Ferraris for all

This is my comment from this week’s Fund Strategy. The issue also includes a cover story by me on the British debate about economic policy in the run-up to the next election

The slight upward revision in the figures for Britain’s GDP growth in the final quarter of 2009 is little cause for cheer. While economic growth is always welcome, a closer look at the figures reveals no signs of a strong recovery.

Of course the usual caveat applies: short-term figures should not be taken too seriously. But the breakdown of the figures gives some indication at least of where the economy appears to be heading for now.

Although the overall growth figure was revised upwards from 0.1% to 0.3%, there are several reasons to question claims that this indicates a robust recovery. The impending rise in VAT probably encouraged consumers to make discretionary purchases earlier than they otherwise would have done. Perhaps they bought a new television in December rather than waiting until 2010. But this is no sign of a real recovery.

In addition, while the contribution from exports rose, that from imports increased even further. This is the wrong direction for those hoping that net exports will power Britain’s recovery.

More fundamentally, gross fixed-capital formation fell by 3.1% and is now 14.2% lower than in the final quarter of 2008. Yet such investment is a fundamental driver of economic growth in the future.

Britain’s problem of low growth is discussed in more detail in my cover story this week. Over the past decade, Britain grew at its slowest rate since the second world war. This was in turn part of a longer-term trend, with relatively low growth rates from the 1970s onwards.

Yet despite the scale of the problem, it receives relatively little attention. Politicians evidently prefer to obsess over the fiscal deficit and lambast bankers for their high bonuses. These are likely to dominate the economic debate in the run-up to the election, rather than the problem of low growth.

Overcoming this blinkered attitude demands a fundamental cultural shift. Promoting strong and consistent long-term growth should be the key priority of any political programme. The ideas used to question the feasibility of growth, including the flawed notions of environmental and moral limits, also need to be challenged.

Labels: economics, finance, Fund Strategy, growth

This is my comment from this week’s Fund Strategy.

The main focus of the debate on economic policy in the run-up to the election is becoming increasingly clear. More importantly it is apparent what will be virtually ignored.

Fiscal policy will be the overwhelming centre of attention in the election debate. More precisely it will be on exactly when cuts should be made, exactly where they should fall and exactly how large they should be. There is not even a debate about whether tax rises would provide a better way of tackling the deficit or, more importantly, whether there is an alternative to austerity.


For all the personal bile in the rows between the parties there is little difference of substance. Mostly the spats are a form of bluster. To the extent there are disagreements they are about the precise details of managing Britain’s deteriorating fiscal position.

Economists have only added to this narrow fiscal obsession. Three factions of economists have written open letters expressing their view on the precise form that the end to the fiscal stimulus should take. Politicians have been quick to latch on to whichever group of economists has supported their position.



What all this leaves out is any substantial discussion of how Britain can rejuvenate its economy. Of how it can generate consistent and rapid economic growth. For such growth is key to minimising the pain involved in tackling the fiscal deficit and providing the basis for a prosperous long-term future.

For example, Gordon Brown’s emphasis is on securing the recovery. For an election with a five-year time horizon this reveals abysmally low ambitions. Securing the recovery–ensuring Britain does not plunge back into recession–essentially means leaving the economy more-or-less where it is.

It is true that Brown sometimes talks about going for growth. But usually what he means by the phrase is starting to make cuts a bit later rather than a bit earlier. His is not a perspective for long-term growth.

If Labour does win the election no doubt Brown will suddenly see the need for cuts as more pressing. In the next few months, with an election looming, he does not want to start imposing austerity.

But it would be wrong to single out Brown for being uniquely bad. None of the main parties are seriously discussing how to promote innovation or encourage higher productivity.

If there is to be serious debate about economic policy in the run-up to the election it is not going to happen among the main political parties.

Labels: economics, Fund Strategy

Yesterday spiked ran a critique by me of the campaign for a Robin Hood tax. Proceeds from the proposed levy on financial transactions would go to offset spending cuts in Britain, tackle climate change and help deal with global poverty.

Labels: finance, Fund Strategy, inequality, media appearances, spiked

This is my comment from this week’s Fund Strategy.

The most amusing event of last week had to be Gordon Brown’s brief appearance on the BBC Newsnight programme. In the space of 30 seconds he found seven different ways of saying that helping to tackle the Greek crisis was not Britain’s responsibility.

Given that Brown constantly evades responsibility for his actions at home it is hardly surprising he wants to distance himself from the Greek crisis. As it happens the financial turmoil in Greece has considerable consequences for Britain whether Brown likes it or not.

It is true that in the most narrow technical sense Britain is not responsible. Since it is not a member of the eurozone it was not party to last week’s negotiations on supporting Greece.

But that is far from the end of the story. For a start there is the so-called contagion effect of Greece on the debt markets. If the markets are really spooked by events in Greece then it is likely to become more expensive for Britain to raise credit too.

This contagion effect itself reflects the fact that Britain’s debt position is not that different from Greece. Although its key debt ratios are not as bad, and its debt has a longer maturity, Britain’s fiscal position is deteriorating fast.

Fundamentally what this reflects is that the economic crisis that hit the world in 2008 was never really resolved. Although the global economy was stabilised its structural problems were not addressed.

Essentially what happened was that the troubled debt of financial institutions was in effect nationalised. Its ownership was simply transferred to the state.

Although this transfer quelled the immediate financial panic it did not resolve the underlying problem of a weak economy. It simply moved the infection somewhere else–to the state sector–and stored up further trouble for the future.

Indeed the financial history of the past two decades can be seen as bubbles inflating as a result of western governments failing to grapple with economic weakness. In the run-up to the Asian crisis of 1997-8 there was a surge to emerging markets. This was followed by the tech bubble which burst in 2000. Then there was the housing bubble for much of this decade followed by the financial crisis of 2008. In each case speculative capital flowed from one area to another rather than being invested in the sluggish real economy.

It is time western governments stopped evading responsibility and started tackling their economic weaknesses at home.

Labels: economics, Europe, finance, Fund Strategy

This is my comment from this week’s Fund Strategy.

It is easy to become so focused on someone else’s problems that you fail to grapple with your own. That is a lesson that the West’s leaders, fixated with China, would do well to learn.

No doubt China has its faults. It is arguably keeping its currency artificially low to help bolster its exports. But western leaders are too eager to scapegoat China for their own failings. America and Britain would have a weak export sector even if their trade with China was in balance. Both Anglo-Saxon economies have suffered a long period of deindustrialisation.

Nor are the spats restricted to economics. America has got into rows with China recently over the Copenhagen climate summit, the Dalai Lama, Google, Iran and Taiwan arms sales.

These disputes are happening against a backdrop of a western debate over how best to respond China’s rise. It is the cover story of this week’s Economist and the theme of a new book by Anatole Kaletsky, an economics commentator on The Times (London).

There are two key reasons why this obsession with China is unhealthy. First, there is a danger that the conflict between the West and China will spill out of control. Given the importance of China in the world economy this risk is particularly worrying. 

China is already retaliating against punitive measures by the West. Last week it announced anti-dumping duties on American chicken imports in a response to American tariffs on Chinese steel.

But, even more important, the verbal assault on China is a distraction from the West sorting out its domestic economic problems. If the western economies are restructured the main motivation should not be to compete more effectively against China. More likely, though, the West will do little restructuring at all rather than tackle the formidable challenge of its domestic weaknesses.

Western economic debate focuses on the relatively easy questions rather than the hard ones. It is obsessed with the correct monetary and fiscal policy to help offset the immediate impact of the economic downturn. But long-term structural weaknesses get scant attention.

Last week’s Green Budget from the Institute for Fiscal Studies and Barclays Wealth gave some idea of the scale of the problem. It estimated that Britain’s trend rate of growth was only 1.75% rather than the 2.75% the Treasury assumes. Although one percentage point might not sound a lot it makes a huge difference when compounded over several years.

Western leaders should stop fretting over China and tackle their domestic weaknesses.

Labels: America, china, economics, Fund Strategy, trade

My news analysis from this week’s Fund Strategy attempts to grapple with the debate on economic policy in the run-up to Britain’s general election.

It is rare for so much fuss to be made over anything so small. Yet the announcement of a 0.1% rise in Britain’s GDP in the final quarter of 2009 got economic pundits highly excited last week.

Up to a point, the hype can be explained by the figure’s symbolic value. After six consecutive quarters of falling output the economy had finally returned to growth. For production industries, where the fall was steeper still, the relief was even greater.

But one quarter’s figures mean little. Even if the preliminary estimate is revised upwards, which many argue is likely, it says nothing about the long-term trend.

The most important economic challenge facing the next government, whichever party wins the election, is how to generate the best possible growth.

More rapid GDP growth means increasing prosperity as well as enhancing Britain’s ability to repay its burgeoning debt.

Despite the bickering there is little difference between the main parties on macroeconomic policy.

There is a broad consensus that the next government will need to make substantial spending cuts and that growth is likely to be slow over the next few years.

As Jonathan Loynes, the chief European economist at Capital Economics, concluded in a recent paper on the subject: “On fiscal policy, the gap between the two main parties is perhaps not as big as the rhetoric suggests, but an earlier and rather bigger tightening is probably still likely under the Conservatives.

