POLICY WITCHES AND THE CAULDRON OF GIMMICK
I’ve never been a believer in the macabre, and have certainly never taken witchcraft more seriously than any other folk-tale. I’m beginning to wonder about this now, though, as I watch the great and the good of the economic debate as they peer into the cauldron of the next downturn.
The people entrusted with our economic futures, you see, are sitting around a bubbling pot, wondering quite how many more bizarre ingredients they can stir into the witches’ brew before it boils over. Though (so far as I’m aware) no policymaker, central banker or economist has yet proposed adding “eye of dog” or “wool of newt” to the mix, the ingredients that they are proposing are every bit as morbidly bizarre.
You don’t have to be a pessimist to know that a recession is coming – as we shall see, the evidence for some kind of impending downturn is becoming overwhelming.
In fact, if you don’t know by now that a recession is looming, you must have been either in a coma or in Davos.
But the morbid fascination of the coming downturn lies in the range of solutions being discussed by those who, whilst anticipating a coming recession, are also aware that the traditional policy tools for countering downturns will not be available this time around.
As a result, really serious consideration is being paid to ideas that in that not-too-distant past would have been dismissed as barking mad.
The issue isn’t about prediction, then, but about preparation.
And this is where inquiry quickly turns up something pretty akin to a witches’ Sabbath.
Cue the pointy hats and the black felines.
The avowed and the disavowed – the twin problems
As I’m sure you know, there are two sorts of problem looming. The first of these is an economic downturn, conventionally called “a recession”. The second is a far more fundamental challenge, posed by excessive debt, and by a dependency on adding to this debt pile in order to sustain the illusion of “growth”.
For now, let’s start with the recession threat, because the sheer idiocy of a global economy built on ever-expanding debt isn’t discussed in polite society.
Recession risk is pretty undeniable. Growth (or what passes for “growth” in an age of Ponzi economics) is slowing markedly, even in America and Britain. Japan has started experimenting with negative interest rates as the latest twist in the monetary and fiscal kamikaze that goes by the name of “Abenomics”.
Global movements in money flag up a big part of what is happening. Reversing the trend of decades, capital is flowing out of the emerging market economies (EMEs) at an unprecedented and accelerating rate (some $740bn last year), partly reflecting sharply slower growth in China and in other EMEs. In January alone, China spent almost $100bn staving off a currency slump. Low commodity prices are cutting a swathe through resource-exporting economies without, thus far anyway, doing much to help importers.
That the spectre of deflation is haunting a world awash with newly-created money demonstrates quite how weak global demand has become.
This being so, it’s hardly surprising that the prospect of recession is rising up the economic agenda. Indeed, so obvious has this become that the possibility of a downturn seems even to have penetrated Davos, the latter-day Versailles behind whose marble walls (and mass security) today’s bewildered and beleaguered Ançien Regime desperately tries to keep reality at bay whilst discussing things that are either pure eyewash (“the fourth industrial revolution”), sheer diversion (“these canapés are tasty”) or deeply malign (“I know, why don’t we ban cash?”).
When we talk about recession, what we are really talking about is growth going into reverse. This simply means that output, generally considered as GDP adjusted for changes in prices (inflation or deflation), is getting smaller.
There are plenty of reasons why this is beginning to happen. For a start, hardly any economy of any significance is expanding now that China, previously almost the only growth-engine, is slowing rapidly. China is slowing for several reasons, but by far the most important of these is that the country’s “growth” since 2007 has really amounted to nothing more than the spending of borrowed money. Like America, Britain and many others before her, China has fallen into a trap that has resulted in “growth” (of $5trn) coming at a price of $21trn in new debt.
Debt acts as a terrible drag on growth. For a start, it tends to be channelled into building capacity that nobody needs, which in turns drives down returns on existing capacity.
Excessive debt can make people cautious, which is bad, or it can make them reckless, which is even worse. If caution takes over, activity shrinks, and prices can start falling – no bad thing, you might think, except that it makes debt grow even bigger in real terms, triggering a vicious circle.
If recklessness prevails, asset prices (including capital markets and property) can soar. Bonds and equities can correct this by slumping, but it is failure to come to grips with property price inflation that is really damaging, because it prompts people to buy property and sit on it for easy profit, rather than innovating and investing in new products and services.
This, incidentally, is one reason why only an idiot would shackle the fortunes of a country’s economy to its property market.
It also, of course, ties up potential investment in a “capital sink” rather than putting it to productive use – that is, soaring property prices both drive debt upwards and stifle creativity.
Taking Britain just as one of the more extreme examples, can you imagine what today’s infrastructure and economy might look like if, under successive governments, trillions of potential investment hadn’t been channelled into inflating property values instead?
