When Chancellor, Gordon Brown talked about fiscal responsibility "balancing the budget over the economic cycle". About "borrowing for investment". Unfortunately he failed to recognise where he was in an economic cycle. Instead of prudently cutting expenditure and putting money away during the boom, he continued to spend as if the economy was in a slump. He was believing the myth that he had "abolished boom and bust" and he believed that his new economics meant there would always be plenty of money later to pay the bills he was racking up today.
Brown was fundamentally wrong. So when a REAL slump arrived his treasury was in no state to help the people weather it. Revenues fell and there was no money left to spend (the famous note left on a treasury desk after the election!). What was worse, the slump took the form of a banking crisis. The UK has the second largest banking sector in the world, so we were hit particularly hard. We had to bail out a number of banks and that required the government to borrow yet more money.
Now, the Labour opposition, the same people who got the economy into this mess by spending too much, say the only way out is to spend more. If they had left a little extra in the kitty that would be true, but as they didn't the option is not available.
The truth is, the economic situation is really bad. Demand is down, because : (1) Past demand was fuelled by personal borrowing (mortgages, credit cards). So with no appetite for taking on more debt, personal expenditure must fall to personal income. (2) people need to pay off those debts, so a proportion of their income is just going straight back to the banks. (3) the slump means unemployment, wage freezes or cuts, benefit cuts so again less income to spend. With lower demand, business is forced to cut back and that in turn leads to more unemployment et.c which further depresses demand.
So how do we get out if this? Traditionally we could aim for an export led recovery, but over the past 40years we've relentlessly closed or sold our exporting industries. We no longer export steel, ships, aircraft, trains, generators, cloth, you name it we don't make it. And our main export markets, the EU and USA, are also in a slump and not buying what they did. Labour would like to see us invest in public works. They argue that would take people off the dole and start paying tax. Trouble is, only part of the cost of public works goes to wages and only a part of that returns to the treasury. Quite a lot could go to imported raw materials and machinery so the net impact would still be negative. And government debt would climb yet further..
Perhaps if the pound were to fall against other currencies we could inflate out way out of debt. Everyone with sterling denominated savings would lose out and as a country we would get poorer, but our export prospects would improve and the value of our sterling debt would fall. Unfortunately the world won't let us off the hook that way, other major currencies have the same problem.
So until someone comes up with a clever solution, we're stuffed. Only when deficit and debt are back to sustainable levels can we start to progress. Better get back to cutting spending. Meanwhile we need to get exporting, whatever investment is available needs to go to create and support export businesses, especially any business that can export to China.
Tuesday, 29 November 2011
Monday, 7 November 2011
Economics part 2
In this part I'll pause my tirade on the government's role in the economy and look at the stock market. I'll start with a short overview of what the stock market does.
Mr Ambitious sees an opportunity to make money by making and selling Throgs. H doesn't have enough money to set up a business so he has three choices. He could borrow the money from the bank. He could borrow from a friend. Or he could float a company on the Stock Market.
The first option is tricky because the bank will want repayments of capital and interest. Ambitious doesn't have any money so can't repay capital until the business is well under way. The bank will also require security in the form of the right to take possession of Ambitious' house and nice car if he fails to make the repayments in time.
The second looks good, if there is a friend (e.g. Mr Den Dragon) with a wodge of cash burning a hole in his pocket. Ambitious will have to convince Den that his business is viable and hand over some control and future profits. Den is taking a big risk - if Ambitious' project is a flop Den is left with nothing.
The third option is pretty good all round in theory. The stock market allows many people to invest a small amount in Ambitious' company and all they want in return is an expectation that they will make money in the long run. Those people can invest in many businesses so one failure won't lose all their money. (In practice floating on the market is a second step, used either to pay off the initial investors be they a bank or a friend, or to enrich the dotcom founders, but for the purposes of illustration I'll forget about that).
