photo credit: HM Treasury

Last Wednesday, amidst the worst economic crisis since the Great Depression, the British Chancellor of the Exchequer Alistair Darling stood up in the House of Commons and announced the the UK’s budget for 2009. If  the reactions of his fellow MPs are to be believed, it was a bit like watching a horror film; albeit one where the crazed axe murderer has been replaced with a boring Scotsman reading out numbers. The ranks of Labour sat in stunned silence, while the Conservatives reacted with a series of  theatrical shocked gasps that accompanied the announcement of each new gruesome piece of economic news.  Meanwhile the media, who had known most of what was in the budget days in advance, had a lot of fun being shocked all over again by the poor state of the government’s finances and the woeful growth predictions for the UK.

Thanks to the current economic maelstrom, this budget was arguably like no other in living memory. It was certainly like no other in recent living memory. The usual budget questions – “how much do I have to pay for my cigs and beer now?” and “why did my national insurance just go up?” – are out and a new set of much more, uh, exciting questions are in:  “Is Britain going to default on its debt” “now their taxes have gone up, will those rich city bastards find some new ways to avoid paying them?” and “is that the average winter temperature in Iceland, or Britain’s growth estimate for this year?”

But what exactly was in the budget, what does it mean for Britain and can we make an incredibly complicated topic really simple in order to give the Chancellor a pointless high-school style grade? Find out over the fold!

Can you repeat those figures please?

photo credit: ktpupp

The buzzword for this budget amongst the news pundits was “historic”. This was not meant in a good way, e.g. “as we turn to Nelson Mandela, there is no doubt that this is a historic day for South Africa” but in a very bad way, as in “now that the fraud of Bernie Madoff has come to light, it’s obvious that this is a historic day for really stupid investment schemes”.  The first “historic” news came with the Chancellor’s announcement that he predicts the economy will shrink this year by 3.5%. This would be the worst performance since World War 2. Though it was brave of Darling to stick to such a grim prediction, his figures were still more optimistic than those of the International Monetary Fund – who predict the economy will shrink by 4.1% this year -  and even as I write this it’s just been announced that the figures for first quarter growth are a doom-laden 1.9%, which means that it’s probably going to be an even worse year than the Chancellor predicted. Nevertheless, it was brave of Darling to stick to such a grim outlook, though any praise is probably balanced out by his predictions  for the country’s growth in future years, which have been dismissed by, well, everyone as utter fantasy. According to the Chancellor, Britain’s economy will start to recover by the end of this year and actually grow in 2010 by 1.25% – a rather noticeable contrast to the IMF’s predictions, which see the economy shrinking again by 0.4%.  He also predicted that the economy will, after presumably taking some illegal steroids, grow at the rate of 3.5% from 2011 onwards.

3.5%! Why so optimistic, Chancellor? The generous amongst us might argue that he genuinely thinks that the economy will experience  a sort of “trampoline effect”, i.e. respond to a seriously bad patch by leaping back up to reasonable growth. The cynical, and more likely, reason for such a hopeful figure is that by saying the economy’s going to well and truly bounce back in a couple of years the Chancellor is able to predict lower borrowing figures, since a good economy means the government doesn’t have to borrow as much.  So his optimistic predictions allow him to present a picture that’s merely beat-your-head-against-the wall-bad, as opposed to head-to-the-nearest-bridge-and-jump bad.  And, most important of all, we’ll only know if he was right to be so optimistic well after the next general election. That’s pretty cunning.

One ray of light though: compared to Germany and Japan, our growth numbers are not as terrible as you might think. According to recent IMF figures, Germany’s economy will shrink by an ugly 5.6%, while Japan’s will contract by a catastrophic 6.2%. How’s that opposition to a global stimulus working out for you , eh, Germany?

Let’s get hysterical

The next set of “historic” figures concerns how much the government is going to have to borrow over the next few years. According to the Chancellor, the government will have to borrow £175 billion this year, or 12.4% of GDP. Britain’s net debt as a percentage of GDP will rise to 59% this year, and peak at 2013-14 at a rather alarming 79%.  These figures are, on the face of it, pretty bad and have sent everyone into a bit of a panic. The BBC’s business editor Robert Peston, for example, has questioned whether Britain will be able to sell all the debt it needs to this year to investors, and even mentioned the possibility of the UK losing its AAA Credit rating, which would effectively make Britain the equivalent of one of those awkward friends who you always try to avoid because they always want money but never pay you back.

Step back a bit though and you might be entitled to wonder whether all this hysteria over borrowing levels is really warranted. Take, for instance, this graph (courtesy of The Guardian), which shows Britain’s net debt as a percentage of GDP compared to other major countries:

What’s noticeable from these figures is that even when our net debt as a percentage of GDP goes up to 59% this year, it will still be less than Germany’s current debt. Even more striking, the highest net debt the Chancellor predicted we will see – 79% of GDP by 2013-14 – is still 90% lower than the current debt of the Japanese who, we can only assume, must have been borrowing from Michael Corleone. Once you put these figures next to the Japan/Germany vs UK growth figures I mentioned earlier, it becomes evident that we really aren’t the sick man of Europe, despite what David Cameron might have us believe.

One caveat however: as I pointed out above, the Chancellor’s borrowing figures are derived from his comparatively rosy prediction of future economic growth. Therefore, should Darling’s optimism prove unfounded, then Britain’s debt could actually become a lot worse, though certainly not in Japan’s league…

Hysteria aside, why is this level of borrowing so problematic? Well, as I explained in (a bit) more detail in my last post on the budget, the more a government needs to borrow, the less willing investors are to lend them money and thus the more expensive it becomes to pay off the debt the government already has. This becomes a real problem when borrowing levels become as high as the Chancellor says they are. One thing it means is that the government will probably have to cut public spending at some point. However, in another clever political move, Darling put off making such tough decisions; pointing merely to planned backroom efficiency savings of £9 billion a year and avoiding mention of actual front-line cuts in the future.  It’s difficult to imagine that such cuts won’t have to be made, but the crucial point as far as Labour is concerned is that the Chancellor seems intent on putting off any mention of deep cuts until after the general election. True, this makes Labour vulnerable to criticism that they are in denial on the inevitability of big cuts, but the problem for the Conservatives is that every time they make this point, they are then asked “What will you cut?” to which they always respond with the political equivalent of shouting “Look over there, it’s George Clooney!” then running away very fast in the opposite direction.

