Nancy McDermott makes an astute point on equality in her masterly spiked essay on “maternalism”: “Today’s obsession with inequality masks an attack on equal standards and equal rights”.
Boris Johnson, the mayor of London, has unwittingly endorsed my characterisation of him as a new egalitarian in yesterday’s spiked piece. An article in today’s Guardian quotes him as saying “there is too much inequality” and “my speech was actually a warning against letting inequality go unchecked”.
This article was first published on spiked today.
Although last week’s Margaret Thatcher lecture by Boris Johnson was widely understood as a traditional conservative rejection of equality, it was nothing of the sort. It is true that the mayor of London stepped slightly beyond the bounds of what is generally considered appropriate in these oversensitive times. But the thrust of his remarks was in line with the cross-party egalitarian consensus that excessive inequality threatens to undermine social cohesion. Indeed, many of the supposed criticisms of Johnson echoed points he had himself made in his speech.
Johnson’s remarks certainly prompted howls of outrage from the self-appointed guardians of middle Britain. Nick Clegg, the Liberal Democrat leader and deputy prime minister, accused Johnson of ‘fairly unpleasant careless elitism’ and said it was ‘complete anathema’ to everything he had ever stood for. Ed Balls, the shadow chancellor, lamented Johnson’s views while David Lammy, the Labour MP for Tottenham, said the remarks were an ‘insult’ to London’s poor. There were also predictable squeals of righteous indignation in such publications as the Guardian, the Observer, the New Statesman and the Mirror.
Less shrill, but perhaps more notable, were the attempts by the Conservative leadership to distance itself from parts of Johnson’s speech. George Osborne, the chancellor of the exchequer, told the Andrew Marr Show on BBC1 that there was an element of truth in Johnson’s views, but he disagreed with the way they were posed. Judging by press reports, the prime minister’s media machine refrained from defending Johnson, as did the Conservative Party.
The hostility to Johnson focused mainly on two key points. His claim that greed could be a ‘valuable spur to economic activity’ provoked an angry response. Even more contentious was his view of the link between equality and IQ tests. According to Johnson: ‘It is surely relevant to a conversation about equality that as many as 16 per cent of our species have an IQ below 85, while about two per cent have an IQ above 130.’
But if the speech is read in full along with the associated criticism it should be clear that the differences are less pronounced than they first appear. Both Johnson and his critics accept several key premises of the peculiar egalitarianism that reigns supreme at present: economic equality is impossible; equality of opportunity is desirable; and social mobility should be given a high priority. Even on the points where Johnson diverges marginally, his views are not as distinctive as they first appear. To understand the contemporary egalitarian consensus, it is necessary to look at some of its key notions more closely.
The new egalitarianism has a peculiar, paradoxical character. Contrary to a widespread misconception, its goal is not economic or social equality. It typically casts such ends as unrealistic and undesirable. Not only does it eschew equal incomes for all, an easy goal to mock, but it explicitly rejects the abolition of class divisions. Johnson made this clear in his speech with a characteristically eccentric attack on earlier forms of egalitarianism: ‘Ding dong! Marx is dead. Ding dong! Communism’s dead. Ding dong! Socialism’s dead! Ding dong! Clause Four is dead, and it is not coming back.’ But Clegg made essentially the same point when he sneered at the idea of a ‘perfectly homogenous society’ in his critical comments on Johnson’s speech.
Clegg’s formulations echo arguments made in The Spirit Level (2009), a seminal text for present-day egalitarians, which describes itself as not having ‘compared existing societies with impossibly egalitarian imaginary ones’. The book went on to say that it was ‘not about utopias or the extent of human perfectibility’. Inequality’s current critics have no interest in realising the full potential of the whole of society as earlier egalitarians often advocated.
Instead, a central concern of the present generation is that social divisions are becoming dangerously wide. When new egalitarians say they favour ‘more equality’, what they mean is that they fear the consequences of excessive inequality. In essence, they would prefer America and Britain to be more like Scandinavia or perhaps Japan. At the very least, this betrays startlingly low expectations.
But it goes much further than this. Excessive inequality is seen as having all sorts of damaging effects on a society viewed as composed of fragile individuals. This is apparent from the arguments in The Spirit Level – a text endorsed by leaders of both the main parties. Once inequality gets beyond a certain point, it is said to, among other things, damage mental health, undermine physical health, harm educational performance, help create a culture of violence and make serious crime more likely. The Spirit Level advocates a therapeutic approach in the sense that it favours top-down interventions to treat what it regards as a dysfunctional society.
