14 monetary policy loosenings in January alone:
http://seekingalpha.com/article/2957466-monetary-policy-matters?ifp=0
Blog resource for 6th Form, with contributions from teachers and students.
Friday, 27 February 2015
What the future holds - essay material
When you have made all your points, explained them clearly and done full evaluation, then you might want some big-picture material to impress the examiner with your knowledge of the wider context. I sent you this last September, but it is still very current:
When the money runs out?
Stephen King, group chief economist of HSBC, a banking giant, has written a book, 'When the Money Runs Out: The End of Western Affluence,' that was published in the early summer. It raises relevant issues and of course, a bank economist has to avoid some sensitive ones.
The author acknowledges that in a paper currency system, the money in a narrow sense may never run out but he argues that the ability of the developed world to generate significant economic growth, and thus wealth, has declined. He highlights that in the first four decades of his own life real British incomes per head almost tripled; in his fifth decade, they rose just 4%.
In an op-ed piece in The New York Times on Monday (the reader comments are also interesting), he wrote:
"The underlying reason for the stagnation is that a half-century of remarkable one-off developments in the industrialized world will not be repeated.
First was the unleashing of global trade, after a period of protectionism and isolationism between the world wars, enabling manufacturing to take off across Western Europe, North America and East Asia. A boom that great is unlikely to be repeated in advanced economies.
Second, financial innovations that first appeared in the 1920s, notably consumer credit, spread in the postwar decades. Post-crisis, the pace of such borrowing is muted, and likely to stay that way.
Third, social safety nets became widespread, reducing the need for households to save for unforeseen emergencies. Those nets are fraying now, meaning that consumers will have to save more for ever longer periods of retirement.
Fourth, reduced discrimination flooded the labor market with the pent-up human capital of women. Women now make up a majority of the American labor force; that proportion can rise only a little bit more, if at all.
Finally, the quality of education improved: in 1950, only 15 percent of American men and 4 percent of American women between ages 20 and 24 were enrolled in college. The proportions for both sexes are now over 30 percent, but with graduates no longer guaranteed substantial wage increases, the costs of education may come to outweigh the benefits."
First was the unleashing of global trade, after a period of protectionism and isolationism between the world wars, enabling manufacturing to take off across Western Europe, North America and East Asia. A boom that great is unlikely to be repeated in advanced economies.
Second, financial innovations that first appeared in the 1920s, notably consumer credit, spread in the postwar decades. Post-crisis, the pace of such borrowing is muted, and likely to stay that way.
Third, social safety nets became widespread, reducing the need for households to save for unforeseen emergencies. Those nets are fraying now, meaning that consumers will have to save more for ever longer periods of retirement.
Fourth, reduced discrimination flooded the labor market with the pent-up human capital of women. Women now make up a majority of the American labor force; that proportion can rise only a little bit more, if at all.
Finally, the quality of education improved: in 1950, only 15 percent of American men and 4 percent of American women between ages 20 and 24 were enrolled in college. The proportions for both sexes are now over 30 percent, but with graduates no longer guaranteed substantial wage increases, the costs of education may come to outweigh the benefits."
King makes a plea for "economic honesty, to recognise that promises made during good times can no longer be easily kept."
He proposes reforms such as raising pension ages, increasing immigration in ageing societies and a social pact where an older population does not cannibalise benefits at the expense of the young.
The economist also recognises that rising inequality is part of a process that feeds mistrust within nations.
Stephen King writes in his book:
"Based on our collective belief in ever-rising living standards, we have spent the last half-century watching our financial wealth and our political and economic 'rights' accumulate at an incredible pace. We all, directly or indirectly, own pieces of paper or rely on political promises that make claims on future economic prosperity. Only a handful of years ago, we were so confident in continued economic progress that we could be educated yesterday, consume today, retire tomorrow, have excellent healthcare the next day and create a better life for our children while, at the same time, saving very little. We hadn’t just mastered our economies. We had mastered time itself.
What happens, however, if the future is worse than we hoped it would be? What happens if, collectively, the claims incorporated in our pieces of paper and our political promises cannot be honoured?"
What happens, however, if the future is worse than we hoped it would be? What happens if, collectively, the claims incorporated in our pieces of paper and our political promises cannot be honoured?"
Wednesday, 25 February 2015
Global debt & deleveraging - $57 trillion and rising?
