I was asked what was wrong with the UK economy last night, with the express requirement that I make it simple. My questioner liked the answer, so I'm sharing it.
I explained there are four ways to generate income growth in the UK. One is to increase consumer spending. Another is to stimulate business investment. Then there is extra government spending. Finally there are growing exports. And that's it.
The trouble is consumer spending is falling as incomes decline.
And companies are not just not investing, they're saving like mad.
Whilst the government is slashing spending.
And our export markets are collapsing into chaos.
So we are bound to have a recession. Everything is going down, not up.
That I said is all you need to know to explain the UK economy right now, bar one thing and that is the understanding that this is reversible, but only if the government spends more. Because no one else can break the cycle. That's the only other thing you need to know.
With that knowledge you can answer any question on what economic policy the country needs and why any alternative to increased government spending is bound to end in tears, including the alternative offered by this government.
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if you want the government to spend its way out of recession what do you propose to do about the resulting huge public debt? perhaps we could default or something?
It pays for itself
The growth creates jobs which means people are off benefits and pay tax which recoups the cash, very quickly
Just as cutting spending increases the deficit rapidly – as we are seeing
It’s not rocket science
It’s a statement of the bleeding obvious
And it works even better when spending is on investment as under the Green New Deal
In the absence of funding from government we could always create other currencies and trade internally in them. The pound, or legal tender in fact, are not the only options. Other countries do it, other countries have banks which exist purely to benefit the public by having longterm business support and promotion as their motivation as opposed to immediate profits for shareholders. This helps Germany to manage to be so strong industrially, for example. We should be introducing similar schemes and thankfully we are, take for example the Lawful Bank. There’s also the Positive Money crew’s approach, Positive Money which would remove the national debt almost at a stroke. The real problem with the economy is that it’s not ours, it’s imposed upon us by the private banking cartel who have the authority to create or destroy the money supply. If they create money, we’re great. If they destroy money, we starve. So why leave money creation up to them, even if government is happy to? Answer, we shouldn’t. Other countries run currencies in tandem with the official ones to help get them through when official money is scarce, and so should we.
BB
Over the past two years I have reduced my consumer spending, specifically on consumer electronics and going on overseas holidays, instead staying within the UK. Thus although my spending has declined, my new effect on UK GDP is likely to be neutral. The part of the GDP equation that you are ignoring above is the import part. If marginal spending is on imported goods, then its reduction has a muted impact on growth. What we rather need is a focus on spending in Britain, encouraging people to holiday here and buy British products. Perhaps the impact of QE on the exchnage rate will achieve this for us anyway.
Most of us can have almost no idea what we import, or not
Isn’t the truth that we can’t have endless income growth without unsustainable activities? And isn’t income growth itself a bit bizarre? By which I mean, if I choose to walk to work instead of driving my car, or if I grow some vegetables rather than buying them, or if I choose to give money to a charity working in Africa rather than buying a cappucino at a chain store, I am acting in a way that reduces income growth in the UK.
Surely what we need to be thinking about is not growth at all, but how we structure an economy in a way that is sustainable and which allows people to live their lives in a way that is not predicated around advertising, consumption and business. Anecdotally, I heard yesterday that landfill is full of Primark clothes, because a lot of people only wear the items once or twice and then dump them. This is where we have gone wrong: buying stuff we do not need and then dumping it thoughtlessly, worshipping at the altar of the great God, economic growth.
I accept entirely – but we can’t build a new economy without investing, nor without people working for a living either
I have to say that when there is such unemployment it seems wilfully stupid not to pay people to insulate houses and carry out the sort of projects that yield long term environmental benefits (and reduced future expenditure on imported fuel). But no political party seems interested: I wonder whether the oil lobby in the UK is more powerful than we recognise.
GDP = Consumption + Investment + Government Spending + Net Exports
It’s one of the first things you’ll come across in a macroeconomics textbook.
And I agree that Government Spending is the only thing we can force to go up. The resultant debt can be eroded by the growth spurred by the spending, inflation or fiscal tightening *after* recovery is assured; or some mix of all three.
That is not really true. You can force net exports up by devaluing the currency; it makes imports much more expensive, encouraging investment in alternative domestic sources of production. e.g. call centres in Cardiff not Bangalore. It also makes exports more attractive to foreign buyers.
That is what the Swiss National Bank is doing right now, devaluing the Swiss Franc; it is also what some New Keynesian economists say you should do to exit a liquidity trap (0% interest rates). See Lars Svensson’s “Foolproof Way”.
Indisputable
Now, how much more can sterling depreciate given currency situation elsewhere
Ignore the past – and be realistic – how can we force sterling down?