“Whoever is in power, though, the next parliament will be characterised by a long and painful fiscal squeeze, accompanied by ultra-loose monetary policy.”

This narrow consensus begs the question of why there is not a bigger debate on economic policy.

In broad terms there are two ways to deal with the debt problem. The one emphasised by the main political parties is to restrict consumption so that Britain can slowly reduce its fiscal deficit. The alternative approach, to strengthen the productive side of the economy to generate more growth, receives relatively little consideration.

Some might argue that the size of Britain’s debt burden means that ¬savage spending cuts are necessary. According to a recent study by the McKinsey Global Institute, Britain’s debt-to-GDP ratio is the highest of any major economy except Japan’s - and this is even adjusting for London’s role as a global financial centre.

But the size of the debt burden alone does not explain the widespread anxiety about growth among Britain’s political elite. If anything, more rapid growth would enhance the country’s ability to rapidly reduce its debt.

In broad terms, it is possible to identify three related ways in which the nervousness about growth is expressed:

Bubblephobia
Politicians seem incredibly worried that any surge in growth will be followed by a bubble and inevitable bust. The experience of the past two years is enough to warn them of the ¬turmoil that such a course of action could bring.

That is one reason why all the main parties are concerned to restore stability to public finances and maintain the independence of the Bank of England. However, it does not follow that any rapid growth will automatically turn into a bubble.

The challenge is to promote growth which is strong and consistent rather than an artificial boom based on credit expansion.

Sense of limits
Since the 1970s a pervasive sense of limits - environmental, moral and social - has enveloped the British political establishment. It has become widely accepted that there could be damaging consequences if growth is not restrained.

So, for example, in a speech given last week, Vince Cable, the Liberal Democrats’ shadow chancellor, warned the government against being “too absorbed by growth for its own sake rather than protecting the environment and maintaining a sense of fairness and community”.

Cable’s statement was particularly peculiar in that context. It is hard to imagine many people favouring growth “for its own sake”. The benefits of growth include greater prosperity and the ability to repay debt more rapidly.

In addition, the idea of limits to growth is open to question, but an investigation of this subject is beyond the scope of this article.

Blindness to production
It is striking how little of Britain’s economic debate is about restructuring and bolstering the productive side of the economy.

Although there is some talk of entrepreneurship, innovation and even industrial policy the character and scale of what is being proposed
is limited.

Britain is suffering from a strong cultural aversion to economic growth and prosperity. Unless this is tackled it is likely that Britain’s growth record will remain muted in the years to come.

Labels: debt, economics, finance, Fund Strategy, growth

This is my comment from this week’s Fund Strategy.

A lesson that should have been learned from the economic crisis is that there are severe limits to the efficacy of rules and regulations.

Although rules have their place they cannot quell problems if the underlying troubles are sufficiently bad. Indeed over-regulation can make matters worse.

Barack Obama’s plan to add additional restrictions to the size and activities of banks shows he is either unaware of the limitations of rules or choosing to ignore them. It is hard to see how his proposed regulations could quell any financial crisis. For example, they do not cover “non-bank” financial institutions–a category which included AIG, Bear Stearns, Lehman Brothers and Merrill Lynch. Nor do they have any impact on the likelihood of bail-outs.

Fixation with regulation is not unique to America. It is easy to forget that until a couple of years ago New Labour was boasting about its two fiscal rules. These were meant to a way of stifling any return to the bad old days of boom and bust.

In the event both rules were busted. The Sustainable Investment Rule stipulated government debt should be set at a “prudent level”. This was taken to mean below 40% of GDP. Yet according to the latest pre-budget report the net debt of the public sector will be 55.6% this year and will exceed 75% for several years in a row.

No doubt the government would claim the rules needed to be breached because of the global recession, just as it explains away the return to bust. But it was the government’s fault that the economy remained so heavily dependent on financial services rather than becoming more diversified. In any case Britain’s performance in the downturn is among the worst of the developed countries.

What the breaking of the rules really shows is that Britain’s fiscal framework, supposedly so clever, had little effect. When economic troubles emerged the rules were swept aside.

A similar failure is apparent in the European Union’s stability and growth pact. Under these rules annual budget deficits were supposed to be no higher than 3% of GDP and national debt was meant to be lower than 60% of GDP. Yet many governments have breached these levels.

Rather than obsess over devising more rules and regulations it is time for governments to pursue a different approach. The sooner they start promoting economic dynamism the better able they will be to cope with any challenges ahead.

Labels: America, economics, Europe, finance, Fund Strategy

This is my comment from this week’s Fund Strategy.

Last week saw the most decisive intervention so far in the economic debate leading up to the election but it did not come from a politician.

Instead Mervyn King, the governor of the Bank of England, endorsed the need for austerity as pivotal to dealing with Britain’s plight.

Being a central banker he did not come straight to the point. By the time he had finished talking about global rebalancing and moved on to Britain his audience was probably on to after dinner drinks.



Even then he initially talked about cutting public spending as a key way of encouraging savings. It was only when he was coming to the end that his message was made clear:

“The patience of UK households is likely to be sorely tried over the next couple of years. There is little scope for growth in real take-home pay, which may remain weak even as output recovers.”

This remark was barely commented on by the main political parties—presumably because they agree with it.
In any case it seems unlikely that anyone will challenge King’s argument. Times are hard and austerity is viewed as the only solution.

Such a point is easy for King to make. As a non-elected official he is not threatened with losing his seat if his words displease the public. In that respect he can afford to be more blunt than politicians.

Sadly today’s generation of politicians are not much better than King. Although they are answerable to their electorates they lack the imagination to envisage an alternative response to the crisis.

Industrial policy—in which the state gives direction to the promotion of industrial enterprises—is out of fashion. The government has abdicated responsibility in that area as it has for many others.

Despite the talk about infrastructure relatively little is being built. Projects such as airports, roads and power stations are seen as morally suspect rather than as necessary to a country’s economic health.

Politicians have become as dull and grey as central bankers. They may bicker like children but their arguments do not extend to promoting different visions of social organisation.

What is needed is an injection of politics. Genuine debate demands a recognition that there is more than one view of how best to do things. There are other shades of colour besides grey.

Labels: economics, finance, Fund Strategy, growth

This is my comment from this week’s Fund Strategy.

The debate on public spending is proving to be one of the most degraded in economics. Each round of discussion is even worse than the previous one.

First there was denial. The main political parties even refused to discuss the possibility or desirability of making cuts. This was despite the obvious deterioration in the public finances.

Labour maintained this position longer than any of the others. It scoffed at “Tory cuts” as opposed to what it characterised as Labour investment.

After it while it became clear that Labour could no longer maintain such a ludicrous position. Then all of the parties starting to compete in a virility competition about who could talk tougher on cuts. Although they were all short on detail, they all agreed that Something Must Be Done regarding public finances. Tough choices needed to be made in a world of scarce resources.

All of this betrays a one-dimensional understanding of economics. Policy is not simply a question of whether to cut or not. Nor can it be reduced to, in effect, nice cuts versus nasty cuts.

Even in the most general terms there are more choices ahead than simply whether or not to cut.

Logically it is possible to identify at least three ways to rebuild the public finances: to make cuts, to raise taxation or to bolster economic growth.

What is most striking about the debate is how little attention is being given to strengthen economic growth. Yet if growth was stronger it would be possible to increase public spending where necessary, increase tax revenue yet not raise tax rates. If the pie was bigger there would be more to go round for everyone.

Yet instead of having an urgent public debate about how to raise economic growth the opposite is happening. The consensus seems to be that there should be slower, greener, more “sustainable” growth. But the consequence of continuing slow growth is likely to be more pain for everyone.

There should be a substantial reassessment of economic priorities. If anything needs to be cut it is the attachment to sustainability and “green growth”. Strong growth needs to be put back at the centre of economic policy.

Labels: economics, finance, Fund Strategy, growth

This is my comment from this week’s Fund Strategy.

Last week’s Comment drew attention to the growing tensions between the world’s main economic powers. Within a few days things were unravelling even faster than expected at the G20 summit in Pittsburgh.

Certainly the rhetoric was one of peace and harmony. In his address to the United Nations the American president had argued: “It is my deeply held belief that in the year 2009 – more than at any point in human history – the interests of nations and peoples are shared.” But this was the same speech in which Barack Obama called for free trade shortly after imposing tariffs on Chinese tyre imports.

The problem is, contrary to Obama’s argument, the interests of nations are becoming increasingly antagonistic.

Established powers fear losing out to rising powers and tensions are rising within the West itself.

America is desperately trying to shore up its dwindling power by building closer ties with the rising emerging nations. That is why it supports the replacement of the G8 with a permanent G20 framework.

However, if countries such as China and India are given more power it is likely that Britain and France will lose out. Both European powers are in danger of losing their permanent seats on the International Monetary Fund board if American proposals are accepted. Yet America is not prepared to give up its effective veto on the organisation’s affairs.

Then there is the tension over global imbalances. This pits America and Britain against China and Germany. America is keen that the two exporting powers bolster domestic demand to help bring the global economy closer to equilibrium. But for China and Germany exports are a key element of national wealth.

