#103: Down and running?

STERLING UNDER THE COSH

Some months have now elapsed since the warning here about the very real risk of a run on the pound sterling (GBP). Though – thus far, anyway – the currency’s value has eroded rather than crashed, the relentless, almost daily setting of new lows is starting to look ominous.

This process has an importance reaching far beyond Britain itself. As will be explained in a forthcoming discussion, the next financial crash is likely to differ from the 2008 global financial crisis (GFC) in at least one crucial respect – this time, it’s likely to be currencies, rather than banks, which are hit by a traumatic haemorrhaging of trust.

And, if you’re looking for the likeliest candidate for a crisis, sterling stands out from all other major traded currencies.

The real problem, frightening in its implications, is that there are almost no fundamental grounds for holding the pound. The economy is weak, depending entirely on the spending of borrowed money to deliver any growth at all. The current administration has been left in office, but stripped of power, by an electoral debacle which could hardly have been worse-timed, given the immediacy of post-“Brexit” trade talks.

Even before this setback, the United Kingdom was suffering the consequences of two decades of poor leadership. Not just in economic policy, but in other areas too – ranging across the gamut from defence and foreign policy to energy, public administration and civil liberties – it’s impossible to fathom what the British people could have done to deserve such woeful governments.

In economics, where it matters most, the leadership of the UK has, time and again, proved itself almost wholly detached from reality. To a greater extent even than the United States, successive administrations have turned Britain into a poster-child for extreme ‘laissez-faire’ economics, championing the very same mistakes (such as “light touch” regulatory negligence) that led directly to the 2008 crash.

Successive promises to “rebalance” have come to nothing, leaving the economy dangerously skewed towards speculation rather than innovation. Reflecting this, productivity is dire, and vulnerabilities now include an unsustainable deficit on the current account. Hitherto, inward investment has kept the wolf from the door, but reasons for keeping capital in the UK, let alone adding to it, have become very hard to find.

After severe forex losses since the June 2016 “Brexit” vote, overseas investors must now be wondering whether putting yet more capital into the UK amounts to pouring good money after bad. If that logic becomes a consensus view, sterling could crash, in a panic dash for the exit.

A sterling slump could easily turn into a self-fulfilling prophecy, most notably through the escalating local level of debt denominated in foreign currencies. Further sharp falls in the value of the pound could push debt up to unsustainable levels.

In such situations, the standard response is to raise interest rates, in order both to defend the currency and to attract foreign capital. But there are at least two reasons why this might not be workable.

First, the sheer scale of debt might make a meaningful rise in rates unaffordable.

Second, markets might interpret rate increases as a panic measure, confirming some of their doubts about the health of the economy.

The best hope for sterling in the short term is that the authorities show at least a preparedness to consider rate rises, and – above all – that foreign investors keep putting in more capital.

The trouble with this is that incentives to invest are few and far between. Most seriously, the long-standing deterioration in average earnings, with wage rises remaining adrift of inflation, doesn’t point to vibrant customer demand. This makes it hard for an investor to expect growth in sales and profits.

Moreover, there has to be a very real danger that the British will fail to secure a worthwhile post-“Brexit” trade deal with Europe. Additionally, the fractured nature of British politics makes the election of a left-leaning, pro-nationalization Labour administration a possibility too plausible to be discounted.

When negatives outweigh positives to this extent, a relentless downwards momentum can set in. If the pound continues to deteriorate, and unless government gets a grip and puts pragmatism ahead of ideology, the risk of a sterling crisis could quickly become very real indeed.

 

 

68 thoughts on “#103: Down and running?

  1. Tim, excellent as always – a well argued and objective assessment of our national plight. You say ‘it’s impossible to fathom what the British people could have done to deserve such woeful governments.’ Perhaps part of the answer is to be found in the notion that the vast majority of the public has learned absolutely nothing from The Great Financial Crash, and the national media – ‘Fourth Estate’ – has failed the nation. I suspect that very few have taken the time to become better savers or investors, and even fewer will have bothered to have read seriously or widely about the cause of the crisis or the likely long-term effects. All of this would require thought and effort, but most prefer the comfort of languishing in ignorance. Even many elderly people who despite having six decades to develop a proper grasp of money and finance remain largely ignorant. I regret very much to say that the typical Brit has learned absolutely nothing from The Financial Crash and The Great Recession. In many respects the nation is now reaping what we’ve sown. We are now taking our seats at the table of the banquet of consequences, and the menu will not be to peoples liking.

    • You are right, the British public has learned nothing. Having said that, very few people understand that successive governments and governors have done nothing to address the underlying problems, rather they keep re-filling the punchbowl.

      Putting critical thinking on the national curriculum might help longer-term.

    • I’m sure you are both right. One thing to add, though, is I trace these problems back further than the crash – to 1997, or maybe even earlier.

      Mrs Thatcher’s policies were essentially correctives after the left-leaning excesses of the 1970s. Not much happened under John Major, because of angst over Europe. But the election of “new” Labour was a turning point, because there was now a cross-party consensus around the wrong economic assumptions.

    • Problem is there has been no hyper inflation or mass unemployment for to make people sense that there is something seriously wrong. So it’s hardly surprising that they go on as usual with a couple of overseas holidays a year and a new PCP car. The effects of the main life changing events will not hit many people for a good few years yet i.e. the disappearance of the final salary pension scheme, the cost of long term care and their kids student debt. It’s only for those who care to dig a little deeper who realise the lights may be still be on the on the Titanic though it’s hull has a serious gash along it below the waterline.

