Tag Archives: Financial crash 2008/9

The ‘sky cannot fall in’ school of economics.

There is an economic school of thought commonly held by politicians and journalists, which can be best described ‘as the sky won’t fall in’ economics’. What the practitioners of this economics believe is that the economy is a thing that just goes on delivering whatever politicians might do. There foolish decisions have some negative impact on the margins, but come what may the economy will still working as well as ever tomorrow. Such people described the financial crisis of 2008/9 as a ‘once in a lifetime affair’, it was what insurers call the unexpected, an ‘act of God’. What it was not was a crisis brought about by the foolish behaviour of bankers and politicians. The cause of the crisis was not the foolish speculative behaviours of the banking community or in the naivety of politicians in believing that the financial market could regulate itself, no the causes lay elsewhere.

Similarly in the U.K. we are suffering from a surfeit of ‘the sky won’t fall in’ economics from the Brexiteers in the politics and the media. Warnings of the dire impact that a hard Brexit will have on the economy are dismissed as ‘Project Fear’. One leading politician when warned of the damaging impact of a premature exit from the European Union (EU) on manufacturing industry, said that it won’t matter, as manufacturing only accounts for 10% of U.K. output. Only a person completely ignorant of economics could make such a foolish statement.

Yesterday a journalist who normally displays the utmost scepticism about politicians and politics revealed themselves as a member of this school of thought. He in his articles has on numerous occasions exposed the follies of politicians; yet he takes the word of these self same politicians that a premature rupture in trading relations with our biggest trading partner will have minimal impact on the economy. He writes that the day after Brexit the economy will be functioning as normal, planes will still be flying and there will be food in the supermarkets.

Yes the economy will still be there and it will be functioning, but the question he fails to ask is how well will it be functioning. To take his first example, yes the planes are likely to be flying, as it’s inconceivable that the British and European politicians can’t come to some agreement on airlines flying rights. (One must mention a proviso, politicians are just as likely to come to an agreement which is detrimental to the interests of our airlines, as beneficial. He assumes a competence which our politicians in the Brexit negotiations, have been singularly lacking.) What he fails to understand is that whatever results, the British government is exchanging an agreement about rights to fly over Europe that is highly beneficial for our airlines for one that is much less beneficial. What we do not as yet know is how much more difficult will it be for Britons to fly in and out of Europe. Obviously the uncertainty generated by Brexit will the day after Brexit lead to some cancelled or delayed flights. All that can be said is that British airlines won’t enjoy the same access to flight space over Europe than they had before. However what will obvious is that flying from Britain to Europe will become more difficult.

Journalists and politicians of the Brexit persuasion hide behind this uncertainty. I as an economist know that Brexit will be damaging to the British economy and society. Just because people such as myself cannot spell out in accurate statistical format the exact damage that Brexit will inflict on the economy, Brexiteers claim that we should not be believed as we really just don’t know. However to put it in its simplest terms believing the Brexiteers is asking the people to accept that there uninformed guesses are as good as my informed guess of myself and other economists.

John Maynard Keynes was once the doyen of British economists, but he is now so out of favour that his economics has been banished from the Treasury and political circles. As a consequence politicians lack an understanding and knowledge of his great insights to the workings of the economy. What all in politics and most in journalism have forgotten is his insight that the capitalist economy is inherently unstable. In his books such as ‘What is to be Done’ he demonstrated how the misguided decision making of the politicians had brought about the worst of all possible economic circumstances. The Peace Treaty of Versailles might have delivered peace but it also delivered a Europe wide economic recession. Imposing punitive sanctions on Germany wrecked the economy of what before 1914 had been Europe’s largest and most prosperous economy. The knock on effect was Germany no longer bought the goods it had previously, so spreading the misery of slow growth and high unemployment throughout Europe. Added to this British politicians made a series of decisions which worsened the impact of this depression on the U.K. The 1920s in terms of economic growth was a lost decade.

What cannot be stated often enough is that the economy is not a thing that will constantly deliver, regardless of the poor decision making of our political and business leaders. Just as with any human construct it has flaws and one flaw is its propensity towards instability. This unstable economy can be as easily pushed into recession, through the follies of our leaders as it can be thrust into exuberant growth through the ingenuity and good decision taking of the same people.

Bill Gates, Steve Jobs and all the other entrepreneurs of Silicon Valley kickstarted the information technology revolution, which led to a sustained period of economic growth. One only temporarily halted by the bursting of the dot.com bubble. A bubble caused by foolish speculators bidding to much for dot.com businesses. When it became obvious that these companies would never earn the expected profits, it became obvious that these companies had been overvalued, so there share prices collapsed, causing a loss of business confidence and a recession.