Surprise!

photo credit: marcelgermain

It had already been known before the budget that tax rises for the rich were probably on their way but even so it was still a big rabbit-out-of-the-hat moment when the Chancellor announced that the top rate of tax will be raised from 40% to 50% from next April, which will affect those earning over £150,000 – or the wealthiest 1% of the population as they’re also known. This announcement was, in its own way, historic. The last time a government raised the top rate of tax was in 1974. Moreover, ever since Margaret Thatcher went about viciously attacking the top rate with a pair of scissors in the 80s it’s been obvious that we don’t have a very progressive tax system.  Labour have seemed reluctant in the past to amend this, Tony Blair famously noting that he didn’t go into politics to stop David Beckham becoming  a millionaire (which never really made sense  given that you’d probably have had to tax Beckham at about 50 zillion percent to stop him becoming a millionaire by now). In Labour’s 2005 manifesto they promised not to raise the top rate of tax; indeed New Labour under Tony were quite a big fan of the rich all things considered. How times have changed. Indeed, one of the silver linings to come out of this economic crisis might well be the destruction of the myth that for the country to prosper the rich are best left alone: under regulated and taxed as little as possible.  Which as silver linings go is excellent, because it means we can have a proper debate at last over what is a fair amount for the comparatively mega-wealthy to contribute.

Furthermore, given the economic times and the accompanying dislike of the wealthy, the Chancellor’s surprise move was very good politics. Since the tax rise will come into place a month before the next general election (assuming it’s not held earlier than next May) the Conservatives will be forced to make a very hard choice. Do they choose to obey their base, who obviously detest the idea of this tax rise and want Tory leader David Cameron to promise to repeal it if they win the election? Or do they follow public sentiment and promise to keep it, at the risk of dividing the party? The splits are already showing, as Conservative London Mayor Boris Johnson has called on Cameron to clearly oppose the new tax, forcing his leader into a mealy-mouthed promise that it will ” form its place in a queue of taxes we want to get rid of”. It will be interesting to see if Cameron comes out more against it in a general election campaign.

It should also be mentioned that, despite the initial scepticism of the media, the new top rate will actually bring in quite a bit of cash for the government. In fact, if you include the other new squeezes on the rich – the  withdrawal next April of the personal tax allowance of those earning over £100k and the restriction of pension tax relief for those on incomes over £150k from April 2011 – then by 2012-2013 the new tax system for the wealthy will be bringing in 7 billion a year, which is not chump change. Still, there was more that could have been done in the budget tax-wise. Capital gains taxes, which are only 18%, help to make our system regressive in one important sense, since the wealthy can avoid paying as much income tax by funneling their wealth into stocks and shares and thus paying the more generous capital gains taxes instead. Furthermore, it’s instructive to remember that for the first nine years of Margaret Thatcher’s tax-hating government, the top rate of tax remained at 60% , until 1988 when it was reduced to 40%. A return, then, to 60%  really isn’t as crazy as the anti-tax brigade would have you believe. Why not apply the rate of 60% to those earning over £250,000? At the very least, the change in the top rate could have been accompanied by a more logical progression of tax rates: those earning over £100,000 -or the top 1.5% of the population -  could have been taxed at 45%, for example. There’s no real reason why we have to have a ridiculous jump from a 40% rate at £40,000 to 50% at £150,000. The key point here is that if you’re going to make taxation more fair and sensible, there is no better time politically to do it than at a time of great economic peril; so Darling’s surprise was, at the same time, very welcome but disappointingly small in its vision.

How Stimulating…

The stimulus package, which was focused mainly on job centre funding, green energy spending and the housing market, amounted to around a mere £5 billion. This was pretty weak stuff and not exactly  the economy-boosting fiscal splurge that large numbers of economists have recommended. What was particularly strange about the reaction to the budget is that the hysterical response to the gloomy borrowing figures massively overshadowed any concern about the inadequacy of the fiscal stimulus. This is pretty silly, since the size of a stimulus directly affects the issue of government borrowing. This is because the better an economy is doing, the less the government has to borrow. The main purpose of a big stimulus package is to pump enough money into the economy so that a significant amount of jobs are created, thus shunting the economy back towards positive growth… and less borrowing. A sufficiently large stimulus package is therefore helpful in reducing borrowing in the long term, if not in the short term.

But even if you disagree with this analysis, the fact remains that the Chancellor could have put in place a beefier stimulus of up to £13 billion without adding more to the levels of borrowing. How? Simply by repealing the VAT cut he put in place back in November, which has been more universally panned than the cinematic pairing of Ben Affleck and Jennifer Lopez. This would have netted an extra £8 billion. It’s not clear why he didn’t do this, but his decision to continue with the VAT cut means that a brilliant chance went missing to enact a decent stimulus while not contributing further to the borrowing figures.

photo credit: phault

Another criticism of the underwhelming spending package is that the Chancellor missed a brilliant opportunity to harness the economic theory behind a fiscal stimulus in order to get away with some  serious investment in industry, jobs and infrastructure. Nowhere was this more evident than in the stimulus measures to tackle climate change. For all the talk of the start of a “green budget”, the actual sums – £375m for home energy efficiency, £525m support for offshore wind power and £405m for the development of low-carbon technologies – aren’t nearly enough to really make a difference. As Friends of the Earth’s director Andy Atkins said: “The government has squandered a historic opportunity to kick-start a green industrial revolution and slash UK carbon dioxide emissions.”

