Crude benefits of falling oil prices

The ending of QE in the US and the fall in the price of oil from over $115 a barrel to under $60 a barrel were the defining economic events of 2014, but their consequences will not be felt until next year.  The ending of QE in the autumn brought to an end the huge expansion of the US Federal Reserve’s balance sheet, since 2008 the Fed has pumped some $2.3tn of “new money” into the world economy which has had a wondrous effect on asset prices in all sorts of weird and wonderful places.  London property prices have boomed, stocks in emerging markets reached new heights and bond prices sky rocketed as yields collapsed – also commodity prices boomed and oil was not left out of the party.  Between 2009 and 2011 oil prices rose from $40 to $125 a barrel, driven by ever increasing demand from emerging markets and $1.9tn of US and UK QE.  Following the boom in commodity prices between 2011 and 2013 prices stabilised at a high level before falling off a cliff in 2014.

The Crude Story

Winning the productivity race

Seven years on from the start of the Great Recession the slump looks set to go on and on.  Even David Cameron who seldom mentions the economy was stirred this week to reinforce the message that - the worst may not be over.

Certainly, in the UK we have had some growth but we still have high levels of government debt and a crippling trade deficit and our main trading partner is in real trouble.  It is now certain that the major economies in the developed world will never recover the lost demand that has opened up between actual GDP and the trend line established over the last 20 years.  This puts us in new territory, as in every other recent recession the global economy has always been able to close gap in “temporary” lost demand during the expansion phase of the economic cycle.  In real terms, people in virtually every developed country will be poorer at the end of this economic cycle than in 2007!  This is a pretty stunning revelation – we have forgotten how to grow!
 

What a hedgehog knows

When, in 1948, Mikhail Naimy  wrote “The more elaborate his labyrinths, the further from the Sun his face” he was already living in a world that was being over-run by complexity.  Most of the greatest insights in art and science since the end of the Second World War have been conceived in a dense soup of analysis.  There will no more be simple insights that change the world – mastering the complexity is everything.  The keen amateur who is able to think freely and creatively is no longer taken seriously;  the potting shed had been replaced by the data centre such is the explosion of data and variables required to understand the problems we face. We are living in the age of the Fox (who knows many small things).
This up-tick in complexity is obvious in the world of macro-economics as the simple relationships between money, prices, capacity and rates of interest no longer seem to work.  Also old certainties about productivity and wealth have been debunked – this is an uncomfortable world for the Hedgehog – (who only knows one big thing).  Obvious problems create resolutions that can be faced with bravery, although tactics may vary we can unite behind a shared vision or oppose it full on.   If the problem is too complex to articulate then there will be no solution only a vacuum.

Where are the hedgehogs

Float my boat?

The image of a rising tide lifting all the boats is a picture politicians like to paint – a fair recession and recovery, the reality maybe that the posh yachts and the scruff dinghies may be okay but the smartly kept but modest day boats may be stuck in the mud for a while yet!

Who will float my boat?

Five years after the Great Recession there is a sense that the world’s economy no longer adheres to normal rules, the tide is moving in a mysterious way.  In a recession wages are meant to be sticky and as a result of this unemployment rises sharply as workesr price themselves out of the market.  Following a recession, typically, productivity and wages pick-up quickly and eventually unemployment should fall.  This time around rates of employment have remained quite high through the recession, wages and earnings have fallen sharply and productivity has not bounced back; so why?

A sticky mess for economists

I have spent a fair amount of my leisure time racing on sailing boats, where one becomes paranoid about wasting the wind, the tide or ones position on the water.  This is in stark contrast to the rest of my life where waste is everywhere; I waste time in mindless meetings and commuting, I waste money on an over indulged family and some would argue that I am wasting my life away writing this blog!  But all that is going to change; waste is out and utilisation is in – or so says the Governor of The Bank of England (BoE).

Having spent the last five years providing as much slack as possible to keep the banking system on its feet and the economy off its deathbed, there is now a new mood and doctrine.  When Mark Carney arrived in the UK in July last year he promised us Forward Guidance on interest rates – he would hold rates at 0.5% until we achieved full employment.  So like a seasoned skipper he turned the yacht downwind and let all her sails out.  The economy (helped by a friendly gust of overseas investment) has picked up speed, employment rates have shot up and people are wondering when we will need to tighten things up.  If we don’t tighten things up and the economic tail-winds pick-up we could get into a real mess.

He should have tightened up a bit earlier

European Hunger Games

For anyone who was growing up in the 1970s there is a short list of things that one has to be concerned about:  The music of The Bay City Rollers, the instant pudding - “angel delight”, playing rugby against the Welsh and inflation.

The Great Barry John laying waste to England

Although the oil price shocks affected all industrialised economies inflation had a particularly severe impact on the UK, we quickly became known as the sick man of Europe.  Our smoke stack industries were failing against new competitors and trades unions made it impossible for us to improve productivity; this labour intransigence forced unemployment to horrific levels.  But worst of all, Inflation was in double digits eating up savings, wealth and security and against all the laws of Keynesian economics we had high inflation, high unemployment and high interest rates – stagflation!  Like a creeping terminal disease it infected all parts of our economy and did untold social damage; many of today’s most potent social problems steam directly from this time – rising divorce rates, poor parenting, plunging standards in education, rising crime rates and so it goes on.