To this economist one the main causes of sudden changes in the business cycle are human folly and ingenuity. The economy is not a perfect construct it has weaknesses and foolish decisions made by politicians and businessmen can expose those flaws which leads to economic collapse. Similarly it has strengths which men and women of ingenuity can exploit to create immense wealth, which benefits all.

In answer to Michael Gove and Simon Jenkins, despite what you think, the ‘economic sky can fall in’. It’s the actions of men such as you that make this more likely to happen than not. Unfortunately the leading politicians in Britain at present seem to lack amongst them, people of realism and ingenuity that could prevent ‘the sky from falling in’.


An Irreverent Explanation of the Politician’s Ways of Managing the Economy

There are many ways to explain the politicians peculiar grasp of economics. One of the best ways of doing so is through metaphor. A great many of our politicians are lovers of Opera, particularly those in the Conservative government. Imagine their horror and anger if a football manager were appointed Director of the Royal Opera House Covent Garden. They would want to know why this uneducated person, who lacking any knowledge of the culture of Opera had been appointed to the post. There reaction would be similar to that of economists, when they hear the name of the person appointed to the post of Chancellor of the Exchequer. Taking the analogy further a football manager might know a little about Opera, it is quite likely that they could be familiar the popular opera Carmen. However their lack of knowledge of Opera would make them totally unsuitable for the post. Again with politicians they might well know a little economics, but not enough to qualify them for the post of the nation’s director of economic affairs.

Metaphorical football managers have always been appointed to the post of Chancellor. Never is a knowledge of economics required as a prerequisite for the post. What is required is that the person appointed is a master of the political game. In the past it mattered less that metaphorical football managers were appointed Chancellor, as they would seek advice from those who understood economics and economic management. Advice would come from Treasury economists or from academics recruited as advisors. Unfortunately now these football managers no longer believe that they need the advice of experts. It as if the uninformed Director of the Opera House decided that as he knew something of the opera Carmen, this was sufficient to qualify him for choosing the forthcoming season’s programme. Now exactly the same happens in the management of the economy.

However I should not be too dismissive of all these metaphorical football managers. They can make surprisingly good decisions. Gordon Brown instinctively knew that British membership of the European Monetary Union was wrong. He asked for evidence from economists to confirm whether or not his gut feeling was correct. They duly delivered. Britain was spared the austerity programme which membership of the Euro required and until the crash of 2008, Britain’s economic growth was greater than that if its European rivals. Only in 2010 when a politician who was an eschatological economist became Chancellor did Britain’s economic performance dip below that of its European rivals.

Eschatological economists are those politicians that believe rather than preparing for the coming of the Kingdom of Heaven, they should be preparing for the coming of the free market. Much as with those Christians who believe the coming of the Kingdom of Heaven will remove all ills and evil from the world, they believe that the free market economy will remove all the evils of the socialised economy from the world and deliver the greatest possible benefits to mankind. Just as with the Christians they know that there Kingdom is at hand. However their Kingdom is not the gift of some supernatural deity, but one that can be created by men themselves. When they faced with the criticism that all the deregulation of the past twenty years has failed to deliver the promised world, they explain that the changes have not gone far enough. What they argue is that we at present are experiencing the painful birth pangs of a new society, all we need to do is be patient and wait for the reforms to bear fruit.

While it may seem odd to describe the dull and rather grey people who dominate politics as being in the grip of some earthly charismatic religion, it is the only way to describe their behaviour. They as with all true believers are impervious to reality. They know the truth and they won’t be deflected from the true path. Perhaps the best way of illustrating this truth is by referencing the last two Chancellors of the Exchequer, both of whom are eschatological economists. They both believe the best society is one run on free market principles. One characteristic of a free market is small government, that is a government that is restricted largely to a few basic roles necessary for the survival of human society. Roles such as the maintenance of law and order and national defence. In there perfect society the government is but a bit player in the economy. All the real decisions of significance are undertaken by businesses and consumers.

What is most significant is that these people disregard the negative impact their shrinking of government programme. One of the main methods of doing this is to reduce government spending. As a government with a small budget is but a bit player in the economy. This is achieved bu cutting the funding available to public services. Anguish expressed about longer hospital waiting lists, the shortage of medical staff and hospital beds don’t resonate with them. What matters most is that they reducing the government budget. These problems they believe are but a small price to the benefit of creating small government. They know that we will all benefit in the long run, once they have achieved their aim of introducing the truly free market economy. Us foolish people don’t understand the benefits that will accrue from the changes that they are introducing.

