#84. Looking ahead


It is customary to use the start of the year to set out some forecasts. Though I’ve not previously done this, I’ve decided to make an exception this time – mainly because I’m convinced that the wrong things are being forecast.

Central forecasts tend to focus on real GDP, but in so doing they miss at least three critical parameters.

The first is the relationship between growth and borrowing.

The second is the absolute scale of debt, and our ability to manage it.

The third is the impact of a tightening resource set on the real value of global economic output.

Most commentators produce projections for growth in GDP, and mine are for global real growth of around 2.3% between 2017 and 2020. I expect growth to slow, but to remain positive, in countries such as the United States, Britain and China.

It’s worth noting, in passing, that these growth numbers do not do much to boost the prosperity of the individual, since they correspond to very modest per capita improvements once population growth is taken into account. Moreover, the cost of household essentials is likely to grow more rapidly than general inflation through the forecast period.

What is more intriguing than straightforward growth projections, and surely more important too, is the trajectory of indebtedness accompanying these growth estimates. Between 2000 and 2015, and expressed at constant 2015 dollar values, global real GDP expanded by $27 trillion – but this came at the expense of $87 trillion in additional indebtedness (a number which excludes the inter-bank or “financial” sector). This meant that, in inflation-adjusted terms, each growth dollar cost $3.25 in net new debt.

If anything, this borrowing-to-growth number may worsen as we look forward, my projection being that the world will add almost $3.60 of new debt for each $1 of reported real growth between now and 2020. On this basis, the world should be taking on about $5.8 trillion of net new debt annually, but preliminary indications are that net borrowing substantially exceeded this number in 2016. China has clearly caught the borrowing bug, whilst big business continues to take on cheap debt and use it to buy back stock. Incredible though it may seem, the shock of 2008-09 appears already to be receding from the collective memory, rebuilding pre-2008 attitudes to debt.

On my forecast basis, global real “growth” of $8.2 trillion between now and 2020 is likely to come at a cost of $29 trillion in new debt. If correct, this would lift the global debt-to-GDP ratio to 235% in 2020, compared with 221% in 2015 and 155% in 2000.

Adding everything together, the world would be $116 trillion more indebted in 2020 than in 2000, whilst real GDP would have increased by $35 trillion.

Obviously, this is not a sustainable way to behave. Taking individual economies as examples, the United States would have added $30 trillion in debt for $6 trillion in growth. Britain would have grown by £620bn but borrowed £3,340bn in the process. China’s debt would have increased by $32 trillion for a $12 trillion gain in real GDP.

Moreover, these numbers relate only to formal debt, excluding the financial sector whilst taking no account of quasi-debt obligations such as pension commitments. These are likely to become ever more onerous, particularly in those Western economies in which the population is ageing.

Pretty obviously, we are deluding ourselves where growth is concerned, spending borrowed money and calling this “growth”. Someone does not become more prosperous by increasing his or her overdraft and then spending it – he or she merely looks more prosperous to those who gauge prosperity by looking only at a lifestyle impression conveyed by consumption.

Meanwhile., the global resource set continues to tighten against us, adding to the “economic rent” which we experience, but fail to measure. According to the SEEDS system, the trend energy cost of energy (ECoE) cost us 4% of GDP back in 2000, but now accounts for 8.2%, and will reach 9.6% by 2020. Adjusting real GDP for this indicates that, between 2000 and 2015, the amount of debt added for each “growth” dollar was $3.80, not $3.25 – and that, from here on, each $1 of growth is going to cost us over $4.70 in new borrowing.

Altogether, what we are witnessing is a Ponzi-style financial economy heading for end-game, for four main reasons.

First, we have made growth dependent on borrowing, which was never a sustainable model.

Second, the ratio of efficiency with which we turn borrowing into growth is getting steadily worse.

Third, the demands being made on us by the deterioration of the resource scarcity equation are worsening.

Fourth, the ageing of the population is adding further strains to a system that is already nearing over-stretch.

One thing seems certain – we cannot, for much longer, carry on as we are.


#83. Backlash, part 2


These are disturbing times for those of us who believe in free market economics, and are followers of Adam Smith. After more than three decades in which the West has been governed by regimes claiming adherence to the principles of the market, the economy is locked into “secular stagnation” and massively in debt, and the public is in the process of repudiating incumbent regimes.

How have things gone so horribly wrong? Have events proved our faith in the virtues of competitive markets to be misplaced?

The reality is that the principles of the free market economy have not failed. Rather, these principles have not been followed. The regimes that are now being rejected by the voters have never paid more than lip-service to the principles associated with Adam Smith.