There are disagreements over financial regulation too. Notably, Britain will resist a tight system of global regulation because it could hit the City of London.

All these tensions lead to a complex pattern of rivalries. Countries may be prepared to make concessions in one area if others make compromises elsewhere. But the increasingly competitive character of the global economy makes it difficult to reach agreement.

National leaders may like to pretend that they are primarily motivated by universal human principles. But in reality they are simply expressing the particular interests of their national states.

If such tensions cannot be contained the consequences will be enormous.

Labels: finance, Fund Strategy, globalisation

Real Clear Markets has published my latest comment from Fund Strategy.

Labels: economics, finance, Fund Strategy, media appearances

The following is my comment from this week’s Fund Strategy on the intellectual crisis of economics. I also wrote a news analysis piece on the first anniversary of the financial crisis.

The economic crisis of the past year has engendered a parallel crisis of economics. Economists from Nobel laureates downwards have engaged in soul searching about their profession.

Considering their record it is not surprising. Not only did they fail to predict the crisis but the vast majority argued that a Great Moderation had set in. By this they meant that the business cycle was likely to be muted as long as central banks and governments behaved prudently.

There was, as I discussed last week, a small minority of economists who argued that a crisis was imminent. But many of them were permanent doomsters while others had the causes of the crisis wrong.

Broadly speaking there are two reactions to the crisis of economics. One is to argue that the basic ideas of conventional economics are right, but its implementation should be improved. Another is that economics needs to move in a behavioural direction. Sometimes the two arguments are combined.

Those who take the first line argue that economists should take finance more seriously. They bemoan its lack of understanding of the financial markets. Others call for a more subtle understanding of risk.

Those who take the second line appear to be more radical. They argue that economics should throw out the assumption that individuals generally behave rationally. Instead they should build models based on psychological insights about how humans behave.

Neither set of criticisms is convincing. Arguably economic discussion is too obsessed with the financial markets. The crisis has largely been understood in relation to the behaviour of financial institutions while the weakness of the real economy is ignored.

Behavioural economics has also long been a mainstream approach. It got the ultimate official endorsement in 2002 when Daniel Kahneman and Vernon Smith, two exponents of the approach, were awarded the Nobel prize.

Yet behavioural economics also has serious weaknesses. Like mainstream economics it tends to attach too much importance to the financial markets. Economic crises should not simply be understood in relation to “irrational exuberance”.

Rather than tweak conventional economics it would be better to start afresh. Many insights from classical economists, such as Adam Smith and David Ricardo, remain valid, including their emphasis on the real economy and the need for economic growth.

Among the key features of the new economics more importance should be attached to production, an understanding of the indirect relationship between finance and the economy, and a more historically specific approach. Above all, economics should be seen as a system humans can reshape rather than as a natural science.

Labels: economics, finance, Fund Strategy

This is my comment from this week’s Fund Strategy.

It is widely accepted that few economists anticipated the economic crisis of the past year. But what about the small minority who predicted imminent doom? Many are being given undue credit for their apparently accurate predictions.

It is easy to forget that until last year the mainstream view was that economics had become “boring”. By this it was meant that the fundamental problems of the market economy had been solved. Central bankers knew how to target interest rates and politicians were wedded to prudence. A Great Moderation of long term stable growth had set in. There would be no return to boom and bust.

It is now clear that the old orthodoxy was wrong. Bust has reappeared with a vengeance. Old rules about fiscal stability have been quietly discarded.

But what about the former doomsayers? There was certainly a minority of economists who long warned of the dangers of rising house prices and expanding household debt. With their reputation enhanced, many are looking to them for future predications.

However, on closer examination they were not really right in the first place. Many of them were predicting imminent doom for years. It was hardly surprising that house prices eventually fell or indeed that the economy dipped into recession.

More importantly, the reasons why they predicted a downturn were wrong. They foresaw a crisis of overconsumption. The build-up of household debt enabled consumers to spend to an unsustainable extent.

But such a view betrays a superficial understanding of the crisis. The surge in debt was itself a result of problems in the productive sphere of the economy. Interest rates were kept relatively low and public spending relatively high to offset crisis tendencies in the economy. There certainly was a boom in household debt but it was largely the unintended consequence of state action to buoy sagging economies.

A flawed diagnosis suggests incorrect solutions. The doomsayers suggest that there needs to be curbs on consumption. They ignore, or at least downplay, the need to revive the productive side of the economy.

Strangely, the doom-mongers and the optimists share a key feature: their overemphasis on the consumption side of the economy. To really understand the current crisis means grappling with the complexities of the real economy.

Labels: economics, finance, Fund Strategy

This is my comment from this week’s Fund Strategy.

Despite the changes in recent years the West has yet to fully grasp the importance of China in the world economy. Although it is seen as immensely more influential than it was a decade ago it is still not studied sufficiently closely.

The headline figures understate China’s importance. Taking GDP at current prices - the best way to compare the sizes of different economies - the American economy is almost three times the size of China. According to forecasts from the International Monetary Fund (IMF) America’s GDP will be about $14 trillion (£8 trillion) this year compared with $4.8 trillion for China.

In addition, the Chinese economy is still slightly smaller than that of Japan, with a GDP forecast to be about $5 trillion this year. Indeed it is true that the importance of Japan in the world economy is also underestimated.

However, there are at least two reasons why these figures understate China’s centrality to the global economy. First, China contributes an enormous proportion of the growth in the world economy. China looks set to grow by about 7.5% this year according to the IMF compared with 1.5% for the developing world as a whole. The output of the advanced economies is expected to fall by 3.8%.

Second, because of China’s role in the system of global economic imbalances (see last week’s Fund Strategy cover story). Contrary to the common prejudice it is Chinese production, rather than American consumption, that has been the engine of the world economy in recent years. Without China’s strong growth the global economy would have suffered an earlier and deeper economic slowdown.

China’s role has become even more important now that the world has entered recession. Chinese growth is playing an important role in the stabilisation and recovery of the world economy.

However, whether China can continue to drive forward its growth at such a rate is open to question. Many commentators argue it can but others insist that it cannot be sustained.

Whether China can maintain economic growth at a rapid rate over the coming years is a question of the utmost importance for the world economy. It is one to which Fund Strategy will return in the coming weeks.

Labels: china, economics, finance, Fund Strategy

This is my comment from this week’s Fund Strategy. I also wrote a cover story which is a guide to the debate on global economic imbalances

Rumbling beneath the surface of the current discussion on economic prospects is a debate about inflation and deflation. Some warn that inflationary pressures are likely to emerge soon, while others insist deflation will remain a key problem for the foreseeable future.

Those most concerned about inflation are generally free marketeers. They worry that the authorities are pumping vast amounts into the economy to bolster activity. Their actions include public spending, low interest rates and quantitative easing.

This huge fiscal and monetary boost is, according to critics, likely to bolster inflation within a year or two. The money supply is increasing far faster than the economy’s capacity.

Those who focus on deflation counter that such an outlook is economically illiterate. The key problem with the economy, they argue, is the enormous amount of spare capacity. At present, any stimulus is likely to have the beneficial effect of putting some of this capacity to work. Now is not the time, they say, to worry about curbing spending or raising interest rates. Such action can be taken when the economy has started to recover.

In reality, there is likely to be an unpleasant combination of inflation and deflation. Certain prices could rise sharply, while others fall in a stagnant economic environment.

The narrow focus on consumer prices obscures the fact that this is already happening to some extent. The recovery of equity prices in recent months can be seen as a form of inflation. Only rising equity prices are rarely condemned because investors are generally happy to see good returns on their investment.

In any case, the focus on prices is a narrow way to look at the economy. Changes to the price level are the result of more fundamental economic factors.

For instance, falling prices can be a sign of economic strength or weakness. If they reflect higher productivity through investment in new machinery they are welcome. The falling costs of computer processing power is a welcome development, rather than a problem. In contrast, if prices fall because an economy is stagnant that suggests something is wrong. The context is all important in assessing the significance of changing prices.

From this perspective, the overwhelming focus on inflation in contemporary economics is misplaced. The importance the Bank of England attaches to its quarterly Inflation Report is just one example of this narrow outlook. In America, the Federal Reserve attaches a similar exaggerated importance to monitoring inflation.

There are far more fundamental economic questions than whether consumer prices look likely to rise or fall.

Labels: economics, finance, Fund Strategy, globalisation

This is my comment from this week’s Fund Strategy.

The optimism about economic recovery in the middle of last week was misplaced. Those who proclaimed that an upturn was underway based on a few short-range indicators had it wrong.

Admittedly, by the end of the week pessimism had set in again. But in many respects the pessimists made the same mistakes as the optimists. Both sides tend to be superficial and short-termist. A different approach is needed to grasp the state of the economy.

The first mistake is to extrapolate from limited data. This could be a short-term indicator such as house price changes or vehicle sales over one month. Or it could mean generalising about the state of the economy on the basis of the performance of a few companies.

Both versions of this error were on display last week. Markets and the media reacted on cue to information on rising house prices and better than expected performance from some of the big banks.