There is one instructive example from history that can be used to explain the behaviours of our current generation of eschatological economists/politicians. The early Jewish followers of Christ in Jerusalem were the Ebionites. These people believed in the imminent coming of the Kingdom of Heaven and the return of Christ. They gave away most of their wealth to help provide for the poor. Since they expected Messiah to return soon, there was no need to take the practical measures necessary to feed and support themselves. Unfortunately the inevitable happened and these distressed and newly poor began to suffer hunger and all the problems of poverty. They had to beg for help from Christian groups in other cities. Unfortunately the Roman destruction of Jerusalem and the enslavement of its peoples led to the disappearance of the Ebionites from history. All that can assumed is that they adopted a more practical lifestyle, as a means to ensure their survival. The behaviour of these Ebionites has similarities with the behaviour of contemporary Brexiteers, who are equally impracticable.

This weekend a series of studies were published demonstrating what would be the effect of Britain being a third country outside the EU. Customs barriers would immediately be put in place, as goods going between Britain and the EU would have to submit to customs checks. These will mean delays in the handling of goods, particularly as the British government has not put into place the necessary infra structure to handle the import and export of goods. The result will be food shortages in our supermarkets, as 50% of our food comes from abroad and mainly from the EU. Other problems will result such as shortages of medical supplies. Our Brexiteer politicians deny the reality of this scenario, as just as the early Christians believe that could neglect the practicalities of every day life and just prepare for the return of Christ, so the Brexiteers refuse to engage with the practicalities of leaving Europe. All the practical problems highlighted in various government reports or those from industry are dismissed as imaginary. All we have to do is wait for that blissful day when we exit regulation bound Europe and again become free. As with Ebonites all that it is necessary to do, is to wait for the blissful day to arrive, no practical measures are necessary.

Fools Gold or the Economic Follies of Phillip Hammond and like minded Conservative Politicians.

Our current Chancellor is nicknamed spreadsheet Phil, a name intended to reflect his prowess in managing the country’s finances. His proud claim was to have achieved what most Chancellors had failed to achieve, that is a balancing of the books. He announced that the government daily revenues exceeded its spending. To use economic jargonese current revenue exceeded spending, that is tax revenues exceeded spending on hospitals etc. This was for him a cause for celebration and he was feted in the financial columns in the print media. However much like iron pyrites* all that blisters is not gold.

Chancellors of a Conservative mind have always sought to achieve the holy grail of sound money. A non existent myth much like that of the holy grail. As students we were given the example of Winston Churchill who as Chancellor who returned the pound sterling to the gold standard in 1925. He choose a rate that valued the pound at $4.84, its pre war value. He said that he wanted to look the dollar in the eye. A political move as the ravages of the First World War had diminished the relative value of the U.K. economy and its currency and had confirmed the USA as the world’s leading economy. Consequently the dollar was now the world’s strongest currency. Churchill wanted to put the pound on a par with the dollar. It was economic folly, as the expensive pound priced U.K. exports out of foreign markets. In consequence the U.K. had a trade deficit, which could only be kept within reasonable bounds by depressing the level of income activity. This cut the level of overall demand in the economy and so reduced the import bill. Much of the misery experienced by the people of the 1920s was a consequence of this policy.

Phillip Hammond just as did his predecessor, does not understand that a weak or unsound economy makes any sound money policy fallacious. Simply because such a weak economy is likely to experience sudden and unexpected downturns, which in the eyes of the financial community can render the sound pound and chancellors reputation unsound over night.

Our current Chancellor has continued with the austerity policies of his predecessor and has fulfilled his predecessors aim of ensuing that government revenues exceed its spending. What they both want is the respect of the financial community. If the financial community believe that the government is pursuing a policy of sound money, they both believe many benefits accrue. One is that this community will allow them to borrow at low rates of interest. However this is of little practical benefit when the government chooses not to invest. Currently investment in infra structure projects is the same as in Greece one of the most impoverished of all EU member states.

However the plaudits of the financial community soon become worthless in a financial crisis, as then that community is forced to confront stark economic realities, that they would prefer to ignore. At present the current benign economic climate allows the financial community to overlook the very obvious weakness in the economy. When forced to confront them they will turn on the government. Greece provides the obvious example of what happens in these circumstances.

Phillip Hammond is astute enough to realise that the U.K. is subject to regular periodic economic crisis.* When that occurs he might need to find the funds to tide the U.K. economy over that crisis. He believes that if he builds up a war chest of money by continually spending less than he receives, that money can be used to avert any run in the pound as occurred on Black Wednesday. What the Chancellor fails to understand is that this cash reserve will rapidly diminish in value as the pound falls in value during a crisis so in consequence making that reserve of cash too small to be of any real value. One of the characters says in a Stendhal novel, that what takes ten years to build can be destroyed in ten minutes of warfare. The same applies to Chancellor reputations. In any major financial crisis the government and the Chancellor rapidly lose all credibility, so all the years spent creating a reputation for soundness are rendered meaningless.