Judgement Day for Economists

The economic discussion on how to solve the evolving recession and global stagnation has become increasingly political with Krugman and Summers on the left and Rogoff and Co on the right.  Too much energy is now being spent on self-defence,  protecting one's reputation takes precedence over new thinking.

The depression in the 1930s gave us Keynes and stagflation in the 70's gave us Friedman and I am pretty sure there will be a new luminary to rise from the ashes of the current mess we are in. Frankly, neither of the "old schools" looks likely to predict the "first best solution" correctly.

Keynesians really struggle to find an elegant solution to the ending current cash hoarding and low private sector investment when their demand side policies would further raise public debt.  Why would a company or an individual risk investing in new ventures in a country where sovereign debt is increasingly out of control and where there is a risk of default or very high interest rates in the future(particularly when most investors are not followers of Keynes)?  The risk of slowly reducing asset value is always preferable the risk of a total loss investment.   Followers of Keynes offer no insights into how this conundrum is resolved.

In the same way monetarist struggle to solve the problem of very low private sector investment when real interest rates have been and are likely to be negative for years to come.  They argue for more public sector austerity, that would reduce demand and further endanger recovery.  They also can’t resolve the problem that supply side solutions would further erode labour share (the % of national income earned by employees), which is one of the main reason for falling demand and productivity.

Rogoff on the left and Krugman on the right - just for a change

All work and no pay

The next generation are taking over, after 25 years of being the sole bread winner in the family two of my three daughters are about to step into the world of work – well let’s hope so!  Being equipped with a degree is no longer a passport to wealth and prosperity it may not even be enough to secure a job.  One of these daughters has taken the option to take a year out from University to gain experience working for a number of business as an intern during a "year in industry", which is sandwiched between her 2nd and 3rd years.  She secured three internships, where she is working for no money to gain experience; some might say this has been a pretty poor introduction to the world of work.  The reality is that she has the opportunity to work for three outstanding companies and has already been offered a permanent position!  This “year in industry” seems an eminently sensible idea, she gets to see different businesses and roles close up and they get the chance to check her out.

Get on yer bike!

My daughter’s situation is a microcosm of the whole job market, which has been a buyer’s market since 2007.  Those of us who work in the private sector have had to survive wholesale downsizing, salary freezes, smaller or no bonuses and a broader squeeze on company benefits (pensions, etc).  This reduction in take home pay has reduced demand and slowed growth; but this flexibility has allowed the UK economy to maintain relatively high levels of employment.  Now the economy is growing again the somewhat vexed question is - how long will it take for this increased economic activity to feed through into higher take home pay and rising living standards?  I say vexed because living standards have fallen by as much at 5% over the last 5 years and in real terms by much more.

Who's Been Eating My Porridge

Even the Bank of England has now confirmed that the green shoots of recovery are growing strongly and that we have reached escape velocity.  Even inflation is falling towards the Government’s target range of 2%.   Some might describe this as the perfect Goldilocks scenario for our economy– not too hot not to cold! However there is one angry bear that might ruin the breakfast – poor productivity and falling living standards.

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 

Unglobalization - the decline in world trade

The declining growth in world trade has got economists baffled.  Some economists think this is important whilst others are not so fazed.  On the face of it we should care because the volume of trade has broadly mirrored the growth in GDP (wealth) across world so any decline may signal a slowdown in GDP growth.   The chart below shows the long run growth in world trade and the impact of the 2008 recession.  The steep decline and bounce back between 2008 and 2010 is not surprising but the lack of sustained recovery since 2010 is a worry, particularly in the developed world.

Austerity may be wunderbar

Five years on from the tsunami of the Lehman’s default and subsequent recession it’s probably a good moment to assess the relative merits of the monetary and fiscal strategies that developed countries have deployed to reboot their economies.  There have been a range of initiatives that have been tried but the “standout” response has been austerity, which can also be derived as a noun – austerian and there is even an antonym – Krugman!

Living it up - throwing a light on living standards

Since 2009 the UK has been in a liquidity trap, where depressed consumer spending has contributed to an overall shortage in demand.  This demand shortfall played its part in creating the “flatlining” economy that Ed Balls was so fond of.

We won't remember them!

The main reason for this lack of demand has been the squeeze on private sector pay and living standards, this squeeze has been vicious and this is because disposable income is “marginal”.  A wage earner on average income of £37,000 only has about £15,000 of disposable income a year after paying for taxes, housing costs, utilities and transport.  Since 2008 pay increases have been less than 2% a year and prices have increased at 3.5%.  Five years of real earnings decline at 1.5% annually means a reduction of £2,600 or a whopping 17% of disposable income. This squeeze was combined with a rise in the saving rate, as Britons have lowered their debt-to-income ratios.  