The blight of misguided policy
Of course, nothing is so bad that politicians and central bankers cannot make it worse if they really put their minds to it. There have been grave economic failures throughout history, but policymaking since the 2008 crash takes the biscuit for sheer craven fear and incompetence.
It would be nice to think that today’s policymakers are being watched with awed respect by the shades not just of Charles Ponzi but also of John Law (who confined himself to wrecking just one national economy).
In 2008, we looked over a precipice from a mountain of debt, a mountain that had been built by lax monetary policies, ideological or self-serving deregulation, and a political preference for buying popularity.
Then, and instead of encouraging restraint, central bankers – egged on by politicians – responded to excessive debt by engaging in all sorts of gimmicks to make borrowing cheaper than at any point in history. The result was that we borrowed even more ($49trn) in the seven years after the crisis than in the seven years before it ($38trn).
Along the way, we have been inundated by “unconventional” (generally meaning “ill-thought-out”) initiatives designed to tinker with the monetary system rather than face the reality of excessive debt.
The most worrying thing of the lot is that, instead of looking at fundamentals, the powers that be are now busy creating a new set of gimmicks, thereby conforming to the Einstein maxim that insanity lies in doing the same thing over and over again and expecting the result to be different.
Losing Mr Keynes’ umbrella
What they have also done, of course, is to mislay the tools that their predecessors had used to good effect over decades.
When a downturn looms, long-proven practice has been to stimulate demand, which is done in two main ways. “Fiscal stimulus” means governments boost demand in the economy by running deficits, either by reducing taxes, by increasing public spending, or a mixture of the two. “Monetary stimulus”, meanwhile, means cutting interest rates to encourage borrowing and discourage saving, both of which increase demand.
(You don’t have to be a Keynesian to understand this, by the way. You just need basic numeracy).
Of course, when you’ve done these things, and the recession has been countered, you have to reverse them, reducing or eliminating the deficit, and putting interest rates back up again.
If you don’t do this, two consequences follow, both of which are blindingly obvious to anyone outside the policy elite.
First, the economy can overheat if too much stimulus is applied for too long. An overheating economy leads to a subsequent downturn just as certainly as the sunset is followed by the dawn.
Second, unless you restore budgetary balance and normalise interest rates, you will not be able to apply stimulus the next time you need it.
This is the tool-kit that generations of central bankers have used to counter recessions.
Today’s central bankers, assisted by governments, have lost this tool-kit, about as carelessly as an old lady might mislay an umbrella in a crowded railway-station.
Most amazingly of all, they seem to have learned nothing from all of this. If you find such behaviour hard to credit, just consider the ideas now being canvassed.
The abandonment of rational thinking
For a start, forget doing anything that might be tainted by common sense. One very distinguished economist has spoken for much of the policy establishment by saying that it would be “crazy” simply to accept the coming recession, and make the best of it.
In fact, so long as those in greatest need are taken care of, a recession can be cathartic, driving excesses out of the system and triggering the “creative destruction” from which new and better ways of doing things can result. Whisper it who dares, but we could fund a much-improved welfare safety-net just by getting the wealthy to pay tax on some of the huge gains doled out to them gratis through QE.
So, and whilst no-one would actually welcome a recession, it is surely the height of folly to go into denial over it.
Then there’s another idea which might seem sensible – to reduce debt, for which the jargon is “deleveraging”. Though this idea is certainly practicable, mainstream economists don’t favour it, mainly it because it increases the likelihood of recession.
Here, once again, is the “denial factor”, which is doing more than anything else to build a bigger and longer catastrophe. Ostriches are known for burying their heads in the sand at the first sight of trouble, and it’s become clear beyond a doubt that, for central bankers, and politicians too, doing exactly this has become a matter of instinct.
Don’t worry though, because ruling out anything sensible doesn’t leave the policy cupboard completely bare. There’s always the mad, the bad and the dangerous to fall back on.
The chamber of policy horrors
Assume, just for the moment, that you are a central banker or an economic policymaker. You have mislaid your predecessors’ perfectly effective tool-kit. You have ruled out anything which might address the fundamentals (such as managing recession, or reducing debt) because these might court short-term unpopularity. You cannot realistically (or at least ideologically) run deficits bigger than the ones you already have, and neither can you – theoretically, anyway – cut interest rates that are already at zero.
What might you do instead? Well, an increasing body of thought suggests that you can run negative interest rates. Instead of the bank paying customers a fee for the use of their money, the customer instead pays the bank for holding on to it. Switzerland, and a few other smallish and rather specialist economies, have indeed done this. The Swiss have done it for a perfectly sensible reason – they do not want their currency to soar as a consequence of safe-haven attractions, so they levy a small fee for the assurance that they provide.