What should be the aim of any Chancellor is a sound economy not a sound money policy. While there are many fundamental weaknesses in the U.K., two stand out. The first is the persistent trade deficits. At 6% of GDP it is the highest of any developed country. This debt is financed in part from money invested in the U.K. by foreigners. As a country we are paying Germany, the USA and our many other creditors by recycling the money that there nationals invest in this country. A situation that cannot continue indefinitely. One day the financial community will decide that the emperor has no clothes.

Secondly as a nation the U.K. borrows short and lends long. The U.K. is one of the world’s leading financial centres and as a consequence many foreign nationals invest there savings in London. These moneys are usually invested in accounts with a short term notice of withdrawal and pay a relatively modest interest rate. British banks to finance these accounts lend long for which they receive a relatively high rate of interest. This arrangement works fine when the investors have confidence in the country concerned. In the event of a crisis these investors want their money back. If the amount invested is relatively small compared to the size of the country’s wealth (GDP), that country will have no problem in averting a temporary ‘country run’. When those sums are relatively large when compared to a nations GDP as in the case of the U.K., the county’s reserves of foreign currency will be too small to avert a ‘country run’. As Black Wednesday demonstrated when the country was bankrupted in one afternoon due to the activities of foreign currency speculators. Unfortunately spreadsheet Phil appears to be ignorant of this fact.

Britain’s chancellors should have been working to remedy all the flaws the financial crisis of 1992 and 2008/9 revealed. Instead there has been a papering over the cracks, with the so called sound money policy. This is not a folly practiced not by just Conservative Chancellors of the Exchequer. When Gordon Brown was Chancellor in a Labour government he also pursued a sound money policy, instead of implementing the necessary structural reforms necessary for strengthening a weak economy. Although the crisis of 2008/9 was a financial one caused by the foolish speculative activity of financial speculators, the fact that he and none of his successors failed to make any attempt to create a sound economy, meant that the economy has failed to make the expected recovery from the last crisis. The majority of the population have experienced either falling, stable or small increases in income since 2009, a mark of a failing economy.

It is a perverse rule of thumb that when the financial columnists particularly of the right wing media laud a Chancellor for the soundness of his economic policy making, usually that Chancellor is making a hash of things.

* Iron pyrites or fools gold were the staple of many stories in the cowboy magazines of the 1950s.

* He is aware that just such a crisis might occur when the negative consequences of Brexit become obvious to all.

A new and unusual solution to economic policy making. ‘Wittgensteinian’ Economics.

Recently I have been reading Ray Monk’s biography of Wittgenstein. In reading this book I realised that Wittgenstein’s approach to philosophy opens the possibility of there being a different approach to economics. What Wittgenstein is always criticising philosophers for is there constant search for the one grand theory, the unifying theory that answers all the questions. There was he argued no grand theory and it was pointless looking for one. This is an approach that I believe should be adopted in economics.

There is at present one theory that dominates economic policy making and that is what might be termed free market economics. One small book Hayek’s ‘The Road to Serfdom’ is the origin of all current thinking on economics. Usually today it is known as Neo-liberal economics, an economic philosophy associated with the political right. Although there is a left of centre variant, new Keynesianism. Proponents of the latter claim to have rediscovered in Keynes writings his love for the free market and put to one side Keynes radicalism.

Keynes radicalism was the consequence of his despair at the misguided policy making of the governments of the 1920s and 30s. Usually the policies of the 19th century Parisian commune are ridiculed by economists. One policy that was held up to ridicule was the policy of having the unemployed dig up the paving stones, only to replace them later. The unemployed were paid a wage for this work. Economists saw this as a foolish waste of money that did little to improve the economy. However as Keynes pointed out this created an income for the unemployed and that there spending could help bring a dormant economy back into life.

What this illustrates is that Keynes was asking a different question to that asked by his contemporaries. He was trying to find an answer to the question, how do we bring to an end the misery of mass unemployment? His academic colleagues were asking a different question, how do we restore a dysfunctional economy back to being a fully functioning one that will in the long term work to the benefit all? Different questions have different answers. While Keynes advocated greater government spending to increase the demand for labour to reduce unemployment; they wanted to cut government spending, believing that only a prolonged period of sound finance and balanced budgets could create the strong economy, an economy which would eventually generate new economic growth and so ending the time mass unemployment. All this government could say to the unemployment was to have patience, as eventually the economy would pick up and they would have jobs. Keynes had one answer to this policy and that was in the long run we are all dead. There was also the unspoken assumption that growth generated by Keynes spending policies would be bad growth, whereas the economy eventually moved into the upswing in the trade cycle that this was good growth. A set of unprovable and dubious assumptions

When George Osborne adopted a similar policy in 2010, that of fiscal consolidation, cutting government expenditure and balancing the books, he repeated all the errors of the politicians of the 1920s and 30s. Mass misery, although this time not caused by unemployment, but low wages and the insecure employment of the ‘gig’ economy.