Once Ambitious has floated his business he gets on with running it and pays his shareholders a dividend out of the company's profits. (The shareholders own the business so are entitled to the profits, but they don't run it). Ambitious can also pay himself a huge salary if there's enough money around. Once a year Ambitious calls an AGM at which the shareholders, it sufficiently interested and organised, could vote him out of the company and put someone else in charge, but if Throgs are selling well and profits are strong they have no reason to do that.
Later, Ambitious decides to start making another product, New Chags. He needs more capital so creates more shares in his company and offers them for sale. Technically these are shares in a business already owned by the existing shareholders so Mr A offers the shares first to those people, then places whatever is left on the open market. Chags do well and a wider group of people benefit from the dividend payments. The amount of money Mr A gets for the shares he issues depends on the market value of the existing shares and the perceived value if the enlarged business, so it is in his interest to maintain the value of the company he has created. This might be done by paying good dividends, or it might be done by good salesmanship promising future dividends even though the company is losing money right now. The investors in the business can retrieve their capital at any time by selling their shares to someone else. If the company is thought to be doing well there will be a strong demand for shares so the investor gets a good price and walks away smiling. Otherwise the investor might have to sell at a low pricer and end up losing money. If investors are perceived to be losing money there are two consequences. First, they could get together and find a replacement for Mr Ambitious, someone who can run the business more profitably. Second, they can decline to buy more shares when Mr A needs to raise more capital.
Anyhow, that is the basis of the stock market. It is a place where one can raise capital to start or expand a business without having a wealthy friend, and where investors can trade those investments to get what they think will be the best return for them.
Now, what REALLY happens? Pretty much every employed person in the UK pays up to 10% of their income into a pension plan. (if they don't pay it all, their employer pays the rest). That money has to go somewhere and make more money to pay out all those current and future pensions. A lot of it ends up buying shares on the stock market. Lets assume Mr A's business is valued at £1M on the basis of some clever sums, such as the resale value of all A's assets or his £50,000 annual profits (i.e. a return of 5% on the nominal amount invested). Along comes a pension fund and decides to invest in the business. A doesn't want any more capital so doesn't issue any more shares. The pension fund just offers some investors 10% over the odds for their shares. The value of A's company is now £1.1M, not because A has done anything to make the business worth more, just because a buyer has thrown money at the stock. As in part 1 of this post, when demand exceeds supply the price goes up - inflation.
I postulate that much of the stock market growth over the past 20 years is down to stock price inflation. This is supported by looking at a common indicator of stock values, the price to earnings ratio (P/E). This is simply the effective interest the investor receives on his capital. As the market rises, P/E goes down. The rise is a bubble. If people need to get their capital out of the market, because they need the money or to invest elsewhere, the price may come down sharply as the incoming investors demand more earnings for their capital. Also, in a recession earnings go down and so price follows. There is of course a floor price where the asset value of the business is covered by the stock value and asset strippers move in. Somehow, asset stripping hasn't been an issue lately, perhaps because nearly every stock is overvalued against assets.
tbc...
Mr Ambitious sees an opportunity to make money by making and selling Throgs. H doesn't have enough money to set up a business so he has three choices. He could borrow the money from the bank. He could borrow from a friend. Or he could float a company on the Stock Market.
The first option is tricky because the bank will want repayments of capital and interest. Ambitious doesn't have any money so can't repay capital until the business is well under way. The bank will also require security in the form of the right to take possession of Ambitious' house and nice car if he fails to make the repayments in time.
The second looks good, if there is a friend (e.g. Mr Den Dragon) with a wodge of cash burning a hole in his pocket. Ambitious will have to convince Den that his business is viable and hand over some control and future profits. Den is taking a big risk - if Ambitious' project is a flop Den is left with nothing.
The third option is pretty good all round in theory. The stock market allows many people to invest a small amount in Ambitious' company and all they want in return is an expectation that they will make money in the long run. Those people can invest in many businesses so one failure won't lose all their money. (In practice floating on the market is a second step, used either to pay off the initial investors be they a bank or a friend, or to enrich the dotcom founders, but for the purposes of illustration I'll forget about that).