However, later in the week there was an equally negative reaction to the worse than expected results from the Royal Bank of Scotland. It was similarly unjustified to extrapolate from the poor results of this company, despite its large size, to the state of the economy as a whole.

The second mistake is to fail to acknowledge sufficiently that the huge stimulus to the economy is likely to have some effect. A combination of high state spending, low interest rates and quantitative easing has inevitably boosted the economy. The question is more about the likely resilience of any recovery given that the economy is currently benefiting from an artificial boost.

The final error is to confuse a cyclical recovery with the underlying structural weaknesses of the economy. Britain is suffering not only from a recession but from a long-term relative economic decline.

Capital investment in the British economy is ­relatively low. It is not much more than is needed to make up for wear and tear. Therefore the basis for long-term growth is weak.

If Britain is ever going to return to strong long-term economic growth it must first acknowledge its present weaknesses. Short-term delusions stand in the way of this task. Ultimately the key problem ­facing the British economy is not recession but long term structural weakness.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in today’s issue of Fund Strategy:

There are broadly two ways to interpret the rising stockmarkets since March. The first is to see them as a sign of recovery, the second is to view them as the reinflation of an asset bubble.

Last week's American GDP figures gave added impetus to the first explanation. According to provisional figures GDP fell at an annual rate of 1.0% in the second quarter. This may not sound good in the abstract but it compares favourably with the 6.4% decline in the previous quarter.

Britain's GDP figures are becoming similarly less bad. GDP fell at 0.8% in the second quarter compared with 2.4% in the first quarter.

These figures come on top of better than expected corporate profits in many areas. Many companies seem to be benefiting, at least in the short term, from cutting wages and reducing investment.

All of this lends weight to the view that the stockmarket rises are in anticipation of economic recovery. Equity markets, in this view, are a leading indicator of economic performance.

But there are good reasons to question this rosy scenario. State authorities around the world have pumped huge amounts of liquidity into the global economy. Liquidity has been added both through increased state spending and monetary policy.

The fiscal boost has clearly had a beneficial short-term impact. If anything, the combined impact of low interest rates and quantitative easing is even greater.

This suggests that the authorities could have ¬created another bubble as a consequence of their actions to deal with the bursting of the previous ¬bubble. They have eased economic problems in the short term only to exacerbate them in the longer term.

In effect, their actions have created inflation. But rather than being inflation of consumer prices it is inflation of asset prices, including equities.

There will most likely be some kind of cyclical recovery from the desperate economic lows of late 2008 and early 2009. However, as long as underlying economic weaknesses remain, the world economy will be prone to bubble tendencies.

The most striking expression of this underlying weakness is the secular decline in the rate of profit in the West. This is apparent from the falling level of capital investment in the West as a proportion of GDP.

According to a recent study by CrossBorder Capital, a research firm, capital investment in the West is only about 20%, compared with about 40% in Asia. However, once wear and tear is taken into account, the real level of capital investment is lower still in the West compared with Asia.

This trend will be examined in more detail in a cover story in a couple of weeks’ time.

Labels: economics, finance, Fund Strategy, globalisation

This comment from the latest Fund Strategy is fairly technical with its focus on different types of investment funds. However, it does try to bring out the anti-modern character of green thinking.

There is a widespread misconception that mainstream investment funds are not ethical. A better way of looking at the question is to examine what kind of ethics they represent.

The main criterion for mainstream funds is to maximise the returns for the investor within a given mandate. In that sense it can be said they follow the ethic of the marketplace: that the pursuit of profit is a desirable goal.
Philosophically, many would argue that such a goal is desirable from both an economic and ethical perspective.

They would claim that society’s collective welfare is maximised when individuals pursue their own self interest. In addition, they would often contend that the pursuit of self interest is the approach generally most conducive to individual freedom.

But that begs the question: what exactly are “ethical” funds? They are not distinguished simply by being ethical. The question is once again what type of ethics they represent.

A better way to describe ethical funds would be to call them self-limiting funds. That is they embody the idea that there are social and environmental limits to human action. The same applies to other tags such as green or socially responsible investment.

For example, the notion of green technology does not simply suggest it is clean in some way. It means it embodies the notion that humans live in some kind of balance with nature. Therefore green technology is usually conceived of as small scale, labour intensive and local. Technology implemented on a massive scale, even if it is wind power or solar energy, tends to be frowned on by environmentalists.

This is in contrast to the view, from Francis Bacon (1561-1626) onwards, that a desirable goal for humanity is to dominate nature. The natural world should be reshaped and moulded to make it a better place for humans to live in. It is this view that underpins the enormous scientific, technological and social progress made in the modern period.

From that perspective, green thinking, including the ethical funds it endorses, represents a reaction against modernity. It embodies a reactionary harking back to a romanticised golden age.

Ethical funds epitomise profoundly low expectations about the potential of humanity. It is hard to conceive of a more dismal ethical outlook.

Labels: ethics, finance, Fund Strategy

The following review by me appeared in the latest Fund Strategy (20 July).

Apart from its branding, Neal Lawson’s All Consuming is virtually indistinguishable from the plethora of books attacking consumerism. It also embodies a similar elitist disdain for the masses.

Anyone wanting to buy a book attacking consumerism is faced with an embarrassing range of choices. There are so many different tracts, using so many different terms, saying more or less the same thing. The differences between competing brands of soap powder are more significant.

Terms used by anti-consumerists to attack consumerism include consumer addiction, compulsive acquisition disorder, enoughism, luxury fever, oniomania, shopaholism and stiffitis. Neal Lawson, the author of All Consuming and chair of a “democratic left” pressure group, prefers turbo-consumerism.

Lawson’s arguments are as well worn as a stone-washed pair of Levi’s jeans. He goes into excruciating detail about how the plethora of consumer goods is ruining our lives. In Lawson’s view, Britain has long passed the era of scarcity.

He says we live in an era of superabundance in which greater choice only makes us miserable. We are more concerned with symbols and brands as a mark of our status than meeting our basic needs.

Similar arguments have been made, with considerably more finesse, by earlier authors. The notion of conspicuous consumption can be dated back to Thorstein Veblen’s The Theory of the Leisure Class, first published in 1899. Over half a century ago John Kenneth Galbraith wrote The Affluent Society, in which he argued America was suffering from the problems of post-scarcity. No Logo, a radical critique of brands by Naomi Klein, was published in 2000.

To the extent there is any originality in Lawson’s work it is to blame the rise of turbo-consumerism on what he calls “free market fundamentalism”. From this perspective a group of rabid free marketeers, led by Ludwig von Mises and Friedrich Hayek, led an intellectual revolution which ultimately led to an obsession with consumption. In Britain it was Margaret Thatcher, the Conservative prime minister from 1979 to 1990, who put the ideas into practice.

But free market fundamentalism is a zombie category. It exists in the minds of its users rather than in reality.


Lawson may not have noticed – he does not mention it in his book – but a New Labour government came into office in Britain in 1997. It is something he should be aware of; particularly as he was once an adviser to Gordon Brown and is still a member of the Labour Party. No doubt, despite any reservations he has, he will still campaign for Labour at the next election.

It is also hard to square the idea of free market fundamentalism with the massive role of the state in the British economy. The most striking indicator of this is that state spending in Britain is equivalent to about 45% of gross domestic product. This is a huge distance away from the minimal role of the state favoured by the likes of von Mises and Hayek.

The solutions Lawson proposes for the supposed problem of consumerism push him back into well-worn territory. They include restrictions on advertising, taxing luxury goods, rationing, promoting ethical consumption and making happiness a government priority. Like many environmentalists, Lawson looks back to the last world war for inspiration:

“During the second world war we gave up some freedoms, in particular the freedom to consume, to enjoy others deemed more important. We accepted rationing, blackouts and the evacuation of children because of a greater threat.”

As with the rest of the book, his memory of the war is highly one-sided. He could have added carpet bombing of civilian areas, extermination camps, the dropping of atomic bombs and tens of millions killed.

No doubt Lawson would recoil if confronted with information about the mass carnage of the second world war. But the physical brutality was closely related to the rationing and forced restrictions in consumption he advocates.

One word Lawson shies away from using is "austerity". In this he differs from David Cameron and Nick Clegg who openly argue that Britain needs a new age of austerity. In contrast, Lawson, like his former boss Gordon Brown, avoids using the A-word. Instead he prefers to indulge in platitudes such as “less is more”.

Ultimately, All Consuming is an elitist tract. The scorn with which it regards those who market different brands of trainers or televisions can easily be applied to the ­consumers themselves. They are presented as gullible individuals who are easily manipulated by powerful corporations. That is why restrictions on advertising are seen as necessary: to ­protect victim consumers from abusive companies.

Ironically, even the most fashion-conscious teen­ager is less obsessed with ­con­sumption than the anti­consumerists. The learned professors, journalists and political lobbyists who study in detail the choices available to the public are a sorry sight.

Of course such self-appointed experts are not opposed to all forms of consumption. Although they despise the purchase of luxury items by the masses they are happy to indulge what they see as their own refined tastes. Indeed, the notion of ethical consumption is essentially a way of ­validating the shopping of the elite while deriding the masses at the same time.

