Why are we holding back?

On the FundWeb page Tomas Hirst has posted an article about the problem of reserves. Corporates Sitting on Piles of Cash. The strap line is

"When the UK corporate sector reacted to the onset of the financial crisis by hoarding cash reserves, it set in train a phenomenon that is now casting long shadows over the UK recovery."

As he says a report has put the cash reserves at £729bn. To put this in perspective the total private debt in the UK is £7.4 trillion. So the cash reserves are about 10% of the total debt. He then goes on to outline the problems caused by lack of business investment - based on various other reports. But none of these reports are able to see that lack of business investment is also a problem with a cause - massive private debt.

I tried to post a comment on the website but it kept self-borking, so I'm putting it here instead. (Always write long comments in Notepad before posting them!)

There is certainly some evidence to suggest that business is sitting on reserves. But there is also evidence (from the 2011 Budget Report and a subsequent McKinsey Report) that private debt in this country is around 490% of GDP, and McKinsey thought this on the increase at the end of 2011.

Now I've asked every economist I come across the same question: what are the interest payments on ~ £7 trillion of debt likely to be? They uniformly ignore me, even the one's that argue that we should be looking at private debt.

We can see that every 1% of interest rate requires about 5% of GDP. But what is the average interest rate? 1% 5% 10% 20%? No one seems to know or care.

In an economy where interest payments alone amount to a significant proportion of GDP (my guess is about 50% each year) we don't have to theorise why demand is low. It's because everyone is busy deleveraging (including the finance sector who account for about half the total debt). As Richard Koo observed: right now business is not maximising profit, it's minimising debt.

But what it also means is that investing right now is not going to produce much return because the choke is on demand not supply. People are simply buying the absolute minimum of stuff at every level of the economy. More supply of anything in an economy saturated with debt is not going to stimulate much in the way of demand. At the same time government is busy squeezing the economy - and undermining confidence. And meanwhile we know that 1000's of zombie companies are being kept afloat by the banks in the hope that things will improve soon. But even the one-eyed, head-in-the-sand government are starting to realise that a recovery is a long way off. Those zombie companies are going to be wound up soon - let's see how Christmas goes...

So what would a sensible individual or business do with their reserves right now? Buy gold? I don't know. But investing in a new business venture would not be sensible right now in general. Of course some people are doing it and doing well. But they are a drop in the £1.5 trillion GDP bucket. And the Bank of Dave is happily and profitably lending money. But a few thousand at a time.

Those reserves could be quite huge, but until the debt problem is sorted, which will take another 10-15 years, there won't be much incentive to make risky investments.

I don't disagree that there might be reserves, and they'd be better spent than not. But in the broader perspective it's not sensible to risk your capital in business ventures right now. Which is partly why banks are loathe to lend - they've sobered up and realised that, given their reserves, they loaned far too much money at far to high a risk, in the 1990s and early 2000s. And now it's being said that they're under-capitalised - which is arse about face.

Debt & asset/debt ratios 2010

I've been having an extended Twitter debate with a Gordon Brown  acolyte. This person started off by referring to me as an ignoramus in that wonderfully oblique way that the English have of insulting someone. But a few figures have emerged from this that I'll spell out here.

According to government figures private debt peaked in Q1 of 2010 at 475% of GDP.

At the time GDP was about £1500 billion so total debt was £7125 billion.

2010 Networth was is ~ £6000 billion, but government indebtedness reduces this by ~ £600 billion. So our actual net worth is £5200 billion. (ONS Figures)

2010 debt/asset ratio is £7125 bn/£5200bn = 135%

That is to say that in 2010 our borrowing totalled 135% of our assets. The UK was 135% mortgaged. This is known as highly leveraged.

Back in 1990 UK private debt was just ~ 180% of GDP (this is still higher than the peak of the Great Depression in the USA). GDP then was £570 billion so debt was £1026 billion. Total net worth was about £2500 billion. So in 1990 asset/debt ratio was about 55%.