    • Jim

      I agree – but I also think that “critical mass” might be getting pretty near now.

      I’ve nailed my colours to the mast about the “how?” of this, namely a sterling crash. If that happens, people can forget the foreign holiday, or the new BMW (however financed). Real (ex-inflation) incomes would slump, and the property market already looks very vulnerable.

      So I think we’re on the same page, but with my expectations of trouble being maybe a bit more imminent.

  2. I agree with your post, we’re on a cliff edge and it won’t take much to push us over the edge. Indeed government policy seems to be to make sure we do.

    Where I do differ is that I see the drop in sterling as an opportunity to allow rates to rise modestly and thereby release the forces of creative destruction. I’m talking a couple of 25bp rises this year, then a pause to see what the effect is. Some pressure is needed on the over-indebted otherwise we will never escape the debt trap we are in. Some liquidation is healthy and would encourage the return of something like a market economy.

    In the absence of this kind of move the crash when it comes will be even more painful.

    • I agree with you entirely – but do you really think that the sensible case for a couple of 25bps rises will be accepted by the decision-makers?

      Mr Carney seems wedded to rates as low as possible – I’d be happy if he proved me wrong about that!

      To be sure, the relentless decline in GBP might force their hand – again, though, will it do so in time, or not until something more critical turns up? At the moment, inflation hasn’t risen enough to prompt a rise, the thinking seemingly being that a weak pound is good for exports, and can be accepted unless inflation pushes higher.

      I see this argument as fallacious. There’s little sign of an export boost, whilst the cost of imported essentials is already rising markedly. A weak currency can be advantageous if (a) you have scope to increase export volumes, and (b) you can displace imports. I see little evidence for either.

      As for inflation, its failure to rise further might be simply a consequence of a depressed economy with weak demand – in other words, if consumers were more prosperous, inflation probably would have gone a lot higher already.

  3. Well if government mandarins like Alison Saunders at the CPS issue diktats about consequences for those that make ‘unfriendly’ tweets, it’s hardly surprising we are where we are…they are thick as mince!

    • I can’t comment on that case, not having heard about it.

      But the general point is surely that we need a lot more tolerance of opinions differing from the officially-sanctioned line on many issues.

      However strongly we feel about something, we must respect the right of others to disagree. Education and persuasion are almost always better than coercion.

  4. Hi Tim

    Thanks for yet another insightful post.

    I agree with everything you say but what I would question is the consequences. You write from a UK perspective but it’s pretty obvious now that the UK’s problems are somewhat of a sideshow. The freak show of US politics with the UN declaring the possibility of civil conflict there is quite an extraordinary situation and the fundamental problems of the EU continue as well as the constant rumbles in the ME and Asia with more sabre rattling with every day that passes.

    What this means is that we’re more likely to be immersed in larger problems eventually even if we get into trouble first. I realize that this is small consolation but it may be all we can expect.

    As far as the risk of drifting leftwards I believe we’re already there and have been for many years. The only reason we have had Tory governments is because of the quirks of the voting system; most people are left wing and want to be given things and this will always find a favourable response at the ballot box. Austrian economists and indeed those of the anarcho-liberlism persuasion believe that the welfare state will ultimately destroy the state because it is based on the constant confiscation from those who produce to those who do not and, in the long term, this will destroy any economy.

    • Hi Bob, and thanks for raising some very important points.

      Some thoughts:

      First, the US and UK together. These two countries are the flag-bearers for the “Anglo-American economic model”, aka “the Washington consensus”, which has been orthodoxy throughout much of the world for more than twenty-five years. It’s a failed system, which is a big reason why both countries are struggling. It’s no coincidence that the biggest blows to incumbent establishments anywhere have happened in Britain (“Brexit”) and America (Trump). This failed economics is making people poorer, and unhappy in other ways too. The anarcho-capitalist model was a root cause of the GFC. My previous article suggested other countries might ditch this failed system. Even Macron, at least judging by his comments today, is losing enthusiasm for laissez-faire extremism.

      Second, the UK. Wherever you live – in the EU, in my case – it’s pretty important to the world situation. First, it’s a fascinating case study in the price of economic extremism. Second, a serious economic crisis in the UK would have huge knock-on effects for the rest of the world.

      Third, the US. I’d not read about the dangers of unrest, and still don’t rate this a high probability. But anger is palpable, not just against the political establishment but against big corporates, finance and the wealthy elite. We need to be a little careful here, because reporting comes through the filter of the mainstream media’s utter loathing of Mr Trump. The BBC, for example, seems to run every anti-Trump story it can find.

      The general picture, as I see it, is that the US and the UK are paying the economic (and the political and social) price for economic extremism. The UK is clearly in bigger trouble than the US, but both need to retreat, ASAP, from a failed economic philosophy.

  5. Today’s official figures do nothing to contradict the impression of an economy that is stagnant at best.

    GDP growth in 2Q is confirmed at 0.3%, which is only about 0.1% on a per capita basis. Moreover, I’d expect net borrowing to have exceeded the monetary amount of growth by a wide margin, underlining the point that spending borrowed money isn’t organic “growth”.

    Household consumption growth is negligible, indeed arguably negative if the inflation effect is allowed for – and retail sales volumes are falling. Spending on cars was particularly weak, though affected in part by tax changes. Growth in business investment has ceased, after +0.6% in Q1.

    Net trade was flat in the quarter, but down by £2bn in June – so much for the supposed “benefit” of a weaker currency.