From the elite’s perspective, consumption becomes what James Heartfield, a social commentator, calls status affirmation. The purchase of what are deemed to be ethically acceptable products is seen as marking individuals out from the rabble. So anyone who likes, say, ordinary chocolate ­biscuits is sneered at as a gullible consumer while those who eat overpriced organic Duchy Originals are viewed as cultured individuals.

Under the ethical tag lurks a new form of snobbery. Only the attack on consumerism is supposedly for the benefit of society as a whole.

All Consuming is a junk book in what is a largely trashy anti-consumerist genre. It is virtually devoid of serious ­intellectual content. If it was a food it would be nowhere near good enough to be served in the likes of McDonald’s or Burger King

Labels: book, consumption, ethics, Fund Strategy, review

The following comment by me appeared in the latest Fund Strategy (20 July).

The current Economist asks an important question: what went wrong with economics? Unfortunately, it comes up with superficial answers.

The magazine identifies three common criticisms of economics. That it helped cause the crisis, that it failed to spot it and that it has no idea how to fix it.

No doubt, these are widely made attacks on economics. But they do not get to the nub of what is wrong with the discipline. For example, in relation to the first one, the Economist says it is “half right”. Economists placed too much emphasis on targeting inflation and too little on asset bubbles.

But this view is far too flattering on the importance of economists, while grossly underestimating the underlying causes of the crisis. No doubt, asset bubbles were inflated in the run-up to the current crisis. But these were a symptom of atrophy in the real economy, rather than the result of policy errors or human greed.

Asset bubbles were inflated largely as a result of state action to offset the effects of a sagging economy. Interest rates were kept low and state spending high in an attempt to maintain economic momentum.

The inability to recognise this relationship reveals the first key weakness of contemporary economics. Its one-sided emphasis on consumption. The production side of the economy is relegated to a subsidiary role. As a result, key measures of economic health get little attention. Profit rates and labour productivity warrant barely a mention in much economic discussion. Instead the emphasis is on such things as share prices, official interest rates and inflation.

This fixation with consumption is related to another weakness of economics. The emphasis on stability, rather than growth.

Such a focus was apparent in the report on the British economy published by the International Monetary Fund (IMF) last week. A related statement said the IMF’s directors: “emphasised the importance of following credible and consistent policies to maintain domestic and external stability, limit downside risks and strengthen market confidence. Resolving the problems in the financial sector and setting monetary and fiscal policies consistent with a firm commitment to price stability and fiscal sustainability are the main policy priorities.”

Such an overwhelming emphasis on stability is central to economic orthodoxy. In Britain, Gordon Brown is one of its leading proponents. Yet it makes little sense. What brings wealth and prosperity is economic growth, rather than stability.

From this perspective, economic disruption can be positive. If it involves a restructuring, which leads to a more dynamic economy, it should be welcomed. Yet attachment to stability, rather than growth is another of the blind spots of contemporary economics.

Labels: economics, finance, Fund Strategy, growth

The following comment by me appeared in the latest Fund Strategy (13 July).

The government’s white paper on financial regulation is a dangerous distraction from the real challenges facing the economy. It is more an exercise in scapegoating bankers than getting to grips with Britain’s economic problems.

Nearly one year since the collapse of Lehman Brothers the government is persisting with the line that bankers were the main culprits in causing the ­crisis. Such an argument is convenient for politicians of all stripes, since it helps absolve them of responsibility, but it is far removed from reality.
Banks may have benefited from the financial game played until last year but the state authorities set the rules. In a desperate attempt to maintain economic momentum the authorities kept interest rates artificially low and therefore encouraged the consumer boom. New Labour also constantly lauded the City of London because it was desperate for the financial revenue the financial centre provided.

But the underlying problem was economic atrophy. Weak sectors of the economy were buoyed by state spending while new sectors were not encouraged. The virtues of growth were constantly called into question with the attachment to dogmas such as green initiatives and sustainability. What such concepts really meant, despite the confusing rhetoric, was that limits should be placed on economic growth.

This weak dynamic towards genuine growth was the true cause of the crisis. To the extent that there was growth, it was based on a consumer boom rather than real organic development.

The measures proposed in the white paper do nothing to tackle this problem. For instance, setting up a tripartite financial stability committee of representatives from the Bank of England, Financial Services Authority and Treasury cannot remedy the fundamental problem. Economic weakness cannot be resolved by slightly rejigging state institutions.

Indeed, the government is failing to recognise the gravity of the economic challenge. Recent figures show that Britain is facing its sharpest economic contraction in half a century, yet the government is still preoccupied with stabilising the banking system.

Eventually a recovery will come, but it is likely to be anaemic. The government must stop hissing at bankers and start tackling the urgent problem of ­economic restructuring.

Labels: economics, finance, Fund Strategy, growth

The following comment by me appeared in the latest Fund Strategy (6 July).

Last week saw the publication of some of the scariest numbers so far in this recession. Britain suffered its worst quarterly fall in GDP since 1958: a year when Harold Macmillan was prime minister and the Soviet Union was launching Sputnik satellites into space. The 2.4% fall in the first quarter of 2009 was equivalent to about 10% at an annual rate.

In America the unemployment rate hit its highest level since 1983: when the American embassy in Beirut was bombed and Michael Jackson first performed the “Moonwalk”. Paul Krugman, a Nobel prize-winning economist, has estimated America has lost 6.5m jobs since the start of this recession.

To make matters worse Arnold Schwarzenegger, the governor of the state of California, declared a state of fiscal emergency in his state. The fiscal plight of the American states adds to the ballooning of federal debt discussed in this week’s cover story.

Under such circumstances it is not surprising that Stuart Thomson, the economist at Ignis, talks of a “WWW recovery”. He is not referring to the internet but to the pattern of apparent recovery followed by a decline back into the mire.

After nine months of severe pain it should be apparent to all that the recovery, when it comes, will not be easy. The economies of the developed world are in a dire state.

With the benefit of hindsight it would have been better to take some pain in the short term, rather than the sustained torture by a thousand cuts. For example, letting some large banks and auto makers go under would no doubt have been unpleasant. But if the destruction of old business helped pave the way for the generation of new ones, the longer-term effect could be beneficial.

Of course, it makes sense to minimise the extent of human suffering. Those who lose their jobs should, as far as possible, get help in finding work in new or expanding economic sectors.

In any case, the current recession is hardly painless. As Greg Mankiw, a professor of economics at Harvard, points out in his blog the level of American unemployment now is much higher than the Obama administration forecasted in January. This is despite its huge stimulus plan.
Better to take misery in the short run than face a protracted period of unpleasantness.

Labels: debt, economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (29 June).

Last week’s World Bank forecast on the global economy was enough to bring misery to anyone looking for “green shoots”.

The international financial organisation is expecting a 2.9% fall in global output this year. That is appalling. It is rare for global output growth to dip below zero.

Usually, a recession in one area is offset by stronger growth elsewhere. A nearly 3% fall on a global scale means misery for billions.

The detailed figures are as bad as the headline ones. Global trade looks set to fall by 10%, while private capital flows will plummet.

An Economic Outlook published by the Organisation for Economic Co-operation and Development was almost as downbeat with a forecast of 2.2% growth this year. However, it is slightly more optimistic about the prospects for global recovery.

Several lessons can be drawn from these figures. Most obviously, economic recovery is still a long way off. Although some indicators have improved, it is only to be expected given the massive scale of financial and monetary stimulus. Overall, the world economy remains in a dire state.

It also raises awkward questions about the likely nature of the recovery. Although a recovery of sorts will come, it looks set to be anaemic. But most importantly, it raises the need for economic restructuring. The world’s economic authorities have generally been fairly successful if measured by the relatively narrow goal of maintaining stability. The financial system has not collapsed, despite teetering on the edge at points. But restructuring the economy to allow for dynamic growth is another matter.

A cultural shift in the way economics is viewed is necessary for restructuring to be successful. It means ditching the dogma of environmentalism and “sustainability”. Such ideas are essentially about placing limits on economic growth. Yet what is needed is the exact opposite: unleashing growth so it can achieve its full creative power.

It is also necessary to let weak businesses go under. Rather than maintain clapped-out companies for the sake of stability, the emphasis should be on encouraging new, more dynamic sectors of the economy.

Strong economic growth is enormously beneficial to the whole of society. But achieving it means being prepared to encourage a fundamental cultural and economic shift.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (15 June).

Oh no it isn’t! Oh yes it is!

The debate about whether the world is recovering from recession is getting mightily confusing. Economic discussion has been largely reduced to pantomime.

Last week pundits latched on to several indicators that appeared to show Britain and America are recovering from the economic downturn. Work by the National Institute of Economic and Social Research, a leading think tank, suggested the British economy grew slightly in April and May. In addition, judging by the latest month’s figures, business confidence is rising, factory output is increasing and house prices are up. On the other side of the Atlantic the Federal Reserve’s Beige Book suggested America’s downturn is moderating, while retail sales rose in May.

