Category Archives: Economics & Finance

Reflections on economics, investment and the financial world

Syriza’s victory. This is going to end badly for somebody

Last weekend the anti-establishment, far-left party Syriza won the general election in Greece, and did better than most people forecast. Under Greece’s unique electoral system, which gives the largest party a bonus of 50 seats, they almost won an overall majority. Guardian journalists jumped for joy. For them it showed that their hated austerity policies can be challenged and beaten. Elsewhere there are quite a few calming voices; things can be worked out, seemed to be attitude. Both views are naïve.

First, in fairness, a couple of positive things need to be said about Syriza. The Greeks have been badly let down by their political establishment, represented in two political parties: New Democracy and Pasok. And yet it is these establishment parties that have been entrusted with sorting the mess out so far. Syriza are coming to government with fresh eyes and should be in a better position to clean things up and distribute the burden more fairly. They should certainly be given the benefit of the doubt for now.

And one of their central positions, that Greece should be forgiven much of its debt, is perfectly coherent. We need more caveat emptor from buyers of sovereign debt. Repayment of debts is not a sacred duty that comes before basic human needs. A more liberal attitude to debt is one of the ways in which progress can be made in unfamiliar economic environment we find ourselves in. There are, of course, trying consequences to such liberality: it will become more difficult to borrow.

That I think is were the more moderate commentators start. But difficulties with Syriza’s position start come thick and fast after that. This is what Syriza’s leader Alexis Tsipras said immediately after his victory:

Greece is leaving behind catastrophic austerity, it is leaving behind the fear and the autocracy, it is leaving behind five years of humiliation and pain. Your mandate is undoubtedly cancelling the bailouts of austerity and destruction. The troika for Greece is the thing of the past.

This is rage against austerity: the need to cut back government expenditure and raise taxes in response to the economic crisis. And this is what those Guardian writers like. The left wing narrative, applied to countries as diverse as Britain, France and Greece, runs something like this. In the 1980s a malign conventional wisdom infected the governments of the western world: neoliberalism. This sought to reduce the scope of government and regulation, and in its place rely on free markets.  All this did was to enrich an elite at everybody else’s expense. And it ended in banking madness that led to economic collapse in 2008. And yet these neoliberals remain in charge! They have used the crisis as a reason to pursue austerity policies. But these policies are an evident failure: everywhere they have been applied growth has been stagnant. When will the world come to its senses, reverse austerity and let growth return?

Syriza’s victory will test this narrative to destruction. The first problem is the debt renegotiation. Sovereign debt is about 175% of Greek national income. This sounds unsustainable. Surely all Syriza is doing is asking for common sense to be applied so that everybody can move on? But all is not what it seems. The size of that debt is a bit of an accounting fiction. Debtors have already conceded a lot on both interest rates and repayment schedules; the debt is not anything like as burdensome as the headline figure suggests.

And there are powerful reasons for preserving that accounting fiction. First, outright debt forgiveness is unpopular right across northern Europe – and not just Germany. Conceding ground on it will nourish the far right from France to Finland. And of course, it will undermine mainstream governments in Europe’s periphery: Portugal, Ireland, Spain and even Italy. The original Greek deal, put together with the hated Troika (the European Commission, the European Central Bank and the IMF) was an elegant compromise designed to balance these destructive forces. The best the Greek government can hope for is a bit more of the same fudge. Allowing Greece to drop out of the Euro and the EU would be very destabilising for the rest of Europe; but it is hardly clear that conceding a lot of ground to “renegotiation” (a euphemism I have always hated) is any better.

And then there are those austerity policies on which the Troika have insisted. These are often portrayed as economic nonsense by the left, because of their effect on aggregate demand, which leads to a sort of doom loop. That is indeed a problem, but their fundamental aim is to put the Greek economy on a sustainable footing. Government expenditure and taxation were way out of line with each other; Greek industry was internationally uncompetitive. Unless these problems are tackled no solution is credible, which means that nobody will lend the Greek government money. Read the more thoughtful “Keynesian” critics and you will suggest that stimulus is focused on initiatives that do not undermine sustainability – infrastructure investment is a favourite. And that, as I have pointed out before, is not as easy as it appears.

Now the Syriza leaders are not stupid, even if some of those Guardian commentators are. Elements of their programme address the issue of sustainability: improving tax collection and targeting the wealthy elite more effectively. But many of their promises seem to go in the absolute opposite direction – reinstating government jobs and raising salaries; reversing changes to employment protection.

Now it is possible to sketch out a fudged way forward; changing the balance of Greece’s reforms, allowing a little more short-term slack, and a little more debt rescheduling.  But how is this “leaving behind catastrophic austerity”? It is impossible for Syriza to meet the expectations it has raised. The Vox Pops broadcast by the BBC over the last week or so suggest that the Greek voters themselves largely understand this – which is one reason to think that maybe such an outcome is what is in store. Mr Tsipras will simply follow the trail blazed by France’s Francois Hollande. In that event it will be the far left in other countries that will be left empty handed.

But a Greek exit from the Eurozone, and the EU, is the other likely outcome. If that happens Greece will indeed have banished the Troika and liberated itself from its debt burden. But the austerity that the Greek populace have suffered to date will look tame.

There is very little middle ground. This is not going to be an easy year. Behind that we can see a flaw in the leftist narrative. The economic policies of the 1990s and 2000s did not just benefit a wealthy elite in developed countries; benefits were spread right across society, including an expansion of government programmes. But these advances were built on sand. Lacklustre growth since 2008 is shaped by fundamental economic forces. It is the new normal. We had better get used to it.

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Inflation – deflation. More evidence that most economists have lost the plot

The economic crash of 2008 took most economists by surprise. As a result many thought tha the discipline was discredited and that it would, or should undergo a rethink. Alas though we underestimated the resilience of conventional thinking. For example, commentary about Britain’s recent low inflation figures, and about inflation in other countries, is straight out of a pre-2008 text book. That’s worrying because the world faces huge economic challenges – while professional economists are looking in the wrong direction.

This week Britain’s lowest annual inflation figures on record – though I’m not clear exactly which set of records this refers to. Overall prices were calculated to have risen by just 0.5% in 12 months of 2014. There was a lot of talk about whether this was good or bad news. On the bad news front the commentators suggested that these figures might presage deflation – negative inflation – which is a Bad Thing. Bad they explained because it undermines demand because people defer purchases, Bad because it makes debts more difficult to repay, or Bad because it makes raises the floor for real interest rates, so making money supply tighter than it should be. Japan since the 1990s is then quoted as the spectre. Some economists will point out that some deflation is not bad – if it is a sign of increased productivity making things cheaper, rather than a spiral of decreasing demand.