New egalitarians are therefore not concerned with realising human potential, but with managing the supposedly dangerous effects of excessive inequality. The outlook informs many pernicious policies. One of the most overtly intrusive is the drive to curb anti-social behaviour as this is seen as thriving in highly unequal environments. This helps explain why therapeutic egalitarianism tends to be so authoritarian. It is on a mission to intervene in the most intimate aspects of people’s lives in its zeal to contain the effects of social disintegration.
When egalitarians do refer to ‘equality’ nowadays – as opposed to criticising excessive inequality – they are usually talking about equality of opportunity. Strictly speaking, this is a misnomer, since equality of opportunity is more akin to the inherently slippery notion of fairness than it is to equality as it was understood historically. In essence, the campaign for a fair society runs parallel to the drive against anti-social behaviour. The aim is to find as many ways as possible to bind society together to tackle social fragmentation. Much of the focus here is on education, with initiatives such as extending early years’ learning, closing the attainment gap in schools and ensuring ‘fair access’ to universities. One of the most damaging consequences of this preoccupation is that it transforms the educational sector into a vehicle for social inclusion. Curbing the extremes of social inequality and maintaining social cohesion supersede the historical goal of transmitting knowledge between generations.
The notion of social mobility is closely linked to that of equality of opportunity. Advocates of mobility typically start from the premise that the prospects for economic growth or of raising overall living standards are limited. From this perspective, the best that can be hoped for is that the most deserving, however they are defined, should be allowed to rise up the social hierarchy. The corollary of this argument – that some must fall as others rise – is rarely drawn out. In a static society, one person’s gain must correspond to someone else’s loss.
Against this backdrop, it should be clearer why the critics reacted strongly against Johnson’s remarks. Although he did not stray far from the prevailing script, some of his comments were not formulated in a way that is currently deemed acceptable.
Let’s start with greed. It is a central tenet of the new egalitarianism that the idea of ‘greed is good’ – often associated with what is dubbed a ‘neoliberal’ worldview – is dangerous. Greed is seen as a key force corroding the social bonds that bind society together. Such dangerous sentiment is seen as flourishing in a society where inequality has become excessive and behaviour is not regulated sufficiently tightly.
As it happens, Johnson was more circumspect in his support for greed than the headlines suggested. In his own idiosyncratic way, he called for a community spirit to counterbalance the impact of greed. It is worth quoting at length:
‘I hope that in many ways it is not like the 1980s all over again. I don’t imagine that there will be a return of teddy-bear braces and young men and women driving Porsches and bawling into brick-sized mobiles. But I also hope that there is no return to that spirit of Loadsamoney heartlessness – figuratively riffling banknotes under the noses of the homeless; and I hope that this time the Gordon Gekkos of London are conspicuous not just for their greed – valid motivator though greed may be for economic progress – as for what they give and do for the rest of the population, many of whom have experienced real falls in their incomes over the last five years.’
In practice, Johnson’s London administration’s attempts to promote social cohesion have followed similar lines to the current ruling coalition and the previous Labour government. It pursues a top-down approach in which the authorities micromanage personal behaviour. There is little recognition of the notion that people should be allowed individual autonomy as long as they do not harm others. For example, one of Johnson’s first actions after being elected as mayor in 2008 was to ban the consumption of alcohol on London’s public-transport system. This restriction is itself part of a draconian behaviour code that, among other things, bans any form of action the authorities themselves consider anti-social. In essence, practically anything can be deemed unacceptable.
As for Johnson’s comments about IQ, they were clearly at odds with the notion of equality of opportunity. Although contemporary politics, or what passes as such, is riddled with elitist assumptions, it is not considered polite to articulate them openly. As it happens, his remarks were banal since it is true by definition that 15 per cent of the population has an IQ below 85 while two per cent has an IQ over 130. That is the way the test’s scoring system is designed: IQ is a measure of where an individual sits in the distribution of test scores at any particular time, not an absolute measure of intelligence. Even if everyone miraculously became, say, 10 times more intelligent, the distribution of scores would remain the same. Indeed there is a strong case that the scores on IQ tests are rising over time, a phenomenon known as the Flynn effect, but the average is simply reset to 100.