There have been two critical departures from these principles. First, governments have failed to break up the domination of key sectors (including electricity, gas, water, cell-phones and the internet) by small numbers of companies. Second, there has been a failure to enforce honesty and transparency. The principle mechanism of the market – free and fair competition – has therefore failed to operate.

At a time when “capitalism” is being condemned by people who are in fact victims of corporatism, there is a pressing need to restate the case for market economics, distancing it from those who have stolen its language to clothe a creed of selfish cynicism which is now ending in abject failure.

An exercise in failure

That things have gone wrong is surely undeniable, and is evident in two critical ways.

First, the public across the West are in open revolt against the self-styled “liberal” elites. Though widening inequalities, and the sheer arrogance of self-serving regimes, have contributed to this anger, a critical motivation is economic. Real wages have declined steadily, even when measured against official inflation, and even more markedly when set against the cost of essentials – whilst secured and unsecured household debts are at uncomfortably high levels.

In Britain, for example, real wages have been declining since 2007, and are projected to go on falling throughout an official forecast period which runs to 2021. In the United States, middle class real incomes have declined, arguably over an even longer period. Italian real GDP is now 12% lower than it was in 2007. At the same time, security of employment has deteriorated, and millions have been pushed into a “precariat” whilst millions more are now described as “JAMs” (“just about managing”). This is a track-record of failure.

Second, governments and central banks have contrived to run near-zero interest rates for more than seven years. This, too, is evidence of failure, because negative real rates are not consistent with a healthy economy in which investors can earn returns, and provision for retirement can be accumulated. Again, Britain typifies this malaise. Government continues to borrow heavily, despite sustained “austerity”, whilst official forecasts link projected growth to an assumed further expansion in household credit. Immediately after the most recent cut in interest rates, deficits in pension schemes were reported to be £945bn, more than 50% of GDP.

As well as crippling pension provision, ZIRP – zero interest rate policy – has destroyed returns on capital, created a massive bubble in the value of assets, saddled the economy with enormous debts, stymied the necessary process of “creative destruction”, and failed to deliver the stimulus which was supposed to push the economy out of “secular stagnation”.

Between 2000 and 2014, each dollar of nominal global “growth” came at a cost of $2.50 in additional debt. Even this ratio understates the problem, since “growth” has really amounted to nothing more than the spending of borrowed money. The ratio of borrowing-to-growth, which was 2.2:1 before the GFC (global financial crisis), has been 2.9:1 since then.

The dependency on borrowing has become so absolute that it can, without hyperbole, be stated that the global economy has been transformed into a giant Ponzi scheme – and such systems can only ever end badly.

This is failure on a gargantuan scale.

A question of blame

This situation presents a stark choice between two possible explanations.

The first is that the implementation of market-based policies has been an abject failure.

The second is that the supposed market-oriented policies of the Western establishment have, in reality, been no such thing.

To resolve this issue, the obvious starting point is with Adam Smith, the Scottish economist rightly regarded as the pioneer interpreter of the market.

It was Smith who stated that competition is the dynamo that drives the economy, not just in goods and services, but in employment and investment as well. He asserted that competition is so important that any departure from it is damaging.

In the story of economics as Smith tells it, the villains are monopolists, cartels, and anyone else seeking to undermine competition. Any such interference, Smith says, is “a conspiracy to defraud the public”.

The incentive for corrupting the market is, Smith says, self-evident. By ensuring best value for customers, competition obviously limits profitability. Accordingly, Smith makes it abundantly clear that markets need to be kept competitive, fair and honest, despite the incentives which promote malign interference. This is a pretty good description of the regulatory function. Far from proposing an economic equivalent of an unfettered free-for-all, then, Smith is an advocate of vigilant regulation, a clear implication being that only the State can provide it.

It is worth remembering that the great man was born in 1723, and died in 1790. This was an era when government did very little. In Smith’s Britain, time-zones differed even between London and Bristol. There was no income tax, and no national police force. There was certainly no welfare state, very much a twentieth-century innovation. Obviously, Smith could only have looked puzzled if he had been asked about “the public sector”. It simply didn’t exist – and wouldn’t, for more than a century after his death.

The Adam Smith whom we meet in his writings – the advocate of competition and avowed enemy of monopoly and other market distortion – becomes a very different (and lesser) figure in the policies advocated by “the neoliberal right”, and followed by governments since the 1980s.

Now he is an inveterate opponent of “the public sector”, a cheer-leader for “the private sector”, an advocate of “deregulation”, a believer in minimal government, and the high priest of “law-of-the-jungle” economics.

It is a massive transformation.

In plain English, it is simply piffle.