What’s wrong with all of that? It is based on a logical fallacy that is so commonplace that most macroeconomists don’t seem to realise they are making it. In order to understand a complex thing like  a modern economy they have developed a series of aggregated statistics, of which GDP and its cousin economic growth, is one, and inflation is another. Fair enough – but for them these aggregates take on the properties of single, uniform phenomena. They then go further by inventing theoretical concepts such as “capacity” and “the natural rate of unemployment” which are unmeasurable and unreal, and pretend that they are real physical things. They then create a world rather anecdotal stories around this fictional world of statistical measures to convince themselves and others that this world is real. This fictional world is populated by people and businesses that are all essentially the same.

But reality is meanwhile diverging ever further from the fictional world. Let’s go back to that commentary on inflation. Will people put off purchases if prices are falling? The prices in question are largely fuel and food; deferral seems unlikely. And remember when the prices of electronic goods and imported manufactures was falling in the 2000s? Where people putting off purchases? It all depends on the precise circumstances – getting underneath the detail. Debts becoming easier to pay off if there is inflation? This depends on two things. Firstly that inflation must apply to your household income, so that it rises faster than the principal of the debt. Second that interest rates are less than the rate at which your income is rising. Neither is true for most people, or even close to being true. Inflation is not making debts easier to repay; deflation should not make repaying debts more difficult. And as for the business about money supply, this opens up a whole new parallel world that economists inhabit – that of monetary policy.

To work out what is really happening in the economy, you need to get behind the aggregated figures and ask what is actually happening and why. Most macroeconomists are unwilling to do this. They play with their aggregated statistics and focus on a fairly short to medium term policy options known as “fiscal policy” and “monetary policy” as if these were the only things that really matter. They remind me of Russian Tsars sending directives to distant provinces . We’re too busy and important to bother with the details; Just do what you are told and  it will all work out on average. And the world goes somewhere else, perhaps disastrously as was the case in 2007/08.

We have another case study in this muddled thinking: Japan. Macroeconomists are quite excited about Japan at the moment, because the current government is adopting a highly aggressive economic policies, following decades of stagnation. This includes an aggressive monetary policy that is straight out of the pre-2008 textbook – increasing the money supply and raising inflation expectations. This is not going particularly well, but the macroeconomists have a ready culprit – the Japanese have wrecked things through bad fiscal policy, since they raised the rate of VAT. Actually the fundamental problem with Japanese economic policy was that while prices were rising, pay (other than a few temporary bonuses) was not. In other words inflation has not proved the uniform phenomenon that economists assume. And that simply highlights that the main issue with the Japanese economy is the functioning of its labour market, not the conduct of macroeconomic policy (see this perceptive article in the FT from Bill Emmott). That and some severe secular trends that afflict all developed economies (demographic change, the evolution of the global economy, excess debt, accumulation of stagnant wealth, and changes to technological progress).

To be fair, the Japanese government, under its Prime Minster Shinzo Abe, has always been aware of this wider and more complex picture, and has been attempting to tackle the many roadblocks to change. For that prominent economists, like Joseph Stiglitz, call them “stupid”.

The world economy, and our individual nations, face huge challenges. We need new thinking. The laissez-fair (or “neoliberal” in leftist parlance) approach adopted in the 1980s has run its course. But the aggregate demand-management polices that preceded them are not the answer (I will not call them “Keynesian” out respect for the highly intelligent and flexible mind that Maynard Keynes possessed). Politicians and central bankers are grappling a range of practical problems that most macroeconomic commentators brush aside. and yet these commentators dominate the airwaves and newspaper columns.

Some of the outlines of this new thinking are quite clear. More focus on redistribution and public investment. Moving away from an obsession with economic growth. Tackling excessive debt. But these leave huge questions. For example: how do you tackle excessive debt without economic growth? I wish economists would turn their attention to these vital questions rather than rehash yesterday’s textbooks.

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Are politicians as stupid as Joe Stiglitz says?

Our politicians are being stupid. Thus says the eminent US International Festival of Literature in Cologne, Germany - 13 Oct 2012economist Joseph Stiglitz in a recent article The Politics of Economic Stupidity. In spite of its title, however, the article spends most it words explaining the economics, and actually says very little about the politics, beyond saying it is stupid in pretty much all of the developed world. He is venturing similar views to fellow US academic and Nobel Laureate Paul Krugman (who is even more vocal about stupidity) and the FT’s Martin Wolf (whose comments are more closely argued and less polemical). All three are formidable intellects. Why are they saying this? And why are their views having such little impact on those responsible for economic policy?

The starting off point is the meagre rate of economic growth enjoyed by developed economies (mainly the USA, Japan, the Euro area and the UK) since the economic crash of 2007/08. The politicians cheer from the rooftops if growth occasionally reaches the rate of 3% per annum. But all economies are well below where they expected to be at this point by forecasters in 2007. Growth is meagre and living standards for the median citizen are hardly advancing at all. After a recession you should expect a rapid bounce-back, and then a resumption of steady growth of 2-3%, referred to as the “trend” rate, observed since the 1950s.

The proximate cause of this slow growth is, as these economists have it, a lack of demand. In other words our economies are producing enough goods and services, but not enough people are buying them. This shouldn’t happen. Economics is a circle: what we pay people to produce things is spent by them, creating demand. Demand and supply should balance out. But this can go wrong. If people save too much, and this isn’t balanced by investment, then there can be a downward spiral, in a process brought to popular consciousness by the economist Maynard Keynes in the 1930s. This is what seems to be happening across the various world economies now.

The traditional answer to this problem is for governments to stoke up demand artificially and thus stabilise things. In recent decades the consensus was that he best way of doing this is through monetary policy, usually low interest rates. This encourages people and businesses to spend more; once they spend more the system stops leaking, growth picks up and things settle back to a nice even flow. This should all be a nice self-adjusting process which does not lead to worse problems down the track. But, as Mr Stiglitz points out, this process does not seem to be working. I think he is right here, as I have blogged before, although most economists are in various states of denial about this state of affairs – so central has a particular idea of money and monetary policy become in conventional economics.

That leaves a second weapon in the conventional toolkit: fiscal policy. This means that the governments deliberately spend more than they raise through taxes, creating extra demand that then plugs the gap. This has been the incessant cry of “Keynesians” ever since 2008. But this isn’t as simple as it looks. It is not self-adjusting the way that monetary policy is supposed to be. The risk is that you build a pile of government debt that cannot be repaid, causing another economic disruption down the track that undoes all your good work. Or to put it another way, it often means prolonging unproductive and unsustainable activities that will drag the economy down in due course. It is meant to be a temporary corrective, not a long-term solution.