Grading the Chancellor

It would be childish to try and give the Chancellor a high-school style grade for his budget. But I’m going to anyway. For his clever use of politics to put the Conservatives in a corner over further taxing the wealthy, and for the fact that he’s actually further taxing the wealthy, he gets an A. That goes down to a D when you factor in the rubbish stimulus and the rather obvious avoidance of the subject of public spending cuts, along with the daft predictions of future growth. But in the end, he gets a B- thanks to a big sympathy vote from my clearly very unprofessional hypothetical teacher. After all, would you have wanted to be in Darling’s shoes?

Pointless grading aside, one thing is very clear: this budget has completely changed the political and economic landscape. Gone are comparatively meaningless debates over public spending (the difference between the public spending plans of Labour and the Conservatives at the time of the 2005 election amounted to a now laughable £12 billion), in their place are truly significant debates on how much to tax the rich, what public services should be cut and how to reduce our ridiculous deficits. Sadly, the political window has now come and gone for a progressive, nation-changing British stimulus – a fact that should really be causing much more distress than it is – and we now enter, as annoying BBC political editor Nick Robinson has put it, “an era of austerity”. Thus the UK will have to take on the characteristics of Delboy Trotter: always looking to flog something, never able to buy anything.

Still, look on the bright side: at least Britain isn’t having to spend untold billions on staging a massive global sporting competition in two years time that never comes within budget and always drains the resources of the country hosting it. That would really suck.

photo credit: HM Treasury

Britain’s Chancellor of the Exchequer Alistair Darling will present the UK’s budget on Wednesday. I think it’s fair to say that in the current depression-era climate this will be a fairly difficult task for Darling, akin to playing Scrabble in Aramaic or amputating a leg with a pair of scissors. As if his problems weren’t bad enough, his challenge is compounded, as we shall see, by the fact that he’s well and truly stuck between a rock and a hard place.

On the one hand, the latest figures on growth make alarming reading.  Despite Darling’s predictions in last November’s pre-budget report of a contraction of Gross Domestic Product this year of 1%, the Bank of England now forecasts contraction of 3-4%. Given that private investment has all but seized up, this means that the case is extremely strong for a significantly large fiscal stimulus – a Keynesian style government spending spree aimed at creating thousands of new jobs and bringing the economy back to life. That’s the rock.

However, along with the latest figures on growth come equally depressing figures on government borrowing. Over the next two years the government is set to borrow around £170 billion, or around 12% of GDP.  The Institute of Fiscal Studies thinks that government debt could be a whopping 82% of GDP by 2015, or about the same amount of debt as your average teenager with a credit card. That’s the hard place. And it’s really, really hard.

So the Chancellor is caught between the need for a stimulus and the need to avoid adding to the current levels of government borrowing. Now, many economists would argue that the need for a significant stimulus is more important than the risk of growing government debt. After all, if you don’t get the economy growing again then public borrowing will increase anyway. This argument  is fairly sound, especially when you consider that when compared to other major countries Britain’s current debt level isn’t quite as scary as many like to claim (while ours is 48% of GDP, Germany’s is 65% and Japan’s is a stunning 170% of GDP, which is approaching two teenagers with a credit card).  In fairness, however, it’s worth pointing out  that Britain can’t afford to do the massive, pile-on-the-deficits stimulus package of the United States, who are able to sell endless amounts of their debt to China.

Indeed, Britain’s problem is this:  in order to sustain its borrowing levels, it needs investors to keep buying government debt. If borrowing gets too high – or to be more accurate, if it appears to investors that it might get too high, then those same investors get scared and stop buying the government’s debt, which then has the knock on effect of raising the interest rate (or yield) which has to be paid on the debt it’s already sold. So the government ends up paying more for their debt they have and unable to sell any more. Bummer.

As far as I can see, this leaves the Chancellor with three options, none of them safe and none of them pleasant:

Option 1) Do as the Irish do

Ireland has just had an, uh, interesting budget. Two weeks ago the Irish Finance Minister presented a dramatic, sphincter-relaxing cocktail of tax hikes for everyone and massive public spending cuts. This was generally judged to be very odd behaviour in a recession, and made many people (i.e. me) suspect that it was a budget made after a massive Guinness-fuelled piss-up in Ireland’s Finance Department. In its defence, there is an argument that such strict measures will encourage investors to buy more of Ireland’s debt, thus reducing the interest rates the government has to pay on its current debt, saving them money and so creating a weird sort of stimulus effect. However, even if you believe this, there’s no reason for the UK to take such drastic measures. Borrowing wise we are in a much better position than Ireland, which isn’t difficult since investors believe the Emerald Isle to be even more likely to default on its debt than the likes of Spain and Italy. Oh, it would also be politically suicidal for Darling to present something like that. Then again, Labour have been in wrist-slashing mood of late… so who knows?

Option 2) Steady as she goes

A cautious approach would entail the Chancellor putting in place a small stimulus – a couple of billion, say, nothing to increase fears too much about public borrowing – while at the same time choosing to avoid any cuts in public spending or tax hikes, at least until after next year’s general election. This, in fact, looks like the route Darling might be taking – we’ve heard talk of £2 billion for job programs, but there’s no sign of any massive stimulus in the works and it doesn’t look like there’s going to any tax increases or spending slashes either. The problem, however, with this approach is that you get the worst of both worlds. A stimulus has to be of sufficient size to jump-start an economy into producing at the level it should be – you have to create a lot of jobs . By definition, the more cash you pump in the more  jobs you get. Meanwhile, an unwillingness to hike taxes means that the borrowing problem doesn’t go away, either. This option, then, is like standing completely still in quicksand: it’s not going to make you drown but it won’t get you out of danger…

Option 3) Wham, bam, I’ve paid for it, ma’am…

The Chancellor’s third option is to give Britain it’s much needed large stimulus effort… but then try to pay for it as much as possible without having to borrow further. One way of raising some money would be to rollback the ridiculously ineffective VAT cut that was put in place last November. That would save £8 billion. Next, the government already plans to raise the top tax rate to 45% for those earning over £150,000, which is projected to save around £1.6 billion. But why stop there? If you raised the top rate to 60% it would still be 30% lower than the top tax rate in the seventies. The merits of a tax hike for the wealthy (and they are wealthy; only 1% of the population earns over £150,000) are that it doesn’t impair the effectiveness of any fiscal stimulus, since it’s the poorest in the land that are normally the engine of growth a stimulus relies on; plus it would also show nervy investors in the UK’s debt that something is actually being done. Of course, despite these savings a large stimulus would probably still require some further borrowing, but hopefully not enough to put the scares into investors.