Once Ambitious has floated his business he gets on with running it and pays his shareholders a dividend out of the company's profits. (The shareholders own the business so are entitled to the profits, but they don't run it). Ambitious can also pay himself a huge salary if there's enough money around. Once a year Ambitious calls an AGM at which the shareholders, it sufficiently interested and organised, could vote him out of the company and put someone else in charge, but if Throgs are selling well and profits are strong they have no reason to do that.
Later, Ambitious decides to start making another product, New Chags. He needs more capital so creates more shares in his company and offers them for sale. Technically these are shares in a business already owned by the existing shareholders so Mr A offers the shares first to those people, then places whatever is left on the open market. Chags do well and a wider group of people benefit from the dividend payments. The amount of money Mr A gets for the shares he issues depends on the market value of the existing shares and the perceived value if the enlarged business, so it is in his interest to maintain the value of the company he has created. This might be done by paying good dividends, or it might be done by good salesmanship promising future dividends even though the company is losing money right now. The investors in the business can retrieve their capital at any time by selling their shares to someone else. If the company is thought to be doing well there will be a strong demand for shares so the investor gets a good price and walks away smiling. Otherwise the investor might have to sell at a low pricer and end up losing money. If investors are perceived to be losing money there are two consequences. First, they could get together and find a replacement for Mr Ambitious, someone who can run the business more profitably. Second, they can decline to buy more shares when Mr A needs to raise more capital.
Anyhow, that is the basis of the stock market. It is a place where one can raise capital to start or expand a business without having a wealthy friend, and where investors can trade those investments to get what they think will be the best return for them.
Now, what REALLY happens? Pretty much every employed person in the UK pays up to 10% of their income into a pension plan. (if they don't pay it all, their employer pays the rest). That money has to go somewhere and make more money to pay out all those current and future pensions. A lot of it ends up buying shares on the stock market. Lets assume Mr A's business is valued at £1M on the basis of some clever sums, such as the resale value of all A's assets or his £50,000 annual profits (i.e. a return of 5% on the nominal amount invested). Along comes a pension fund and decides to invest in the business. A doesn't want any more capital so doesn't issue any more shares. The pension fund just offers some investors 10% over the odds for their shares. The value of A's company is now £1.1M, not because A has done anything to make the business worth more, just because a buyer has thrown money at the stock. As in part 1 of this post, when demand exceeds supply the price goes up - inflation.
I postulate that much of the stock market growth over the past 20 years is down to stock price inflation. This is supported by looking at a common indicator of stock values, the price to earnings ratio (P/E). This is simply the effective interest the investor receives on his capital. As the market rises, P/E goes down. The rise is a bubble. If people need to get their capital out of the market, because they need the money or to invest elsewhere, the price may come down sharply as the incoming investors demand more earnings for their capital. Also, in a recession earnings go down and so price follows. There is of course a floor price where the asset value of the business is covered by the stock value and asset strippers move in. Somehow, asset stripping hasn't been an issue lately, perhaps because nearly every stock is overvalued against assets.
tbc...
Economics - part 1
This is a post (series of posts!) inspired by my brother who liked my description of how the finance system operates and thought I should publish it. Trouble is, I know a lot of stuff but don't know how to put it all together coherently. A bit like the government! But, here goes.
This will encompass government debt, pensions and the stock market. It might touch on the housing market and personal debt or savings, and it might mention the Euro crisis. Or it might not.
A long time ago (60s/70s) public finances were all about the Balance of Payments. That was (if you are too young to remember) the difference between what we bought from abroad and what we sold abroad, i.e. (Exports) - (Imports). The impact of a BofP problem was that inflation went up and the value of the pound went down. Both made people poorer. The proposed solution was to Buy British and avoid imports. However, that went against free trade and especially after we joined the EEC (as it was then) European procurement rules. If we Bought British no-one else would and exports would collapse. Another principle was required. (aside - the BofP even in those days was always negative in real terms - physical goods - but overall positive due to the impact of "invisibles" i.e. financial services)
After Thatcher arrived the Big Thing (apart from a Property Owning Democracy) was Money Supply. Think of inflation as caused by too much money (demand) chasing too few products (supply). Cutting the money supply reduces demand and so cuts inflation. (It also makes struggling businesses bankrupt and people unemployed). The theory was that once the unfit, unprofitable businesses that relied on easy money were out of the way the remaining economy would surge forward unfettered by inflation and high interest rates. Mostly what surged forward unfettered was Financial Services.