You are living in a world where past performance predicts the future – that’s the economist’s world view – but not the real one
The Swiss intervened largely because their currency was becoming a haven given the riskiness of other asset classes. I doubt very much we could (or should) do the same. I would not recommend every country engaging in a competitive devaluation at the same time.
We could devalue Sterling by exactly as much as we wanted to.
The BOE just has to say it will sell unlimited quantities of freshly printed GBP to buy EUR or USD if the GBP goes below X EUR or Y USD. It is as simple as that. The markets will do the work of revaluing because nobody will want to be caught the wrong side of the trade. Exactly as happens when central banks change interest rates: markets move the bond prices immediately.
That is what happened with the CHF – it is now well above the EUR 1.2 floor, and the SNB has probably not bought much EUR at all.
Worrying about “competitive devaluation” is like the man worrying about what he will have for breakfast when his house is on fire. The ECB has tightened monetary policy in Europe twice this year. Twice! That is not what you do if you want to devalue your currency – exactly the opposite.
You clearly don’t get QE
Steven, the Swiss intervened because the wanted to avoid deflation. No more, no less. Please try the Svensson paper I referenced above, it’s quite readable. Fiscal deficit spending is not even in Svensson’s top three choices to exit a liquidity trap.
Richard, yes, this is a form of QE. QE is not limited to buying bonds; central banks can buy other things too like foreign currency.
If I’m a central bank, and I could (credibly) commit to create money and buy any apple you’d sell me for £1000, that puts a floor of £1000 on the price of apples. Anybody selling an apple for £500 would be a fool, because they could sell instead to the bank for £1000. And so it works with foreign exchange too.
This is what the SNB said:
“The Swiss National Bank is therefore aiming for a substantial and sustained
weakening of the Swiss franc. With immediate effect, it will no longer tolerate
a EUR/CHF exchange rate below one Swiss franc twenty. The SNB will enforce
this minimum rate with the utmost determination. It is prepared to purchase
foreign exchange in unlimited quantities.”
The Swiss Franc immediately devalued.
Mr Murphy,
I have followed your blog with interest for some time now and must say that while not agreeing with everything that you write, in general you are in tune with my views.
You may find that strange coming from a Guernseyman but I have never worked in the Financial Services Industry (how’s that for an oxymoron?)
To cut to the thread, several decades ago, long before my time and when my father was a young lad, Guernsey was suffering a torrid time: high unemployment, economy in the doldrums………
After much hand wringing and discussion, the States of Guernsey decided to embark on a (for them) huge capital project and build the winding road between St Peter Port and St Martin in the south of the island. (Le Vale des Terres)
This was a hugely expensive task but it gave hundreds of men jobs, an income, respect, bread on the table and just a little bit to spare if one was prudent.
I know that Guernsey is small fry compared with the UK but just a little example of how a bit foresight can work wonders.
Is this Keynes in action?
Yes!
And it paid off!
No Richard, there is a huge blind spot in what you have written.
Government spending works if it creates employment, flowing into consumer spending.
But labour liberalisation means that government spending here leaves the country.
Look at the Olympics project, which should have been a major economic stimulus, employing people from around the country. But it was all built with migrant labour. Wages leave the country, no tax, no help to economy here, welfare bill increased.
See my article on why no such stimulus could work here, in our liberalised economy, even if attempted
http://www.morningstaronline.co.uk/news/content/view/full/109737
And for goodness sake, get honest on this. You let youself down by not doing so.
Guernsey is a highly protected place. I dont know about jobs, but housing is so protected for locals, I cannot imagine that jobs are not, too, either formally, as housing is, or informally as in many other EU states (not here).
The government here works for big business, not the electorate. They are far from benign.
BB
Government hugely cuts back public services.
Make those who work for public services redundant
Government loses income tax and NI payments from these ex-employees
Government then has to pay out millions in redundancy to those who worked a long time in these public service jobs
Government is no longer getting tax and NI and is now obliged to pay out in the form of benefits
Local businesses who rely on the income of these ex-public servants now have to either cut back or go out of business altogether, meaning even less income for the government.
Government then have a shortfall of tax income and are having to pay out money to pay benefits, redundancy, etc.
How to balance this shortfall in income and out-goings? The government has no choice but to borrow and add to the deficit.
Madness!!
Madness or malevolent design. Why keep the national debt at all given the available alternative Positive Money? Because apart from preserving the system which creates the problems in the first place it gives government a stick to beat the rest of us with. Government itself is a huge part of the problem here. The minute you elect politicians you create a group with more common interests with each other internationally and the heads of business than they do with the electorate. They behave accordingly and we shouldn’t be surprised.
BB