Nevertheless, Johnson unwittingly called the notion of equality of opportunity into question with his throwaway remarks about IQ scores. Even though he cast himself as a supporter of opportunity, his remarks raised an awkward point about whether it can be truly equal. If opportunity is not equal in this respect then there could be other ways in which it might be unequal too.
New egalitarianism is an entirely retrograde trend. Contrary to a common misconception, it does not uphold economic and social equality. It is motivated by fear rather than a desire to realise human potential. Its concern is to use the considerable powers of the state to curb what it sees as the socially corrosive effects of excessive inequality. In its zeal to micromanage individual behaviour, the new egalitarianism exhibits contempt for personal freedom and individual autonomy. Under the guise of equality of opportunity it has also degraded the education system by transforming it into a vehicle for promoting social inclusion.
The row over Boris Johnson’s speech should help reveal how pervasive the pernicious influence of the new egalitarianism has become.
This article first appeared in this week’s Fund Strategy magazine.
Germany has, for the time being at least, replaced China as America’s lead villain in the world economy. The discussion of global economic imbalances is back but the main bogeyman this time around is European rather than Asian.
America turned the heat up on Germany a notch in the latest edition of the Treasury’s twice-yearly Report on Congress on International Economic and Exchange Rate Policies. Until recently the publication had become a vehicle for criticising China for its allegedly undervalued currency.
The latest report criticised Germany in the context of the ongoing weakness of the eurozone noting that it: “has maintained a large current account surplus throughout the euro area financial crisis, and in 2012, Germany’s nominal current account surplus was larger than that of China.”
In strong language for an official document it went on to argue that: “Germany’s anemic pace of domestic demand growth and dependence on exports have hampered rebalancing at a time when many other euro-area countries have been under severe pressure to curb demand and compress imports in order to promote adjustment. The net result has been a deflationary bias for the euro area, as well as for the world economy.”
In other words the Treasury department argued that Germany’s excessive exports should take much of the blame for the sluggishness of the global economy.
Not that the US Treasury is alone in criticising Germany’s large current account surplus. David Lipton, a senior official at the International Monetary Fund (IMF), gave a speech in Berlin shortly after the Treasury report was published in which he urged the German government to reduce its trade balance to an “appropriate rate”. This followed the publication of an IMF report in September that revisited the question of global economic balances.
The European Commission too has suggested that Germany’s current account surplus could be too large. In a memo published on November 13 it noted that the German current account surplus has exceeded 6% of GDP – the threshold at which the EC considers it a problem – every year since 2007. The EC has also recently forecast that it will stay above that level in 2014 and 2015.
Such criticisms are widely rejected inside Germany. The German public – already outraged by news that the US intelligence services had tapped the chancellor’s phone – reacted with incredulity to the US’s apparent claim that Germany is exporting too much. From a German perspective their country is being criticised simply for being successful and prudent.
The German economics ministry responded to the US Treasury report with a statement saying Germany’s surplus was: “a sign of the competitiveness of the German economy and global demand for quality products from Germany”. It also argued that domestic demand is a key driver of growth in Germany and that, unlike many other developed countries at present, incomes are rising.
In truth both sides in the argument are blinkered. Understanding the world economy through the prism of imbalances tends to lead to a fruitless blame game.
This approach to economics starts from a simple premise: on a global level the world economy must be in balance. For example, global exports must equal global imports – at least until trade with outer space becomes a reality! Therefore if one economy has a large trade surplus there must be corresponding trade deficits elsewhere.
From this perspective it becomes easy for countries with large deficits, such as America and Britain, to blame those with large surpluses, particularly Germany and China, for the world’s economic woes. From an Anglo-American viewpoint the Germans and Chinese need to consume more to bring the world economy into balance.
But Germany and China retort with some justification that they are in essence being criticised for being too competitive. The key problem, they argue, is the lack of dynamism in America, Britain and other deficit countries.
Both sides of the argument are, in essence, putting too much emphasis on the imbalances between them and paying too little attention to their own structural weaknesses. In Germany, for instance, levels of corporate investment are languishing at about the same low level as those of America and Britain.
It is also wrong to blame the eurozone’s weaknesses on Germany’s large current account surplus. This imbalance is more a symptom than a cause of the inherent tensions in the grouping. Tying together countries with fundamentally different economies into a single monetary bloc was always a recipe for trouble.