Wittgenstein’s last book was ‘Philosophical Investigations’ crystallised my thinking on economics. Rather than believing that there was one grand unified theory of economics, there are series of economic investigations which belong to one family, as they all bear a familial resemblance. The economy as subject matter is the familial resemblance. He also writes about the grammar of philosophy, which provides the format or structure for ensuring that the correct questions are asked or the correct philosophical investigations undertaken. What is the nature of good is an incorrect question. The correct question is what actions are understood as good. Asking people what is good is silly, as anybody when asked that question could give numerous examples. They understand the concept good, what they don’t need is a philosopher telling them what good means. Philosophers when asking this question brings itself into discredit, as the answer is either I don’t or a definition that lacks application or validity to everyday life.* Politicians are also failing to formulate their questions correctly. What they ask is that asked by the politicians of the 1930s how can we the economy to health. What they should be asking is a series of questions about the economy, such as how can unemployment be reduced, when looking for policy solutions to all these individual problems they will be answering the big question, of how can we restore the economy to good health.

I can give examples to demonstrate my thinking. The British economy has a number of dysfunctions within it, but ones that the Neo-Liberals believe only require the one solution. These dysfunctions are:

• Slow and anaemic economic growth

• The highest trade deficit as a percentage of GDP for a developed country, as a consequence of a shrinking manufacturing industry

• An unbalanced economy, one in which the financial service sectors are booming and manufacturing is in slow relative decline, an economy also unbalanced in that the southeast and London are experiencing high growth and incomes while the other regions experience the reverse

• An economy that is increasingly failing to deliver for increasing numbers of people, who are denied the essentials of a good life, that is fair incomes, secure employment and good housing.

• Income inequality is now approaching those levels last seen in the dismal 1930s

• The economy is increasingly subject to speculative booms and busts in the various asset market, usually such busts originate in the property market

• A country which shares record levels of indebtedness with Japan. The majority of British debt is private sector debt, which an upward shift in interest rates could make unsustainable, as too many households would have difficulty managing their debt repayments

There are other dysfunctions that I could add to the list, however I had to end the list somewhere. Only today Areon Davis (Reckless Opportunists: Elites at the end of the Establishment) has in today’s Guardian newspaper outlined a different set of market dysfunctions, which could result in a repeat of the 2008/9 financial crisis. Yet the Neo-Liberals politicians always resort to the same set of policy options to deal with each of these dysfunctions. They are

• Vary interest rates, either lower or raise them

• Reduce regulation on business, thereby reducing the regulatory role of the state

• Cut taxes and government spending

• Recently they have added a new measure – quantitive easing, that is increasing the supply of money to the banks

What the British economy requires is a different set of policy options for each of these major dysfunctions. Why do these politicians believe that the same policy options should be prescribed for each policy? A doctor prescribes antibiotics to treat a bacterial infection, he would not use them a patient that suffered a cardiac arrest, yet this is exactly what the government does with economic policy making. It’s always the same prescription, whatever the problem.

The economy is a dynamic organisation that is constantly changing and each change in the economy offers new benefits or brings to the fore new problems. There can be no one theory of everything, while Neo-Liberalism offers some policy options suitable for some problems, that is all it can offer. If instead politicians realised that each new problem the economy threw up was asking a new question of them and not just some variant of an old question policy making would improve. To paraphrase Wittgenstein, economics is a series of investigations that ask different questions, each of which requires a different response.

*I am aware that my brief paragraph does an injustice to Wittgenstein’s thinking, as I have taken elements from ‘The Brown and Blue Books’ and ‘Philosophical Investigations’, which are dissimilar books written at different stages in the development of Wittgenstein’s thinking. However to do so suited my purposes.

Why our economy constantly makes fools of our politicians

When the great financial crash happened in 2008/9 politicians, economists and political commentators were claiming that it was a once in a life time event and as such it could not have been predicted. Therefore absolving of any of the blame for the catastrophe. However all the warning signs of an impending financial crash were there for all to see. The banks for example were increasingly disregarding sound financial practices to keep the speculative property bubble growing. A bubble that dubious financial practice could not prevent from bursting. The politicians and central bank governors, who could have averted the crisis turned a blind eye to this widespread financial malpractice and so were the bankers willing accomplices in making this catastrophe happen.

Unexpected downturns should not be a surprise as the economy is constantly changing, and there is no reason why the economy should not be characterised by periods of recession and decline, as by those of growth. When economists say that the economy is dynamic, they don’t mean that it is always growing, just that it is always changing. Change can be in either direction.