I think it’s fair to call these three options, in order: The Bad, the Bad and the (regrettably) ugly. Option 1 is self-evidently suicidal, while option 2 is a weak cocktail of too little stimulus laced with too little public savings. Compared to these two option 3 is pretty good, as it combines a sufficient stimulus with fair, sensible moves to pay for it. It’s still ugly though: the imposition of higher taxes while still having to borrow a little further  could leave Darling vulnerable on all sides. But I still think it’s his best move, albeit one he’s unlikely to take. Perhaps, in the end, only one thing is certain: given the choice between being the Chancellor right now or swimming in shark-infested waters with a gaping wound, I think we’d all agree that it’s time we went and put on our swimsuits…

photo credit: thefost

It’s now been a whole week since the G20 met (an event which, if it was a Friends episode, would surely be called The One Where The Canadian Prime Minister Missed The Group Photo Because He Was In the Toilet) and yet commentators are still very much divided on the deceptively simple question: Was the summit a success? This isn’t really surprising, since the answer depends on how you define success. For example, if you were looking for a demonstration that in the midst of global recession the world’s leaders are able to get together, put aside their differences and promise to sort stuff out then the summit was very successful indeed. Alternatively, if you were looking for a solid commitment to prevent a global crisis like this from ever happening again, then you must have come away very happy with the result. And if what you were after was a bunch of vague commitments that will probably/maybe be ratified in the future but more importantly look very good in the present, then you’re probably still doing triple backflips of joy.

But if you were hoping for a substantive commitment to lifting the global economy out of recession – and doing it now, rather than later – then it’s hard not to see the G20 summit as a bit of a let-down, albeit a very glamorous and show-stopping one. It’s true that restoring growth and getting people back to work was never the sole aim of the summit- in the final communique it’s merely listed as an equal pledge amongst eight others -  but lifting the world out of recession is nevertheless the first thing you’d expect someone to say if you asked them what the summit’s main goal was. And with good reason – the current numbers coming out of America alone suggest that we might have to soon start switching out terminology from talk of global recession to the use of the dreaded “d” word (“depression” that is, though doom and devastation work quite well too).

To prove my point, let’s examine what have been touted as the main substantive achievements of the summit – the clampdown on tax havens, the new regulatory framework and the headline-grabbing sum of $1.1 trillion.

The publishing of a blacklist for tax havens is obviously a really welcome development, but tax havens had little to nothing to do with the current crisis. Tackling them was very much an example of “we’re never going to have so much capital to get stuff done, so let’s sort out the havens while we’re here”. Moving on to the ambitious new international regulatory framework, this is – assuming it’s actually followed through and enforced effectively – a spectacularly impressive achievement.  Indeed, the proposed reforms that will be the responsibility of the new, international “Financial Stability Board” read like a checklist of what should have been done to prevent the current recession: controls on leveraging,  stricter capital reserve requirements, regulation of derivatives like credit default swaps, better analysis of systemic risk, etc. But let’s be clear: the progress on regulation is all about preventing another global recession. Welcome as these reforms are, they’re of no use for the one we’re in now.

Which brings us to that eye-catching $1.1. trillion pledge. If you break it down, it comes to an extra $500 billion in funding for the International Monetary fund, a $250 billion increase in the IMF’s “special drawing rights” (sort of like a cheap overdraft facility for IMF members), $250 billion in trade finance and $100 for multi-lateral development banks like the World Bank. At first glance, this is an impressive haul. But, just like Bernie Madoff’s company accounts, the more you scrutinise the numbers the more they fall apart.  Mark Lander in the New York Times has undertaken a rather damning analysis of the figures; suffice to say it turns out that much of the $1.1 trillion is a mixture of money that’s already been pledged, hasn’t yet been pledged, isn’t really money or has been pledged but needs to face an unlikely approval by a country’s legislature (hello, American Congress!). As Felix Salmon has pointed out, at best you can say that there is around $400 billion of new money.  Others have been more brutal and pegged it at $100 billion. But even putting aside questions about the exact amount of new money pledged, there still remains the fact that the majority of it is aimed at preventing the poorest countries from financial collapse. A crucial concern, no doubt, but it doesn’t really help us with the recession we’re already in – it’s merely preventing it from deteriorating too badly. In other words it’s staunching the wound but it’s hardly sowing our fingers back on…

So, as the steak-lover said to the vegetarian chef, where is the beef? Leading economists have warned that we need more Keynesian, deficit-spending, stimulus packages in order to reduce the growing output gap between what the world should be producing and what it is producing. But there were no commitments to increase the size of international stimulus packages to be found in the final communique, merely vague promises and disingenuously boastful references to the inadequate stimulus packages that have already been passed. This was not at all surprising given that the Franco-German anti-stimulus crowd had won the argument against the Anglo-Americans weeks before, but it was nevertheless very dispiriting to see the advice of most leading economists trumped by misguided European concerns over the demerits of more stimulus.  Of equal concern is the fact that another piece in the recovery puzzle – dealing with the toxic assets of banks and confronting the current insolvency of many leading financial institutions – was also shied away from; more vague language was all we got on that front.

This leaves us with the alarming realisation that a summit convened in response to a global recession has failed to come up with any substantive responses to it. It’s true that the leaders of the free world put on the convincing show that everyone needed to see. And it’s also true that a lot was achieved to prevent another recession like this one. In that sense, good work was done. But when it came to fixing the economy in the here and now, the G20 members put on their magician’s hats, bestrode the stage and gave us nothing but grandiose statements and awe-inspiring illusions; except unlike most good conjurers we can now see how their tricks were done. And, frankly, I want my money back.

photo credit: Today is a good day

“The world should consider adopting the Nordic approach to capitalism and learn from the region’s response to its financial and economic crisis in the 1990s in the attempt to stave off recession, according to the chairman of two of Europe’s biggest companies.