Meanwhile, America and Britain have no shortage of home grown economic challenges to tackle. For example, it would be far better if they focused on how to increase production in their own countries than whining about German and Chinese underconsumption.
Governments should resist the temptation to scapegoat others and instead shine the spotlight on their own economic weaknesses. It is also a great pity that so many economic commentators go along with their own governments in highlighting the weaknesses of other countries.
The only way out of the impasse is to stop discussing the world economy in terms of global imbalances. Playing blame the foreigner is a dangerous diversion.
The fervent debate on whether America is suffering from “secular stagnation” reveals little about the economy but much about the bankrupt state of economics. There is little original in the discussion of the malady and even less of anything profound.
Larry Summers, a former US Treasury secretary among many other things, kicked off the debate at a recent International Monetary Fund (IMF) conference. After congratulating the authorities for their “remarkable job” in containing the 2007-8 financial crisis he went on to highlight the shallowness of the recovery. Since 2009 the proportion of people in employment has not unchanged and GDP has fallen even further behind its potential.
To explain the parlous state of the economy he suggested reviving the idea of secular stagnation from the 1930s. This notion was most closely associated with Alvin Hansen, an influential economist from that era sometimes known as the “American Keynes”.
The next stage of his argument was to point to an apparent paradox. Before the crisis there were many signs of rapid credit expansion yet this did not boost aggregate demand or stoke up inflation. Nor has there been much of a bounce back since 2009 despite the stimulus.
For Summers this raises the possibility that real interest rates have been negative since the middle of the last decade. In other words there is a strong incentive to hoard cash since returns to investment are worse than zero.
The implicit conclusion drawn by Summers was that, rather than tapering, the Federal Reserve should engage in even more extensive monetary policy. There should also be a more active fiscal policy rather than retrenchment. In his view borrowing, lending and asset prices all need to increase for a true recovery to materialise.
There is not enough space in a short blog post to do a proper critique of Summers’ argument but he is certainly right to point to the serious challenges facing the American economy. I, along with many others, have often pointed to the low levels of investment in America. Andrew Smithers, an economic consultant, has recently published a report showing that economic growth and investment have both been on long-term downward trend.
The fundamental problem with Summers’ argument is its one-sidedness. He posits a negative real interest rate but there is no proper explanation of how it came about or how it can be changed. In his telling it has simply become embedded in the economy as an almost insurmountable limit. His overwhelming focus on the demand side blinds him to the structural weaknesses of the real economy and the possibility of tackling them. He is obsessed with such things as monetary policy and asset prices rather than the real world of production.
Essentially Summers has articulated a one-sided response to the current malaise of the American economy. He follows many other varieties of pessimism including the idea that the low-hanging fruit of technological innovation have all been picked , the notion of the new normal and Krugman’s talk of a liquidity trap and “depression economics”.
Perhaps Summers should be reminded why the secular stagnation theory was discredited last time around. Alvin Hansen, in his 1938 presidential address to the American Economic Association, had argued that America was facing a high level of permanent unemployment because three factors that had previously driven growth had come to an end: the frontier, rapid population increase and capital-intensive technological change.
A few years later, shortly after the second world war had ended, America entered two decades of the most rapid period of economic growth it has ever enjoyed. That is not to claim that such a dramatic recovery is inevitable today but it is a poignant warning of the dangers of excessive pessimism.
This comment was first published today on Fundweb.
This article first appeared in this week’s Fund Strategy magazine.
Even by the standards of a world of confused debates the discussion of energy is spectacularly muddled. While politicians and campaigners bluster about greedy energy companies the central issue, how to bolster supply, receives little attention.
Politicians of all stripes are guilty of posturing on this question. They rail against rapidly rising prices and suggest that, at the very least, there might be insufficient competition in the energy sector. Next come the banal suggestions about how consumers can soften the impact of higher prices.
The leaders of both the main political parties have made pronouncements on the issue. David Cameron, the prime minister, has tentatively suggested that green taxes could be reduced – a move that would be welcome – but plans are not due to be announced till the Autumn Statement in December. He has also suggested that the energy market should be more competitive.
Ed Miliband, the Labour leader, pledged that if Labour wins the 2015 election it will freeze gas and electricity prices until the start of 2017. If nothing else this proposal virtually guarantees that energy prices are likely to continue to rise steeply in the run-up to the election.