    The jobs data looks like the one bright spot – employment up, unemployment down – but real wages are continuing to fall. As we’ve discussed here before, a low-wage economy isn’t something any sensible developed economy should try to achieve – low wages have an adverse effect on productivity, demand and tax revenues.

    • Whilst we’re on numbers, I should mention revisions to historic current account data.

      For 2015, for example, the current account deficit has been revised to -£98bn, from the -£80bn previously reported.

      The net international investment position – essentially, overseas assets, less UK assets owned by foreigners – was reported at -£86bn, but has now been revised to -£347bn.

      These are pretty big changes, and are negative for sentiment around GBP.

  6. Lets not be too depressed about GB. Southern europe is in very bad shape, with goverment bonds being supported by the ECB. China is a ticking timebomb, their financial sector is twice the US, with npl’s as far as the eye can see. The US is on dangerous grounds with their stock markets at 35 p/e ratios, shale oil for billions in debt, student loans that cannot be paid back and a failing healthcare system.

    Hook up to the € and let Draghi monetize your debt through false promises. That is, until the end of course.

    Your problem is like the Swiss, your currency is too small, and your ego’s too big.

    We’re all in the same boat.

    • Yes, it’s not a case of good versus bad. In some ways, the UK is simply “the ugliest horse in the knackers’ yard”.

      Things in Spain look pretty good, on the whole. But Italy’s banks are clearly in trouble. Greece, obviously, cannot recover without some form of debt write-off, and has been crippled by the inability to devalue.

      As a regular reader, you’ll know how long I’ve been warning about China’s soaring debt! (and – just as bad – its allocation to fund excess capacity, which has depressed returns on capital across the board). In Japan, I might add, QE has resulted in the BOJ owning almost 50% of all JGBs in issue, which in my view is a clear case of monetizing debt.

      This said, my view is as follows. The 2008 crash happened because we lost faith in banks. But the next crash could result from a loss of faith in money. Of the major traded currencies, GBP seems much the most vulnerable.

      Sticking my neck out a bit here, I’ve picked a sterling crisis as the single likeliest catalyst for trouble. The economy keeps getting worse; “Brexit” talks might fail; the UK might well elect a nationalizing left-wing government; and the current administration seems clueless.

      Over to you!………..

    • Correct doc, and thanks for providing one of the few good blogs on the web. In my opinion the west cannot afford to lose one of its patients. Things could get nasty though in GB.

      http://fofoa.blogspot.nl/2017/08/nine.html

      Here’s some stuff about the coming reset. Maybe you know Fofoa (Friend of a friend of Another). The blog excists for 9 years now and has interesting content about our monetary system. A solution maybe. He never speaks about the energy cliff however. I sure hope we both make it until the worldwide reset. And beyond. We’re in the hole to deep, we should stop digging. Next time i think, indeed, central banks won’t be able to prop it up again and we will experience ‘some’ government solution. Until then, its all lies and games.

      All the best, and thanks again.

    • I forgot, there’s a lot of hardcore doom in the comments section, so be careful.

  7. “There is no longer any excuse for making the same mistake with economic theory. For more than a century, the public has been warned, and the way forward is clear. It’s time to stop wasting our money and recognise the high priests for what they really are: gifted social scientists who excel at producing mathematical explanations of economies, but who fail, like astrologers before them, at prophecy.”

    By fetishising mathematical models, economists turned economics into a highly paid pseudoscience

    The new astrology

    https://aeon.co/essays/how-economists-rode-maths-to-become-our-era-s-astrologers

    • Ultimately, economics isn’t a science – it cannot make verifiable and repeatable experiments.

      What we can do, though, is use maths-based logic – so long as we don’t make unjustified claims about the conclusions.

      It’s not just economics that is failing us. More generally, experts are adrift of events. Political “experts” failed to foresee “Brexit”, Trump or the British election result.

  8. Tim what sort of run on sterling do you expect? Will I be reduced to hitch hiking to France for a fortnight’s grape picking as the only sort of Summer holiday that I can afford, mid 70s style? Or do you expect something much worse and Argentinian?

    • This is a tricky question, though a good one.

      Basically, I’m expecting market participants to decide they don’t want to own sterling, because downside risk far exceeds the upside (if you can find much at all).

      Below a certain level, the GBP equivalent of non-GBP debt becomes unmanageable. But that risk looks manageable down to very low levels, maybe 50% below current values. So I don’t see a serious default risk.

      Long before that, the BoE would be forced to raise rates. That could stop the slide, but would cause economic harm given the scale of total UK debt.

      So:

      – raising rates might put a floor under GBP, but not raise it

      – the fall can go far enough to have real inflationary effects, adverse for living standards

      So, putting this together, I see a floor at EUR 0.85, or USD 0.99. (Obviously, which applies depends on USD vs EUR).

      Now, say you wanted to spend E1000 in the EZ. Before the “Brexit” vote, that cost £800. Now it costs about £915. At 0.85, it would cost £1,176. That would make, say, a holiday which cost £500 in early 2016, and costs £575 now, rise £735. For most, that would be prohibitive.

      So, of your alternatives, nasty, but not Argentina.

    • ‘Market participants’, within their current vision, should not have any influence on your well being. And certainly not on grape picking.