A $57 trillion increase since 2007! We are 5 years in to our "deleveraging" - most of the heavy work is yet to come:
Tuesday, 24 February 2015
Neo-classical vs endogenous growth - The Economist exolains
Someone was asking how many growth models do you need to know for A2; the exam is more about application in context, and growth models are only useful if they add to the point you are making. This article is an exemplar of application in context, examining both theories in the context of the current economic climate:
Economic growth
Patience: the big virtue
ECONOMIC growth in the developed world has been sluggish for a while. In a fascinating and thought-provoking speech, Andy Haldane, the Bank of England's chief economist, says that advanced economy growth has averaged just 1% a year since the crisis, compared with 3% in the decade before it. And the problem may be much more deep-seated as thegraph in this blog shows.
The big question is whether growth will be sluggish going forward; secular stagnation in the jargon. The answer to this question requires us to understand what got growth motoring in the first place, after the stagnation that marked much of human history. As Mr Haldane remarks
Since 1750, it has taken around 50 years for living standards to double. Prior to 1750, it would have taken 6000 years.
Or, to put it another way
If the history of growth were a 24-hour clock, 99% would have come in the last 20 seconds.
Economic statistics from the pre-1750 era are sketchy but a similar result is found when one looks at the data on life expectancy or the heights of skeletons; as Hobbes said, life was "poor, nasty, brutish and short."
So what caused this change in the economic outlook? Mr Haldane details two explanations; the "neoclassical" approach and the "endogenous growth" approach. (Economists and plain English are doomed never to meet.) The neoclassical approach requires people to postpone consumption, so they can accumulate savings that can be invested for the long term; an economic version of the marshmallow test. Technological innovation then comes along and uses that capital more productively; this generates the growth. This technological change comes from outside the system, it is exogenous in other words. There was a whole burst of technological innovation in the 18th century that schoolboy historians may remember; the steam engine of James Watt; the spinning jenny of Hargreaves and so on.
The contrasting view is that growth comes from inside the system; it is endogenous. Growth requires several things to happen simultaneously. There must be a degree of trust among savers, for example, that their money will not be wasted, stolen or seized by governments. The quality of institutions is important, as detailed by Acemoglu and Robinson in their book "Why Nations Fail". 18th century Britain, where the Industrial Revolution took off, had shaken off the rule of absolute monarchs and was reliant on financial support from the merchant classes. The skills of the workforce also matter; adult literacy had improved dramatically in the run-up to 1750. The Enlightenment had led to a surge in scientific knowledge; this was an era where great advances in physics, chemistry, biology and medicine. Advances in agriculture productivity made it possible to free workers from the land and move them into mopre productive industry. In other words
The seeds of the Industrial Revolution were sown much earlier, and scattered more widely, than a Neo-Classical account would suggest. And sociological transformation was at least as important as technological transformation in catalysing the lift-off in growth.
Despite this, Mr Haldane thinks the neoclassical focus on patience is highly useful, and may give us an indication of the road ahead. One measure of patience is the level of interest rates. The lower the discount rate, the higher the value of future cashflows in today's money. Or looked at another way, the greater the trust of investors that they will get the benefit of future cashflows. On that basis, things are looking very good indeed; interest rates are at record low in nominal terms in the developed world and are low in real terms too. Equity investors are happy to fund companies like Twitter or Amazon, where the cashflows may not arrive for years.
The alternative explanation is that rates are low because central bankers like Mr Haldane have forced them lower, reflecting their worries about, yes, secular stagnation. They may also be low because there is an excess of desired saving over desired investment; there are not enough profitable projects for companies to invest in. Low rates have not provided the boost to capital spending that might have been hoped for; in Britain, R&D spending has been falling for a decade.
And if we look at other measures of patience, the news is less encouraging. The tenure of chief executives has been falling steadily, as has the holding period of stocks. Investors hold Twitter not because they are patient but because such stocks are more volatile and thus have a greater chance of achieving a quick, outsize return.
The technological changes that offer the best hope for the future may also be working against us. As Herbert Simon said
an information-rich society may be attention-poor
Anyone stuck in a business meeting will notice that their colleagues spend much of their time gazing obsessively at their smartphones for e-mail updates and Twitter feeds. The pace of mass entertainment - films, TV programmes - has increased; watch even a popular show from the 1970s and you will see how slowly it moves by modern standards. Mr Haldane notes that
Psychological studies have shown that impatience in children can significantly impair educational attainment and thus future income prospects. Impatience has also been found to reduce creativity among individuals, thereby putting a brake on intellectual capital accumulation.