Ed Davey, the energy secretary and a Liberal Democrat, has promised that the energy companies will have to undergo an annual competition assessment. Another initiative is to make the process of switching between energy suppliers more rapid. He has also made the patronising suggestion that consumers should wear a jumper in winter so they can keep their heating bills down – as if he was offering a great insight.
But perhaps the centre of this whole charade is the Energy and Climate Change Committee of the House of Commons. Like other parliamentary committees this has become a way for MPs to grandstand in front of the media rather than to seek the truth. True to form it invited the heads of several of the Big Six energy companies to a session for an on camera roasting.
The energy companies for their part reject the charge that they are making super profits. They marshal several arguments including rising wholesale prices, the fact their profits margins are only about 5% and the middling level of British energy prices by EU standards.
Little has come out of these discussions in practical terms. For politicians they certainly have the advantage of allowing them to distance themselves from any culpability for rising prices. For the rest of us we are bombarded with banal practical tips that are essentially an extension of Ed Davey’s advice to wear a jumper.
Sources of advice are legion for those who want it. Energy UK, the trade association for the energy industry, is promoting a Home Heat Helpline. Which?, a consumer organisation, is offering 10 ways to save cash on energy including get an energy monitor and cut draughts. The personal finance media has obediently followed with numerous articles along similar lines.
Tragically this whole discussion misses the key point. The key challenge in relation to energy is not to restrict demand but to bolster supply. Making energy more plentiful is the only way to bring prices down over the long-term. The ultimate goal should be to make energy so cheap that it is not even worth metering.
James Woudhuysen, a professor of forecasting at De Montfort University in Leicester, has pointed out that in relation to becoming more productive the energy industry is like any other. Investing in new technologies and production methods can make it more efficient. Just as computer-processing power has become much cheaper in recent years it would be possible to make energy cheaper too.
The recent surge in producing natural gas and oil from fracking provides a tentative view of what could be done. Using this technology is it possible to squeeze hydrocarbons out of shale rock in a way that was not possible earlier. As a result natural gas prices in particular have come down sharply in America in recent years. If the technique is applied in other countries it is likely that global prices will also slump.
This is not to suggest that fracking on its own is the answer. As Woudhuysen has argued before at Centaur Investment Summits and elsewhere the challenge is to invest in a range of technologies. This is likely to include nuclear power, hydrocarbons and various forms of renewables. There may also be other forms of technology that have not been anticipated yet.
It is true that the government has made some moves towards increasing power generation. The deal to build a new nuclear power station at Hinkley Point in Somerset, with the help of Chinese expertise and finance, is the most high profile example. But it is likely to take many years to come on line and will no doubt face determined opposition from environmentalist groups.
The fundamental challenge is to invest and innovate in energy supply on a grand scale. That way it will be possible to ensure that energy is both plentiful and cheap. Haranguing energy companies and obsessing over energy conservation are dangerous diversions from the real task ahead.
This is the box for my Fund Strategy cover story on Britain’s economic recovery.
One of the government’s central commitments when elected into office in 2010 was to rebalance the British economy. This pledge had several elements to it.
In his first keynote speech as prime minister the newly elected prime minister David Cameron made rebalancing a central theme. The first element of this strategy was to reduce the over-reliance on a few industries – primarily finance – towards a broader economic base.
A second and related element was a regional rebalancing. This meant a relative shift away from London and the South-east. As the prime minister put it:
“Today our economy is heavily reliant on just a few industries and a few regions – particularly London and the South East. This really matters. An economy with such a narrow foundation for growth is fundamentally unstable and wasteful – because we are not making use of the talent out there in all parts of our United Kingdom.”
He went on to elaborate in more detail what he meant. “That doesn’t mean picking winners but it does mean supporting growing industries – aerospace, pharmaceuticals, high-value manufacturing, hi-tech engineering, low carbon technology. And all the knowledge-based businesses including the creative industries.”
Indeed even parts of the speech there were not flagged as being about “rebalancing” suggested a substantial shift was needed. It was also emphasised that the role of the state should be reduced – although Cameron was keen to stress that “government cannot be a bystander – and that the private sector should be allowed to thrive.”