What an economy in its essentials is nothing more than the aggregate of the millions of economic transactions that take place everyday. These transactions need not be the same today as those made yesterday, so the economy is constantly changing or dynamic. Therefore it should be no surprise that the economy is subject to sudden and unexpected changes. What should be surprising is that the economy appears stable or unchanging for such long periods of time. Why then are today’s interactions so often the similar to those made yesterday? If people are behaving the same today as yesterday, their expectations about the economy must have remained unchanged. Why these behaviours remain unchanged is a question economists have never been able to answer.

One explanation of why the economy changes must be found in the expectations and beliefs about the future held by those millions of individuals that participate in the economy. I would suggest that if today seems very much like yesterday, they will make the same decisions as yesterday. If their expectations change so will there behaviours. Uncertainty about the future will cause there expectations and behaviour to change.

Britain at present provides a demonstration of the effects of widespread uncertainty on economic behaviours. Our government is committed to Brexit, that is leaving the European Union (EU). However there is confusion about how the exit will be managed and what will be the future relationship between Britain and the European Union. Whenever government ministers are asked questions on these issues, all they get in reply is a series of meaningless generalities. Individuals correctly assume that this government does not have any answers to these questions. As the date for Brexit nears it is obvious that the necessary policy decisions have been made, so generating uncertainty.

If Britain leaves the EU, it will be leaving the customs union and inevitably there will be tariffs imposed on goods moving between Britain and the EU, as Britain will no longer be within the European free trade area. Yet when the government is asked about future tariffs on goods exported and imported between Britain and the EU, all it’s says is that it is committed to frictionless trade between Britain and the EU. Frictionless or no trade barriers will only be possible if Britain remains within the customs union. Yet the government has said it will take Britain out of the free trade area that is the customs union. Either the government is lying or it has no idea what will happen the day after Brexit. I think the latter is more likely to be the case.

If business and consumer confidence declines this will have a negative impact on the economy. If people feel unsure about the future they will save more and spend less. This evidenced on the high street, where nearly all retailers are reporting a decrease in sales. Many of the large retail chains are planning to close there less profitable shops, as they can see no likelihood of trade picking up. * This will lead to thousands being made redundant. Those newly employed will spend less, so reinforcing the downward trend in the economy.

Business owners will postpone investment or not make it all, if they are uncertain about the future. Only recently shipowners and port operators asked the government what would be the post Brexit arrangements for handling the import and export of goods between Britain and Europe, all they received was the standard non reply. This has very serious consequences, as the port of Dover which handles a large part of EU trade is in urgent need of modernisation. Given the uncertainty about the future, the port operators will not undertake the necessary modernisation works, so risking future failures in its cargo handling capacities and delays in the transport of goods. Transport company owners will not invest in new lorries or ships. Instead they will manage with their existing fleet of ageing lorries and ships. It will be a policy of ‘make do and mend’ for them. All these negative decisions made by consumers and business owners will reduce the level of economic activity, so slowing economic growth and possibly pushing it into recession. The great danger is that this feeling of gloom becomes all pervasive and as a consequence the economy could tip into a recession as severe as that of 2008/9, if not worse.

What our political leaders fail to realise is the negative effects of their indecision. They are the principal cause of the feeling uncertainty that afflicts the people of this country. In consequence the people are making not the same decisions they made yesterday, it was this repetitive behaviour that gave the economy its sense of stability. They are making different decisions and are creating a new dynamic, which is pushing the economy in the direction of recession.

What I am trying to demonstrate is that events such as the financial crash of 2008/9, just don’t come out of no where, they are the consequence of foolish decisions made by people with power. Such events should not be unexpected as politicians, bankers etc. are always going to make foolish decisions. Fortunately such people are also capable of making wise and enlightened decisions, otherwise there would be no human progress.

N.B. I try realise I have over simplified the workings of the economy, but I do believe that what I have written is correct in its essentials.

* However this decline is in part due to an increase in online shopping. In consequence high street retailers are facing a perfect storms, falling sales due to falling consumer confidence and increased competition from the online retailers.

Why economists are so miserable and why you should never trust a happy economist

I can explain the title through referring to a story from the Westminster political scene, as it demonstrates how politicians fail to understand the role of the economist. Although Mark Carney as  governor of ‘The Bank England’ and is not strictly speaking an economist, only a person thoroughly grounded in economic theory and practice could fulfil this role. He was called to a meeting of the Select Committee on the Treasury to explain why he gave such a negative account of the impact of  Brexit. Why the assembled politicians wanted to know did he give such a negative account of its impact on the economy, as all knew that in fact the economy was as buoyant after the vote to leave the EU as before it. He answered that he remained serene about his prediction of a dire economic future if Brexit occurred.