But hold on. There is also a lot of bad news out there. Many big exporting countries have reported bad monthly trade figures, including China, Germany, South Korea and Taiwan. Meanwhile, industrial production in the eurozone suffered a record fall in April while the European Central Bank (ECB) has forecast that the region will remain in deep recession till mid-2010. The ECB also had to lend €3 billion (£2.6 billion) to the Swedish central bank to help deal with the fall-out from the crisis in Latvia. In addition, several more countries have recently entered recession, including Brazil, Romania and Switzerland.

Nor is the divide between the Anglo-Saxon economies and the rest. Lombard Street Research argued that the jump in retail sales was mainly to do with the increase in petrol prices rather than economic recovery.

What does all this conflicting data show? For a start, reality is complex. Understanding it means more than looking at a few sets of data.

More importantly, far too much attention is paid to short-term indicators. Even when recovery comes, it is likely to be anaemic.

At some point the world will escape from technical recession. Growth will be restored in strict mathematical terms, but looks set to be weak. The economic growth dynamic in the developed world is generally feeble and there is also a large debt overhang.

The key challenge facing the world economy over the coming years is how to achieve a path of strong growth. Far better to discuss this problem than have a pantomime discussion on “green shoots”.

Labels: economics, finance, Fund Strategy, growth

Real Clear Markets has published my latest comment from Fund Strategy.

Labels: economics, finance, Fund Strategy, media appearances

The following comment by me appeared in the latest Fund Strategy (8 June).

A rift is growing between Germany, on one side, and America and Britain on the other, in relation to economic policy

The latest spat followed comments by Angela Merkel, Germany’s chancellor, on quantitative easing. She reportedly broke an unwritten rule by criticising central banks – including the Bank of England, European Central Bank and the Federal Reserve – for their loose monetary stance.

Her comments precipitated howls of protest from America and Britain. Ben Bernanke, the Fed chairman, reportedly said: “I respectfully disagree with her views.” Coming from a central banker, a species which generally communicates with guarded language and the raising of an eyebrow, this was strong stuff.

Perhaps the harshest comment came from Charles Dumas, a director of Lombard Street Research: “Merkel and the German elite are divorced from the realities of the global economy, as well as flouting received economic wisdom from Keynes to Friedman.”

The Financial Times was not as blunt, but also critical. It suggested Merkel’s comments were motivated by short-term political considerations: “With a general election looming in September, German politicians have competed to sound more hair-shirted than one another, frantically attacking foreign profligacy as a means of depicting themselves as inflationary hawks”. However, The Wall Street Journal went against the trend, praising her anti-inflationary language, with a leader wryly headlined “Merkel for the Fed”.

For an outside observer it is possible to see both
sides of the argument. Germany’s main concern is the
threat of inflation and the re-emergence of asset
bubbles. America and Britain, in contrast, are more
worried about the risk of a deflationary spiral. Each
set of arguments broadly reflects the particular economic
interests of those parties involved.

The row reflects longer-running tensions between Germany – often together with France – and the Anglo-Saxon world. From a German perspective it was financial excess in America and Britain that largely caused the economic crisis. Germany also sees itself as often having to take unilateral action to sort out the mess others have created. Germany’s role in the bail-out of Opel from General Motors is a prime example.

In a sense it does not matter which side, if any, is
right. The opening of an overt rift between such big
players is a serious matter.

Labels: America, economics, Fund Strategy, Germany

The following comment by me appeared in the latest Fund Strategy (1 June). It is more technical than most of my articles but is an important component of the discussion on the global economy.

Last week saw a hiccup in the US Treasuries market. Whether the hiccup will turn into a fit remains to be seen.

Yields on 10-year Treasuries jumped on Wednesday. Their current rate is not particularly high, but it could be a sign of a rising trend. Given that the American government bond market is the benchmark for global bonds, it is an important development to watch.

Brad Setser, a fellow at the Council on Foreign Relations in New York, argues that the surge was a result of a combination of rising supply alongside falling demand from private investors. There is also concern about the rising level of public debt in America.

There is even talk of the return of the “bond vigilantes”. These are investors who demand a higher return on US Treasuries in return for the risk of investing in an asset class vulnerable to inflation. Their actions have previously played a role in encouraging governments to keep credit growth in check.

To understand the significance of these fears it is necessary to examine the chain of factors through which problems become manifest.

The immediate concern is inflation. Bond investors clearly dislike it because it erodes the real value of their assets. That is why they demand a higher compensation to invest in bonds in inflationary times.

But the factor most directly stoking up inflation is the rising supply of credit. High public spending in particular is seen as embodying the risk. In the short term, public spending was seen as necessary to stabilise the financial system and the economy. In the longer term, it could bring about strong inflationary pressures.

Unfortunately, this is often where the discussion stops. Conservatives demand sharper curbs on ­public spending while Keynesians tend to be more sanguine about it.

What is missed is that the massive level of state intervention in the economy is itself the result of an underlying economic weakness. The stronger the dynamic to economic growth, the less need there is for debt artificially to prop up activity.

Growth based on credit expansion is highly vulnerable. It risks a financial shock, such as that of recent months, or high inflation to readjust to economic reality. What is needed is real growth based on genuine innovation. Such growth should provide the basis for a solidly based recovery that is less prone to financial instability.

Surging inflation and bond vigilantism should be seen as symptoms of a weak economy rather than problems in themselves. Dealing with them on a financial level, rather than in relation to the real economy, will not resolve the key weaknesses.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (25 May).

Last week’s news about the potential downgrade of Britain’s sovereign debt was not a surprise but it should come as a warning. Stabilising the economy is not the same as putting it on a path to strong growth.

Much of the media seemed taken aback when Standard & Poor’s lowered its medium-term outlook for Britain’s triple-A rating to “negative”. But those in the know had been discussing Britain’s deteriorating fiscal position for a while. Fund Strategy ran a news analysis on the topic in its May 4 issue.

Britain is clearly suffering a fiscal squeeze. Although public spending is being curbed, the ­revenue from tax receipts is falling substantially.

However, it would be wrong to see the deterior­ating public finances as at root a fiscal problem. It is itself an expression of the failure to generate consistently vibrant economic growth.

To step back a minute, it is possible to identify two key and related developments in the economy in recent months. First, the state managed to stabilise the banking system, and consequently the economy, by pumping in huge amounts of liquidity. Second, as a result of this intervention there was, in effect, a massive transfer of debt from the private to the ­public sector.

But although state intervention solved the immediate problem it did so at the cost of creating new weaknesses. The cost of bailing out private financial institutions was bringing into being a more highly indebted state sector.
At best, the government intervention bought time. It saved the financial sector from catastrophic failure. But unless the time bought is put to good use there are likely to be further days of reckoning in the future.

The key task is to put the economy on a path of strong economic growth. Such economic expansion would bolster tax receipts and therefore improve the state’s fiscal position.
 But this goal can only be achieved if there is a ­radical economic restructuring. Resources have to be redirected to economic sectors where it is ­possible to bolster output significantly. The quality of Britain’s infrastructure, including roads and ­communications, also needs to be improved ­considerably.

The necessary restructuring can only occur if there is a transformation in the mindset of the political class. Out must go concepts such as sustainability and going “green”. The emphasis should be on dynamism and growth rather than stability.

Unfortunately the necessary mentality is alien to that of Gordon Brown and New Labour. It is the party that did not bring boom while conspicuously failing to avoid bust. The sooner it is ejected from office the better

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (18 May).

A fundamental problem with economic discussion is its naturalism. It wrongly assumes that the human world works in a similar way to the natural one.

This error is apparent in the discussion of ­pending economic recovery or, to use the awful phrase, “green shoots”. It assumes that the economic cycle moves like that of a pendulum. All that needs to be done is track the path of the pendulum and it is possible to work out where the economy will move next.

Therefore, a slowdown in the rate of decline of GDP is seen to signal that a start to the upward section of the cycle is imminent.

But in the real world the economy does not follow the simple harmonic pattern of a moving pendulum. Economic cycles can be short or drawn out. Declines can be moderate or severe. Numerous factors can influence the way in which the economy develops.

In recent years the economic cycle seems to have become more muted. This is what was meant by phrases such as “the great moderation”, as used by Ben Bernanke, the chairman of America’s Federal Reserve.

Although such talk has gone out of fashion with the global downturn, it still has some merit. It looks as though the underlying rate of growth of the developed economies has been slow in recent years and is likely to remain so in the future.

With the benefit of hindsight, it is clear that a huge surge of credit artificially bolstered economic growth rates in the years running up to the crisis. The underlying rate of growth was much slower than the headline figures suggested.

Similarly, the future rate of growth in America and Britain is also likely to remain slow. From this perspective the financial crisis can be seen as a mechanism for bringing the underlying rate of growth and the headline rate closer to together. Once the credit bubble burst, the weakness of the real economy was brutally exposed.

It is not that America and Britain are inevitably destined to suffer low growth for ever more. But until they tackle their problems of a chronic lack of innovation and investment they are likely to remain caught in the atrophy trap.

Despite the hype about America’s “new economy” in the 1990s, these problems remain a long-term weakness that needs to be addressed. In Britain the problem is even more severe.