Similar themes were evident the following month in the emergency budget announced by George Osborne , the new chancellor. In his words:
“Our policy is to raise from the ruins of an economy built on debt a new, balanced economy where we save, invest and export. An economy where the state does not take almost half of all our national income, crowding out private endeavour. An economy not overly reliant on the success of one industry, financial services – important as they are – but where all industries grow. An economy where prosperity is shared among all sections of society and all parts of the country.”
More than three years later the government is claiming some success in rebalancing. In a keynote speech on the economy in September the chancellor claimed “growth is balanced across all sectors of the economy”.
He went on to point to the existence of growth in all economic sectors, the importance of net exports relative to consumer spending and the pick-up in investment.
However, such claims are based on a selective reading of the data. For example, it is true that in the last two quarters all of the four main industrial groupings – agriculture, production, construction and services – enjoyed rises. But services are 0.4% higher than their pre-recession peak while manufacturing is 8.9% lower and construction 12.5% lower. In other words, the economy has, if anything, shifted further away from manufacturing since 2008.
Some economists, such as Samuel Tombs, a UK economist, accept the argument that there are tentative signs of rebalancing. Other, including Andrew Milligan of Standard Life Investments, are more sceptical: “For those who are concerned about it, it is not the rebalanced economy that Mr Osborne promised.”
However, Milligan is doubtful that rebalancing in the sense of a shift back towards manufacturing is likely to happen at all. “The trend is the manufacturing sector is not going to be bigger. Not just in the UK but in all advanced economies”
In contrast, RBC’s Larsen – while not necessarily advocating such a move – argues that only sustained government action is likely to lead to a relative shift back to manufacturing. “Unless you put in place an industrial policy that encourages it I don’t think it’s going to happen,” he says.
However, there is one area where rebalancing is expected but it looks unlikely to happen. Despite the talk of reducing public spending there is no trend for any significant decrease in state intervention in the economy.
In terms of public spending it is true that as a proportion of GDP it rose sharply in 2009 and stayed at this higher level for the three subsequent years. But according to the Office for Budget Responsibility spending in 2017-18, after several years of cuts, it is expected to return to about the same level as in 2008. Even this may not be achieved if the assumptions on which the estimates are based turn out to be off.
In addition, the Bank of England has become more interventionist than ever. It has implemented quantitative easing since early 2009 and there are no signs of any imminent winding up of the programme. Forward guidance, if anything, means a continuation of extraordinary measures in monetary policy rather than reining them in.
Rebalancing will certainly not mean a shift away from a heavy economic dependence on the state. If anything the trend may be towards even greater intervention by the authorities.
My latest Fund Strategy cover story, published today, looks at the discussion of the British economic recovery. The related graphs and a timeline are available here. Tomorrow I will publish the related box that looks at the discussion of rebalancing.
After several years of economic pain the UK economy appears to be enjoying a recovery. This year it has seen three consecutive quarters of GDP growth with a provisional estimate of a 0.8% jump for the third quarter. Nor is the expansion restricted to one or two sectors. All of the main industrial groupings have moved upwards in the past two quarters.
However, looking at the question from a longer-term perspective, since the onset of the economic downturn in 2008 suggests proclamations of recovery should be more guarded. A study by the National Institute of Economic and Social Research, an independent research institute, suggests it is taking longer for Britain to return to its peak than in the aftermath of previous recessions. Despite all the talk of recovery the level of output is still 2.5% below that in early 2008.
Before probing this question more deeply it is necessary to consider what exactly is meant be recovery. If it simply means upward movement in GDP then it started in mid-2009 and it is certainly clear this year. If, on the other hand, it means a return to its previous peak that could easily be more than a year off. Whether the UK has entered a recovery by yet another definition, a return to its trend rate of growth, is open to debate. In October the average forecast for GDP growth was 1.4% for 2013 and 2.2% for 2014.
But even on the level of GDP figures identifying a recovery is not as straightforward as it might first seem. Andrew Milligan, the head of global strategy at Standard Life Investments, says the oil sector should arguably be excluded from the numbers if the trend is to be identified accurately. This is because supplies of oil and natural gas from the North Sea are suffering a sharp and steady decline. He says there is also a case for excluding construction as it is such a cyclical sector.
For the purposes of this article the focus will not just be on whether GDP is moving upwards but on whether the expansion can be durable. Is Britain simply experiencing a cyclical spurt in growth or is there a stronger dynamic at work?