  9. I am intruiged, Dr.Tim.
    The plot is obviously thickening. I am following your rational, and I see the logic in it.
    You envisage a further 12.5% drop in Sterling against the Euro, and parity with the US $.
    Of course, as we all know, this drop in the £ will not result in increased exports, primarily because Nail-salons and Hairdressing do not export too well.
    So as far as Mr & Mrs Average are concerned, we can expect further large price increases in food and for petrol, resulting in households having significantly lower discressionary spending (DS). Inreased Interest rates will add further pain by way of increased mortgage and car loan repayments. Lower DS will result in higher unemployment in th services sector. It is all interlinked.
    What sort of interest rate increases would you think are going to be necessary “to put a floor” under Sterling ?
    Will Carney go for broke and hike up to 6-7 % overnight ?
    As you said above, that may be interpreted as a panik measure, but what else would work ?
    I cannot see a piddling 0.25% doing any good !
    Although that might attract the much needed foreign investment looking for a return, it probably would have the undesired effect of tanking the housing market.
    ( I am already rolling on the floor in Schadenfreude at the thought of legions of unemployed Estate Agents queuing up for their benefits. I can hardly contain my glee, despite the suffering that it will bring to ordinary families.)
    On the day that the BBC reports in its main news that the £-Sterling has dropped below parity to the Euro, that will be the opening shot to herald in this new episode in British economic history.
    ( here is a spoiler for you: It’s skiing season – it’s all downhill ! )

    • I’m intrigued as well!

      My view is that, where rates are concerned, timing is critical. A small rise now, by signalling intent, is the best hope for averting trouble. Later, even a much bigger rise mightn’t work.

      So, if it were my call, I’d raise rates by 25bps now, and another 25bps a few weeks later, emphasising a “determination to control inflation”.

      I don’t think 50bps would crash the property market. It states that the next rate moves are upwards, but everyone knows that anyway. It might start a downwards drift in property prices, but that is desirable – over-valued property being an economic handicap – so long as there is no sudden fall.

      Parity with the euro is a Rubicon, psychologically. If GBP crosses parity, and there is no immediate rate response, the signal will be that the authorities won’t (or can’t) defend the currency.

      The question is, will the authorities see it – or is Mr Carney ideologically wedded to cheap money? False comfort is being drawn from a (relatively) restrained rate of inflation – false, because of course inflation is restrained in an economy where demand is weak.

      So, which happens first? Do rates rise – or does GBP cross into crisis territory? I hope it’s the former. But I fear it will be the latter.

    • You may think me bonkers but I have doubts whether a collapse in sterling would result in interest rates going up. Putting rates up by 6-7% would be seen both as a panic measure and, literally, incredible so what would be the point? The only thing it would demonstrate is a degree of panic depending on the rate but what would it actually achieve economically?

      I think the BOE will do just what they did in 2011 and “look through” events whether that is a surge in inflation or a collapse in sterling. In other words they would continue to do what they are best at: nothing!

      I actually believe that the next interest rate move may well be down (yes down) to the absurd 0.1% rather than up. Why? Because, as I have said, in the scenario of a sterling collapse I think it would achieve nothing. In the case of a surge in inflation then it would only consider increasing rates if there were evidence of sustained second round effects and these would take some months before they appeared.

      What I think is far less disputable is that the current business cycle is long in the tooth and we are overdue a recession and if you accept the reasoning above then the recession is more likely to occur than the situations above and then the BOE can do their rate cutting act again. It will have no effect and looks absurd but this hasn’t stopped them in the past.

    • I can agree with you that inertia is powerful, and the ambience of Westminster and Whitehall might create a false assurance that everything will turn out fine in the end.

      I agree, also, that a huge hike in rates would achieve nothing. It would smack of panic, and rates of 6% would be suicidal.

      But that’s why it’s so important to show a commitment to the currency now, with a modest rise in rates, maybe 0.5%, in two instalments.

      The case for cutting rates still further rests on three assumptions, all of them demonstrably false. First, the “stimulus” supplied by last summer’s rate cut simply has not happened. Second, a weaker currency has not boosted net trade. Third, a failure of inflation to go above 3% (yet) does not reflect strength.

      Given this, anyone who proposes a rate cut at this point is deranged. (I appreciate that you are predicting, not recommending!). So all I can say is that, if your prediction is right and rates are cut, then the lunatics really will have taken over the asylum….

    • Hi Tim

      A recent example of the “lunatic” actions you may look no further than what happened after the Brexit referendum. The BOE cut rates purely as a precautionary measure but without waiting for any data whatsoever; IMV any sensible person would have waited a couple of months to see if the aired cleared and what the effect of the referendum might be. A trivial cut with no sensible basis whose only effect would be to ramp up asset markets to even higher levels and which the BOE was already critical of!

      The weight of debt we have is such that the “natural” rate of interest is getting lower all the time; people think with every month that passes we are getting nearer to the position when we can start to “normalize” rates; in fact we are getting further away as the stock of debt is increasing inexorably.

    • Can’t argue with any of that. The post-referendum rate cut was a knee-jerk (or maybe simply a jerk) reaction. It seems to reflect a view that low rates are always good and raising rates is always wrong.

      Your other main point is largely missed by TPTB. On the one hand is a desirable rate of interest, which provides adequate incentives for saving and innovation. Then there’s an affordable rate, based on how much debt you have. Ideally, and indeed normally, these should be about the same. Now, though, what is affordable is way below what is desirable.

  10. Hi Tim,

    A question. If we all look at the same publicly available information we all see that there is a problem that causes doubt about the justification for the GBP £ at current levels in comparison to other currencies. Particularly given our debt, demographics and shape of our economy.