Short-run sets of data reveal little about the character of the economy. Many factors need to be taken into account to work out its likely trajectory – including the impact of human intervention. But it is the long-term trends that are important to identify, rather than small variations in data that is inevitably imprecise or ephemeral.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (11 May).

The Treasury’s report on the future of British-based international financial services contains a strong dose of ­wishful thinking. Its authors seem to find it hard to grapple with the significance of developments over the past few months; let alone decades.

Its authors hope to ensure the City will maintain its leading position as a global financial centre over the next 10-15 years. But the world has changed more than they realise and is likely to change further still in the coming years.

To understand why the City is likely to lose out in relative terms it is necessary to recognise the importance of two related global imbalances.

First, the imbalance between economic and political power. The world has changed substantially since institutions such as the International Monetary Fund and World Bank were founded in the mid-20th century. Asia has become enormously more important in economic terms, while Europe and America have suffered a relative decline. Yet the ­rising power of Asia is not yet reflected in international institutions.

Second, there is a massive imbalance between production and consumption. An increasing proportion of production is carried out in Asia, while the West has retreated from production. Britain is in line with other western countries in the shrinking importance of production in its economic output.

However, in Britain the retreat from production is particularly advanced. That is why the economy became so dependent on the City as an international financial centre. It was in effect taking a cut of the value produced elsewhere in the world rather than generating much value domestically.

The global financial crisis has therefore left Britain highly vulnerable. Sophisticated financial transactions, in which the City specialised, are viewed with considerable suspicion. It is hard to see the institutions that specialised in such activity making a quick recovery. It is also likely that Asian countries will develop their own financial expertise and often prefer to do business within their region.

Particularly telling is the report’s claim that Britain’s dependence on finance “is signficantly less than other modern service economies such as Singapore and Hong Kong”. The Treasury may not realise it but Hong Kong is part of China – rapidly becoming the workshop of the world and with 1.3 billion people. Singapore is a small island with a population of less than 5m and is a regional financial centre within an increasingly Asian-integrated economy. Britain has a population of 60m supported by a troubled City and a declining industrial base.

Britain’s elite seems scared to face up to the realities of the new century.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (4 May).

As time goes by, more sophisticated explanations for the economic crisis emerge. Working out which is correct is crucial to finding solutions. Clearly there are many elements involved in any comprehensive explanation of the downturn. But it is necessary to distinguish between those that are central to explaining the crisis and those that are contingent.

Will Hutton gave the most straightforward explanation for the crisis in his recent Channel 4 Dispatches documentary. For Hutton, as for many others, it was the fault of greedy bankers.

This argument at least has the virtue of simplicity. Dispatches featured many financial types confessing their responsibility, or at least that of their institutions, for the crisis. Not so much out of the horse’s mouth but, at least in Hutton’s view, the devil’s mouth.

But just because many people perceive something to be the case it does not make it true. From a common sense perspective it appears that the Earth is the ­centre of the universe and the sun revolves around it. Yet as far back as the 16th century scientists realised the sun is the centre of the solar system.

Just as with natural science, it is necessary for social science to go beyond superficial appearances. For example, it may appear to observers and even participants that aggressive risk-taking characterised the financial markets.

But the reality is much more paradoxical than such impressions suggest. Complex financial instruments developed in response to a demand to manage risk rather than to take big risks. Mortgage-backed securities, for instance, had the advantage of taking risk off the balance sheet of mortgage lenders. Yet the desire to manage risk simply meant that it reappeared in a new form.

The overproduction explanation for the crisis favoured by Michael Howell, the managing director of CrossBorderCapital, has more merit. He argues that there is a mismatch between the sharp rise in production – particularly from Asian producers – and the much slower increase in consumption. Therefore Howell characterises the downturn as one of overproduction while others have referred to its obverse, underconsumption.

The problem with this is that underconsumption itself has to be explained. It is not sufficient to describe it as a natural phenomenon, with production growing inherently faster than consumption. If people had the resources to consume more they no doubt would. The problem is identifying what it is about the market mechanism that creates this imbalance.

It appears there is a long-term trend towards falling profitability, particularly in the developed nations. This should not be taken to mean that the West is ­facing imminent collapse. But it does mean there is a constant drive for the market to try to find ways of overcoming its tendency towards breakdown.

Labels: economics, film, Fund Strategy, television

Real Clear Markets has published my latest comment from Fund Strategy.

Labels: Fund Strategy, media appearances

The following comment by me appeared in the latest Fund Strategy (27 April).

The British government is presenting the origins of the economic crisis as purely external. It is depicted as an external shock on what would otherwise be a healthy economy. Such a portrayal conveniently absolves New Labour of any responsibility for the considerable pain Britain is about to experience.

Even the raw GDP growth forecasts from the International Monetary Fund (IMF) do not suggest the world is suffering as uniformly as implied by New Labour. For example, developing countries look set to continue to grow this year, if at a lower rate than before, while advanced economies shrink.

China’s output is expected to rise by 6.5% this year and 7.5% next year compared with corresponding falls of 4.1% and 0.4% for Britain. Naturally, the Chinese economy is different from Britain, but the discrepancy goes against the British government’s implication that everyone is suffering equally.

Britain’s performance is also below the average for the advanced economies. Despite America’s position as the epicentre of the global crisis, it is expected to perform less badly than Britain.

But such raw figures only tell part of the story. It should not be forgotten that only last year Britain was widely seen as a model economy. New Labour in turn claimed credit for the apparent end of “boom and bust” and allowing the City to thrive. Yet, since then, Britain’s position has probably deteriorated faster than any other large developed country.

It should be abundantly clear, with the benefit of hindsight, that the British economy was too reliant on the City of London. What seemed like a boon at the time was, in reality, a symptom of Britain’s underlying weakness. The government failed to sufficiently diversify the economy away from reliance on international financial business. As a result, it suffered a disproportionate blow with the onset of the global crisis.

In addition, the manufacturing sector is likely to prove too small and weak to take full advantage of a global recovery when it comes. All the talk of a green economy and green innovation seems to betray a lack of ideas about how to revive Britain’s manufacturing.

The rapid deterioration of Britain’s public finance is another striking indication of the economy’s weakness. New Labour’s once hallowed fiscal rules are conveniently forgotten. The government may argue, with some justification, that the current crisis demands fiscal flexibility. But that simply begs the question of why it promoted such rigid rules in the first place, or its presentation of them as universal truths.

New Labour has been in government for almost 12 years. During that time Gordon Brown was chancellor for a decade and prime minister for the remaining two years. To claim they bear no responsibility for Britain’s economic downturn stretches credulity beyond its breaking point.

Labels: economics, finance, Fund Strategy, globalisation

The following comment by me appeared in the latest Fund Strategy (20 April).

The two chapters of the International Monetary Fund’s twice-yearly World Economic Outlook (WEO), published last week, provide interesting pointers to the character of the current downturn. They also exemplify the limitations of contemporary economics.

One chapter looks at the likely strength of the recovery while the other examines the spread of the crisis from developed to emerging economies via financial linkages. Both are based on divining patterns from numerous sets of historical data.

The first chapter shows that recessions associated with financial crises tend to be severe. Globally synchronised downturns, such as the present one, tend to last longer and are typically followed by weaker recoveries.

The other published chapter shows that financial linkages are a key channel of transmission through which economic downturns in advanced economies hit the developing world. Typically, capital flows to the developing world fall for a protracted period during such recessions.

However, there is a fundamental problem with the approach pursued in the WEO. Correlation does not prove causation. Just because two things tend to happen at the same time it does not prove that one causes the other. Although this principle is central to courses on statistics, it tends to be forgotten in the real world of economics.

Take a simple example. Most people with blonde hair probably have blue eyes. But this does not mean that being blonde causes people to have blue eyes. To prove there is a relationship, it would be necessary to do studies on the genetic level.

Confusing correlation and causation can easily lead to incorrect conclusions. For example, British children of families of Bangladeshi or Pakistani origin tend to do relatively poorly at school.

It would be easy, although wrong, to conclude that being Bangladeshi or Pakistani explained poor educational attainment. In fact, the explanation probably lies more in class. Bangladeshi and Pakistani migrants to Britain tend to come from poor rural areas. Migrants from India, in contrast, tend to be more middle class and do better at school.

Such confusions abound in economics and many other areas. Correlations are frequently, and often wrongly, assumed to suggest causal relationships.

The obsession with statistics in contemporary economics suggests a fear of rationality. Rather than logically examining relationships between different developments, many economists seem intent on using ever more muscular statistical tests.

Statistics are useful but they should only be the starting point of economic analysis. To go further demands the application of reason to unpick the true character of economic relationships.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (13 April).

Purgatory in Catholic theology is a condition of temporary punishment for those not entirely free of sin before they enter heaven. The concept could be worth adapting to help understand the response to the economic crisis.

On both sides of the Atlantic there is a market reluctance to let troubled businesses go under. Many financial institutions and car companies have received huge amounts of state largesse as a result.

There are two main reasons given for such bail-outs. The most important, particularly in relation to banks, is that allowing them to fail would have devastating systemic consequences. A secondary reason is that employees could suffer as a result of allowing such firms to go under.