This is similar to what Azad Zangana, a European economist at Schroders, calls a “fundamental recovery”. For him this constitutes: “Improvement in productivity and improvement in international competitiveness as well, which would eventually lead to more investment and better trend growth”
Among economists the main differences on this question are not so much on the facts but on how they should be interpreted. There is a broad consensus that much of the growth apparent so far relates to what could be called the demand side of the economy. This is evident from such indicators as consumer sentiment, house prices and mortgage renewals. On the other hand, there is no clear upward trend in the supply side, in areas such as investment and productivity.
The debate centres on the relationship between the two sides of the economy. Optimists tend to argue that positive signs on the demand side are likely to spark growth on the supply side. Pessimists, in contrast, typically argue that any improvement in the demand side could fizzle out if the productive economy is not revitalised.
This article will consider the two sides of this debate. First, it will look more closely at the claim that the UK is in the early stages of a demand-led recovery. Next it will look more closely at the weaknesses on the supply side of the economy. In conclusion, it will examine if of balance can be found between the two sides of this story.
Many, although not all, of the signs of recovery identified by the optimists relate to what could broadly be called the demand side of the economy. Another way of putting this is that they relate more to consumption than to production.
The optimists do not deny production has some importance. Their argument typically is that more confidence and stronger domestic demand should pave the way for a more broad-based recovery.
Kerry Craig, a global market strategist at JP Morgan Asset Management, says: “How people feel about the economy is a much better indicator of the recovery than just simply looking at the down the line economic data.”
From his perspective the recovery has been evident for the last six to eight months. “We are in the early stages of what is looking like a pretty sustainable recovery,” he says.
Take, for example, the Nationwide Building Society’s house price index. In real terms, when adjusted for inflation, this peaked in the third quarter of 2007 before trending downwards for over four years. But in the third quarter of 2013 prices reached their highest value in real terms since the final quarter of 2011.
Of course there are strong regional disparities with London and the South East outperforming other areas. But this can be taken as a sign that the recovery is uneven rather than that the “animal spirits” of business and consumer confidence are missing.
Critics counter that government schemes, such as Funding for Lending, have helped to buoy up house prices. Nor is there a boom in house building. The construction of new houses, especially in the South-east, remains limited. From this perspective the UK could be experiencing a smaller scale version of the credit-fuelled boom that preceded the recession rather than a fundamental recovery.
Consumer confidence itself can be measured directly in opinion polls. For instance, the GfK Consumer Confidence Index rose for five straight months from April to September this year before dipping in October.
A similar trend is apparent in surveys of business confidence. For example, the CBI Industrial Trends survey, based on the opinions of manufacturers, showed optimism grow at its fastest rate since April 2010. The third quarter survey of chief financial officers by Deloitte showed a similarly upbeat mood with their perception of macro and financial risk hitting three year lows. For the bulls such results are a sign that things are likely to improve further.
But possible signs of an economic recovery are not only apparent in confidence indicators. For example, the chancellor has stated the employment levels are at their highest level ever. This is true although perhaps misleading as the proportion of people with jobs, as opposed to the number, is lower than before the 2008-09 crisis. Nevertheless the unemployment rate, while relatively high, might be expected to be even higher given the longevity of the economic downturn.
Perhaps the most surprising indicator of recovery is the performance of the car sector and transport equipment more generally. Figures from the Society of Motor Manufacturers and Traders, an industry trade body, show strong domestic demand for British cars with figures for September 9.9% up on the same month in 2012. Attractive financial packages have helped contribute to this surge although business confidence is also often identified as a factor.
The main weaknesses in the economy relate to the supply side or the productive sphere. In particular investment and productivity growth are stagnant (see graphs). It is hard to imagine a durable recovery without an improvement in these two key measures.
Business investment is key since it typically feeds through into future growth. High investment in a firm essentially represents a decision to pursue corporate expansion. Yet business investment has been flat in recent quarters and it is substantially below the level in the first quarter of 2007. “Unless business investment picks up then sooner or later the current growth will fade,” says Schroders’ Zangana.
Productivity is at root a way of measuring how efficient a firm produces its goods or services. It can be measured in terms of output per worker or output per hour. The second measure shows an improvement over 2013 but no clear upward trend over the longer term.
Economists typically accept that such figures are weak at present but are hopeful that they are likely to improve. Jens Larsen, the chief European economist at RBC Capital Markets, says: “We are recovering now. It is probably mostly a recovery in demand. The question is whether we are going to see the supply side, potential output, follow on.”