Over the 20 years from 1990 - 2010 GDP increased by about 260%; net worth increased by about 210%; while debt increased by about 700%. This is the legacy of the Blair Government with Brown as Chancellor, and the Brown Govt with Darling as Chancellor. The succumbed to lobbyists from the finance and business sectors who were given free range to mortgage the entire country. Our debts are now about £7 trillion and goodness only knows what the interest payments are on that! But if Travelodge is anything to go by then the interest is about £1.4 trillion or about 90% of GDP.

Is anyone still surprised that we have low demand?

Delusional economics and the economic consequences of Mr Osborne

New Talk From Ann Pettifor



This is a very good summary of what's going wrong from a Keynesian point of view. AP has in common with other commentators who warned of crisis the idea that the problem is private debt, which in turn is a consequence of deregulation.

AP kind of skips over things, and I'd like to see the same talk but with more time.

Savings, Debt and the Deficit

Edward Harrison, of the Credit Writedowns blog, makes a very good point in these two blog posts

• Why can’t people understand national accounting?
• Chart of the Day: Public deficits and private savings in the euro zone.

The first has given me much food for thought and I think will continue to do so. He says that the approach he takes here is "an Austrian-styled interpretation of the origins of the crisis", but it's pretty consistent with what the Post-Keynesians are saying too. The guts of it is this:

"When the government sector runs a deficit, the non-government sector runs a surplus of equivalent size.

The government budget cannot be seen in isolation. It must be seen in the light of private and trade sector balances. If the government runs a deficit or a surplus then we need to think about how that impacts the rest of the economy. At the end of the day the books have to balance. Someone's debt is someone else's asset.

I'd interject here to emphasise that a build up of debt is not neutral - Harrison seems to understand this but it doesn't yet feature strongly in public discourse so I feel I need to keep saying it.

It took me a while to get this, and this is where the Chart of the Day post comes in because it shows the relationship between public sector spending and private sector savings in the Eurozone (the chart is already 3rd hand).

I've looked up the UK savings ratio which is a similar shape:

Source ONS

Savings gradually fell throughout the 1990s and up to beginning of the Great Recession. Savings shot up in 2008 and have been gradually, but not smoothly, falling since 2010. Of course the expectation was that the recession would not last. Austerity measures and inflation, and particularly the very low (below inflation) returns seem to account for the decline in saving, but note that it does not seem to be going into spending - presumably it is going into debt repayments.

In June the Guardian was commenting: "The amount people are saving has increased at the expense of reducing debt levels, with consumers paying back 7p for every pound saved during the first three months of 2011." By July the it was opposite story "Savings fall as Austerity Squeezes Household Budgets."

So, according to Harrison, we can conceive the present problem this way:

The non-government surplus is too large, we need to reduce it now before it gets out of control.

And:

"What we want to do is target the cause of the deficits, insufficient demand which I believe is the result of the overhang of debt after a period of excess private sector credit growth. What you want to do is eliminate that debt overhang by reducing the debt or increasing private sector incomes to support the debt. That’s getting at root causes."

This seems consistent with what others are saying, though not of course in the government or the Bank of England! Harrison does not give his preferred solution to this problem. Mine would be direct debt relief in the form of SK's modern debt jubilee. Other options would be to use QE to directly fund investment in business. An alternate take on this is to specifically fund green business that will lessen our dependence on oil.

Lord Lawson calls Nonsense - Is he Right?

Worse than the 1930s? Nonsense

From Lord Lawson
     Sir, It is being said in some quarters that the present UK recession is even worse than the slump of the 1930s.
     That is nonsense. It is certainly the worst since then, but it does not compare with the 1930s. In 1932 (the year of my birth, as it happens) UK unemployment was in excess of 22 per cent, and gross domestic product was was 25% down on 1930.
     Enough said.

-- Letters, Financial Times. 13 Aug 2012.

Dear Lord Lawson (Baron of Blaby),

The comparison of the Great Depression and the Great Recession is instructive. The underlying conditions of the current recession are indeed much worse than they were in the 1930s. Private debt levels, the primary driver of the asset bubble and subsequent collapse that caused the recession, are very much higher than in the 1930s. Professor Steve Keen has calculated that in the USA private debt levels peaked at 176% higher than the highest level in the lead up to the crash of 1929.