Jorma Ollila, chairman of Nokia, the mobile phone maker, and oil major Royal Dutch Shell, said the Nordic style of capitalism was characterised by openness to globalisation balanced by strong government programmes to protect people from its excesses and an egalitarian education system.”

I’m a huge fan of the nordic model for Government, economics and to some extent even society.  The Scandinavian economies and even their welfare system have proved remakrably resilient in recent years, despite being targets for right-wing attacks (particulalrly in the US) and bizarrely O’Reilly feels Sweden is a nightmare communist state.

They’ve shown that globalisation need not be a negative as long as the state acts as a levelling tool, of course such engineering would be far harder in more economically diverse countries such as the UK and France, but in principles the direction is a positive one.

photo credit: JFabra

If you Read Ed’s article on the need for stimulus packages in Europe you may have come across a debate Ed and I had over the nature and merits of a stimulus. Regardless of which side you fell on, there were further issues at stake than just economics. Economists like to see their subject as a science: numerical and evidence based, rational and objective. No doubt,  many of their research tools are scientific but economics is also the backbone of the modern world and often not an end in itself, more a vehicle for achieving other ends.

As James Surowiecki argues in the Financial Page of the New Yorker, economics is by no means a science and as the recession draws on, we’re able to examine the cultural memories that can and do direct economic courses of action. From recessions and inflations, each country will have its own preferences and fears that alter the importance attached to different parts of the economy.

In the US, the focus has fallen on the stimulus package and Paul Krugman has made the case that europe should follow suite. He makes a convincing case for a European stimulus package, but is it correct to lampoon European economic policy and decision making as woefully inadequate or to equate US economic policy so readily with Europe? Well in some sense yes, it’ s perfectly fair, the rationale for the stimulus is not so difficult,  it could even lead to greater gains if correctly invested in infrastructure which could grow economies in the future, from transport to broadband aswell as tiding Europe over during a recession. In fact, many economists, (despite what many think) advocate deficit spending. They argue that if done correctly it will more than pay itself back through the higher tax-receipts of the economic growth it will yield.

But Krugman’s argument fails to take into account complexities within Europe, not just over the method of recovery but the acceptable limits . Surowiecki’s argument makes clear the perils of inflation in cultural memory and ought to be taken seriously:

If the episode that haunts the U.S. is the Great Depression, in Europe, where the Germans have been dominant in shaping economic policy, the defining historical moment is the hyperinflation of Weimar Germany, when prices rose more than seventy-five billion per cent in just one year, 1923, and, in the words of Walter Benjamin, “trust, calm, and health” vanished

The US has never sufferred the acute inflationary issues several European countries and notably developing countries have suffered, but it has suffered unemployment.  Europe on the other hand has had its fair share of both, such as Weimar Germany.  Inflation is not simply a historical boogeyman, Hungary and Yugoslavia , Argentina and Chile in the 70s and 80s and Zimbabwe to this present day have  allsuffered the terrible impact of inflation, collapsing economies as easily if not more so than high unemployment.

Within Europe, unemployment is also less of a concern than the US.  Europe an countries have lower unemployment rates and greater safety nets, which act as stabilisers against recession. European states can and will try to sweat out the recession by letting the welfare states take the strain. Furthermore, Europe knows that the US and China have to get themselves going, China has been candid before about its need to maintain  high growth rates to appease ever-growing expectations among its population and the US similarly has high expectation, if these key markets take the strain Europe could ride on their coat tails. They will probably recover more slowly, miss an oppurtunity to re-vamp their economies for new challenges, but European countries have in the past demonstrated their willingness to take the backseat, if it means avoiding the riskier decisions.

US capitalists would look in horror at the idea that European states would happily accept higher levels of unemployment and the subsequent welfare costs, and forego economic growth in return for stability.  But a turbulent history of left-right battles  recurrent thrroughout the 20th century, continuing after Post-War into the radical conflicts of the 60s have made the European centre right more concilillatory, in order to maintain stability. In Germany for example, the importance of left-right pacts that the CDU has fostered since the days of West Germany, to keep the left and the right firmly in check and the bargaining parties as the power-brokers, not the fringe parties.

Krugman’s views shouldn’t be taken out of context, as an American he can’t be immune from the feeling they are taking more than their fair share of the burden.  Surowiecki’s argument is that the US is paying for the luxury of a rapid recovery through stimulus, with the bonus of being able to re-shape significant parts of the economy such as green energy investment to prepare the economy for a low-carbon future, rather than endure a longer recession and a slow recovery. Surowiecki’s argument underestimates the importance of a stimulus to the US, lengths of recessions are not “luxuries” but he’s right in some sense that there is a cultural value being attached to the economy as whole, particularly when Americans lack the European safety nets.

By comparison , Europeans have less to lose from economic growth, much of this is the welfare state, unemployment is not the devastating force it can be to many in the US. A more relaxed attitude to growth may also be a way of compensating for Europe’s inability to compete with the US economically, or a disregard for trickle down economics but I suspect it’s also rooted in the history of post-war Europe, as the battle ground of the Cold War. With the spectre of communism on the one side and the rising power of US capitalism on the other, Europeans were caught internally and externally between competing views of progress and settled, broadly, for variations on social democracy, a comfortable less exciting middle ground, less growth, more stability.

Nevertheless, using culture and history doens’t mask other problems facing Europe. Germany undoubtedly has its reasons for not backing a stimulus as do other European countries. Some, might find it politically unpalatable, many Europeans blame the “Anglo-Saxon” economic system, and are not in quite the dire straits the US and the UK, no wonder Brown is the loudest for a stimulus when the UK is already mired in debt and less able to help itself. But Krugman is right, when before he’s recognised that European institutions have been slow and incapable of decisive action, even if they’d want to do so . Europe finds itself in the position of having an integrated market without integrated institutions to support it which this recession  has exposed cruelly.