    I understand the much quoted, “The market can stay irrational longer than you can stay solvent” but what are the factors that cause such long sustained irrationality and is there any way to see through it to the point where gravity eventually takes over. I suppose a supplemental question is, can the market stay irrational for ever?

    As a lay man, I regularly see things that seem to me to have run of a cliff, Wile E. Coyote style and just stay there. When everything that commentators and my economics teacher at school many years ago said would cause a fall to earth.

    • Part of the answer is split perceptions.

      Foreigners, even when well-informed, are influenced by an out-dated stereotype which still imbues the UK with a measure of “safe haven” status and, it might be added, competence.

      Rational examination, on the other hand, shows a leadership in deep denial, presiding over an economy with lots of negatives and few, if any, positives, deteriorating as we watch. The latter view will prevail, of course, as facts outweigh perceptions.

      I think it’s the denial that’s the most frustrating part of all this. This creates a feeling that, even if solutions exist, they won’t be adopted.

    • Just to add that I’ve sometimes thought about sketching out, just for readers here, what a rescue plan might look like. What prevents me from doing so is a near-certainty that nothing of the sort would be adopted.

    • Tim

      I agree with your bit about “denial”.

      However, in a democracy governments have to project a degree of competence and the problem with confession is that it leaves the government looking incompetent (which is the truth but an extremely inconvenient one) and therefore maybe no longer fit to deserve another mandate. I have said before that it’s sometimes better to let a crisis develop and then rescue from that crisis rather than take pre-emptive measures which will require sacrifice – people will agree to sacrifice when they see disaster in the face but not before. This is not a sensible way to manage things but it is usually the politically expedient way.

    • Indeed so – which simply confirms the high price we pay for political expediency.

      If you look back at how much we’ve learned from the past, we really should, by now, have learned how to manage both a political system and an economy along rational lines.

      Is it simply that no-one has spelled this out? Or are our leaders too venal, and/or stupid, to understand it?

    • Tim

      One of the issues you have to face is: do we get the leaders we deserve? Is it them or us who are too venal or stupid?

      Maybe we’ve become too fat and complacent with too many of previous generations life contingencies settled and far more aware of what others have and we have not – but deserve.

      I think it was Scott Fitzgerald who said that it was a superior intelligence that could hold two contradictory opinions simultaneously; he might have said it also applied to the masses who want climate change without inconvenience and better public services without an increase in taxes.

    • @BobJ,
      Essentially there is no “We”, and it would be very unfair to many of us to suggest that “we” get the politicians that “we” deserve.
      However, when we talk about the unwashed and unthinking masses, who sit in front of the flatscreen watching the x-factor or gogglebox or eastenders, whilst stuffing their pie-holes with home-delivered, too-lazy-to-go-out-to get-it “take-away” food, then “Yes”, they do get what they deserve.
      This is harsch uncharitable criticism, but I believe that it is warranted.
      Our society has embraced Political Correctness to such a degree that it is now devoid of all rational. Our society has become a socialist Eutopia, where everybody is entitled to everything, so why bother working ?
      Our education system is broken, children are now taught What to think as opposed to How to think. University degrees are handed out for attendance as opposed to merit.
      Our media, who should inform the public, are only there to manipulate the public with lies and deceit and misinformation. In this modern day society where information is so freely available, it is exceedingly difficult to find out the real truth about anything.
      As for Scott Fitzgerald’s comment, the Pauli exclusion principle applies ! ( sorry, just a bit of quantum physics )
      Anyone who holds two contradictory opinions simultaniously is quite simply wrong. Anybody who truly believes that a society as it exists in the UK today can continue to function indefinitely, is totally dillusional and needs to be locked up in a padded cell.
      Unfortunatley as the masses who have overwhelmed and engulfed us, throw themselves off the proverbial cliff, they are sweeping “us” rational and thinking beings with them.
      The big question is, what can “We” rational beings still do to isolate ourselves from the madness of the masses ?

    • Johan

      Addressing myself to your two final paragraphs the problem is that what you are describing is history. History being defined as a succession of changes which may be benign but ultimately will break down under the press of events (war , famine, plague and the machinations of men).

      You appear to believe that rational beings can still act to bring about a benign outcome if they can influence things enough whereas I think this extremely unlikely, and what is far more probable is that you will get hubris followed by collapse. One is then left with the hope that your rational beings then appear to at least give a stab at a more benign future but I for one will not be holding my breath.

    • @BobJ
      thank you for replying, what you are saying is quite true.
      I am simply venting my frustration at my inability to affect any change.
      I see Rome burning all around me, yet my blinded fellow citizens are partying like there is no tomorrow. I could sit back quite comfortably and watch the whole country go Ka-boom, if there was not the danger of myself and those nearest and dearest to me to being caught up in it.

    • I share your frustration, and feeling of powerlessness. On the one hand I’m minded to write a book about how to run an economy effectively (which, despite the antics of those in charge today, isn’t that hard). On the other, though, it seems futile.

      There is an old Spanish saying, which might apply:

      “He who washes an ass’s ears wastes both his time and his soap”……

  11. Hello Dr Tim.

    So the pound is under the cosh. Nothing new there I fear. Have you perchance seen this HoC research paper – Inflation: the value of the pound 1750-2011?

    https://www.files.ethz.ch/isn/151020/RP12-31.pdf

    The charts tell a sorry tale, chart number 4 especially.

    What is fascinating is seeing major historical events impacting the value of sterling.

    For example: war with France and the American colonies. The Napoleonic war. Peace during the Victorian era and the industrial revolution. The Great War. The acceptance of Keynesianism by politicians of all hue. For nigh on 100 years the value of sterling has had only one direction.