But, Mr Stiglitz and Mr Wolf say (I’m not so sure about Mr Krugman – he has become so polemical that I’ve stopped reading him), there is a way to square the circle. There is a magic bullet (they don’t actually say that). Public investment. If fiscal policy can be directed towards investment projects it will be sustainable. These projects will generate a return from which government debt can be repaid, either through direct revenues, or through higher taxes. And when government borrowing rates are as low they currently are, it doesn’t take much of a return to achieve this. And yet the developed world governments are reluctant to do this. This is what Mr Stiglitz is calling economic stupidity.

But alas life is not so easy. Public sector investment is an elephant trap. Investment projects that generate their own revenues and collateral don’t need the public sector to run them. Indeed it is almost always better to let them run in the private sector, where management and accountability is sharper. And by and large all the easy ones are being done already. It leaves some big projects that turn out to be very risky – like, for example, Britain’s HS2 fast railway. And because they are risky they are slow to get up and running, and not much use as tool for temporary fiscal policy.

But there is another set projects where the returns are indirect – they come from taxes in various guises. These include things like roads and bridges (given the difficulty of charging economic tolls), schools and hospitals, under Britain’s NHS. But the returns are difficult to judge and projects are selected not through a process of objective rating of financial return, but through political arm-twisting in a bid for short-term prestige. And the more urgent the need to create economic demand, the worse in quality these decisions are.

Examples about. After 2008 China embarked on a massive and urgent infrastructure programme. But although the country remains underdeveloped, much of this money was wasted; whole cities have been built and lie empty. The Chinese government is now grappling with a rising tide of bad debts from the state banks that backed these projects. Japan in the 1990s invested massively in infrastructure projects; the country is littered with “bridges to nowhere” and its economic problems are as intractable as ever. In Britain in the early 2000s the country invested in a whole host of Public Private Partnerships. Many of these are turning sour because it turns out the facilities (notably in the NHS) were not actually needed. Though the political opprobrium surrounds the PPP structure, and the way that there was no real risk sharing with the private sector, we mustn’t forget the problem at the heart of it all – public sector organisations are very bad at choosing investment projects. (Actually private sector organisations aren’t any better if the accountability is weak – but that’s another story). I could go on with other examples of government expenditure that were sensible in principle but badly designed in practice (Labour’s Building Schools for the Future, for example).

The upshot is that public investment is no magic bullet. It’s a good idea, and we should do more of it – but a top down blitz directed by the need to rebalance the economy in the short term is asking for trouble. Each project needs to be properly thought through and well managed. That means you can’t get them going in a hurry.

So what to do? I think we need to be more realistic about the direction our economy is going. Things are changing. The demographics are adverse. The excessive wealth of an elite is economically inefficient. Modern businesses require less physical investment. Technological innovation is more about improving the quality of life than ramping up consumption. Economist such as Mr Stiglitz and Mr Wolf are well aware of these pressures. I think their time would be better spent helping us to craft long term solutions rather than ranting on about “stupidity” that turns out to be not so stupid after all.

 

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Polly Toynbee is right – we need more honest debate on tax and spend

I don’t approve of Polly Toynbee. She’s so deep in the Guardian bunker that she rarely has anything useful to say. She writes polemic that will entertain the left, but not persuade anybody else . So I wasn’t expecting much from her article last week Economic dishonesty is the deadliest deficit of all. I was expecting her to repeat the Labour myth that the economic crisis was somebody else’s fault, and that austerity policies have strangled the British economy. But she was making a point of value. It was that the Conservatives and Labour have very different views of the future government finance – but they were both concealing their differences.  The Conservatives do not want to spell out the implications on services and benefits; Labour do not want to look irresponsible, or to be painted as the party of high taxes.

She wrote her article before the Autumn Statement delivered by the Tory Chancellor of the Exchequer, George Osborne. Ms Toynbee should be pleasantly surprised at how things turned out, though I doubt that she is. The British government’s future policies on taxation and public expenditure have taken centre stage, and important differences have emerged between the political parties.

It started with some rather excitable coverage on the BBC Radio Today programme, which pointed out that Tory party plans for future spending would take it back to being the lowest proportion of national income since the 1930s. The bare statistics were factual (inasmuch as future projections can be described as factual) – but a comparison with the 1930s is farcical. National income is incomparably bigger than then – so a similar ratio of spending to income will not produce destitution that is in any way comparable. For similar reasons, the economic crash of 2008-09 is no way comparable to that of the 1930s, in spite of some of the ratios to national income being similar. Mr Osborne rather publicly objected to the coverage, drawing attention to the whole issue. Up to that point Ms Toynbee’s forecast seemed to be coming true.

In turns out that though Labour and the Conservatives are aiming at the same date to eliminate the structural deficit in British spending (i.e. cyclically adjusted spending less taxes), beyond that the difference between Labour’s spending plans and the Conservatives’ is as high as £27bn per annum. Differences on this scale are significant.

The next act in this drama was an attack by Mr Osborne on his Liberal Democrat coalition partners that they had lost the plot on economic policy because their plans were closer to Labour’s than the Conservatives. Danny Alexander, the Lib Dem Treasury minister, made a robust response about the impossibility of Conservative spending plans. Ms Toynbee, in typical Guardian bunker style, had painted the Lib Dems as indistinguishable from the Tories, so she would have been less than pleased about this – but not too upset since she no doubt thinks that the Lib Dems are a political irrelevance these days.

It is to be hoped that these spats are the beginning of a serious political debate. Up until now we have experienced manufactured political rows over the immigration, the European Union and the NHS. Admittedly the Tory preparedness to take big risks with Britain’s membership of the EU is a serious political issue – but the row is more about tactics and competence than strategy. On the other issues the politicians have very little of practical value to say. But the gap between left and right on state spending (I refuse to call it “economic policy” as most commentators do) foreshadows very different visions for how the British state should work.

The right has an economically liberal view of the state, with both state services and benefits being pared back, leaving more space for private enterprise and consumer choice. The left does not seem to have such a clear vision – much of its energy is being devoted to keeping public services and benefits as they are and avoiding serious questions about the future. That is a pity, because shifts in both demographics and the distribution of economic power point to a larger role for the state.

