Debt and Deficits – Sustainable but Unfair

At the end of January 2010, UK government debt stood at £848bn and around 60% of GDP. The European Commission says ‘additional fiscal tightening measures’ are required. The Tories warn that investors are getting anxious and that the ratings agencies (who also certified the security of mortgage-backed derivatives) are about to downgrade the UK government’s debt, with the likely consequence of increased interest rates to pacify bond-holders.

Two-thirds of Treasury bonds are held by UK citizens and institutions – mainly banks and pension funds – that rely on them as secure and predictable basic assets. This is UK government money owed to UK citizens by the UK government. It is a purely internal redistribution of claims that cannot be compared, as it sometimes is, to household debt. The one-third of Treasury bonds held by foreign investors, such as other central banks and financial institutions, is a rather different story. Clearly these bond-holders have less direct interest in the long-run health of the UK economy, and so may and sometimes do, exert pressure on governments to increase the rates of return on the new bonds they issue. Were these rates of return to exceed a reasonable expectation of the political and economic tax revenue capacity of the UK government, then there would be difficulty in continuing to fund the current level of debt in the same way. In fact this situation seems a long way off. Currently interest rates are low, UK debt is not particularly high relative to other countries, and the UK has strong social and economic assets to back its liabilities. This makes UK government debt a particularly safe form of wealth in a time of economic turbulence and one that tightening capital regulations are likely to create even more demand for. The real question about the UK’s debt is not so much whether it is sustainable, but whether it is fair. Continue reading Debt and Deficits – Sustainable but Unfair

The Reality-based Economics Community Strikes Back

An important step in making economic scholarship relevant to the post-crisis world may have been taken last week in Cambridge, UK. A number of economists that do not subscribe to the majority view of how the economy works met to consider what a ‘New Economics’ might look like. While new in several senses, the ‘New Economics’ does not lack deep roots. It is founded in ideas that have taken on new life in the last two years, such as those of John Maynard Keynes from the 1930s and Hyman Minsky from the 1970s. Keynes’s insight was that because the saving of individuals does not automatically translate into investment by firms, government spending may be required to make up for low private sector demand in times of recession. Minsky’s observation was that there is a tendency for firms to optimistically over-borrow in good times to the extent that they become prone to collapse when times turn bad. These insights have become current in the financial media, yet what underpins such ideas and why they must become embedded in our economic thinking, has not.

Modern economics has insisted that the economy as a whole can be studied as a stable outcome of markets that are populated by completely rational and fully-informed individuals. To the extent that this ignores what we know of human knowledge and behaviour, ignores the existence of economic institutions such as firms, banks and governments and ignores the outcomes of actually existing markets, this can be justified by the gnomic utterings of Milton Friedman. Continue reading The Reality-based Economics Community Strikes Back

The banks, the BBC and ‘Economic Activity’

Is ‘economic activity’ always a good thing? The banks hit by the bonus tax have raised the spectre of lost incomes and tax revenue if they choose to relocate away from the UK. The British Broadcasting Corporation (BBC) has recently sought to justify the licence-fee by calculating the revenues its commissioning generates for independent production companies. But it’s a deeply misleading idea that the benefit of any activity can be calculated by measuring the quantity of money that is involved in purchasing or producing it. Because money is the definition of wealth to each of us as individuals, it’s easy to forget that in itself it is pretty much worthless paper or more commonly today, an electronic pattern on digital media. For the welfare of the nation in which it is generated money represents no additional wealth whatsoever. Continue reading The banks, the BBC and ‘Economic Activity’

The Economics of Theft

A Church of England vicar has recently said it’s OK to steal from supermarkets if you’re hungry and desperate. This is against the law. Apart from the 8th commandment do we have any idea why? It’s annoying to be stolen from, certainly, but it’s also unpleasant and dangerous to be poor.

The social, as opposed to the moral, justification for the illegality of theft is that without inviolable property rights no modern transaction-based economy would be possible. Who would exchange anything (for money or otherwise) if they could just take it or fear that the other person might? Who would build a factory and employ workers if they thought the workers could, without penalty, take over its running and obtain all its revenue themselves? Continue reading The Economics of Theft

The Truth of Unequal Pay

There is at present an unprecedented wave of concern about pay disparities. We have the bankers’ bonuses, both main parties promising to limit high salaries in the UK public sector and a vigorous debate in Scotland about the high levels of pay of some Health Board managers.