However the response to the crisis has been very different. The biggest single difference is that in the 1930s banks went to the wall. In the 2000's we spent a great deal of tax payers money to prop up the banks: in July 2011 the Audit Office estimated the amount peaked at over £1 trillion pounds, though in Mar 2011 we're owed about £450 billion (about 30% of GDP). In Oct 2008 the USA government gave $700 billion to bailout the banks. And so on. Does anyone really know the total cost around the globe of rescuing the firms that causes the crisis?

With the bursting of the bubble in the 1930s the government stepped aside and let the private sector take the brunt - leading to the levels of unemployment you refer to. However it meant that those who were going to bankrupt did so quite quickly and then the economy started to recover. In the UK the Labour government slashed spending and raised taxes causing deflation. However unemployment was very much lower in London and the Southeast - comparable to your time as Chancellor in fact. The UK recovered slowly and was helped by withdrawal from the gold standard, a devaluation, and the lowering of interest rates to 1%. While the USA with it's New Deal policies recovered more quickly and more strongly once the initial agony was over. Interestingly the USA is also recovering more quickly from this crisis.

In the 2000s insolvent banks have been propped up by the government - many people have pointed out that is is ideologically communist (or even national socialist) rather than capitalist but that's an aside. Although lending to the real economy has dropped to very low levels (contributing to the extended recession) there have been no runs on banks. People did lose their pension funds, but on the whole not their ordinary savings. As in the 1930s government policy has harmed rather than helped the recovery, producing a slow down that is already longer that the 1930s and shows no signs of recovery.  At present government revenue is falling so that they have to borrow more despite cutting spending by billions of pounds.

In the 1930s rearmament and WWII intervened. And after the war huge injections of capital from the US left the UK more or less on it's feet but with debts of more than 250% of GDP. But this was followed by a period of economic stability due to Keysian style economic policies and the Bretton Woods Agreement. This period of stability lasted into the 1970s. Our circumstances today are very different. The whole world, and most importantly our trading partners, are all experiencing the effects of this recession. The example of Japan suggests that 15 years of recession might by realistic. However Japan never faced the self-destruction of their major trading partner, as we watch Europe teeter on the brink of collapse. Greece must cash out, probably Italy as well, and most like Spain and Ireland. The cost to the UK and Europe is at present incalculable.

According to the present government's 2011 Budget Report tell us that private sector debt was 450% then. A McKinsey Report from Jan 2012 says "deleveraging has just begun", and indeed from their graph it seems UK total debt might be on the increase. And looking at this graph remember that in 2011 private debt was 450% of GDP - i.e. it accounted for at least 5/6ths of the total debt in the UK.

Note that our debt levels are considerably higher than Japan's in 1990. Indeed the UK is the most indebted country in the industrialised world.

Another major difference is that the world pulled together in the post-war years and implemented measures to protect the world's economies from rapacious bankers. Since the 1970's successive chancellor's but particular you and Gordon Brown, Lord Lawson, have dismantled those protections and left us vulnerable to the same kind of problems. Only this time the Neo-Liberals are so much more in control, so much more integrated into the system, into economic education and into government itself, that we are unlikely to walk away with the protections that Bretton Woods gave us for a time. What is far more likely is that the finance sector will be free to carry on and create yet another crisis before too long. We'll see token measures with lots of media coverage and claims from the incumbent in No.11 that everything will be different, but it won't be. Before long debt will fuel another speculative bubble and that too will collapse with disastrous consequences.

So is the current recession worse than the 1930s? Well, it's not over yet. I think we will have to wait until after the present recession is finished before passing judgement. It's clear that the present Great Recession is shallower than the Great Depression of the 1930s, but it may well last very much longer and do more cumulative damage to the UK economy over the long run.

It's simply too soon to say "Enough said."

Yours sincerely
Jayarava

Private Debt Stays Behind Closed Doors

This is a graph from the Government's 2011 Budget Report. It shows their estimates of the scale of private sector debt - about six times the level of public debt. The top lighter band is the financial sector. Black is household which is about 80% mortgages, and dark-green is non-financial business.