Yet there is a fundamental problem with these actions. The way capitalism rejuvenates itself is through a Darwinian competition in which weaker firms go under. Through this process stronger and more innovative firms emerge victorious. It is a process that Joseph Schumpeter, one of the greatest economists of the 20th century, called “creative destruction”.

Although it is possible to resist this process in the short term it usually has damaging consequences in the longer term. It can lead to huge amounts of state spending to shore up chronically weak enterprises. Eventually the disruptive effect is likely to prove greater than if the short-term pain had been accepted instead.

Arguments against rejecting such bail-outs are generally overdone. It is unlikely the systemic consequences of allowing many financial institutions to go under would be as damaging as many suggest. It is more likely that politicians are simply afraid of accepting that large parts of their previously prized assets are insolvent. They would like to present the financial markets’ troubles as temporary problems related to insufficient liquidity.

It is even harder to imagine the failure of car companies, even ones as large as General Motors, having such a destructive systemic impact. No doubt many suppliers would suffer too but, for better or worse, that is how capitalism advances.

If job losses are a problem there are ways round that. Those who have lost their jobs could be helped to find work in more dynamic firms and sectors.

Of course, it is possible to reject the notion of capitalism advancing through creative destruction. But such a rejection means either accepting a chronically bloated and lethargic capitalism or suggesting another alternative.


Purgatory, whether in economics or theology, can only be a temporary state. Eventually there will be no choice but to move on in one direction or another.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (6 April). The headline is a reference to the derision heaped on President Lula of Brazil in some sections of the financial media for daring to blame the developed countries for the crisis.

While the G20 leaders were smiling politely for the world’s media, the blame game on who was responsible for the ­economic crisis intensified. Several potential culprits are in the dock.

Bankers are probably still the most widely blamed. Their greed is held responsible for creating a financial bubble which then burst with catastrophic results. Politicians have happily cranked up the attacks on bankers to help distance themselves from the crisis.

China is widely held responsible in more high-­flying circles. According to this view, excess Chinese savings were at fault as they found their way into the American financial markets. From this perspective, it was Beijing’s irresponsibility that played the key role in creating the bubble.

But what could be called the “Greenspan explanation” is coming up quickly on the inside. This blames loose American monetary policy under Alan Greenspan – until recently seen as a God in financial circles – for the creation of the bubble. He is accused of keeping interest rates irresponsibly low during his two decades as chairman of the Federal Reserve.

While these are competing explanations, with ­different policy implications, they have much in common. All of them see excessive popular consumption as playing a key role in the build-up to the crisis. The ultimate culprit is seen as the consumer; particularly the American consumer. It was a view implicitly endorsed by Barack Obama in his joint press conference with Gordon Brown last week when he referred to America’s “voracious consumer market”.

For this perspective, a long period of overconsumption gave rise to a crisis of underconsumption. A huge consumption bubble gave way to bust.

Such an argument can be countered on political and analytical grounds. Politically it is a misanthropic outlook: it assumes ordinary people are ultimately to blame for the unsustainable cycle of boom and bust. Yet such people have little or no control over business or economic policy.

Analytically it is grossly one-sided. It is blind to the fact that what is consumed first has to be produced. Production is logically and chronologically prior to consumption.

Greenspan certainly kept American interest rates low but this was not a policy error. It was an attempt to overcome the chronic lethargy of the American economy. To an extent the apparent dynamism of the American economy, particularly during the Clinton administration, was illusory. The massive extension of credit exaggerated the strength of growth in the American economy.

The leaders of the western world – those President Lula of Brazil called the “white and blue eyed” – really are responsible for the crisis. They failed to tackle the weak growth dynamic in their own system.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (30 March).

Gordon Brown is no doubt hoping that this week’s G20 summit in London will bolster his standing at home and abroad. He is likely to be disappointed.

Judging by Brown’s PR he is an important world leader whom everyone does, or at least should, treat with great respect. In reality he is the ailing head of a middle-ranking European power. The prime minister, who in his decade as chancellor constantly intoned that there would be “no return to boom and bust”, has presided over bust on a massive scale. Although Britain is not yet financially bankrupt, its leader is morally and intellectually exhausted.

Brown may – sadly – be able to get away with hectoring his own citizens but his patronising approach is unlikely to endear him to the G20 leaders. No doubt they will smile politely at the summit but they do not need advice from Brown on fiscal stimulus or any other economic matters.

Indeed, several events last week look set to prove early warnings of the difficulty of promoting economic recovery through fiscal stimulus. The failure of the gilt auction on Wednesday signalled that the City could be reluctant to finance Brown’s spending plans. This debacle followed in turn the statement by Mervyn King, the governor of the Bank of England, that Brown needed to be cautious about his stimulus package. When Brown was asked by journalists about this comment he studiously avoided taking it up directly.

Last week’s criticism of the American stimulus package by Mirek Topolánek, the current European Union head and the outgoing Czech prime minister, also probably rattled Brown.

Topolánek’s criticism of the package as “the road to hell” was an attack on Barack Obama, but he is even less likely to be intimidated by Brown. Other global leaders will probably be as up-front, but they are only likely to implement stimulus packages if they see it as being in their national interest.

An alternative approach to stimulus, suggested by John Tamny of realclearmarkets.com at last week’s Fund Strategy Investment Summit in St Moritz, might be to accept the short-term pain of economic restructuring in the hope of a longer-term recovery. Whatever the merits of such an approach, the prime minister is unlikely to have the nerve for such a direct political conflict.

Labels: economics, finance, Fund Strategy

The following comment by me appeared in the latest Fund Strategy (23 March).

What has the chairman of America’s Federal Reserve got in common with the hosts of “fake news” television comedy programmes? More than supposed.

Certainly they were all high profile figures over the past few days. Ben Bernanke announced a massive quantitative easing package while Jon Stewart and Stephen Colbert made news with their comic roasting of the financial media.

But there is more to it. They all express a contemporary obsession with finance. This was also apparent in the frenzied American media discussion of the bonuses given to employees of AIG, the country’s failed insurance giant.

No doubt the media folk responsible for reporting such stories would say finance is big news in the current market environment. What they fail to recognise is that it is merely an expression of more fundamental economic problems.

Bernanke’s massive quantitative easing package is also based on the assumption that the key problem facing the economy is insufficient liquidity. If money is pumped into the economy it should, it is assumed, bolster confidence and rejuvenate consumption.

For some reason bankers, comedians and journalists are all unable to make a key distinction between the way things appear and the way they are. They can see financial turmoil, as it is in front of their eyes, but they seem blind to its underlying driving forces.

The huge growth in the financial markets since the 1970s should be seen, at least partly, as a outgrowth of economic atrophy. As the world economy slowed following the end of the post second world war boom, it was often more lucrative to play the markets than invest productively. As a result, surplus capital found itself channelled into a ballooning financial sector.

The climate of risk aversion which has emerged since the 1980s helped give shape to these rising markets. Financial institutions often became more concerned with transferring risk than their traditional role of raising capital. These factors have provided the backdrop to the recent turmoil in the financial markets. In general terms the markets reached a level which proved unsustainable.

This analysis also suggests that quantitative easing is unlikely to rejuvenate weak economies. It can only provide a temporary boost as the credit crunch is itself an expression of an underlying problem.

Labels: economics, finance, Fund Strategy

Real Clear Markets has published my cover story on the Green New Deal from Fund Strategy.

Labels: economics, environment, ethics, Fund Strategy, media appearances

Fund Strategy has published my critique of the Green New Deal as a cover story. Meanwhile, there follows my latest comment from the magazine (2 March issue).

It is becoming increasingly common for commentators to overestimate the newness of key economic trends.

A striking example is the tendency to regard key problems in the American and British economies as new. It would be more accurate to see the current blatant weaknesses as a continuation of existing underlying trends.

Some of the more astute economic commentators, such as Stephen Roach of Morgan Stanley, had long made the point that the global economy was fundamentally unbalanced. America could only maintain its high levels of consumption as a result of huge capital flows from Asia and the Middle East.

Many wrongly saw this trend as a sign of America’s economic strength. The world was “flying on one engine” and the American consumer was providing the propulsion. It would have been more accurate to argue that Asian growth was propelling the world economy, including America, forward.

Britain’s weakness was disguised by City of London success. But the City’s revenues depended largely on international capital flows and institutions. When these started to dry up the weakness of Britain’s productive base was cruelly exposed.

Another trend with greater longevity than normally assumed is the demise of free market economics or “neo-liberalism”. Many commentators argue that the bail-outs of financial institutions signal an end to belief in the free market. In reality the idea of the free market died many years ago.

Western economies, including America and Britain, have long had a consensus in favour of what could be called a regulated market. They do not propose any alternative to capitalism but at the same time they support an extensive system of regulation. It is a long way from the minimal state advocated by staunch advocates of free market economics.

The reality of state intervention should be apparent from the high levels of public spending in both America and Britain. Such spending is inconsistent with a genuine free market.

Many of the key economic trends in the world today are far less new than is generally assumed. The only reason this is not widely understood is the impressionism of much of contemporary economics. The temptation to take things at their face value should be avoided.

Labels: America, climate, consumption, economics, energy, environment, Fund Strategy