]]> http://www.entangledalliances.com/2009/03/europe-and-the-us-two-different-fears/feed/ 0 http://www.entangledalliances.com/2009/03/fiddling-while-rome-burns-britains-missing-stimulus/ http://www.entangledalliances.com/2009/03/fiddling-while-rome-burns-britains-missing-stimulus/#comments Sun, 22 Mar 2009 17:57:13 +0000 Edward Crocker http://www.entangledalliances.com/?p=958
photo credit: vaviolino

Remember the old Chinese curse “may you live in interesting times”? It’s worth keeping in mind as we head towards April and the meeting of the 20 richest nations in the world: London’s G20 summit is going to be very interesting indeed.  As Mark Bailey reported in his recent post “G20 Preview: Gordon and Goliath”, Gordon Brown and Barack Obama are both calling for a global fiscal stimulus. The likes of France and Germany, however, are rejecting talk of more stimulus, choosing to focus solely on bank regulation – specifically the regulation of hedge funds and tax havens.

Now I like a good campaign against hedge funds and tax havens as much as the next man, yet it must be said that Gordon is completely right to demand that global stimulus packages be pursued at the same time as international bank regulation. As far as Europe is concerned, a large influx of government public spending would work  particularly well, as thanks to the free trade policies of the European Union any stimulus one country puts in place will immediately benefit their neighbours. This, however, is what concerns the likes of France and Germany: the fear that heavy national spending will simply leak out and end up as international spending.This particularly irks Germany who are already gritting their teeth at the prospect of having to bail out the troubled states of Eastern Europe (who, it turns out, are just rubbish at that capitalism malarkey).

But what the likes of Sarkozy and Merkel are forgetting is that with more and more Europeans losing their jobs, governments are facing lower tax revenues and higher welfare costs. The higher cost of paying benefits is particularly onerous on European governments, as unlike America the welfare systems of Europe are commendably generous (Britain excepted). Large stimulus packages, therefore, are essential to get people back to work and kick start Europe’s economy.

However, though Gordon Brown’s logic is sound his pan-European ambitions are leaving a bitter taste in the mouth – well, in my mouth anyway – because, despite his calls for a global stimulus, Britain has hardly had one worth the name. Indeed, so far the only “stimulus” we’ve had is last November’s £20 billion scheme, the majority of which went on a much derided cut in VAT. Let’s compare this with other countries, shall we?

First, let’s compare the quantity of our stimulus package with that of other countries. According to the International Monetary Fund’s figures, the United States’ stimulus works out, over two years, at 3.5% of its GDP. Germany’s stimulus package works out, again over two years, at 3.2% of its GDP.  And Britain’s? A measly 1.4% of GDP for 2009… and nothing in 2010, since it doesn’t actually stretch that far. Great.

Now let’s compare the quality of our stimulus. We got a demonstrably ineffective cut in VAT which did very little to kickstart the economy and get people back to work. Compare this with America – their stimulus package included everything but the kitchen sink – progressive tax cuts, infrastructure funding, higher unemployment benefits, investment in education and health services,  funding for renewable energy… If you want a fairer, European comparison then consider Germany: their stimulus package – all 50 billion euros of it – included money for roads, schools, public transport and hospitals as well as tax cuts for the poor and a generous payout to anyone who traded in their old car for a new, more environmentally friendly one (yes that’s right, the country that invented the automobile is more green than us).  Fair play to Germany then – they may be putting a spoke in the wheels of Gordon’s sensible plans, but at least they’ve already passed a proper stimulus.

But it gets worse. Not only has the British government failed to put in place a proper stimulus, but the Chancellor Alistair Darling appears to be trying to convince the U.S. that the one we did put in place was actually da bomb. As the Times’ political blog ‘The Red Box’ reported on Tuesday, Darling has rather suspiciously changed his estimate of what percentage the stimulus is of Britain’s GDP from around 1% – his estimate in November’s pre-budget report – to last Monday’s claim of 3.4%, which, if you were paying attention earlier in this article, you’ll realise is roughly the same percentage of GDP as America’s stimulus package. How has he done this? By including the money lost from the government’s coiffers as a result of less people paying income tax and more claiming benefits. Yes, that’s right – he’s including money that should be being paid out anyway as part of a stimulus. Why has he done this? It’s hard not to come to the conclusion that this has been done to prove to America that we don’t need more stimulus and thus reduce the pressure on Darling to include another one in the forthcoming budget.  I think maybe Gordon needs to have a few words with his Chancellor, don’t you?

One thing that’s very clear is that while Darling plays with the statistics,  more and more people are becoming unemployed and as a result overstretched job centres are losing the ability to actually get people back to work. Here’s Polly Toynbee in The Guardian yesterday:

Insiders in Jobcentre Plus offices tell of the pressure from a surge in new claimants. A manager of a Jobcentre Plus in Essex tells me, “forget personalisation”, echoing others who have contacted me. Claimants just get the next adviser on the taxi-rank. First interviews are cut from 40 minutes to 30 minutes, and the “better-off calculations” have been dropped because they are taking too long: new claimants know they’ll be better off working. The fortnightly signing-on review has been cut from 10 minutes to seven minutes – and other areas report as little as five minutes…

“What used to be meaningful interviews have turned into fantasy conversations when you both know there are no jobs,” the Essex manager says. These interviews will grow more perfunctory with every passing month.

It’s clear, then, that we need a proper stimulus now. Actually we needed one months ago,  but let bygones be bygones, eh?  All will be forgiven if our number-fiddling Chancellor can pull off a massive stimulus in the forthcoming budget. What kind of stimulus are we talking about? Let’s see… investment in green technology would create lots of new jobs while also aiding in the fight against global warming and saving us money in the long term. A radical overhaul of our pitiable roads and trains will create even more jobs and also reap benefits further on down the line, since our pathetic transport system costs us millions every year. Higher investment in education will both create jobs in the short-term and enable kids to get jobs in the long-term. Raising the threshold at which people start paying income tax from the current £6000 to more like £10,000 – as suggested by the chairman of the Treasury Select Commitee back in January – would help those hit hard by the recession to get back on their feet. As for those hit hardest by the recession, there should be a significant boost to the job seeker’s allowance – do we really believe in this day and age that 60 quid can last you a whole week? In the long term this wouldn’t even cost the government anything if it was done at the same time as giving job centres more resources so they can actually, you know, put people back to work.