The problem with the debate, though, is that none of the political parties is being clear about what they want to do. It is good that we are talking about broad numbers on the size of the state – but this needs to be brought down to specifics. The Conservatives need to be clearer about what they plan to cut, and how they want to reshape benefits. Labour and the Liberal Democrats need to do this too – because their plans also involve big cuts. But they also need to talk about taxes. The Tories are quite right that the only tax raising idea that they will talk about, the Mansion Tax, is small beer.

Britain, along with most of the developed world, needs to rethink tax, state benefits and public services. I do not believe that they can be shrunk in the way the right suggests. But neither are they sustainable in their current form, as the left seems to think. That, not immigration, exactly who delivers health services, or even membership of the EU, is one of the critical issues of our time.

The more politicians debate these issues, the better. But if they obfuscate, then Polly Toynbee’s angry rhetoric will for once be justified.

 

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Labour should be taking credit for the coalition’s economic policy, not whingeing about it

“Too far, too fast.” Remember that criticism of the British coalition government’s economic policies? It was repeated incessantly by Labour politicians in the first years of the government. And, it appears, the government was listening. The actual trajectory of progress on the country’s massive fiscal deficit is close to what Labour were recommending. And economic growth has returned. So what are Labour saying now? They are vilifying the government for going not going far enough and doing it too slowly!

It is, in fact, quite hard to understand Labour’s political strategy on the economy right now. The party lacks credibility, according to opinion polls. It is natural for them to try and change the subject, to more comfortable topics like public services, but foolish to think that they can avoid talking about it. Following yesterday’s Autumn Statement by George Osborne, the Chancellor of the Exchequer, the biggest noise from the party was about the coalition’s broken promises. And indeed, back in 2010 the coalition’s plan was to eliminate the structural deficit by 2015; instead, it seems to be generally agreed, they will only be half way there. Progress is, in fact, more or less what was envisaged by Labour’s alternative plan. This sounds like criticising the government for following Labour policy.

It’s not a first. Labour were equally scathing about the government’s record on immigration, after its pledge to reduce net immigration to under 100,000 was spectacularly missed. And yet Labour was not advocating any policies that would have made this promise more achievable. Indeed it is not at all clear whether Labour would have done much different.

And there is a ready explanation for why both the government’s promises were not met. World events. Economic growth in the rest of the world, and especially elsewhere in Europe, has been below expectations. You can get only so far by rowing against the tide – and if you do on the economy, net migration goes against you. Of course neither promise should have been made (if indeed the deficit reduction plan can even be called a promise). They were dependent on matters outside the government’s control. This is obvious, and it is to grossly underestimate public intelligence to suggest that the anybody thought that the numbers were written in stone. What matters to the public is what the government should have been doing differently. And here there is no clear message coming from Labour benches.

What we get instead is a flood of expressions of discontent. Pay has not kept up with inflation (“the cost of living crisis”); the rich have been let off; we don’t like the public service and benefit cuts.  It’s all like the children’s complaint “it’s not fair!”. And the weary response of the public to this complaining is surely that of the child’s parent. It’s a difficult world. Could you manage any better?

What is the purpose of Labour’s relentless negativity? It is a poor way to attract votes to itself. Perhaps they just want to reduce turnout, or encourage Conservative voters to support Ukip? Perhaps they plan to flourish Labour’s vision of hope a bit closer to next year’s election? But the last time Labour won from opposition, in 1997, the message of optimism was clearly apparent by this stage. Labour seems to have an ambition to win a majority in Parliament with the smallest ever number of votes, by splitting opposition votes and persuading people to stay at home. What sort of a vision is that?

But I don’t Labour’s negative and confusing rhetoric is part of a cunning plan. It is a reflection of confusion that goes deep into Labour thinking, especially about the economy. The party has not admitted that it made major mistakes in handling the economy in the years up to 2007, at which point the economy collapsed. They mumble something about being a bit to easy on bankers. They also say that they should have been tougher on immigration, though exactly how, and whether this would have helped the British economy, is very unclear. Instead, in private, they complain that the criticism of their record is unfair, and that the public is wrong to blame them. It was the world banking crisis that did for them; and the government was not as profligate as it is made out.

There is an element of truth to these complaints. Few criticised the government’s record at the time, after all. But the party has to confront some difficult facts. First is that the party was clearly guilty of hubris before 2007. There most memorable slogan was “no more boom and bust”, which they shouted out at the height of a boom, and just before one of the most spectacular busts in British economic history. Shrugging it off and saying it was somebody else’s fault does not pass muster. And second is that the level of government services and benefits that prevailed at 2007 was unsustainable. It may have looked OK according to the size of the economy at the time (though that is debatable), but a lot of that economy was built on air.

What Labour needed to say back on 2010 and 2011, after having chosen their new leader, Ed Miliband, was that Labour had messed things up badly. They were honest mistakes, made from the best of intentions, and following the best advice, perhaps. But they were mistakes and the party must learn from them. But instead Mr Miliband fudged the issue, preferring not to provoke a big argument in his own ranks. At the time he wished to ride a wave of anger at austerity, and it was necessary to leave unchallenged the fiction that public service cuts were unnecessary.

It is too late for that confession now. But it can be no wonder than the party’s credibility on the economy is so weak. As one columnist said in this morning’s FT, you can think that the coalition economic policy is disappointing, a mess even, and still think that Labour would be even worse.

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Slow growth is not bad. If that means debt default, so be it. The world must change

Inflation expecationsThe state of the world economy is worrying economists. GDP growth is lacklustre in the developed world, which in turn poses problems for the developing world. That’s bad enough, but the economist’s nightmare of deflation – prices dropping rather than rising – now beckons around the world. And yet the prescriptions of most economists are shaped by a way of looking at the economy that belongs to the past. A paradigm shift is needed. Debt is at the heart of it, not GDP growth.

For a clear, conventional analysis of the issue read this week’s Economist.  Here’s a brief summary. The developed world economies are suffering from deficient demand. In other words, the economies could easily churn out more goods and services, using existing capital and labour, but don’t because people aren’t asking for the stuff or can’t pay for it. Another way of putting this is that the amount of investment (people spending money on building capital rather than the immediate consumption of goods and services) is less than the amount of saving (the amount by which people’s income exceeds the goods and services they consume). This leads to low growth rates. Now inflation is falling and deflation threatens. Deflation is bad, at least when low demand is its cause, because it makes debts more difficult to repay, and this gunges up the financial system, which makes matters worse.