Now, though, say many economists, negative interest rates can be adopted on what would amount to a global basis.
Negative interest rates are possible, we are told, and this is true, though only in strictly theoretical, technical terms. And, as the late great Yogi Berra put it, “[i]n theory there is no difference between theory and practice. In practice, there is”.
Start by imagining, if you can, the feelings of the customer who puts $1,000 dollars in the bank and sees it decline to $950 after a year of bank custodianship. If anything is guaranteed to exacerbate public contempt for the banking industry, this is surely it.
Of course, if the idea of banks helping themselves to his money doesn’t appeal, the customer might consider alternatives. He might put his money into artificially-inflated bond or equity markets, where his loss may be deferred (but is likely to prove even bigger in due course). He might put his money into property, again depending on his attitude to buying vulnerably-inflated assets. He might turn to the unlicensed “banks” which would surely proliferate. Or he might just stuff the money under the proverbial mattress. This – or buying gold – might be the most popular route for avoiding what he would see as the straight filching of his money by bankers.
The policy wonks have thought of this, of course, and many of them think that they can solve it by banning cash.
It is really, really hard to think of anything more dangerous than depriving people of access to their money, and forcing them to leave every penny of it in a banking system which – already widely perceived either as dishonest, the tool of control-freak governments, or both – may now be licensed to make regular deductions from customer accounts.
Banning cash would summon up the spectre of “bail-ins” – where banks dip into customer deposits to cover bad loan losses – in the minds of rightly-suspicious customers.
After much thought, I would even go so far as to say that a state which banned cash, or a banking system which connived in this, would have stripped itself of any vestige of legitimacy.
Then there is the idea of making QE (quantitative easing) a perpetual feature of the system. One can readily perceive the attraction of this to the official mind because, after all, about $40trn of QE has achieved nothing much so far except the enrichment of the already mega-wealthy. QE is already virtually permanent in Japan, where it forms one wing of the aeroplane of kamikaze economics.
Apart from failing to revive a moribund economy, and threatening to start a forex race to the bottom, its only real effect in Japan has been to make the central bank the sole buyer of Japanese government debt.
I don’t think I need to labour the point about governments borrowing newly-minted money from themselves.
Then there is “helicopter money”, which is fast becoming the pet project of economists who really ought to have grown out of the “kiddie in the sweetie factory” stage by now.
Of course, the money wouldn’t literally be pushed out of the cargo-doors of an old Westland Wessex – it would have to be put into everyone’s bank account, especially if owning actual cash had been made illegal. But the whole point about “helicopter money” is that it began life, not as a serious suggestion, but as a joke.
Well, the joke may be about to get even more morbid. Just think of it – the government puts money into your account, the bank then trousers some of it, and the only person who can’t get his hands on it is the customer to whom it (supposedly) belongs.
Then there’s the idea of changing official targets, dropping the targeting of inflation or growth in favour of something esoteric or irrelevant, such as nominal GDP. This calls to mind the concept of “core inflation”, which was the idea of excluding energy and food from the measurement of inflation at a time in the 1970s when the prices of both were going through the roof. One wag called this “inflation ex-inflation”, but it looks positively sane when compared with some of the gimmicks now being given serious consideration.
So here we are….
We have now reached a point that has gone far beyond the surreal. In fact, were it possible for us replace today’s policy wonks with figures from the past, we would have to disqualify the likes of Heath Robinson, Salvador Dalí and Lewis Carroll on grounds of excessive practicality, though Lady Macbeth and the witches might still get a look-in.
So here’s your choice, though sadly with the proviso that you will not be the one who gets to make it.
We can accept the likelihood of a downturn, and make the best of it, and we can start reducing debt, accepting that overvalued asset markets would thereby be subjected to the law of gravity and the fate of bubbles. Much of the debt mountain could be converted to equity and, after all, if the value of your home has to plunge, it might help if your mortgage was written down at the same time.
Instead, though, it seems far likelier that the gimmick-pedlars will be allowed to get on with completing the task of engulfing the economy in debt, undermining the credibility of money, and cutting away the waning credibility of the social and political order.
Like the witches of the Middle Ages, the gimmick-sages are already warming the pot and collecting the ingredients for “toil and trouble”. The cauldron is already bubbling away nicely, of course – and anyway, who needs “eye of dog and wool of newt” when you can ban cash, and then order banks to take money out of everyone’s locked-in account?
After all, to opt for sanity now would be to leave the witches’ cauldron incomplete – and we can’t have that, can we?