Those are just some ideas. I’m sure you can think of some more – god knows many have been floated by commentators more clued in than me , though whether the government’s listening or not is anyone’s guess. At any rate, one thing is economy-crushingly clear: Gordon Brown may be on the right side of the debate with his G20 call to arms, but so long as his strategy back home is in glaring contradiction to his strategy abroad how can he expect anyone to have faith in his ambitions? And here’s something he might want to consider: while a doomed effort to convince a stubborn Europe to take the right path is still admirable, even in defeat, sitting by while your people are crushed by a catastrophic economy is unforgivable. Over to you, Gordon…

photo credit: AComment

When Barack Obama’s economic stimulus package passed into law last month, it was mostly greeted by economists as a much needed influx of government spending that should help to get the economy back on track . But among the plaudits were concerns about the effectiveness of the stimulus: specifically, it should’ve been bigger.

Now you might well question whether an $800 billion package could be described as “not big enough”. But it’s important to remember that around $300 billion of it was in the form of tax cuts – helpful to the families they were aimed at, no doubt, but not particularly useful in terms of job creation. Therefore, only $500 billion was actually in the form of direct government spending, and so when considering how much is needed to create enough jobs to get the economy back on track, only two thirds of the stimulus is actually “stimulus”. But even so, surely $500 billion is enough to get the job done?

Well, uh, no actually. It isn’t. The inadequacy of the stimulus, however huge it was, is made clearer every week as increasingly disastrous figures about the economy continue to be released. In his Monday New York Times column, nobel-prize winning economist Paul Krugman, calling for a second stimulus, points out that:

The administration’s budget proposals, released less than two weeks ago, assumed an average unemployment rate of 8.1 percent for the whole of this year. In reality, unemployment hit that level in February — and it’s rising fast.

But isn’t Obama’s stimulus meant to make 3.5 million new jobs by the end of 2010?

3.5 million jobs almost two years from now isn’t enough in the face of an economy that has already lost 4.4 million jobs, and is losing 600,000 more each month.

Oh. Bummer. Okay, so the situation’s really bad, but do we really need another stimulus package? Martin Feldstein, professor of economics at Harvard, has looked at the numbers and concluded that yes, we do. His article’s worth a read but I am nothing if not a prolific summariser, so here’s the cliff notes version, which includes the “things Feldstein doesn’t say because he forgets we’re not all economists”:

America is looking at an annual shortfall in demand of $750 billion. In other words, every year the US will be another $750 billion short of what it should be producing in a normal, crisis free environment. So for the stimulus to work properly, it needs to boost spending by $750 billion dollars a year. Now the stimulus is spread over two years. As I noted above, the actual stimulus part is $500 billion. And only around 75% of that will actually take effect over two years.  So that  leaves around $200 billion per year. Which is rather less than $750 billion. Of course, this neglects to take in the “multiplier effect” – that is, the chain reaction that follows from government spending which means you actually create more demand than you put in. Obama estimated the multiplier effect at 1.6. So that becomes $300 billion a year .

But that’s still nowhere near $750 billion.

So you can add my name to the illustrious list of commentators calling for another stimulus package, albeit in very small writing right at the bottom.  But what about the politics? Congress, bruised from the last stimulus battle, is hardly going to appreciate another punch-up, are they?  Krugman, as always, is ahead of the game, and sounds the alarm:

So here’s the picture that scares me: It’s September 2009, the unemployment rate has passed 9 percent, and despite the early round of stimulus spending it’s still headed up. Mr. Obama finally concedes that a bigger stimulus is needed.

But he can’t get his new plan through Congress because approval for his economic policies has plummeted, partly because his policies are seen to have failed, partly because job-creation policies are conflated in the public mind with deeply unpopular bank bailouts. And as a result, the recession rages on, unchecked.

In retrospect we can see the flaws inherent in Obama’s attitude to the stimulus package. In order to secure a none-too violent passage through Congress, the administration settled for a none-too impressive figure rather than the much larger amount ($1 trillion, not including tax cuts) that economists suggested were necessary. The advantage of this is that, well, it passed; and passed without any notable dent in Obama’s political capital. The disadvantage of this is that it was always going to leave open the possibility of a stimulus package mark 2, and if you thought the last one was difficult to pass, then you’re going to be as fascinated as the rest of us to find out how Obama’s going to shoehorn another one in whilst in the middle of an epic battle for healthcare reform.

Hopefully it won’t come to that. But in case it does, Obama might want to spend some quality time with his political capital because like Citibank, Wall Street bonuses and the American car industry, it might not be around for too long.

photo credit: kiki99

I have a quick question…

Today the Bank of England announced that, along with slashing interest rates to a new low of 0.5%, they were also going to engage in something called “quantitative easing”, a rather unconventional tool of monetary policy that the Americans have been using for some time. What the hell is quantitative easing, I hear you ask? Well it’s actually fairly simple. The Bank of England simply, uh, invents some new money out of thin air, then uses that to buy up things like government bonds and the assets of other banks; the idea being that by doing this there’ll be lots of cash flowing round which will help to kickstart the economy. Of course, this only benefits said economy if the banks which are getting all this new cash use it to start lending again rather than just hoarding it in their reserves. And that’s a big if… Oh, and then there’s the fact that Britian’s never really used quantitative easing before. So we don’t know when it will work or, indeed, if it will work at all.

So here’s my question. Instead of making lots of money to go to the banks – who may not even use it in the way we want – why does the government not simply give a massive pay-out to the general public? Sure, some people will hoard their share but most people will spend it – especially the poor and the lower middle class who are being squeezed hardest by the recession. People have loans to pay off after all – and in this way it would directly help the banks as well. And it’s got to be better than just crossing your fingers and hoping that the stricken banking giants will start spending and lending again.