    Best regards

    • Back in the 1950s, a half-crown (2/6d or 25p) was known as a “half dollar” (“half a dollar, one Oxford scholar” was the slang), because the £ was worth roughly $4 (in fact, I think it was pegged at $4.25).

  12. Tim, the state of national discourse in the United Kingdom about the country’s plight is pitiful.

    As I understand it, and I hope you will correct me if I am wrong, we are running a persistent and exceedingly large deficit in trade that can no longer be bridged by invisibles. We must, therefore, attract inward foreign capital, which effectively means selling bonds and assets – in short the country is being sold-out from under our feet. Some parts of the MSM rail against assets falling into foreign ownership but fail utterly in explaining that it is a function of over-consumption – consuming far more than we produce.

    The fall in Sterling is receiving attention in the MSM from the angle of the effect upon Brits holidaying abroad. Cue anguish and dismay. Where in the media is there any attempt to better inform citizens as to the reasons for the erosion of relative purchasing power?

    One of the best pictures of where I believe we are headed was set-out some years ago by Stephen D. King:

    ‘Today Western nations are facing the same dilemmas that confronted the 9th Duke [of Marlborough] at the end of the nineteenth century. Heading for bankruptcy, what can they do to entice foreign money to their shores? If government bonds are no longer to be treated with confidence, others options will come to the fore. Modern-day Vanderbilts – hailing from China, Russia and Saudi Arabia rather than the US – will buy the best properties in the most cosmopolitan parts of the Western world, forcing up London and Manhattan house prices in particular and, via trickle-down effect, making it near enough impossible for marginal first-time buyers to gain a foot on the property ladder: major international cities will become the ghettos of the wealthy. Companies and their bespoke technologies, will slowly fall under foreign ownership, turning the US and UK into nations of worker bees where profits from their endeavours head overseas. And, with uncertainty about the implications of continuous money printing, commodity prices will rise even as Western currencies fall in value, reducing real incomes.

    Such are the costs of trying to keep a country’s creditors happy. If they no longer trust governments and the myopic taxpayers who vote for those governments, the creditors will ‘asset strip’ Western nations leaving generations to come without the assets – including real estate and companies – that nurtured and sustained previous generations. It is hardly an appealing prospect. It’s what happens when you continuously try to live beyond your means.’

    Those words were written in 2013. Five years later our position has not improved one iota, in fact it is worse and deteriorating at an alarming rate; yet the MSM and national politicians are total and utter denial about the situation. Sorry for the rant; but it’s deeply depressing.

    • We are running a big trade deficit – no better despite devaluation! – but the real problem is the current account. The C/A is broader than simply trade. For instance, it includes payments in/out for returns on capital (interest on debt, dividends on investments), plus income flows and that sort of thing. The recent numbers, already bad, have just been revised and become even worse.

      These are balanced by capital inflows. These don’t have to match in a single year but, over time, they do. So running a current account deficit requires inward investment; acquisitions of property, shares and businesses by foreign investors; and loans from abroad. In short, living beyond your means either reduces your assets (you have to sell them); increases your liabilities (you borrow); or both.

      That’s now running at about £100bn annually – the extent to which the balance sheet is weakened each year to pay for “living beyond our means”. The only major country with a similar C/A problem is the US – which, of course, subscribes to the same economic “theory”.

      This isn’t understood by the public – and I’m not sure it’s understood by the authorities. Obviously, there’s a limit to how long any country can go on keeping itself afloat by flogging off assets and borrowing from overseas.

      Then there’s the pension chasm. Public sector pensions are unfunded (nothing is put aside), and equte to about £1.5 trillion of future liabilities. Private sector shortfalls have been reported at close to £1 trn. The cause of the latter is simple – low interest rates, destroying returns on invested savings. So our “cheap” mortgages and credit today are destroy our pension security for tomorrow. There’s no such thing as a free lunch – but far too many people think there is. (All that’s on top of debts of £4.8 trn, of course).

      When anyone gets deeply in the red, it’s tempting to blame creditors. Actually, though, a lot of the responsibility obviously lies with the borrower.

  13. I’d just like to post a reminder about “what we can do” about these issues. In a resource scarce future it’s well having a small hoard of things that will make sense and save you money in a thousand small ways – while you wait for a doom porn collapse which is not quite how I think this will work out.

    Get some needles and thread – learn to mend your clothes instead of just throwing them away.

    If you have the space for them to forage – get some chickens. They eat the insects and stuff
    on your property that you can’t – and turn them into eggs.

    Plant a whole load of calorie dense perennial root crops in your garden. Stick them in the chicken run if you can. There’s free manure there just just waiting to be used.

    Work out where to get enough water from when you might need it. A simple strain and boil will work here.

    Above all – just try to disengage 1 step at a time from the “system”

    Good luck!

    • A lot of good advice here, and there are parts of the system that I’ve already withdrawn from. But, if we disengage from the system, aren’t we leaving the wreckers to get on with it?

    • Disengaging from the system entirely would probably be both impossible and possibly undesirable, as you suggest Dr Tim, so perhaps I should have said that we should try to reduce our dependence on the system instead.

      I’m not sure what I can do to prevent the wreckers getting on with it – but by being better able to take care of a few of our own needs, we are better placed to help those who are less fortunate.

      My chickens lay many more eggs than we can eat and I have regular gluts of veg – so our friends and neighbours already benefit too. If they feel the need to begin trying to gain a little more independence of their own – I can give them chicks of their own to keep; and some good staple foods to grow.