At the societal level, we seem to have become less patient too; spending on infrastructure in the developed world has been steadily declining for three decades. The rapid advances in educational attainment seem to have stalled. There has also been a worrying rise in what might be called pre-Enlightenment attitudes to science; the scientific consensus is ignored whether the issue is vaccines, genetically-modified food or climate change. Right and left are both to blame. All this may place a limit on progress at a time when demographic forces are constraining growth; it may have already subtracted 1% a year from the trend growth rate with further falls to come. Another measure, trust, may have deteriorated; faith in our political leaders is very low. This may be circular; slow growth erodes trust which weakens growth further.
The key, then, is which measure of patience is the best clue to the future; low interest rates or the "attention deficit disorder" displayed in financial markets and popular culture. Mr Haldane doesn't come down on one side or the other, perhaps because it's too difficult to tell. But the answer to the question should determine whether you are a long-term optimist or pessimist.
Austerity, supply-side - great context material:
Read this article from The Times carefully; feel sorry for Greece - or is the Troika right, and pain now will lead to gain later?
In the 1970s, Britain appeared to be in terminal decline. Inflation and interest rates were both in double figures; around half of all young people were out of work. Between 1950 and 1976, Britain’s per-capita national income had been outpaced by every other leading economy. What was once the world’s economic powerhouse had diminished to the extent that it was smaller, on this basis, than the rest of western Europe, except for Finland and Italy.
As in Greece today, the $3.9billion loan offered by the IMF in 1976 was tied to unpleasant conditions, including £2 billion of spending cuts and some painful economic reforms.
Yet in retrospect, it’s clear this was the moment Britain’s economy took off again. Between 1976 and 2008, gross domestic product per head rose faster in the UK than in any other industrialised nation. Living standards rose faster than during the heyday of the industrial revolution.
However, since the 2008 financial crisis, productivity has slumped and real wages have fallen. For each hour put in, British workers generate 30 per cent less income than their American counterparts — the biggest shortfall since 1991. Many factors may be to blame: the growth in part-time jobs and stubbornly poor education standards (17 million adults in England have the numerical skills of a primary school pupil, according to the Bank of England’s chief economist, Andy Haldane). Whatever the reason, poor productivity is the biggest threat to the economy.
There have been plenty of attempts to fix it over the past five years: from Michael Gove’s school reforms to Iain Duncan Smith’s shake-up of unemployment benefits. But, rather like the British public, the government’s extra sweat isn’t transforming into extra output.
That raises the question: if the IMF, the EU and the European Central Bank, the bailout institutions that make up the so-called troika, were in London rather than Athens, what would they recommend to tackle Britain’s persistent economic problems? Today, the Organisation for Economic Co-operation and Development will be in the Treasury to unveil its own list, though if previous editions are anything to go by, the most controversial item on it will be road charging.
If the troika really had the run of the Treasury, they would go much farther than that.
No doubt they’d start by calling for deficit cuts that would make Mr Osborne’s austerity plan look namby-pamby. In Greece under the troika, the deficit has been slashed by 88 per cent over the past six years, compared with a mere 63 per cent in the UK. Matching that here would mean an extra £53 billion worth of deficit reduction next year. Were that to come purely through taxes, it would require a 5 percentage point increase in VAT and a 7 per cent rise in the basic rate of income tax.
Then again, Britain’s long-term spending figures look grim too: in the coming decades the cost of the National Health Service will grow exponentially. So the troika would undoubtedly remove the government’s ring-fence on health spending. It would probably introduce fees for better-off patients to see their GPs. The winter fuel allowance would be scrapped, or at least limited to the least well-off. It would be much the same story for child benefit. In fact, any inessential spending (including on culture, sport and, as far as the IMF is concerned, defence) would be slashed to shreds.
Though most of Britain’s industries were privatised in the 1980s and 1990s, anything remaining in public hands would soon be on the block, including the banks, the state broadcasters and the Royal Mint, which Mr Osborne had been protecting up until now.
The planning system — long Britain’s bête noire — would be the next victim. The chancellor’s softly-softly reforms would be replaced with ones instantly disempowering nimbyish local authorities. The green belt would meet its end — after all, Britain is still far from being the most urbanised or developed landmass in Europe.