The conventional answer to this problem, which also goes under the name of “secular stagnation”, is to reduce the prevailing rate of interest. This will encourage people to invest more since the returns to investment, compared to simply sitting on piles of money, would then be higher. But deflation, or low inflation, makes this impossible, because it raises the floor – the lowest real (after inflation) interest rate it is possible to charge. Answer: you raise the level of inflation. The method of doing this is to increase the money supply, since inflation is a monetary phenomenon. All sorts of ingenious ways are then dreamt up of how to do this. But this is all the product of a conventional way of thinking based on aggregate economic statistics, rather than what is really happening in developed societies.

There a number of challenges to make:

  1. Stagnation, in and of itself, is not necessarily a bad thing in the developed world. Surely the current level of consumption of goods and services is sufficient, in aggregate, to secure perfectly decent wellbeing for everybody – and economic growth is not the most efficient way to securing improvement to that wellbeing. And as we judge the potentially catastrophic impact of man’s demands on the planet it is clear that a system based on ever increasing consumption cannot end well. We need to make better choices about what we consume, and distribute the consumption more evenly. But economists seem to worry about the speed of the train, rather than where it is going, or even whether it has arrived at where the passengers want it to go.
  2. Inflation in the modern, developed world does not work in the way the economic textbooks suggest. In particular the rate at which monetary wages rise has become detached from the rate of increase of consumer prices. Macro-economic policies, like monetary policy, aimed at increasing inflation may feed through to consumer prices without doing much for wages. This completely undermines the supposed benefits of a little bit of inflation.
  3. Things are no better in capital markets. Reducing interest rates seems to have little effect on levels of genuine, productive investment. Such investment is driven much more by zeitgeist than interest rates. Excess money either chases a relatively fixed pool of existing assets (land and buildings and shares), or it simply piles up in bank accounts. This makes conventional monetary policy very hard.

We can look beyond these challenges to recognise some issues that might be behind these challenges. Interestingly, these are, for the most part, not particularly controversial amongst modern economists – it is just that they seem unable to accept the implications:

  • Distribution of wealth and income matters more than aggregates. This is the complete opposite of  late-20th century conventional economic wisdom. The problem is that wealthy people have too much income to meat their needs, and that there are inadequate channels to invest the surplus productively (as opposed to bidding up property values, etc.). To try and balance out the deadening impact of this, the answer has been to get poorer people to consume more by piling up debt. That would be fine if those poorer people turned into rich people later in their lives – but that is not what is happening. This is unsustainable – and yet most conventional economic advice boils down to cranking this system around one more time.
  • Modern businesses require much less capital investment than previously. The modern business giants of Microsoft, Apple and Google never needed much debt and did not need much capital to get going. This is simply the way that technology has evolved. There remains demand for public infrastructure: railways, hospitals, power stations and so on, but the risks and returns, and their often monopolistic nature, makes this a difficult area for private businesses, as opposed to governments, to lead. This is one aspect of what economists refer to as “Baumol’s disease” – the paradox that the more productive the efficient areas of an economy become, the more the lower-productivity areas predominate in the economy as a whole.
  • Globalisation has changed economic dynamics profoundly. Amongst other things it has weakened the bargaining power of workers – one reason that prices and wages are becoming more detached from each other. Also,  less talked about and perhaps controversially, I believe that globalised finance means that developed world governments have less control over their currencies and monetary policies. This is one reason why it is more difficult to use monetary policy to manage inflation. It is also the reason that Europe’s currency union makes much more sense than conventional economists allow – but I digress.
  • Technology is changing the way the jobs market is working. Many middle-range jobs, in both manufacturing and services, are disappearing. This week Britain’s Lloyds Bank announced the loss of 9,000 such jobs in its branches and back office. This, and not the flow of immigrant labour, is the reason why the labour market has turned against so many.
  • And finally, I think that many consumers appreciate that additional consumption, and the income to support it, are not the answer to improved wellbeing. It is better to stop earning and pursue low-cost leisure activities. I notice this most in middle-aged middle-class types like me – who are retiring early. It is perfectly rational. And yet economists can’t seem to understand why reduced consumption and income might be a rational choice for an individual. There is a tendency to tell us to go out and spend more for the good of the economy. This is a perfectly liberal and rational downward pressure on national income – which surely should be encouraged for the sake of the planet.

Some of the consequences of these trends are straightforward. Redistribution of income and wealth are now at the heart of political and economic policy, rather something that can be ignored. A much greater proportion of economic investment must be government-led, which imposes a massive challenge for political management. Governments and central banks trying to tweak the inflation rate by a few percentage points is a fool’s errand. Also trying to revive the economy by getting the banks to lend more money to poorer people is unsustainable, even if the lending is collateralised on residential property. The appeal by many economists, such as the FT’s Martin Wolf, that developed country governments should borrow more to invest in infrastructure makes a lot of sense. Using monetary policy to help finance such investment makes sense too. Making sure this investment is directed sensibly is a bigger problem than most allow, though.

And the conventional economists are right to worry. A world of stagnant growth and low to negative inflation creates major problems. In particular many debts, in both private and public sector, will not be repayable. At some point there will be default, since the other options, inflation and growth, are off the table. Or to put it another way, much of the financial wealth that many people currently think is quite secure is anything but, in the longer term. This may a problem for many pension and insurance schemes, as well as wealthy individuals and corporations.

The consequences of this are quite profound. Our society must break its addiction to debt. The banks and the financial sector must shrink. “Leverage” should be a rude word in finance. If low growth is the result, or if a new financial crisis is hastened, then so be it. Let us learn to manage the consequences better. Borrowing to support genuine productive investment (not excluding the building of new houses where they are needed) is to be encouraged, including government borrowing to finance public infrastructure. But other borrowing must be discouraged. Taxation should increased, especially on the wealthy. If that causes a loss of productivity, then so be it – this should be compensated by more efficient financial flows from rich to poor. Political reform must run in parallel to ensure that public investment is conducted efficiently, rather than just disappearing into the pockets of the well-connected.

This is a daunting programme. Stagnating national income and deflation are not inevitable consequences – since these policies do address some of the causes of deficient demand. But we must not think that these statistics are the lodestars of public policy. We need a much more nuanced appreciation of the wellbeing of our planet and the people that live on its surface, and put it at the heart of economics.

Such sound eco

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Why has the public bought the Tory narrative on the economy? Labour hubris

Opinion polls show that the Conservatives are the most trusted party on the economy. This gives them a big advantage over the Labour opposition, which they are trying to exploit by promising reckless tax cuts. The Tories say that the crisis was caused by the recklessness of the previous Labour government, which necessitated firm austerity policies, which in turn have led to a strong recovery. Labour supporters are sore about this, but their party leaders seem forced to meekly accept the Conservative economic narrative – and promise strict fiscal discipline. And yet economics writer Ha-Joon Chang writes in the Guardian that the Tory narrative is a fairy tale. Why aren’t the political class trying to challenge the narrative?