There are two answers to the question posed by the angry politicians.The first is that he by being aware of the possible bad effects of Brexit, had reacted immediately after the vote to offset the negative impact through cutting interest rates and pumping more money into the economy by the process of quantitive easing. These measures restored business confidence and enabled the economy to recover from the immediate post Brexit blues. However this was a short term measure, which had a short term effect. The truth or otherwise of his predictions will be known in 2017 when negotiations to leave the EU begin in earnest. The uncertainty engendered by the negotiations to leave the EU will have a negative impact on business confidence and investment. Businesses will postpone investment decisions or as with the major car manufacturers look to develop their new models in those parts of Europe that are unlikely to be subject to the import tariffs that British exporters will have to pay. There seems to be a consensus among economists that incomes will fall in the long term by 4% or more as a consequence of Brexit, which if these angry politicians had listened to Mark Carney’s speech would have realised that this is what he was saying.

However what these politicians fail to demonstrate is a fundamental misunderstanding of the role of economists. Economics is with some justification known as the miserable or the gloomy science. The role of economists is to look for the worst in possible outcomes that could develop as a consequence of current policy decisions or current changes in the economy and to warn against them. Foreknowledge of the bad to come enables politicians to take action to prevent the worst of all possible futures from happening. Happy economists fail in this task as they never foresee future economic storms and squalls. The Governor of ‘The Bank of England’ at present with his advisors is considering what possible future measures he will need to enact in 2017 to prevent the worst effects of a loss of the uncertainty generated by the Brexit negotiations. If like the many politicians advocating Brexit he took an optimistic view of the future, he would lie woefully unprepared for the expected downturn in the economy in 2017. What politicians fail to understand is that economists and Bank of England governors are doing the job for which they are paid when they a being economic miserablists or Jeremiahs.

When economists are happy they are not fulfilling their role. Before the crash of 2008 the vast majority of economists were upbeat about the economy. They believed that the world economy had entered a new paradigm in which the old caveats about credit bubbles and an overheated economy no longer applied. The over whelming majority of economists believed that the world economy had entered a new phase in which it would continue on an ever upward trajectory, in which the minor mishaps that occurred could be remedied by a few simple changes in monetary policy, such as varying the interest rate. Those few economists that warned that the world economy was heading for a financial disaster were ignored. After all who is interested in the pessimistic views of a miserable neighbour. Politicians just like the rest of the population are not interested in unpalatable truths, they just wanted the party to continue.

When the Queen asked the economists why they had failed to predict the crash of 2008, she was asking the wrong question. What she should have asked is why they had abandoned their role of that of social Jeremiah for that of cheer leader. Politicians could deny their responsibility for their irresponsible policies that led to the crash of 2008, by claiming that economists also believed that that they were pursuing the right policy. The financial crash could be claimed to be a once in a life time unforeseeable event, such as the Tsunami and therefore politicians should share no blame for the crisis which in reality was a large part of their making.

Economists can be compared to the Old Testament prophets who warned the Israelites of the dire consequences of ignoring God’s will. Similarly economists should be warning of the dire consequences that will follow from ignoring economic realities. Although revering their prophets the Israelites could react badly when their were told things that they would rather not know. Isaiah is reputed  to have been sawn in two while hiding in a tree, after having angered King Manasseh. The Israelites had time for regret after the disasters following on from the invasions by the Assyrians. Economists will always be tempted to follow the party line or say what pleases those in power and the consequence is a disaster such as that of 2008, when economists should as one have been urging the government to take action to end the dangerous explosion of credit, they were encouraging the government to continue to inflate the asset bubble. A good economist is one that is willing to court unpopularity, as did the Old Testament prophets who sought no one’s favour when speaking God’s truth.

I as am economist am very wary of speaking the truth about future events to my friends, as to do so is one way of losing ones friends.

Ignorance is the New Black (or the stupid things journalists say about the economy)

While listening this morning to an early morning radio programme I was struck by one of the comments made by the broadcaster. This comment was made during a discussion of the economic consequences of Brexit. She said  will it matter if the UK falls from being the seventh largest  to the eight largest economy in the world? This is an example of the typical remarks made by a member of the economically illiterate media.

Nobody with any understanding of economics wants a modest downturn in economic activity, because that modest downturn can easily turn into a catastrophic downturn. What journalists and politicians never seem to understand is that the economy is inherently unstable and decisions should never made that threaten the stability of the economic order. There are times when the economy resembles a house of cards and the slightest puff of the economic wind can send it tumbling down. Yet there are other times when the economy seems to be as a house built out of granite and is impervious to any economic storm. The problem is that it is difficult to tell before an event whether the current economy is structured like a house of cards or a house of granite. Only a fool would start an economic downturn, as history all too often shows that minor downturns become major ones. Unfortunately for the British people the political and media classes seem to filled with these economically illiterate people. Typified in the figure of the politician Michael Gove who during the Brexit debate said people where fed up of experts (economists) and did not need to heed their advice.