Curiously neither the 2011 or the 2012 Government Budget have any measures for dealing with this problem. In the 2012 Budget there is barely any mention of private debt. I fact public debt is talked up as the problem. And recent days have seen government minsters blaming this on Labour. In particular the Government's  Budget is silent on the possibility of this massively over-indebted sector borrowing even more money for investment. I cannot recall any government minister mentioning private debt, and I cannot recall any journalist asking sustained questions about it. Some questions came up during Steve Keen's recent book promotion tour, but have died down again.

Many commentators are now saying that the Govt are using the chaos of the ongoing depression to shrink the state for ideological reasons. For example, in an interview with the Guardian, Dr Gabriel Scally formerly of the Department of Health says:

"At the end of the war this country was hugely indebted but within a couple of years had free healthcare and free education for everyone – what an achievement! This government is putting a huge price on education, especially young people seeking to go to university, and is in the process of dismantling the NHS." 

I think this is very likely to be the case. So not only is the government ignoring the primary cause of the depression, its austerity program is doing long term damage and preventing recovery, but they are dismantling or seriously weakening the social institutions that we need to help us get through this.

If you sat down to right a farce about a myopic and incompetent government, you could not do better than the real thing we have now. The UK will be a long time recovering, and we have not seen the worst of it yet.

Changing the World. A Case Study.

The world changed in 1971. I suspect that few of us noticed, though we've all felt the effects.

In 1971 President Nixon unilaterally dismantled the Bretton Woods Agreement. This multi-lateral agreement on monetary policy was put in place to help the world recover financially from WWII. It spawned the IMF and the World Bank. In the same year the UK introduced the Competition and Credit Control Act. The main effect of these changes was deregulation, which allowed private sector debt to begin to accumulate.

From 1945 to 1971 was a period of economic stability, with no notable crises. The IMF tell us that since 1970 "there have been 147 bank crises, 218 currency crises and 66 country-financing crises". In 1971 the motto of Polonious was decisively thrown out. The world began to borrow to finance consumption and to gamble on asset prices. Debt fuelled consumption and speculation, especially the latter, pushed up prices causing inflation. Inflation required pay rises, and further price rises. Until it all collapsed in a recession. Then began to pile up again. Each cycle was a little worse because some of the debt carried over. In the Third World it rapidly lead to ruin and poverty for many. In South-East Asia ruin and poverty came in the late 1990's. Now the First World faces ruin.

The response to this was to further deregulate the economy, but particularly finance. This allowed for more debt, and more risky lending. Banks, who make money from debt, were happy to oblige. Sucessive governments around the world followed similar policies.

The finance sector generated huge amounts of income but concentrated it in the hands of a tiny minority. It generated even hugher amounts of debt. Today the UK is the most indebted country in the world. Recent estimates place our private sector debt at 507% of GDP, household debt (including mortgages) at 100%, and Government at just 81% of GDP.

The most recent crisis exposed corruption in the finance sector, and the massive scale of our indebtedness. Five years later we're still going down hill, with Europe teetering on the brink (of what?). Many first world banks are technically insolvent but somehow reporting record profits. Now we learn that some have been manipulating interest rates. They are propped by government borrowing amounting to a trillion pounds. Executive pay is increasing exponentially. Unemployment is high. So much for the "free market". Many intellectuals are pointing to distrubing parallels with Europe in 1931.

The same trend has excerbated environmental problems. Governments seem paralysed by fear of the business sector. The political will to address any of these problems does not exist at present.

How did this happen?

The most disquieting voices joining the chorus of criticism come from perfectly respectable elements of society: from the college campus, the pulpit, the media, the intellectual and literary journals, the arts and sciences, and from politicians. In most of these groups the movement against the system is participated in only by minorities. Yet, these often are the most articulate, the most vocal, the most prolific in their writing and speaking.

Lewis Powell Memo

The second major event of 1971 was the Lewis Powell Memorandum to the US Chamber of Commerce entitled "Attack on American Free Enterprise System". Powell characterised the situation as a war in which business interested were threatened by social change emphasising the values of cooperation and mutual aid (our values). The memo makes a series of detailed proposals for an aggressive response by conservative businessmen.