The property taxation system would need a complete overhaul. Stamp duty would be cut or ditched, replaced with a proper annual tax on the value of homes — a cross between council tax and a mansion tax. The financial sector’s fangs would be ground down with a permanent banking tax, rather than an ad hoc one introduced each year.
Some of these reforms seem straightforwardly sensible. Some look like madness — especially the scale of deficit reduction which, in Greece’s case, was imposed so quickly that the troika precipitated the very social disaster it was supposed to prevent.
What they have in common is that they would never make it anywhere near a party manifesto this year. While none of them is likely to happen any time soon, trying to imagine what the IMF would do in Britain today is a useful thought exercise. It reminds us that there is still plenty of room for the kinds of reform that could boost productivity in the coming years. But, as Greece is learning, such reforms tend to happen only in the depths of an economic crisis — and no one is grateful for them until decades later.
What if we had to take the Greek medicine?
The troika prescribing Greece a bitter economic cure might have some radical treatments for Britain’s public finances.
Strange as this might sound to the average Greek, bailouts sometimes have happy endings. Look no further than the last major developed country to receive help from the International Monetary Fund: the United Kingdom.
As in Greece today, the $3.9billion loan offered by the IMF in 1976 was tied to unpleasant conditions, including £2 billion of spending cuts and some painful economic reforms.
Yet in retrospect, it’s clear this was the moment Britain’s economy took off again. Between 1976 and 2008, gross domestic product per head rose faster in the UK than in any other industrialised nation. Living standards rose faster than during the heyday of the industrial revolution.
However, since the 2008 financial crisis, productivity has slumped and real wages have fallen. For each hour put in, British workers generate 30 per cent less income than their American counterparts — the biggest shortfall since 1991. Many factors may be to blame: the growth in part-time jobs and stubbornly poor education standards (17 million adults in England have the numerical skills of a primary school pupil, according to the Bank of England’s chief economist, Andy Haldane). Whatever the reason, poor productivity is the biggest threat to the economy.
There have been plenty of attempts to fix it over the past five years: from Michael Gove’s school reforms to Iain Duncan Smith’s shake-up of unemployment benefits. But, rather like the British public, the government’s extra sweat isn’t transforming into extra output.
That raises the question: if the IMF, the EU and the European Central Bank, the bailout institutions that make up the so-called troika, were in London rather than Athens, what would they recommend to tackle Britain’s persistent economic problems? Today, the Organisation for Economic Co-operation and Development will be in the Treasury to unveil its own list, though if previous editions are anything to go by, the most controversial item on it will be road charging.
If the troika really had the run of the Treasury, they would go much farther than that.
No doubt they’d start by calling for deficit cuts that would make Mr Osborne’s austerity plan look namby-pamby. In Greece under the troika, the deficit has been slashed by 88 per cent over the past six years, compared with a mere 63 per cent in the UK. Matching that here would mean an extra £53 billion worth of deficit reduction next year. Were that to come purely through taxes, it would require a 5 percentage point increase in VAT and a 7 per cent rise in the basic rate of income tax.
Then again, Britain’s long-term spending figures look grim too: in the coming decades the cost of the National Health Service will grow exponentially. So the troika would undoubtedly remove the government’s ring-fence on health spending. It would probably introduce fees for better-off patients to see their GPs. The winter fuel allowance would be scrapped, or at least limited to the least well-off. It would be much the same story for child benefit. In fact, any inessential spending (including on culture, sport and, as far as the IMF is concerned, defence) would be slashed to shreds.
Though most of Britain’s industries were privatised in the 1980s and 1990s, anything remaining in public hands would soon be on the block, including the banks, the state broadcasters and the Royal Mint, which Mr Osborne had been protecting up until now.
The planning system — long Britain’s bête noire — would be the next victim. The chancellor’s softly-softly reforms would be replaced with ones instantly disempowering nimbyish local authorities. The green belt would meet its end — after all, Britain is still far from being the most urbanised or developed landmass in Europe.
The property taxation system would need a complete overhaul. Stamp duty would be cut or ditched, replaced with a proper annual tax on the value of homes — a cross between council tax and a mansion tax. The financial sector’s fangs would be ground down with a permanent banking tax, rather than an ad hoc one introduced each year.
Some of these reforms seem straightforwardly sensible. Some look like madness — especially the scale of deficit reduction which, in Greece’s case, was imposed so quickly that the troika precipitated the very social disaster it was supposed to prevent.