Politicians and journalists have forgotten that the collapse of the 2008 started when a minor bank Northern Rock collapsed. This collapse exposed the fault lines in the financial markets which led to the catastrophic collapse of the banking sector. It would have been more accurate to use an example from the USA but my knowledge of which minor bank there presaged the collapse of the banking system there is lacking. However what I wrote about the UK economy is true of the USA. The collapse of these minor banks would have had minimal impact on an economy that was sound, but as the economy was of a rotten construction it brought the house down.

The first fact to establish is that the British economy is far from being strong, it is in a fragile and perilous state. The Bank of England has recently reduced interest rates to a new low of 0.25% to offset fears generated by Brexit which threatened to  destabilise the economy. Prior to that the Bank of England has had to keep rates at 0.5% for several years. In a healthy economy interest rates of 5% or more would not destabilise the economy, whereas in a weak one a rise from the previous low of 0.5% to 1% would threaten to tip the economy into depression. The merest hint of a rate rise in America caused a minor financial panic.

The decision to leave the European Union (EU) is one such destabilising factor. After the initial vote there was some panic in the financial market and the pound fell to record low levels against the dollar and the Euro. If one major Japanese car manufacturer now located in Britain were to announce the cancellation of a major investment project, this would negatively impact on business confidence and could lead to copycat cutbacks in investment projects which would could lead to a recession. Nobody really knows which lever will be pressed which would start a major economic downturn in the UK, what can be said is the uncertainty generated by Brexit has revealed many potential vulnerabilities  in the UK economy each of which could lead to a major downturn.

When an economy is on its knees, what should not be done if the economy is get back on its feet, is give it a metaphorical kick in the teeth.  This is exactly what the ‘vote leave’ politicians and their supporters in the media have done.

What this journalist had in mind was probably the modest falls in national income predicted by economists when accounting for the expected increase in inflation caused by the fall in the value of the pound. The expected fall in income will  be between 3% and 7% (Wyn Lewis ‘Mainly Macro” blog) for somebody on an income of £100,000 it’s a loss of £3000 a year. An unwanted cut but quite affordable. If it was an income of £60,000 it would be a loss of £1,800, again affordable but unwelcome. However for a person on the median income of £27,600 a cut of £828 will mean some bills go unpaid. Those on lowest income bracket who at present are just about able to pay their bills out of their limited income will find a cut of 3% catastrophic. Even with such a small cut in their incomes they would be unable to pay many of their bills. Any greater fall in income would push thousands if not millions into a life of despair and utter misery.

The previous paragraph makes the assumption that the fall in the incomes of all would be between 3% and 7%, but in an economy in which wealth and power are unequally distributed, the powerful (the upper middle classes) will be able to minimise their income loss and ensure that the less powerful take the greatest hit to their incomes. Broadcast journalists at least those who are national broadcasters on a BBC radio programme can bargain for increased incomes to offset any cut in their income due to rising inflation. The BBC would not want to lose a well known voice or face, as they know these well paid journalists could easily find employment elsewhere. This years pay cut (inflation imposed) of £3,000 can be next years pay rise of £3,000. 

The position for a person in the precariat, such as self employed delivery drivers or care workers on zero hour contracts will be dire. They are in weak bargaining position and will have to accept in full the cut 3% cut in their real wage. Demanding a pay rise to offset the fall in their real income caused will likely lead to the individual being unemployed, as the employer can find alternative workers willing work for the now reduced income. The government in response to falling tax revenues caused by the falling national income will cut in work welfare benefits such as working tax credits. Resulting in a further fall in income for these workers. The businesses who employ such workers will be experiencing falling sales and to maintain the income they derive from profits will make further cuts in wages. Whatever happens to this much larger group the sheer volume of their numbers mean that the cuts to their income will substantially reduce the national income, leaving scope for above average pay increases for the lucky few.

To conclude ignorance is the new black, when speaking about the economy as Michael Gove said you don’t need to be an expert. Whatever is the received opinion at the dinner parties in Notting Hill or whoever the well-off congregate for social events, is the truth about all matters economic. People can without any sense of shame boast that they are terrible at maths, people ignorant of economics don’t even feel that minimal shame. The billionaire who approached David Cameron at a social event who said that the solution to the UK’s unemployment problem was to abolish the minimum wage represents the sophistication of the level of thinking in this group.