Last week, the New Economics Foundation (NEF) published a report in which they calculated the benefit to society of various low and high paid workers per £1 of income. Whatever one might say about the rigour of their methods, the report makes a strong case for current income disparities having little basis in social contribution. My view is that as a nation we are at last waking up to two realities of ‘political economy’. Continue reading The Truth of Unequal Pay

Rover, the ‘Phoenix Four’ and Limited Liability

Manhattan Bankruptcy Court
Manhattan Bankruptcy Court ©DWP

After the banking crisis and the debacle surrounding the collapse of MG Rover, a British car manufacturer, it’s surely time for a rethink of corporate limited liability.

 

The Phoenix Consortium, an ad-hoc partnership of four businessmen friends led by John Towers, extracted at least £9 million each from MG Rover, thanks to a sum of just under £500 million paid to them by BMW to take the firm off their hands. In May 2000 the Consortium purchased MG Rover through a company, going by the name of ‘Techtronic’, that they set up with £60,000 each of their own money. This holding company profited from interest on BMW’s £500 million while paying none. This profit was transferred to a higher tier holding company, Phoenix Venture Holdings (PVH) of whom the controlling and main beneficiary owners were the Phoenix four.

 

The four partners failed to find a joint venture partner for Rover, and in April 2005 it went bankrupt owing £1.2 billion to its creditors, including the pension fund of its own workers. For this work and its failure and their investment of £60,000, each of the Phoenix four received the equivalent of over £2 million per annum (excluding the benefits from MGR Capital). Even by current inflated standards of boardroom pay, this would be excessive for success but for failure it is absurd. Continue reading Rover, the ‘Phoenix Four’ and Limited Liability

Money and Credit in 2050

(This is a summary of an essay I wrote in 2000!) It still seems relevant. The full document is here (pdf 36.8kb).

By 2050 money in its current form as non-specific value will have been replaced by credits for specific future goods and services. These credits will be traded in a sophisticated barter network. This is the only complete solution to the problems created by money which have plagued the global economy in the 20th century. The partial solutions offered by Marx, Keynes and Friedman have done as much harm as good. Because money represents a claim on future production of goods and services, but these goods and services are not specified in transactions, physical limits to their future availability and use are often not reflected in money prices. This is responsible for the phenomenon of national money supplies growing faster than national production and the asset price inflation seen in many parts of the global economy. The apparently limitless nature of the pool of money in the global economy also means that major distortions in distribution often go unrecognised. The solution of using credits for specific future production is a feasible one using anticipated advances in information and communication technology. Pointers to the future can be seen in the proposed Kyoto emissions trading scheme, and in the expansion of barter networks. Banks, or their equivalents, will continue to offer credit for development but will assess the risks and benefits on a much broader basis than pure profit and loss. The proposed credit system will produce significant improvements in the ability of market mechanisms to value environmental and social aspects of production and supply. Macroeconomic stability will be enhanced by the removal of uncertainty over money effects in future transactions and political responses to economic shocks will be improved by greater public understanding of their real causes and effects.

Banking, its Purpose, Risks and Rewards

Misty times on Wall Street
Misty times on Wall Street

Banks are returning to profit. The new chief executive of the taxpayer-owned Royal Bank of Scotland complains that

We sometimes feel as if commentators variously want us to go back to over-lending, to operate on a ‘not-for-profit’ basis, to never entertain a client and to offer employment conditions that deter the best and brightest.

All the evidence is that the government is listening to him, and that the banks will soon re-acquire their independent status and carry on pretty much as before. And yet the complaints of Stephen Hester are somewhat undermined by the balance sheet changes that by his own admission are necessary to restore the bank (from its own point of view) to health and safety over the next 3 years. This involves doubling its ratio of the safest-rated assets from 4% to at least 8%, increasing its liquidity reserves from £90bn to £150bn, and reducing its wholesale funding reliance from £343bn to £150bn with a consequent reduction of its loan/deposit ratio from 156% to 100%. According to Hester, ‘those with accountability for past mistakes have gone.’ So the previous appalling state of the balance sheet should be regarded as a natural disaster of which the ‘the new RBS’ need hold no memory. This is clearly nonsense. No other bankers, Hester among them, were queuing up to denounce the Royal Bank’s balance sheet position before the crunch came. Nor would we expect them to do so. The problem with the banks was and is little to do with the errors of individuals. It isn’t much to do with their talent and inspiration either. The problem lies with a complete failure on the part of bankers and the government to understand banking and its social function.

Continue reading Banking, its Purpose, Risks and Rewards