I am tempted to pick apart Mr Chang’s own narrative. He denies that the record of the previous Labour government was irresponsible, with the crisis in public finances simply inflicted by changes to the world economy. He further suggests that the coalition’s austerity policies to meet the crisis were misguided, and that the current recovery is not as good as it is made out to be. A lot of his claims are tendentious, and there is some sleight of hand with the numbers. But it is perfectly literate in an economic sense, and there is deal of truth in his claims, alongside the disingenuousness. This sort of argument tends to a turn-off for many of my readers. I would like to address the question he raises more directly: “Why did Britain’s political class buy the Tories’ economic fairytale?”

The first point is that we should remember the sense of shock that both the public and the political class felt as the scale of the economic crisis became plain in 2008 and 2009. This followed nearly 15 years of continuous growth in Britain. The political class felt that the economic problem had been cracked by Labour’s policymakers (though the first part of the growth period was under the Tory John Major). Gordon Brown, the Labour Chancellor in their part of the growth period, declared “no more boom and bust”. That caught the zeitgeist. Political thinktankers argued over how to distribute the proceeds of growth, which was assumed to be in the region of 2-3% for the foreseeable future. Mr Brown believed his claim; he was inclined to lecture political leaders from other countries (especially other European countries) on how wonderful his economic leadership was. And so when the economic performance proved to be so vulnerable, even if we accept that the shocks came from outside Britain, it was more than shocking. Our whole outlook on the British economy collapsed. And it must be pointed out that the scale of the economic crash in Britain was worse than in any other major developed economy. Labour’s claims were based on hubris. Any narrative that does not acknowledge this hubris (and Mr Chang’s does not, in this article at least) will not be politically credible. This trumps the fact that Tory claims about Labour’s recklessness are overdone or misplaced (e.g. because they criticise welfare policy rather than cutting income tax rates).

And that leads to a critical question. Why was the British economy so vulnerable? Was is really just a slightly bigger blip on a standard economic cycle, or were there elements to the pre-crash economy that were unsustainable? There are plenty of reasons to think it might be the latter. Inflation had been kept in check by cheap imports and a high pound, and yet there was a large trade deficit. The tax system had been tilted towards property transactions and capital gains, and away from ordinary income tax – which meant that the bust hit revenues very hard, and were difficult to revive in the recession that followed. The economy as a whole depended heavily on bubbly international finance and oil (whose price had just rocketed); amongst other things this gave a false perspective on productivity. Productivity based on fake profits in finance is not the same as the majority of workers steadily increasing their output. If you believe that there were substantial unsustainable elements to the economy, then you also believe that simple Keynesian stimulus would not be a path out of the crisis – this would be flogging a dead horse. That still leaves room for a respectable Keynesian critique of coalition government policy (especially if stimulus is concentrated on investments), but it also points to austerity policies being inevitable at some point.

And then there are the secular trends. There are the technology changes that, for now at least, seem to push economic rewards into minorities who either have the right skills or who own capital. That is a global trend. There are demographic changes; it is a boon that people are living longer – but that does imply structural changes to the way society works, and especially the tax and benefits system. And there is the growing up of the developing world economies, especially in China, which are no longer a source of ever cheaper imports. With such trends – and I could go on – is it any wonder that economic performance has been weak?

And so it should become clear why the Tory narrative is left to hold the field. An alternative narrative is very difficult to construct. To be credible such an alternative must contain challenging elements – that we can’t just bounce back to 2% growth by reversing cuts to public expenditure, as some on the left appear to believe. It has to acknowledge failings in the pre-crash British economy, and that strong well-distributed growth will be difficult to obtain in the future. Labour do not want to develop such a clear narrative, because they are reluctant to face up to their own hubris. In fact, as I have argued, Labour’s need to hold together its fragile coalition means that it does not want to develop a clear economic narrative at all.

And if Labour won’t produce the alternative narrative, who will? The Lib Dems are part of the coalition, and as such are happy to go along with most of the Tory version. They would emphasise that the austerity policies were not as austere as billed, and that borrowing for investment would be a good idea – but they do not challenge the main thrust. Ukip have decided to base their narrative on opposition to the EU and immigration – and as a result their economic policies have no coherence – they do not want to upset their own coalition of the angry. The Greens have decided to be the “Ukip of the left”, and blame all our troubles on failed neo-liberalism. They are against austerity policies, and yet want to rebalance the economy towards green growth, which surely implies a leaner public sector. This is a have-your-cake-and-eat-it stance, which will not stand up to close public scrutiny.

A credible alternative to the Tory narrative is hard to construct, and no political party wants to take the job on, because it would undermine their own wider political strategy. Mr Chang himself seems to acknowledge the problem in his rousing penultimate paragraph:

The country is in desperate need of a counter narrative that shifts the terms of debate. A government budget should be understood not just in terms of bookkeeping but also of demand management, national cohesion and productivity growth. Jobs and wages should not be seen simply as a matter of people being “worth” (or not) what they get, but of better utilising human potential and of providing decent and dignified livelihoods. Ways have to be found to generate economic growth based on rising productivity rather than the continuous blowing of asset bubbles.

Amen to that. But what chance do our humble politicians have of constructing such a wonderful narrative, when this poses so many unanswered questions? Might I suggest that Mr Chang spend more time suggesting “ways… to generate growth based on rising productivity” and not just joining the whinge-fest about our inadequate politicians?

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Is austerity an economic failure or a fact of life?

The British Labour Party conference proved a bit of an anti-climax. After the excitement of the last week’s Scottish referendum this was probably inevitable. All the more so since the Labour leadership did not want to talk about the important issues that referendum has raised on for the British constitution. But this conference marked in important stage in the evolution of the Labour leadership’s policy platform. They have finally, publicly and unequivocally accepted austerity as the centrepiece of their economic policy. This is rather muted, of course. The right wing press, who still set the country’s news agenda, do not want to give Labour any credit for this. Labour’s left wing supporters still think that austerity is a failed economic strategy, promoted by a “neoliberal” elite as a means of shrinking the power of government. These supporters do not want to be too vocal this close to a General Election; besides they were soothed by some diversionary promises regarding Britain’s National Health Service (NHS) and the minimum wage. But this left wing critique of austerity bears further examination.