What they have in common is that they would never make it anywhere near a party manifesto this year. While none of them is likely to happen any time soon, trying to imagine what the IMF would do in Britain today is a useful thought exercise. It reminds us that there is still plenty of room for the kinds of reform that could boost productivity in the coming years. But, as Greece is learning, such reforms tend to happen only in the depths of an economic crisis — and no one is grateful for them until decades later.
Could low interest rates be harmful? Daily Telegraph
Britain's rock-bottom interest rates could threaten the UK's economic recovery if they stay at their historic lows for too long, a Bank of England policymaker has warned.
Kristin Forbes, a member of the Bank’s Monetary Policy Committee (MPC), said that while the recovery is now “well in progress”, the central bank’s interest rate remains at its emergency settings.
Speaking at the Institute of Economic Affairs in London, she said that keeping rates low could pose risks to the financial system, threaten to generate excessive inflation, and generate asset bubbles.
The MPC has voted to keep the Bank’s rate at 0.5pc since March 2009. In February the committee's nine members voted unanimously to hold rates, as inflation tumbled to a record low of 0.3pc in the year to January.
While low rates provide a “number of benefits”, some of those risks no longer appear “moderate and manageable”, Ms Forbes said. Specifically, that low rates might increase inequality, reduce productivity, and make it hard to respond to future crises.
With interest rates very close to zero, policy may be constrained by the so-called ‘zero lower bound’. Ms Forbes said that this “means that the available “tool kit” to sharply loosen monetary policy is more limited”.
“But this cost has been alleviated somewhat by the ability to use non-conventional tools,” as well as the possibility of pushing the Bank’s rate lower still, she argued.
“Extremely accommodative monetary policy could be contributing to slower productivity growth and inequality,” the MPC member said, while noting that the evidence for this view “is partial, very mixed, and far from conclusive”.
However, she stressed that most of these risks were for now “moderate and manageable”.
Low interest rates could work in two directions, to both increase and reduce inequality, Ms Forbes said. “It is unclear what the net effect on equality is of a prolonged period of extremely accommodative monetary policy,” she continued, but argued that higher rates may not help to increase productivity or reduce inequality.
“Near-zero interest rates do not yet appear to have gone the way of Midas’ touch,” Ms Forbes said, suggesting that the costs of wealth generating policy had not yet exceeded its many benefits.
Yet she stressed that rates must not be raised too late, or it may not be possible to prevent damage from too loose. “Hopefully we will not wait until the costs are as high as when King Midas turned his daughter in gold,” she concluded.
“But this cost has been alleviated somewhat by the ability to use non-conventional tools,” as well as the possibility of pushing the Bank’s rate lower still, she argued.
“Extremely accommodative monetary policy could be contributing to slower productivity growth and inequality,” the MPC member said, while noting that the evidence for this view “is partial, very mixed, and far from conclusive”.
However, she stressed that most of these risks were for now “moderate and manageable”.
Low interest rates could work in two directions, to both increase and reduce inequality, Ms Forbes said. “It is unclear what the net effect on equality is of a prolonged period of extremely accommodative monetary policy,” she continued, but argued that higher rates may not help to increase productivity or reduce inequality.
“Near-zero interest rates do not yet appear to have gone the way of Midas’ touch,” Ms Forbes said, suggesting that the costs of wealth generating policy had not yet exceeded its many benefits.
Yet she stressed that rates must not be raised too late, or it may not be possible to prevent damage from too loose. “Hopefully we will not wait until the costs are as high as when King Midas turned his daughter in gold,” she concluded.
Sunday, 22 February 2015
A look at wages from the Sunday Times
One of the most surprising features of the economy in recent years has been the behaviour of the labour market. It proved remarkably resilient during the recession, but its behaviour since then has been truly astonishing.
Immigration has picked up strongly since the end of the recession in late 2009, helping to hold back wages. The coalition’s payroll and benefit cuts and the welfare-to-work programme have had similar effects. However, the most important factor has been the move from early to late retirement. This has greatly increased the number of older people in the workforce, leading to a rise in what economists call labour force participation.
The number of people over 50 in work, or looking for work, has increased by 1.125m since the end of 2009 — over 90% of the increase in the total workforce. Labour force participation for the 50-64 age group has risen to 71.5%, its highest level since the early 1950s. More than 10% of people aged 65 or over are in some sort of job, higher than at any time since 1973.
