them and see that they are powerless to control this basic facet of monetary policy and therefore have lower confidence in their ability to respond to changes in their economies. If I want to invest some money shall I do it with a country who can respond to economic problems or one who can’t? Not a difficult decision.

There is though, another branch of monetary policy that is perhaps even more concerning. There is a reason that no one in the market really worries about the UK or the US being able to repay its debt but do worry about the economies in the Eurozone.

If the UK ever gets into a real pickle and needs some more Pounds to repay a loan they always have the option of going to the printer and just printing it. The UK controls its own currency. Ireland doesn’t. Italy doesn’t. Spain doesn’t. If they run out of money they go bust.

In the first recession they have faced, the Eurozone members’ lack of control over their own monetary policy has been a key factor in the crippling of several economies. Angela Merkel now wants to take things further and take away their control over their fiscal policy. Forcing the weak economies into crazy austerity measures will simply lead to many more years of high unemployment and no economic growth.

If it’s that simple though, why would Merkel be advocating a clearly bad policy? The problem Merkel has is that if she did the sensible thing and told the ECB to cut interest rates and buy up lots of government bonds from the weak economies, the German people would get cross and she would not be re-elected. Sadly, these are the things that matter most to politicians.

So what will actually happen? This is my prediction:

  • Germany will implement some rules to restrict fiscal policy of the Euro member states which will keep German voters happy but screw up the weak economies for years to come
  • Having done this Germany will then, finally, allow the ECB to buy up some government bonds, allowing the fragile economies breathing space to avoid short term default
  • The underlying problems will remain

Do you remember when William Hague fought his 2001 election campaign with pretty much one policy? “Keep the Pound,” he bleated incessantly for several months before losing in a landslide against a government who, err, kept the Pound.

He was right to want to keep the Pound though. Ok, he was right for the wrong reasons – nationalism and xenophobia have little place in macroeconomics but in hindsight, I shudder at the thought of where we would be now if we’d adopted the Euro too.

There is a certain romance in the single currency. It feels like it brings us all closer together, working with our neighbours in one financial union and it’s a marvellous two-fingered salute to the sickening xenophobia peddled by Nigel Farage and The Daily Mail.

Sadly, romance and economics don’t mix either and whatever transpires, one thing is abundantly clear – in an era of many bad ideas, the worst one of all was the Euro itself.

RedEaredRabbit

Filed under Economics, Politics Tagged with , , , , ,

← Older posts

Newer posts →