Businessmen should endow universities with chairs to teach conservative business practices, and financially support conservative institutes. Powell proposed that a number of very well resourced think-tanks be set up. These would help to create and promote a consistent, potent message. Deregulation was central to their agenda. They needed to train spokesmen in communicating the conservative message, and create booking agencies to help organise speakers. They also invested in media companies to ensure access. They did all this, and needless to say they funded conservative political parties. Nixon appointed Powell to the Supreme Court two months after the memo was published.

At the same time US conservatives began to politicise fundamentalist Christians who had been disengaged to that point, creating a whole new constituency of millions of ultra-conservative voters.

The results have been spectacular. Conservatives all over the world have benefitted from this coordinated strategy to hijack democracy in the USA, and fight a war against their own people. A steady stream of graduates with PhDs in what amounts to conservative ideology, finds jobs in universities and think-tanks to explore and publish their ideas and influence new generations of students and intellectuals particularly economists. There are close linked between Neo-Conservative though and Neo-Classical Economics. Through manipulation and control of the media a constant presence of the conservative message is maintained. Powell's memo is one of the most important documents of the 20th century, it is the founding charter of the Neo-Conservative religion.

As a result conservative ideas have been at the forefront of politics. Deregulation has wrecked the world's economy, and helped to wreck the environment. Conservatives set the agendas on which elections are fought (they are doing so again in the UK right now). Business policy became political policy; business values became social values.

Progressives tend to use the language of conservatives when critiquing conservative ideas, because they don't understand that even a negative mention helps to reinforce the idea. This is simply illustrated by saying "Don't think of an elephant". We cannot help but think of an elephant. The conservatives also manage to portray opposing views as against the common good, out of touch, or naive. Ironically self-interested conservatives gang together, and community spirited progressives are often deeply divided. Resistence has been ineffective.

Clearly the very great likelihood is that this will all continue with rather horrific consequences. This how American businessmen suceeded in changing the world, and

The question I'm asking myself is "OK, I've understood this, now what?"

 ###

Submitted to the journal of the Buddhist Order I am a member of. July 2012

Bankers' Debt

Mutual Indebtedness

I usually think that Nigel Farage is a hateful reptile. But watching this speech on 13 June I have to admit that he has a point. European politicians have their heads up their arses.

"I remember 10 years ago... [they were saying that] with the Euro by 2010 we would have full employment"

100 billion is being put up for the Spanish banking system. 20% has to come from Italy. The Italian banks lend money to Spanish banks at 3% interest, but they have to borrow it from the markets at 7%. Genius! [Paraphrase].

Renegade Economist with Ann Pettifor

Ann Pettifor talking about the problem of debt. My notes from the talk follow.

In 2003 AP predicted the Anglo-American debt crisis. She had been studying debt in 3rd world countries. The crisis seems to have begun in the early 1970's on the periphery in poor countries in places like Africa. She organised Jubilee 2000 which got the banks to write off $100 billion in loans that were never going to be paid anyway. [Sound familiar?] However the reaction from the mainstream was dismissal.

AP spent some time working at the New Economics Foundation studying sovereign debt. She became interested in why debt had not accumulated much in the period 1945-1971, but after 1971 began to accumulate rapidly. The popular view was to blame OPEC, but this did not ring true. She read Haliner (Sp?) and realised that the build up of debt coincided with the deregulation of credit.

In 1971 Nixon unilaterally bailed out of the Bretton Woods agreement, and the UK introduced something called Competition and Credit Control (which was all about competition with no controls). This lead to "lending without limits". And it also meant that central banks could no longer control the spread of interest rates, they could only control the base rate which is effectively irrelevant (i.e. unrelated to the interest banks charge consumers).

In 2003 it was "blindingly obvious it couldn't last" but only the New Statesmen took AP seriously. AP writes for the NS now. In 2006 worried that friends and family were borrowing unwisely she published The Coming First World Debt Crisis which warned of the collapse. The book did not sell well at the time, but does better post crash.

Neo-Classical economists have a silo mentality. Overly specialised. AP approach is more wholistic. She would "remove the financial sector claws out of the academic world". The current academic approach to economics is bizarre, but the economists are "hired guns", who mostly don't have tenure. Only a few tenured academics like Jeffrey Sachs can really say anything outside the mainstream. The finance sector is funding research and institutions.