      This costs me nothing more than a little time – but it won’t solve any of the bigger problems. It does help me though!

      Perhaps if more people tried to turn their home over to producing at least something rather than consuming everything it might help a little?

      A household can be an asset instead of a liability.

      I look forward to each new post – and the comments – on this blog.

      So thank you, Dr Tim! Please keep it coming!

  14. Hi Tim,

    You may have seen some if the media arround the BRC concerns about food supply post Brexit. We import a lot of food and the concern is delay and costs at the borders. None it would seem about the currency impacting costs.

    I also notice lots of reassuring comment from analysts and market experts that the current fall in the pound won’t last.

    • I’ve come to the view, as this has been developing, that the BoE must now implement a 25bps rise in interest rates. It is imperative that the BoE shows that it’s prepared to defend the currency. Inflation may not – yet – be “high enough” to prompt this action, but a weak economy usually depresses inflation, because price hikes cannot be passed on without consumers buying less things. There is emphatic evidence for this effect now. In any case, the UK already has the highest inflation amongst the major economies, and it’s making people poorer, especially the poorest. Doesn’t this matter to the powers thjat be?

      Food trade with the EU post-“Brexit” might be difficult. What I fear is a trade deal with the US, which at least partially opens the door to practices such as chlorinated chicken, GMOs and hormone-treated beef. If that mistake is made – and even if there’s a transition phase – then there will be no food trade deal with the EU.

      Delay and costs at the borders seem an inevitable consequence of “Brexit”. How bad this will be depends on the deal reached, assuming there is one. The UK side look out of their depth, handicapped by a weakening UK economy and some strengthening (at least in confidence) in the EU. If the UK continues to act like an equal partner in the talks, this won’t work.

      As for GBP recovering – and assuming no rate rise – to be convinced I would need at least good one reason for buying sterling. As it is, I cannot think of any.

      “Recovery” might be a case of “well, they would say that, wouldn’t they?”.

      A small, signalling rate rise is now imperative.

  15. Hi Tim,

    I saw this in the Telegraph today http://www.telegraph.co.uk/business/2017/08/30/pound-heading-parity-euro/ and was particularly

    I was particularly drawn to a quote from Analyst Viraj Patel at ING who lists four factors which should keep the pound up above €1. His third factor is that “his models suggests sterling is already 20pc undervalued compared with economic fundamentals, making it hard for the pound to fall further.” I sounds like ING could do with circulating the information in SEEDS to it’s staff.

    • Indeed so.

      One interesting pro-GBP view is that the UK is a tax haven – wealthy people from Russia, the Middle East and elsewhere can park their money in Britain more easily than in any other developed country.

      There are two snags with this theory, though. First, the sums involved are pretty small, in the scale of things. Second, Mr Corbyn, if elected, might change this a great deal….

      More generally, ‘conventional’ economics often misses the point made by SEEDS. By adopting a financial (rather than energy/fundamentals) perspective, it can be easy to attach too much value to the big financial services sectors in the US and, above all, the UK. Conventional economics doesn’t challenge the matter of how much value is really added simply by moving money around.

      2008 showed how quickly the financial contribution to GDP can slump. That’s one reason why sterling fell so sharply back then. The same could happen again, especially if – as I believe – reckless monetary policy has the same kind of outcome as reckless debt accumulation. In short, the UK just about ‘dodged a bullet’ in the GFC. It might not be so lucky next time.

      So yes, a fundamentals/energy approach is much needed – and I might yet resume the project, temporarily stalled, of making SEEDS more generally available.

  16. Everybody else blames Mrs Thatcher for neo-liberalism, Dr Tim. Why don’t you? Hasn’t the continuation of her policies increased the disparities in wealth?

    • I’ve sometimes asked myself this same question! Here are my answers, in no particular order.

      First, Mrs T delivered a corrective – Labour, and some union leaders, had reduced Britain to virtual bankruptcy, and the balance needed to be redressed towards the private sector. A mixed economy needs both private and public sectors.

      Second, she privatized industries – many of which should never have been in state hands in the first place – but did not privatize public services. That came later, under her successors. It’s an important distinction.

      Third, she had the bottle to launch the Falklands operation, in the face of almost unanimous opposition from the political and civil service establishment. Sitting back and letting Galtieri win would have imperilled small nations elsewhere. Ironically, amongst the biggest beneficiaries were the people of Argentina, who finally got rid of their juntas – if a military dictatorship can’t even win a war, it is shown up as useless.

      Finally, and love her or loathe her, she was a giant. Her successors have been pygmies.

  17. Thanks for your answer, Dr Tim. I think at times it was possible to admire and loathe Mrs T at one and the same time. She did turn a highly inefficient country into an efficient one. She got lucky, though, in coming to power just as North Sea oil came on stream. Some claim that Norway was better at investing the proceeds from that for the long term.

    Both Ted Heath and Labour were instrumental in leading us to the brink of bankruptcy. When unemployment reached a million in the early 1970s, for the first time since the 1930s, the Conservative government, and specifically Tony Barber, went into Keynesian overdrive, sparking high inflation that did not peak until 1975 (Labour ended up with the blame) and driving us into debt. From that point of view, it is instructive to read Denis Healey’s autobiography, since he had to clean up the mess, and he goes into detail. Callaghan was a stricter PM and he did make real cuts in spending and begin to get inflation down. Don’t get me wrong, tho – old Labour was broken, and a lot of Mrs T’s reforms were necessary.