At the end of the 18 year Conservative hold on power New Labour inherited a strong economy with low and reducing inflation and buoyant tax receipts. They decided to continue with Conservative spending and tax plans for a few years - a good move at the time. Later, however, Gordon Brown invented the idea of balancing the budget over the economic cycle. That means borrowing in lean times to support services and paying back in good times from enhanced tax revenues. Unfortunately Gordon couldn't see a cycle when it was staring him in the face. He declared a palpable boom was in fact a recession and borrowed to fund increased service expenditure (I won't say increased services, he just spent more on what we already had). He also deregulated Financial Services. At the end of the Labour term a thoroughly de-regulated financial crash forced huge further borrowing to bail out the banks and also slashed tax revenues and increased welfare costs. Result: massive debts and a massive deficit adding to them every day. No, Ed (Balls/Milliband), Labour didn't cause the global financial crisis, they just removed the regulations that might have prevented it and put the UK economy is a uniquely bad position to weather it.
This combination of high debt and high deficit is significant, and both main parties recognise that. The deficit means we have to borrow more money to fund daily government expenditure, a significant proportion of which is paying interest on the debt. You can see where this is going, especially if the financial markets got the idea the government might not be able to pay back that debt and so increased interest rates. (Aside: the Bank of England claim to set interest rates, currently 0.5%. That is the rate at which the bank will nominally lend money and tends to detemine other lenders' rates in the domestic market. However, that is not the rate at which the government borrows money. That rate is set by the financial markets in bond auctions and is a lot higher). If interest rates rise, the deficit rises and cuts must be deeper.
Cut to Greece. The Greeks don't want the austerity measures being forced on them by the EU and IMF in return for "bail-out" loans. The reason the Greeks need those loans is that no-one else will lend them money, but they must borrow to finance their expenditure. Had the proposed referendum gone ahead, the choice would have been between cutting expenditure under EU rules or cutting expenditure because the government had no money and no-one would lend it to them. The former at least promised a stable future, the latter could have ended in penury for everyone.
More in part 2 (and 3 and 4)
This will encompass government debt, pensions and the stock market. It might touch on the housing market and personal debt or savings, and it might mention the Euro crisis. Or it might not.
A long time ago (60s/70s) public finances were all about the Balance of Payments. That was (if you are too young to remember) the difference between what we bought from abroad and what we sold abroad, i.e. (Exports) - (Imports). The impact of a BofP problem was that inflation went up and the value of the pound went down. Both made people poorer. The proposed solution was to Buy British and avoid imports. However, that went against free trade and especially after we joined the EEC (as it was then) European procurement rules. If we Bought British no-one else would and exports would collapse. Another principle was required. (aside - the BofP even in those days was always negative in real terms - physical goods - but overall positive due to the impact of "invisibles" i.e. financial services)
After Thatcher arrived the Big Thing (apart from a Property Owning Democracy) was Money Supply. Think of inflation as caused by too much money (demand) chasing too few products (supply). Cutting the money supply reduces demand and so cuts inflation. (It also makes struggling businesses bankrupt and people unemployed). The theory was that once the unfit, unprofitable businesses that relied on easy money were out of the way the remaining economy would surge forward unfettered by inflation and high interest rates. Mostly what surged forward unfettered was Financial Services.