Sidebar about INET conference and mixing with the old guard. Pluralism good even if old guard are boring.

AP reading paper ostensibly by Ben Broadbent, formerly of Goldman-Sachs, now on the board of the Bank of England (BoE). He says that the cause of the crisis is nothing to do with easy money, and all down to interest rates. [Saw this in Guardian comments recently; and c.f this from the New York Times 2008]. AP the paper showed signs of having been written in the Goldman-Sachs research dept. and delivered by Broadbent. [I think the speech in question was Deleveraging. There is another take on this speech on the FT website. JR]

He says stupid things like "for every saver there is a borrower", something apparently repeated by "dear of [Tim] Geitner". But we've had a monetary system since 1694 and money is just an entry in a ledger. Banks create money by double entry book keeping.

Neo-Classical economists are stuck in a ptolemaic [i.e. extremely anachronistic and empirically wrong] world view. We find such fundamentalism amongst religious people, but not expected on the board of the BoE. They are sincere, but frozen in time. What is amoral is that the banks finance the system, lend without regulation and at very high interest rates.

Lending interest rates is a huge issue, and underplayed by other non-orthodox economists. We need banks to lend at a low enough interest rate to allow entrepreneurs to pay back loans and still make a profit (eventually). But banks want a big return on an "effortless activity", they just make ledger entries to create money, but they charge rent on that money.

Interviewer raises the issue that "only 8% of loans went into the real economy". Response: "We have to regulate the banks." We know how to do it, because it's been done before in the 1930's when there was arguably more globalisation, more immigration for example. Keynes and Roosevelt championed regulation. We have to manage the banks, and in particular cross border credit so that we can control the money supply and the real costs of borrowing. We need to do two things.

1. We need to adopt Keynes dictum of keeping interest rates permanently low, to enable entrepreneurs to make a profit, but also to slow down resource extraction. If profits are low on mining, for example, we have to mine more to make it more profitable. But these resources are finite and the activities to get them destructive so the less the better.

2. We need to control the creation of credit.

"We need to say to banks in no uncertain terms: you may lend for productive purpose, but you may not lend for speculative purposes. You can't lend to a gambler, but you can lend to someone who's going to do something [in the real economy and create value, such as making goods & services"

There is no shortage of money is a monetary system

The Florentine banking system lead to the renaissance, while the founding of the Bank of England lead to the Industrial Revolution.

It is true that bankers have bribed and captures politicians, making them remove regulations, but it is the fault of politicians who took bribes and lacked backbone [and probably any deep understanding of economics JR]. One does have to be weak in the face of the banking lobby. Compare Roosevelt with the German politicians of the 1930s. In USA we got the new deal; in Europe we got fascism.

"We can't do much about Goldman-Sachs, or even RBS which we are supposed to own. But we can hold politicians to account. Part of the problem is that the public are ignorant, and even the economists struggle. But the Jubilee 2000 movement has shown that the public can understand things if they are explained. "People aren't stupid". And once they understand there's no stopping them.

Banks create money out of thin air by entering a number in a ledger. This is free money that the banks charge rent on, which is exorbitant and unfair.  Politicians changed the rules, they can be prevailed upon to change them back!

In presidential elections in France 1 in 5 people voted for the fascist Front National. 35% of working class people voted fascist. They're desperate and see the banker doing so very well. No on is listening to them, but Le Penn says "I am listening". In 1930's Hitler began with about 18% support, and he too told people suffering from economic hardship "I am listening". And yet the Bundesbank are saying "there is no alternative".

There is an alternative--

1. Get a grip on the issues. Read the newspapers, especially the Financial Times and try to understand it. Use the web [interviews like this and others I link to].
2. Go and meet your MP. Don't just write. Tell them you don't like what they're doing. Reign in the bankers. They need to change the rules. Changing the rules can only be done by politicians. "civil servants [in the IMF and World Bank] can't change the world". We need to get politically involved. Join political parties and apply pressure to policy makers to stop pandering to the bankers. Apply pressure to politicians.