These trends reflect legislative changes. Government policies in the 1980s encouraged early retirement to free up jobs for youngsters. Now the theme is “active ageing”. Since October 2011, employers have been unable to insist that workers retire when they reach state pension age. And, since 2010, for women this age has risen from 60 to a planned 65 in 2018.
However, I think the economics of retirement have been more important. The annuity rate — the annual income you can get for a £100,000 pension pot, retiring at 65 — was £11,000 in 1963, rising to £16,700 by 1979. The catch was that inflation was high and volatile, spiking up to 24% in 1975, making retirement a very uncertain financial prospect. At that time, about 70% of those aged 50 to 64 were either in work or looking for work.
This prospect began to improve in the early 1980s when RPI inflation-indexed gilts were issued, allowing pension funds to offer indexed-linked annuities. Moreover, inflation fell back sharply and the government made a commitment to hold it down, eventually adopting an inflation target in 1992. However, it took a long time to convince investors, and gilt yields and annuity returns fell back only gradually, encouraging early retirement. Labour participation fell to just over 61% for the 50-64 group in 1993 and to less than 5% for older people.
Of course, many other influences were at work, including house and share prices. Employers were encouraged by the high annuity rates and a favourable tax treatment to set up company pension plans. These were mainly direct benefit schemes, which gave protection from swings in the stock market and, often, inflation.
These conditions lasted well into the 1990s, until gilt yields caught up with the low rate of inflation and Gordon Brown, the chancellor at the time, removed the tax breaks in 1997. The increase in longevity and, more recently, the financial crisis have reduced annuity rates even further. Direct benefit schemes have become very expensive to provide and few workers have them now.
So it is no surprise people are staying in work much longer than they used to. The jobs market is adjusting to this change smoothly, partly because most of these people are skilled and already in work. Changes in the demand for staff may also have helped. High-skilled occupations (managerial, professional and professional groups) account for 71% of the increase in employment since 2009. At the other end of the pay scale, a quarter of the increase in jobs over the same period was accounted for by low-skilled occupations. However, there has been hardly any growth in middle skill level jobs (typically clerical and manufacturing), leading to the so-called hourglass effect. Technical progress seems to be playing a part in this, too, as computers replace people doing clerical and other routine tasks.
Nevertheless, like immigration, late retirement is having important economic and social effects. It holds back responsibility and remuneration for younger workers and holds back pay in professional and managerial jobs. The labour market also has to cope with people coming off welfare and the public sector payroll. The numbers employed in public administration and defence have fallen by 211,000, or almost 14%, over the past five years, putting further pressure on managerial and clerical pay scales. Besides being flexible on pay, people have had to adapt to new ways of working. Many have moved from full-time to part-time work or become self-employed.
The weakness in wages since the financial crisis also reflects the weakness of labour productivity, particularly the decline of high wage sectors such as North Sea oil. This was an important factor during the recession, which hit financial services as well as the supply of finance and working capital. Employers were generally prepared to keep people on in exchange for greater flexibility, so employment fell back much less than output. However, the link between productivity and pay has arguably worked in reverse during the recovery: the huge increase in the number of workers depressed real wages as they priced themselves into jobs. Employers took on more staff to meet increased demand rather than investing in capital and this has held back labour productivity.
The labour market played the starring role in the upturn in the economy since 2012. The easing of the eurozone crisis has helped, but exports certainly did not trigger this upturn. The classic recovery begins as companies decide they need to hire more workers to increase production as they restock the shelves, but we have seen little stock-building this time. Instead, consumer spending increased because the huge growth in employment offset the weakness of wages. At the same time, people became more confident about their jobs and decided they did not need to save as much for a rainy day.
The employment scene is changing as demand in the economy strengthens, spurred by the fall in world energy and commodity prices. Unemployment has fallen to 5.7% and earnings are at last picking up. What happens now depends on whether the demand for labour outpaces the supply. Public sector employment and welfare budgets will be cut back further after the election no matter what the outcome. Unless there is a strong rebound in the eurozone, immigration is also likely to remain high. The increase in the state pension age will keep more women in the workplace. However, I expect participation by older men to stabilise and the labour market to tighten, allowing real wages to recover. The more flexible pension funding arrangements that come into effect in April should have this effect. And, after all, you can put off retirement for only so long, no matter how dire your finances look.