    The Conservative government let its guard down over the Falklands and scrapped some necessary surveillance or navy cover down there, and it didn’t respond vigorously to Argentina’s trial run of planting a flag on South Georgia. Mrs T was right to go to war against the aggressor – eventually – she was initially very patient in her negotiations. But let’s not forget the soldiers who suffered, and that Welshman who was badly burnt and scarred for life.

    I remember how Mrs T sold off council houses. “Everybody wants to be middle class!” she said, and she was right, and she wanted to help people. On our council estate, the proud new owners invariably had a porch built to signify their new status. However, in retrospect, given the current housing crisis, that policy looks misguided, and she was robbing Peter to pay Paul. When I first moved to London and was paying a ridiculous amount for a grotty little bedsit, I resented MIRAS, since I was helping to subsidise it. It just meant that prices would rise somewhat, because people could afford a bit more, given the subsidy. Gordon Brown was entirely right to abolish MIRAS – and I say that as a house owner – I paid off my mortgage in just under 7 years, and I’ve stayed put since. In all other respects, I regard Brown as a charlatan and a disaster – the worst PM of my lifetime. His only other good deed, apart from abolishing MIRAS, was keeping us out of the euro.

    Yes, Mrs T was a giant (tho a flawed one), which is presumably why she was given a state funeral. I do find you are too partisan in your assessment of her, tho, and I speak as someone who has mainly voted Conservative, until I gave up voting after 2010. The UK’s first past the post electoral system encourages instability and lurches towards extremes, so I certainly bear that in mind, too, when assessing politicians. We went too far in a socialist direction before Mrs T, and too far in the other direction since then.

    • Yes, it was certainly possible to both like and dislike Mrs T. One of her cabinet colleagues told me privately that her flaw was ‘believing her own press releases’. A story is told of a cabinet dinner at which Mrs T, of course asked first, ordered steak. When the waiter asked “what about the vegetables?”, she replied “oh, they’ll all have steak too“. Lovely, if true!

      The ‘Barber boom’ was a mistake, but of course energy prices quadrupled in 73-74, pushing inflation for 1974 to 25% – utterly ruinous.

      I understand that Jim Callaghan, being ex-Navy and interested in defence, used to read his daily security briefings thoroughly, and often called for action, unlike his predecessors. So, when Mrs T came in, the daily briefings were quietly dropped. If true, this might help explain lack of preparedness for the Falklands. In 1981, the notorious Nott Review planned to slash the escort force (to 50 – we only have 19 now!) and withdraw the Ice Patrol Ship HMS Endurance from the South Atlantic. These announcements probably encouraged the junta in BA.

      Immediately after the invasion, Adm Sir Henry Leach called to see her, and found her beleagured on all sides by ministers and civil servants trying to dissaude her from sending a task force. She seized on Sir Henry’s arrival, and asked if the Islands could be recovered. He said they could – and everyone except Mrs T looked daggers at him. On such small events can history turn.

      Getting rid of MIRAS was right, but the withdrawal of couples’ ability to claim two reliefs was announced in April 1988 but not introduced until the end of August. House prices soared as couples raced to beat the deadline – only to slump immediately thereafter. Nice one, Nigel!

    • Hi Tim

      I agree with your assessment of MT; she was indeed a giant, certainly compared to what we have now, and my inclinations are towards the German style social market economy rather than a more right wing position.

      The interesting thing I have always found is that although MT was a giant most voters didn’t want her. She never obtained more than 44% of the popular vote. If you take this one stage further and aggregate the Tory vote with that of the DUP, the only other right wing party in the UK , you would struggle to reach 44.5%.

      People in this country do not want Tory governments and they didn’t like MT! However, as you say, she did hack away at some of the weed infestations of the British economy which certainly needed doing.

      One other small point that’s come to my attention recently is that the UK and the US are lumped together as the two main neo-liberal type economies. In the US there has been a recent significant rise in the mortality rates of white middle aged workers, commented on by the likes of Angus Deaton and I wonder if this shows that the US is a much more tooth and claw neo-liberal than we are as Deaton found no similar change in mortality rates in Europe.

    • Thanks – a good article.

      This said, I think I”m alone in trying to work out what GDP would look like if we take out the spending of borrowed money.

      This is important because, if we assume that the ability to go on adding credit must stop at some point, we’re in for a shock when that happens!

    • Yes it will be a shock. I’m not sure if the GOvernment relies solely on the BOE for economic advice – but someone doesn’t appear to be able to add up.

      I keep reading articles that another crash 2007/2008 style is highly unlikely – one of the by a certain Alistair Darling.

  18. Thanks Tim – frightening stuff and I will certainly be reading tomorrow’s installment – perhaps Polly had read it too as she’s used the word ‘swerve’ in her column.

  19. Excellent article and discussion, thank you!

    This all brings to mind 18th century Venice: empire gone, high consumption, delightful leisure activities, sparkling costumes and whores aplenty in little pleasure houses in the lagoon.

    But all built on mortgages on ancestral properties.

    Then came Napoleon: he called in the loans and the jolly aristocracy and bourgeois of Venice were bankrupt – leaving it as the charmingly decaying city of the 19th century.

    I cannot see the streets of Britain being quite so charming in decay.

    Like the Venetians, everyone is so clueless. Does anyone remember the New Austerity of 2008-9 when high consumption was somehow supposed to be shameful and immoral? So funny.

  20. Pingback: #105: Anticipating the next crash | Surplus Energy Economics

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