He concedes that business investment is weak but argues that “it is likely to pick up as output recovers”. From this perspective investment is likely to follow a recovery in demand rather than drive the improving economy.
Capital Economics, an economic consultancy, recently argued in its UK Quarterly Review for the fourth quarter that it is churlish to complain that signs of recovery are more evident in the sphere of consumption.
“It is perhaps worth starting by making the simple but important point that, after five years of recession and stagnation, some growth – whatever is driving it – is better than no growth.
“After all, what starts as the ‘wrong’ sort of growth could be the trigger for a shift into the ‘right’ sort. A recovery that starts off concentrated in one sector could spur confidence, employment and investment across all parts of the economy, kicking off a virtuous circle that ends up in more broad-balanced growth.”
Samuel Tombs, a UK economist at the group, also makes the point that “the recovery has become much broader based over the last few months”. He acknowledges that at the start of the year the focus was on household spending but points out manufacturing and construction have done well in recent months. “There is still not much of a recovery in business investment but that takes time to come through,” he says.
Conclusion: Finding a balance
Despite the heated discussion on the prospects for Britain’s economic recovery there is no substantial disagreement on the facts. It is widely accepted that most, although not all, of the signs of recovery lie on the demand side. The recovery is typically seen as being driven by domestic consumption rather than by business investment or exports.
The key difference lies in how the relationship between supply and demand are understood. More optimistic commentators tend to argue that strong demand is sooner or later likely to translate into sustained growth. Pessimists, in contrast, tend to maintain that any growth in demand is likely to fizzle out if not matched by improvements in investment and production.
There is also a broader debate to be had about what kind of growth can reasonably be expected of the British economy. Has it entered a “new normal” where growth expectations should be muted from here onwards? Or is it realistic to hope for a renaissance in growth if the right conditions are put in place? That is a discussion for another day.
I must have missed it in my childhood for, despite liking cartoons, I do not recall ever coming across Scrooge McDuck. I certainly did not expect that many years later I would be alerted to the existence of the richest duck in the world by a billionaire fund manager.
Bill Gross, the founder and chief investment officer of Pimco, brought the Disney character to world’s attention in the November edition of his Investment Outlook. He also later appeared onBloomberg Television to elaborate his thoughts on the subject.
Despite Gross’s bird metaphor his article was making a serious point. In his view the privileged 1% in America – the Scrooge McDucks in his colourful terminology – should be prepared to accept the burden of higher taxes. In broad terms he was following Stanley Druckenmiller and Warren Buffett in arguing that capital and labour should be taxed at the same rate. In other words capital gains tax in America should be readjusted to existing marginal income tax rates.
No doubt many readers will recoil against his policy conclusions – although it is worth noting that the Economist also favours a narrowing of the difference between taxes on Labour and taxes on capital – but his argument still deserves to be probed more deeply. Gross’s case for narrowing inequality rests on the self-interest of the super-rich rather than altruism. In his view the American economy is likely to suffer over the longer term as the Federal Reserve as a result of it bolstering speculation in financial assets:
“The U.S. economy – thanks to the Fed – has been operating a $1trn dollar share buyback program nearly every year since late 2008, buying Treasuries but watching much of that money flow straight into risk assets and common stocks instead of productive plant and equipment.”
It would be far better, Gross argues, if there was more investment in the real economy. In the long run that would lead to more dynamism and faster economic growth.
It is not necessary to agree with all of his arguments to concede that Gross has a point. It is certainly true that the main effect of the Fed’s quantitative easing programme seems to be to shore up asset prices. There is also no doubt that investment in the real economy is central to long-term growth.
Whether Scrooge McDucks can lead the way in tackling these problems is doubtful. For a start many of them benefit from inflating asset prices even if they can are not necessarily in the interests of society as a whole.
It is also notable that talk of higher taxes on billionaires all too easily morphs into a discussion of “shared sacrifice”. Gross does not use the term but his fellow billionaire tax campaigner, Warren Buffett, is keen on the concept. Indeed the Sage of Omaha has done a double act with Barack Obama in which they have both argued that everyone, from billionaires downwards, should be prepared to make do with less.
Putting the rest of us in the same economic bracket as Scrooge McDuck: that really is quackers.
This comment was first published on Friday on Fundweb.
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