Tuesday, 5 November 2013

The Return of the Robber Barons

In the US there has been a huge row brewing on the “take” that the top 1% earners have as a proportion of all wages, currently they earn 20%.  This is the highest share since 1928; the roaring twenties with The Great Gatsby and all that.  Conversely in the UK there is a remorseless focus on the poor share that low paid workers receive, the so called crisis in living standards;  and this weekend Ed Miliband offered a cack-handed subsidy solution to this important issue.
David Miliband's brother
The tales of low income poverty and indecent wealth tie together neatly in the recent spat at the Grangemouth oil refinery in Scotland.  The refinery is owned by one of Britain’s wealthier individuals,   Jim Ratcliffe, the somewhat reclusive 61-year-old chemical engineer turned offshore billionaire and owner of Ineos.  The dispute at Grangemouth was initially about victimisation of a Union leader but it turned into a battle of wills between Ratcliffe and the Union Unite over pay and conditions at the plant in return for job security and investment.  Ratcliffe played “hardball” by threatening to close the plant and eventually a deal was done on his terms.  The left has painted Ratcliffe as a sinister bogeyman and the media have added to the fun by christening him “Doctor No” in deference to his lifestyle on his €100 million super-yacht Hampshire ll.   The yacht is 258 feet long with a helicopter cum sports deck, a crew of 23 and seven suites, the perfect lair for the “Bond villain”.

Ratcliffe's yacht - Hampshire ll 

Apart for the rising share that the wealthy take there is a wider problem with the overall share labour takes of national income.  For decades labour could rely on a pretty static share of all national income in the developed world this equated to about 70% of GPD (that is to say 70% of GDP was paid directly to labour working in the economy).  For many years this share was relatively static but over the last 20 years things have been changing, and it’s not been good news for the workers!  The Organisation for Economic Co-operation and Development (OECD), reckons that labour has captured just 62% of all income in the 2000s, down from over 66% in the early 1990s and 70% in the 1980s. Even among wage-earners the rich have done much better than the rest:  the share of income earned by the top 1% of wage earners has increased since the 1990s as the overall labour share has fallen.

The balance of GDP that is not this “Labour share” is of course capital; so if labour share is 62% some 38% of GDP is “earned” by the owners of the capital.  These owners are not just people like Ratcliffe, but include pension funds and other investment institution that manage money for many sections of society. The main problem with this imbalanace in the share of wealth between owners and labour is declining demand.  This declining demand is an important feature of the slow recovery we have been experiencng even when interest rate are ste to zero. I have been in favour of the supply-side solutions to deal with the lower bound of interest rates (tax cuts for low and middle incomes); but increasingly I feel that we need specific 'regulation measures' to deal with the problem of 'dead money' held by the mega wealthy.  Globalisation has meant that owners of capital can finesse tax regulations across the globe to accumulate a greater and greater share compared to Labour (those who work for a living).  It is this growing loss of 'labour share' that is driving down demand.  Dealing with these imbalances in regulation and taxation is not anti-business it would be pro-growth and pro-business.
After years of stable “labour share” the clock has been turned back to the pre-boom era of the 1920 when labour was poorly organised and social democracy was a twinkle in the eye of FDR and other liberals.  It feels like a return to the time of Robber Barons and unbridled capitalism where gilded elites were able to capture a huge proportion of national wealth.  Whatever one’s politics there is something uncomfortable about this bias towards capital.  So what has changed to allow this resurgence in the share that the owners of capital now take out of the economy.

The probable answer is leverage, negative real interest rates and the rise of private equity (PE). The career of Jim Ratcliffe might provide some clues.  He completed a leverage buyout of a BP petrochemical operation in Antwerp in 1998 and using PE finance he was able, to acquire 20 more companies that the industry giants no longer wanted.  He now he owns 60 per cent of the world’s third largest chemical group, with annual sales of £27 billion and debts of about $10bn.  It’s with a sense of weariness that I note that he recently relocated his business for tax reason to Switzerland.  There is a repeated pattern here of financiers buying low margin basic industries through leverage, screwing down on labour costs, whilst avoiding tax and securing fabulous personal wealth.  Mr Ratcliff may demand some respect but he has not created anything new, he has not innovated as Steve Jobb’s did at Apple, he has simply been opportunistic and able to access finance.  Does this merit a tax efficient net wealth of around £20bn?  Probably not!
The pressure that PE puts on labour cost is becoming a major problem in the UK and other advanced economies.  The leverage buy-out model means that previously debt free business are saddled with interest payments that may be in the region of 10-15% of turnover – this burden on the business will normally be funded by reducing labour costs and engineering a tax efficient entity structure.  In recent years thousands of good British companies have been put through the leverage buy-out machine, which screws creativity, labour and the tax man and lines the pockets of the PE partners and the management.  Rarely does a buy-out company get any better, rarely does it grow through innovation and rarely does it provide any social good.

So when Ed Miliband is looking around for a way of protecting low paid workers he might start by looking into the workings of the PE industry.  Fortunately  Mr Carney (Governor of the Bank of England) is ahead of everyone and has committed to dealing with shadow banking activities and to bring into line the less scrupulous PE and leverage finance business – let’s hope this helps to redress the balance in the labour share, but don’t hold your breath.

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