Peter Spencer is professor of economics and finance at the University of York and chief economic adviser to the EY Item Club
Friday, 20 February 2015
Wednesday, 18 February 2015
Interest rates, growth and outlook from The Times
Philip Aldrick, 18th Feb 2015
It’s easy to think that the Bank of England is all-powerful when it comes to interest rates. It’s what we’re supposed to believe, after all — that the nine members of the monetary policy committee lock themselves in a room for a day and half every month to decide what the rest of us should pay on our debt. Only it doesn’t quite work like that.
It’s easy to think that the Bank of England is all-powerful when it comes to interest rates. It’s what we’re supposed to believe, after all — that the nine members of the monetary policy committee lock themselves in a room for a day and half every month to decide what the rest of us should pay on our debt. Only it doesn’t quite work like that.
Take mortgage rates today. At 2.01 per cent for a two-year fixed deal with a 25 per cent deposit, home loans are cheaper than they have ever been. Yet the Bank has not touched rates since March 2009 and its £375 billion quantitative easing programme has been unchanged since July 2012. Back in March 2009, the same two-year fixed deal cost 3.98 per cent and was still 3.67 per cent in July three years later.
It’s not only mortgages. Last month, the Treasury borrowed £3 billion from the financial markets for 43 years through an inflation-linked bond. Remarkably, the effective interest rate was -0.8955 per cent. In other words, the pension funds and insurers lending to the government are paying for the privilege. The last time I looked, official rates were 0.5 per cent.
The truth is that bond markets set UK rates. The Bank merely guides them. Lately, though, they have been far more distracted by events beyond the monthly “no change here” decision from the MPC.
The collapse in market rates is perhaps the biggest issue in global economics right now. While homeowners and the government may be enjoying cheap borrowing costs, a darkness is lurking.
Bond markets are pricing stagnant world growth for generations. If they are to be believed, we’ve reached the end of progress. As the negative rate on that “linker” demonstrates, investors are so scared of losing their principal, they will pay to preserve it rather than risk it for income. Capitalism’s “animal spirits” are dead.
Far-fetched as it seems, a negative mindset has set in that risks becoming self-fulfilling. Problems in the eurozone, global disinflation and fears of stagnation have gripped the markets’ collective imagination. There are fears that the advanced world is going the way of Japan, where growth practically flatlined for two decades after deflation set in and is now failing to respond to massive amounts of stimulus in the form of QE and government spending.
The psychological turning point can be traced back to the International Monetary Fund’s annual meeting in October last year, when it cut its global GDP forecasts and warned that the world may never see its pre-crisis pace of growth again. Stock markets sold off in the subsequent weeks as investors piled into safer government debt.
Such risk-aversion is dangerous because risk-taking — the “animal spirits” — is what drives growth.
Just like the Great Depression of the 1930s, when levels of entrepreneurialism sank, the scars today from the financial crisis are deep. “People are looking for reasons not to do things, rather than do things,” as one UK policymaker said.
There are good reasons to believe that the markets are wrong. Far from stagnating, technology optimists such as Andrew McAfee believe that the world is entering the “fourth industrial revolution”, where robotics and 3D printing vault us forward once again. The past 300 years of history would support the optimists, too. Entrepreneurialism did take off again after the Great Depression.
For that to happen, investors need to put their money on the line again. Until they do, though, there will still be winners. Foremost among them is George Osborne. Slumping market rates are driving down government borrowing costs, which, alongside dwindling inflation, promise to deliver the chancellor a bumper windfall in the March budget.
In December’s autumn statement, cheaper market rates than projected in March knocked £7 billion off the 2018-19 budget deficit. That reflected a fall in ten-year gilt yields from 2.9 per cent to 2.1 per cent. Since December, they have dropped further to 1.6 per cent.
The Bank of England has also cut its inflation forecast for this year by about a percentage point, which the Office for Budget Responsibility estimates will save the Treasury £3.6 billion on those “linkers” — inflation-indexed government debt.
Between them, the changes to market rates and inflation could deliver almost two fifths of the Tories’ £25 billion of uncosted austerity planned for the next parliament and mean that neither Labour nor the Liberal Democrats would have to find any further savings.
The only thing that could turn the chancellor’s smile into a grimace would be if the OBR bought into the bond markets’ bleak outlook for growth.
If nothing else, all this goes to demonstrate the power of both belief and the human imagination — as, ultimately, markets are no more than the people who shape them. Homeowners are better off and austerity may be stayed.
In the end, that’s far more potent than a committee of nine people meeting every month on Threadneedle Street.
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