Misconceptions about economics, how the obsessive search for profit can damage a nation’s well being

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Now that the end of the tax year is approaching it is the time for banker’s bonuses, that is the unbelievable large amounts of cash given to senior bankers at the end of the year. Barclays are to pay out £1.8 billion in bonuses and Lloyd’s £1.7 billion. The heads of these banks claim that it is necessary to pay out these bonuses as they need to retain the best staff in a highly competitive international market. They will point to the large profits earned by their investment bankers, often the most profitable division of the bank as justification for these large payments. However this reasoning is fallacious as these executives fail to understand the real nature of these profits.

What these bank traders in the investment banks earn is what economists describe as a transfer income. They don’t so much add to the stock of national wealth as transfer some of that stock of wealth from the wider society to themselves. These profits are best described as money or fantasy profits as they are of no gain to anybody but themselves. This they do by moving money around in such a way that they increase their stock of money by the end of the day. A trader will promise to sell to another euros at the end of the day at less than the going price, the other trader will accept expecting to make a profit as he is buying euros at less than their current price. The current exchange rate is £1=1.2205€, so the first trader may offer to sell at £1=1.2201, but he is hoping that others in the market share his opinion and that the price of the euro will fall to £1=1.2110. If that happens he can make a profit of 0.009€ on the deal, which does not sound much until you realise he is making a profit of €90,000 as he is buying and selling 10 million euros. Obviously it is a calculated gamble and it can go wrong and the bank will lose money instead of making a profit.

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Unfortunately they are losers in this scenario, many British companies that export to Europe price their goods in euros. If the price of the euro falls they will get less in return for the products they sell. Part of the money that they should have earned has been through sleight of hand been transferred to the bank trader. Its nothing more that a transfer of cash from an exporting company to the bank. (British exporters price their goods in terms of euros because it is an international currency and by using euros the companies reduce the expensive transaction charges the bank makes for transferring cash).

Even worse the banks may advance money to traders or companies for speculation in either equities or commodities. RBS financed the buyout of Cadbury’s by Kraft, the losers were the workers in Cadbury’s as the costs of the deal were financed in part through cutting the wages bill, that is lost jobs. There will be a time when Kraft’s needs to realise its assets further to finance the deal or to boost its profits. The best way of doing that is too sell off its British factories. Cadbury’s in Britain factories are relatively high cost compared to those in Eastern Europe. All Kraft has to do is to sell its British factories and transfer production to Eastern Europe. The losers are the British as they have lost jobs and potential investment in the economy, while the only winners are RBS and Kraft.

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Complacent government ministers who oversaw this deal failed to realise the implications. RBS and its traders have increased their money income but with no compensatory increase in national production. If the traders spent the money in Britain they could only purchase from amongst a limited supply of goods; which as they could outbid anybody else for houses, it could only result in house price inflation. Bankers love to own Ferrari’s, but in buying Italian cars they are adding to the import bill, while in return adding nothing to the UK National Income. The OECD estimates that proportionately Britain has the highest foreign trade deficit amongst all the developed nations.

Politicians are incapable of seeing the devastation the bankers have wrought on the British economy. They cannot see how this small minority of the country’s population commanding a disproportionate share of the nations wealth are spending it in a way that wreaks harm on the national economy.

It is no coincidence that the one country in Europe that has a huge foreign trade surplus is Germany, whose people have a very different understanding of the concept profit. Real profit as opposed to money profit is when a profit is earned in a way that increases national wealth,as the example of Germany demonstrates. German banks invest in long term industrial projects and consequently have a successful and growing industrial base (Volkswagen is now the world’s largest car manufacturer) unlike the shrinking British one. There is one depressing piece of evidence that illustrates this problem. Graphene a substance discovered by British scientists, a substance which has the potential to revolutionise the telecommunications industry is in research laboratory’s everywhere being put into commercial applications apart from the UK. (The government has advanced a small sum to the university to discover its commercial applications, but the sum is minuscule compared to other countries.)

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