Over in the US, the Federal Reserve has been playing around with quantitative easing for months now, with mixed and uncertain results. But there’s also been a massive $800 billion stimulus package which includes tax cuts for the poor and middle class, higher benefits for the unemployed and other provisions that provide relief to the people being hardest hit by the recession.

So why, here in Britain, do we only have an eye for pumping the banks full of cash?

Answers in the mail, please.

Well you can imagine my surprise at hearing this, given that I was under the impression that the deficit-spending, government-stimulus strategy being adopted by leaders like Obama was meant to stop another Great Depression, not start one. If I’d been drinking coffee, you can be sure that I’d still be wiping it off the TV instead of writing this. But I thought I’d see what Rogers had to say before coming to judgement on the man. Big mistake!

Analysis and conclusions come over the fold.

Let’s start with this Rogers quote:

The idea that you can solve a problem of too much debt and too much consumption and too much borrowing by more borrowing and more consumption and more debt to my mind is ludicrous and insane.

This is a pretty crazy thing for Jim Rogers to say. The “more borrowing” he’s referring to is that of the government – say, the US government – used to fund, for example, Obama’s stimulus package . The theory behind such a strategy is the following:  in a deep recession, the only way to stimulate the economy is to get the government to pump lots of money into it, piling up national deficits in the process. Any government spending by definition creates jobs and this helps to get the economy going again. The government has to do this because the private sector can’t: when no-one else is able to spend to get the economy going again it’s left to the government to step in as a spender of last resort. Crucially, the government’s borrowing is not, as Jim Rogers is suggesting, the same as the borrowing of the private sector. The government can afford to rack up deficits in the short term to fund anti-recessionary borrowing,  indeed they have to: if private credit is frozen, who else is going to step in?

This isn’t just one of many opinions: it’s the theory of legendary macro-economist John Maynard Keynes, whose work on the solutions to recession are accepted by the vast majority of economists. Now it’s true that you could probably find a few who disagreed, but it’s pretty evident from the interview that Rogers’  response was not that of a man who wanted to point out the defects in Keynes and respond with his own argument. Oh no. Instead it’s the kind of response you’d give if, having never seen a car before, you drove one to the petrol station and then some stranger came up and jabbed a hose in your bodywork . You’d think he was pretty mad, wouldn’t you?

Having said all that, let’s give Jim Rogers another chance, shall we?

Unfortunately everybody’s making the same mistakes we made in the 30s… the 30s started out as a typical stock market bubble – pop – and then a recession, but then the politicians got together and made mistake after mistake after mistake and it led to the great depression… I’m afraid it’s happening again.

This time it’s not just economists who might be puzzled at Rogers’ words, it’s historians too. The mistakes he is referring to must be the alleged ones of President Franklin D. Roosevelt, since it’s Roosevelt’s deficit spending which is being mimicked today by politicians. (He could of course be referring to Herbert Hoover’s mistakes, but then that would completely destroy his argument, so let’s give the man some benefit of the doubt.) This, then, is a bizarre thing to say by any standards. While it’s true that FDR’s reign was not without its economic blunders, it’s generally accepted by economists that his deficit spending helped to relieve the depression of the early to mid 30s. Indeed, if anything, modern Keynesians think that he should have piled up more deficits. In fact, the real blunder of FDR’s presidency came not when he was spending deficits but when he decided, in 1938, to reign in spending and balance the budget. This is generally assumed to have caused the second main recession of the 30s, and is universally regarded as maybe the biggest economic blunder of the 20th century. That recession, in fact, was only ended by the ultimate example of Keynesian Economics: the enormous deficit spending of World War II, which finally ended the Great Depression for good.

Again, Rogers isn’t articulating another economic viewpoint of the 30s here. He’s just being ignorant.

I could go on, but I think I’ve made my point (although I should give a shout-out to Rogers’ interesting assertion that the stockbrokers of London will soon be handing over their lambourghinis to the presumably rather non-plussed farmers of China).  As the interview drew to a close I reflected that it was sad to see Channel 4 news present this guy in the same way you would a well-respected economist. He’s not. He’s a well respected financier.

The kind of garbled, faux-economic mumbo-jumbo spouted by Rogers is, sadly, not an isolated case. Across the media spectrum, financial commentators and cable news Wall Street reporters are queuing up to offer their outraged opinions on what they see as Obama’s economic stupidity. For example, CNBC’s Jim Cramer claimed recently that Obama’s budget was “the greatest wealth destruction I’ve ever seen by a president”. I can only  assume the words “by a president” were inserted there to distinguish it from “the greatest wealth destruction I’ve ever seen” which is presumably the description Cramer’s saving in case  Obama follows his advice and does nothing to help the economy.

There’s an obvious conclusion to be drawn from all of this: finance is not the same as economics.

I can’t stress how important a point this is, because it’s one of the main reasons why the public debate about the actions of world leaders such as Barack Obama in combatting the global recession is fundamentally flawed. Instead of having a genuine argument on the economic merits of the various plans, the soapbox is instead often being left in the hands of people who show no interest in even the basic points of macro-economics – and this includes illustrious and important members of the world of finance.

Just as a Harvard macro-economist is likely to know know very little on the subject of  collateral debt obligations, credit default swaps and other bizarre financial contraptions, so too a Wall Street financier cannot be assumed to know his output gap from his liquidity trap. And if you’re expecting a basic knowledge of  Keynesian theory, then I’ve got news for you: the money men don’t care. Ask them how to invest your money and you’ll get a fairly solid reply (though you might come to regret it later). But ask them to defend their opposition to anti-recessionary government spending on solid economic grounds, and it’s like entering Alice in Wonderland. If, that is, Alice had  sweetened her rabbit hole experience further by indulging in a bit of LSD.

Once again: finance is not the same as economics. A lifetime of trying not to get caught when the bubble bursts is not equivalent to a degree in macro-economics. Just saying!