Living in the past

The last few days of summer traditionally bring us some warm weather before the autumn gales roll in off the Atlantic Ocean, and this year is no exception.  The orchards are dripping with fruit and the late flowering Asters and Dahlias provide a splash of colour before we drift into a world of grey and cold. To soak-up this fleeting moment fruitfulness before the mists roll in one could hardly pick a better spot than Brighton; nestling at the foot of the South Down a short distance from the Garden of England (the weald of Kent) the town is perfectly placed for an early autumn break.

Brighton Pier

Sadly for those planning to enjoy the last warm weather of the year they will have to share the town with the Labour Party gathering for their annual party conference.  For a modern new look Party Brighton is a strange place to pick, reminiscent of old fashioned 70s conferences where Trades Union bosses owned the agenda with a block vote and a Sterling crisis was the most likely ex-curricular distraction.  On second thoughts maybe the conference organisers have got the location spot on; Ed Miliband’s Labour party is starting to resemble the Harold Wilson era more and more.  Wilson was adept at the politics if not government, endlessly shifting his position to remain in power, his governments achieved little and left the UK in a parlous state.  Ed Miliband has a similar style – all grease paint but no show.  So it should be of no surprise that, as deftly as a well-trained circus act, the Labour Party have switched horses from a strategy that demanded a “plan B” for economic recovery to new mount that demands action to improve living standards.

Mondeo Man Trap can win Cameron the next election

The tide has turned on the British economy; after the tsunami of the credit crunch we have been beached on the mudflats of no/low growth of for four years.  There have been moments when it seemed the after-shocks would create move waves, the Euro crisis being the most obvious risk.  There have even been moments when recovery seemed to be ebbing our way only to evaporate into the stinking sands of a flat-lining growth.  In December last year I blogged that we were at the beginning of the end and amazingly I think I called the low water mark correctly and 8 months on the sparkling waters of recovery our flooding in bringing relief to many parts of our economy. 

Low water - but the tide is coming in!

This change in the tide is very welcome but growth is still weak and localised.  Most of the benefits are being felt in London and its hinterland and only in pockets outside the south east of England.  More worrying our neighbours in Europe are still up to their knees in thick mud and going nowhere fast.  With a new governor at the Bank of England and only 20 months of the coalition government to run people in high places can't afford another false start, they need a full spring tide to come flooding in to all parts if our economy. 

Zero to Hero the UK's flexible economy

News this week that there may be as many as 1 million workers on ‘Zero Hours’ contracts in the UK has come as a bit of a shock to the liberal elite.  A Zero Hours contract is where the employee signs up to an employment contract, which has no guaranteed pay or hours of work, these contracts are used by retailers and hotel industry, which need a ready supply of unskilled workers without the risk of taking on more fixed costs. 

Carney's Conundrum declining productivity

Understanding the mystery of our terrible productivity performance since 2007 in the UK is at the heart of Mark Carney’s concerns (this is a topic of great interest  to Mr Carney).   His analysis of this productivity fall is important to get right as it will determine whether the Bank of England decides to pursue a looser monetary policy or not.  Many economists believe that, after a brief period of decline at the start of a recession, productivity should pick up pretty quickly as a slimmed down labour force is raises production per head.  Before examining why our productivity has declined so much we should look at some numbers.

Fair Tax - Kitemark Needed?

It happens in all great industrial upheavals, first there is a boom then a premature bust, followed by a period of consolidation, then we get the monopoly ‘robbery barron’ era, before settling down into a better regulated more consumer friendly state.  The evolution of train transport and telephony business followed this pattern as has the oil industry, all bringing untold benefits to society but at some cost!  The internet has followed the same pattern with the boom in 1997-2000, the bust in 2001-2003, the recovery and consolidation, and now we are in the robber-barron phase.  The evidence is all round us.  Business oligarchs have made undreamed of fortunes, The lack of enforceable regulation means a small number of companies have been able to secure and then operate virtual monopolies  (Google, Amazon, Apple) and a consequence of this crazy wealth creation is that they have become uncontrollable.  They have been aided by both the rise of the internet and the fact that we live in a global market.

The North South Divide - welfare reform adds to the problem

The UK is embarking on a long overdue revamp of its welfare provision, this includes unemployment benefits, incapacity benefits, pensions, housing benefits and a whole range of tax credits too numerous to name.  The aim of Mr Duncan Smiths reforms are to simplify the system, put the emphasis on work rather than paid-for idleness and to reduce the amount of expenditure.  These changes have been greeted with howls of anger from the Left, although Labour have made no firm commitment to reinstate these cuts if re-elected in 2015.

Lost Productivity Killing the West

The developed world’s economy is still staggering shakily after the credit bubble burst in 2008, all the indicators are flat-lining or falling; GDP growth is poor, liquidity is tight, employment is falling and real interest rates are negative, but above all productivity is the problem.  Productivity is a calculation that takes constant price GDP per hour worked and per worker or all GDP divided by the average number of people in work in the year and divided again by the average number of hours worked.  The charts express this as an index based at 100 in 2007.