Of course, Smith is not the only victim of the ideological air-brush – Keynes is claimed as an advocate of deficit stimulus in adversity (which indeed he was), but his matching tenet (that governments should run a surplus if the economy threatens to overheat) is seldom if ever mentioned. In the hands of “semi-Keynesians”, the great man becomes a cardboard cut-out, forever demanding stimulus and unconcerned, presumably, about exponential growth in public debt.

But it is on the misrepresentation of Smith that the self-serving creed of “neoliberal” economics bases its flimsy case.

Nonsense compounded by greed

If we once accept Smith falsified into the arch advocate of unfettered private ownership and deregulation, much else follows, particularly if the simulacrum of Keynes can be invoked as well whenever the system needs to be juiced-up with fiscal deficits and cheap money.

For starters, if The Public Sector is A Bad Thing, privatisation follows, not just of businesses like car manufacturing and airlines (which arguably should never have been in state hands in the first place), but of public services as well. The proven concept of the mixed economy is abandoned. Whilst it is not quite the case that The Private Sector can never do anything wrong, the presumption is of innocence in the absence of overwhelming proof to the contrary.

Though lip-service is paid to competition, comparatively little is actually done about it, and the probity required by the real Smith’s concept of the honest and transparent market becomes at best a ‘desirable, but not essential’ characteristic. This is a vision of the market as “law of the jungle”, “red in tooth and claw”, “caveat emptor” and “the devil take the hindmost”. It also follows that deregulation is a public good, and that banks’ managements, not regulators, are the best judges of shareholder interest.

Above all, this is a mind-set. Though the tenets of the falsified Smith can be pulled apart by a first-year student, the attitude is that “market forces” are sovereign, bad outcomes for some or many are just the luck of the draw, the future is irrelevant, debt is irrelevant as well, integrity matters little, inequality is “natural” rather than contrived, and profitability is the sole arbiter of effectiveness.

From this nonsense, almost everything else follows. There is no contradiction between promoting consumption and undermining wages, because debt can fill the gap so long as deregulation keeps the taps open. Buying $1 of “growth” with $2.50 (or much more) of new debt is fine, because debt isn’t very important anyway. Ethics become optional, and corporate misbehaviour, where it cannot be ignored, can be explained away as “miss-selling” (which sounds no more serious than misplacing an umbrella) whilst, if penalties really must be meted out, the hapless shareholders can always be punished. The bosses are almost untouchable.

One of the most tragic consequences of “neoliberalism” has been the relentless degradation of business ethics. Increasingly, only “the eleventh commandment” (“don’t get caught”) is observed, and even this hardly matters if your control of the state renders you but all immune to sanction. Anyone who has read Adam Smith knows that honesty and transparency are indispensable characteristics of a properly functioning market.

A predictable consequence of “free-for-all” economics is that it has fostered market concentration, particularly in sectors like water, gas, electricity, cell-phones, the internet, retail banking and, in America at least, air travel. Anyone truly convinced by Adam Smith’s interpretation of the market would long since have demanded break-ups, so that no business in these sectors should enjoy more than, say, 10% or 15% of the market.

This, of course, is one of the bits of Smith that his falsifiers conveniently forget. Many big corporates have more than enough political clout to ensure that the very idea of “trust-busting” is out of the question, the preference being for “regulators” whose powers are necessarily very limited in comparison with competitive pressures. Wherever we look in some of the most important sectors of the economy, we see a market concentration that impairs drastically the free choice of customers, and delivers profitability far in excess of competitive market norms. The acceptance of this concentration by government has been a huge betrayal of the principles of the competitive market.

The case must be made

The public need to be told that those who claim to speak loudest for “the market” have in fact been its biggest betrayers. The case needs to be made for competition as the servant of the many, not the hollow slogan of a manipulative minority. This requires making the case, too, for regulation and for the primacy of ethical behaviour, and emphasising that the system at fault is not “capitalism”, but corporatism.

If this case is not made, we face two distinct risks. The first, less likely danger is that the current elites survive, perhaps by using ever greater coercion to maintain their power and wealth. The greater danger is that an infuriated public turns instead to the same collectivist philosophy which failed so spectacularly in the Soviet Union and its satellites.

Believers in the principles of the free market should feel angry, not apologetic, about the debasement of their beliefs by a self-serving elite. They should side with the public, and explain that the competitive market offers a future far better than the siren call of collectivism, or the tawdry manipulation of corporatism.

It is to be hoped that what emerges from the popular backlash is reform that does three main things.

First, it must insist on competition, breaking up companies whose market shares inhibit competition.

Second, it must demand the highest standards of honesty, transparency and accountability in business, reinforcing this with appropriate sanctions.

Third, it must block the “revolving doors” between government and corporate wealth.

If these reforms are made, the competitive market can restore prosperity.

If they are not, a populist-collectivist future looms.