It is expounded with some clarity in today’s Guardian by the journalist Seumus Milne: Austerity has failed, and it isn’t only Labour’s core voters who want change. To start with Mr Milne points out that Labour’s core voters, working class people, are unhappy and Labour can’t take them for granted. In Scotland they defected en masse to the SNP’s Yes campaign – and its claim that Scottish independence meant that they could roll back austerity. In England Ukip is making inroads into Labour’s core vote. Labour can’t simply take these voters for granted and then go after the “centre ground” voters who are liable to be swayed by the right wing press. This is perfectly true, of course, but not very helpful in its own right.

He then goes on to the familiar critique of austerity (cutting back public expenditure), which is that it has failed both in Britain and elsewhere in Europe. In Britain, growth is based on shallow foundations: unfunded consumer expenditure; average living standards are still sinking and many poorer people are suffering real hardship. In other European countries, notably France, there is no growth at all. This critique builds on that of Keynesian economists. In the earlier years of the government’s austerity programme they suggested that by cutting demand, or refusing to stimulate it, austerity simply created a doom-loop of shrinkage – or failed to ignite a virtuous circle of positive demand. The cuts were simply too early. This critique was eagerly seized on by the left. The trouble is that in Britain it has been overtaken by events. Growth has returned, mainly as the result of increased consumer borrowing, but also through higher business investment. There is not need to use public money to stimulate the economy further. Now is the “later” that the Keynesians were talking about when they said the cuts should be made later. It is does not matter that the initial spurt of growth was based on shallow foundations, as Keynesian fiscal stimulus is open to exactly the same criticism.

In fact the government’s application of austerity never lived up to the rhetoric. The cuts have been relatively modest, and as a result the deficit (excess of government expenditure over taxes and other income) has not been reduced by anything like as much as the original plans. The government finances still look very shaky and unsustainable. To a large extent things have been propped up by the Bank of England buying up government debt (“Quantitative Easing”, or “printing money” as some economists would have it). This only works when inflation is not a serious threat, and the Bank has indicated that continued purchases are no longer sustainable.

Things get worse when you look at the details more closely. The Economist points out that the country’s tax revenues are not keeping up with the country’s growth rate, making the deficit harder to cut. The reasons are not entirely clear, but two contributory factors should cause those on the left to worry. The first is that the government has been rapidly advancing tax free allowances, a flagship policy of the Liberal Democrats. This has helped relieve the economic pressure on the oft-forgotten marzipan layer of Britain’s poor. Those who are working and do not qualify for state benefits. But it also means that if wages are stagnant the government sees little benefit from growth. The second, related, factor is that Britain’s tax take is heavily dependent on the very rich. The Economist says that the top 1% of earners are thought to contribute 28% of income tax receipts. The position of other taxes may not be so very different. That means that pressure on the very rich, and notably the banking sector, is choking off tax receipts. All this suggests that raising taxes without hurting the ordinary working classes will be very difficult to achieve.

The serious economic case against austerity is not quite dead, though. The FT’s Martin Wolf, for example, suggests that prolonged fiscal (and trade) deficits may be required to counterbalance the insistence of some countries, notably China, to run export surpluses, and so create a surplus of savings. But his suggestion is that state funded investment is the best way of achieving this, not the continued propping up of the benefits system and a high volume of public services. That still leaves the most painful aspects of austerity intact.

The fact is that some very powerful forces, global and local, are bearing down on economic growth. These include demographics, the evolution of the Chinese economy (reducing the supply of cheap exported manufactured goods – so important to developed world living standards in the 1990s and 2000s) and (perhaps) by a focus amongst the slightly better-off on quality of life rather than income maximisation. It was once thought that any well-functioning developed economy could grow at 2% a year. That now looks infeasible. Which makes the management of government debt (and private debt for that matter) a serious long-term problem. It gets worse, as to achieve any sort of growth requires the economy to become more efficient, not least in public services. This involves the sort disruptive changes that the left’s core supporters hate most of all.

To be fair on the left, though, one of the causes of low growth is the excessive accumulation of wealth by the very rich – and this can only be tackled using an agenda that looks leftwards. But chasing down this wealth is increasingly a global problem, that needs global solutions, and not socialism in one country. This is ironic, as one of the symptoms of working class disillusion is a rejection of internationalism. It is no coincidence that the right wing press is happy to undermine international institutions, though.

Mr Milne calls for some kind of post capitalist economic reform, with increased state intervention. It is hugely unclear what this reform agenda would comprise, and whether it could work. The last country to vocally reject capitalism was Venezuela, whose oil wealth allowed it to cock a snook at the capitalist world. That is ending in utter economic and social disaster. Starvation and oppression in North Korea, and terminal economic stagnation in Cuba offer no better way forward.

The world is changing, and many Britons hate it. But with large trade and fiscal deficits Britain must embrace change or face economic catastrophe. That is the truth that Labour’s leaders are facing up to – and it is not a spineless surrender to the forces of big business.

 

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The revenge of the 50-somethings. Is this why productivity is sinking?

Last weekend I met up with a number of other 50-somethings. Only one of us was still working. The universal advice to her was that she should stop as soon as she could. It wasn’t worth it. Anecdote is no substitute for serious analysis, but it can offer some interesting insights. Economists usually ignore the idea of satiation – that enough is enough – because this wrecks their mathematical models. But it is a growing fact of life in the developed world, and one reason why it is unrealistic to expect everlasting economic growth.

Of course, many 50-somethings are not as lucky as me and my friends. They have inadequate pensions and other savings; they are forced to keep working, and may well have to do so long after their state pension kicks in at 65 to 67. There were two common factors to our group: no children and property ownership – though by no means all of us had had well-paid jobs. There are plenty of others in the same boat, even if we are a minority.

What was striking was how we had found that work had become demoralising, across a spectrum that covered high-flying project management through to ordinary clerical. And looking for new jobs is even worse. The youngsters are pushing ahead, with all their politics and superficiality. Competence and people skills are devalued compared to bluff and fast-talking. Age prejudice is rife in recruitment markets, but impossible to prove case by case. Such sentiments are largely “grumpy old man” (though most of us were female…), rather than substantive; no doubt our predecessors felt the same about us. But work used to be the centre of our lives, providing us with purpose, a social life and the wherewithal to consume.

But now we’d rather move on. Even if that means constraining our consumption somewhat – though our generation are the ones sitting on high value property, which helps quite a bit. We will retire early if we can. Many of us are winding down, into part-time work, often thinly disguised as self-employment. This pattern of reduced work level can continue until well into the 60s and even beyond.