At the end of the 18 year Conservative hold on power New Labour inherited a strong economy with low and reducing inflation and buoyant tax receipts. They decided to continue with Conservative spending and tax plans for a few years - a good move at the time. Later, however, Gordon Brown invented the idea of balancing the budget over the economic cycle. That means borrowing in lean times to support services and paying back in good times from enhanced tax revenues. Unfortunately Gordon couldn't see a cycle when it was staring him in the face. He declared a palpable boom was in fact a recession and borrowed to fund increased service expenditure (I won't say increased services, he just spent more on what we already had). He also deregulated Financial Services. At the end of the Labour term a thoroughly de-regulated financial crash forced huge further borrowing to bail out the banks and also slashed tax revenues and increased welfare costs. Result: massive debts and a massive deficit adding to them every day. No, Ed (Balls/Milliband), Labour didn't cause the global financial crisis, they just removed the regulations that might have prevented it and put the UK economy is a uniquely bad position to weather it.
This combination of high debt and high deficit is significant, and both main parties recognise that. The deficit means we have to borrow more money to fund daily government expenditure, a significant proportion of which is paying interest on the debt. You can see where this is going, especially if the financial markets got the idea the government might not be able to pay back that debt and so increased interest rates. (Aside: the Bank of England claim to set interest rates, currently 0.5%. That is the rate at which the bank will nominally lend money and tends to detemine other lenders' rates in the domestic market. However, that is not the rate at which the government borrows money. That rate is set by the financial markets in bond auctions and is a lot higher). If interest rates rise, the deficit rises and cuts must be deeper.
Cut to Greece. The Greeks don't want the austerity measures being forced on them by the EU and IMF in return for "bail-out" loans. The reason the Greeks need those loans is that no-one else will lend them money, but they must borrow to finance their expenditure. Had the proposed referendum gone ahead, the choice would have been between cutting expenditure under EU rules or cutting expenditure because the government had no money and no-one would lend it to them. The former at least promised a stable future, the latter could have ended in penury for everyone.
More in part 2 (and 3 and 4)
WiFi interference - magic fix
A few months ago I started to lose my home WiFi connection. Sometimes the SSID would appear but PCs couldn't connect, sometimes the SSID would not even appear. Those symptoms suggested RF interference was to blame and I tried turning loads of stuff off to isolate the source. I also noticed the problem was largely confined to the evening so hypothesised that the neighbours were to blame. I also tried a new wireless router. Nothing seemed to work.
Fast forward to September, when I went on holiday for a few days, leaving my daughter at home. On my return (in the evening) her first words as I walked in were "the Internet's gone". She did some googling and came up with the most unlikely cause - my recently acquired car's alarm system. Specifically the internal movement sensor. So I turned that off and the network returned. Subsequently we had friends for dinner. As they came in my daughter came down and announced the network was down again. Same problem, same make of car.
So, if you have WiFi problems and a Mazda car, use the 3rd button on the keyfob to turn off the movement sensor when locking your car in the driveway. (and if parking outside Starbucks or any other popular WiFi hotspot).
Looking elsewhere on Google I found a post that suggested the interference is only on channel 9 so only afffects WiFi channels 6 to 11 (Wifi on channel N uses channels N-3 to N+3 which is why most routers use channels 1, 6 or 11). I might test that later.
Fast forward to September, when I went on holiday for a few days, leaving my daughter at home. On my return (in the evening) her first words as I walked in were "the Internet's gone". She did some googling and came up with the most unlikely cause - my recently acquired car's alarm system. Specifically the internal movement sensor. So I turned that off and the network returned. Subsequently we had friends for dinner. As they came in my daughter came down and announced the network was down again. Same problem, same make of car.
So, if you have WiFi problems and a Mazda car, use the 3rd button on the keyfob to turn off the movement sensor when locking your car in the driveway. (and if parking outside Starbucks or any other popular WiFi hotspot).
Looking elsewhere on Google I found a post that suggested the interference is only on channel 9 so only afffects WiFi channels 6 to 11 (Wifi on channel N uses channels N-3 to N+3 which is why most routers use channels 1, 6 or 11). I might test that later.
Time for a splurge
There are going to be quite a few posts here in the next few days as I get a load of stuff off my chest. Of course, no-one will read them because I'm undiscoverable on the web, but maybe that's just as well.
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