Is this showing up in the economic statistics? This is difficult to say. Overall workforce participation is increasing, including the older age groups. This suggests that the number of people who have dropped right out of the workforce is less than those who struggle on after retirement. But the number of self-employed has been rising sharply, and we have what economists call the productivity puzzle. Labour productivity is not rising in the way technological progress suggests it should. Perhaps the winding-down of the 50-somethings is part this.

Economists stress about this. They had assumed that steady economic growth, arising from improved productivity, was simply a law of nature. When growth fails to materialise, they condemn this as a policy failure, looking to fiscal or monetary policy to correct it. But when low growth arises from free choices made by the public to produce and consume less, this is not a policy failure. But it does create policy problems – especially over the affordability of debt. It would be better for all if economists would stop whinging and help us to understand and address these policy challenges. Low growth future is here to stay. Because that’s what people want.

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Rethinking Liberalism 2: economics

The discipline of economics pervades all reflection on public policy. This is only right, as it is this discipline that tries to reconcile supply and demand for resources, and present a rational framework for choices. But it can be pernicious. It can frame the policy debate in the wrong way. As we refresh liberal policy ideas so as to put sustainability and human needs at the heart of public affairs, this is becoming a major problem. Liberals must challenge many tenets of conventional thinking.

First of all, let me say what I’m not going to talk about. There has been much heated debate on the value of austerity policies in tackling the recent economic crisis. I have read some liberals who say that “Keynesianism” is a core liberal belief, something given added resonance by the fact the Maynard Keynes was a Liberal. These tended not to be professional economists, who are careful not to label their beliefs with the name a of a dead economist, however inspirational. And it is based on a misunderstanding that Keynesian policies implied free public expenditure at all times, rather than being a temporary measure in response to a short term crisis. The problem that I have with economics applies as much to conventional, liberal “Keynesian” economists, such as Paul Krugman, as it does to the neoclassical ideologues – though the liberals are the more pragmatic, and the more likely to support changes to the conventions of the discipline. Having said which, I am sure Keynes would have recognised the value of what I am trying to say.

The problem that I want to deal with lies at the boundary of what professionals call “positive” economics, which refers to the factual or “scientific” side, and “normative” economics, which deals with policy recommendations, and where personal value judgements play a role. Much normative economics is presented as if it positive. Policy makers have taken simplifying assumptions used in positive economics, and used them as the basis of concealed value judgements.

I need to get more specific. These are the sorts of things I mean:

  • Economic growth is good for a society and should be an objective of public policy.
  • High productivity, the key to economic growth, is therefore a critical policy objective.
  • Free trade promotes economic welfare and drives economic growth forward, and should therefore be maximised.
  • The more people consume the better off they are, and the healthier an economy is, provided that spending does not outreach income.

I could keep going. The issue is not that these assumptions are wrong – they have served policy makers well – it is that life is not as simple as that, and we should always question them before using them in the decision-making process. And increasingly they are taking us in the wrong direction.

To be fair, economics does not stand still. I did not put on that list that aggregated income is the critical measure of success, and how it is distributed is of secondary importance. Economists (some of them at least) are at last seeing through that idea, which had been universally accepted. Also a worship of open market mechanisms for allocating resources is coming under question. And indeed, you can have perfectly sensible conversations with professional economists in which it is clear that they understand the limitations of their discipline. But when they get back to their desks and analyse policy options, the same old things keep coming up.

The result is that policymakers are trying to push the economy in a direction that it does not want to go. Growth remains obstinately slow, distribution becomes more skewed, public services struggle for funding. We worship highly centralised, “efficient” and specialised models of business and public services that are failing to meet human needs. And we are heading in slow motion for an environmental disaster.

Economics needs to adapt to the modern world. To do so it must start to take on board ways of thinking. Consider the following, none of which are particularly wacky in terms of economic theory, but all of which undermine the conventional wisdom of public policy making.

  1. Wealth must circulate for a healthy economy. This is the main idea of George Cooper’s book Money, Blood and Revolution. If wealth is accumulated by a rich elite, it drains the life out of an economy because they don’t spend it, or don’t spend it efficiently. They save too much, and the bulk of their saving goes into unproductive assets and speculation, and not enough into productive investment. Worse, they use their accumulated wealth to skew the workings of society in their favour. This presents an economic argument for progressive taxation and the taxation of wealth – as well for trying other interventions which distort the way incomes are set.
  2. Consumption should be optimised, not maximised. Once basic human needs are met, the utility of consumption rapidly diminishes, and often gets tangled in a zero-sum game of status competition. This challenges the idea that economic growth is the be-all and end-all, as well as bringing distributional issues to the fore.
  3. Don’t confuse the acquisition of wealth with its realisation. This is a related point. The conventional wisdom, based on the gods of maximising consumption and productivity, is that we should go out in the world and work as hard as possible for the common good. But what if somebody wants to work less and consume less? Or if she prefers to consume less goods, but which are made in a less “efficient” way (organic vegetables, say rather than mass farmed ones, for example). Provided that she does not consume more than she produces, does this really matter? What is the point of piling up wealth if we can’t use it in the way that we want? Economists frown on organic vegetables as they reduce productivity, but the ability to choose such low productivity goods is a sign of a wealthy society. They are confusing the creation of wealth with its realisation. This suggests that the more developed a society becomes, the less worried it should be about productivity and income growth.
  4. Trade is a means to an end, not an end in itself. No human activity has done more to banish poverty than trade. Yes we should celebrate it, and yes protectionism usually ends badly. But there comes a point when its uses diminish. Trade between the developed world and China had economic benefits when China had a pool of very unproductive agricultural labourers who could be used to make cheap industrial goods. But these benefits diminish as China catches up, and as this happens, it is more than likely that the volume of trade (and its benefits to the developed world) will diminish. That’s economics. Don’t panic. The party was fun while it lasted. Globalisation remains key in the world of information and ideas. Trade of physical things remains is important to helping undeveloped countries to develop (though the locus of that trade is likely to be mainly with middle income countries rather than developed ones, as these bulk larger). But trade of physical things over huge distances is not so important for the sustained progress of developed economies.

Liberals should believe that an economy should develop based on free human choices, long term sustainability and a degree of human solidarity which diminishes with distance. Increasingly human preferences, technology and world development will take us away from the mass-produced, high productivity, high consumption, global trading society that policy makers favour, guided by economic conventional wisdom. It isn’t what people want (free human choices), it isn’t sustainable (carbon emissions and world resources) and it is less needed for human solidarity (developing countries are increasingly able to look after themselves, while the need for more localised solidarity grows). The discipline of economics needs to catch up.

 

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