Archive
Is it all the fault of the banks?
23rd June 2011
Wherever you turn, stories of bailouts, cuts and austerity abound. Although we are apparently out of recession, there is a distinct absence of the ‘feel good’ spirit that’s needed for a genuine recovery. Economies are highly sensitive to the prevailing mood, and if confidence is lacking in the general population of consumers then growth will be weak or non-existent.
There’s a common perception that we are where we are because of the banks, whether because they lent excessively without sufficient checks and security or because they are currently hoarding cash, attempting to boost their balance sheets, and thus starving business of cash for investment and homeowners of mortgages. But is this a fair analysis?
The truth, as always, is more complex. Banks have certainly been lax in their lending, and are guilty of inflating profits on the back of implicit state guarantees, creating overly-complex financial products and insensitive reward structures. But ‘deficits’ and ‘government debts’ are not the fault of the banks.
The real crisis in most western economies is that for years it has been considered acceptable to spend more than the countries earn in taxation. This difference, or deficit, has been funded by the governments themselves borrowing money from the financial markets. A government’s only source of income is taxation, so such borrowing is nothing more than deferred taxation – asking future generations to pay for today’s spending.
In so far as most governments have adopted this ‘spend more than they earn’ philosophy, it could be argued that western democracies are complicit in the whole shambles. After all, we have collectively voted for governments that have sought to make a virtue out of spending more than they earn, albeit by dressing it up in euphemisms such as ‘investing for the future’, ‘saving the NHS’, ‘providing welfare for those in need’. All worthy aims in themselves, but is that worthiness tarnished if we care for ourselves today by asking our children to pay the bill via future taxation?
In the final analysis, countries will either default on their debts, as seems possible with Greece and maybe Portugal, or will have no alternative but to address their deficits and return to budget surplus, when tax receipts exceed spending and the accumulated debt begins to be paid down. Default may sound like the easy option, but the ripples can have dire consequences for the world’s financial systems as confidence in the banks falls and consumers panic.
Governments can raise taxation only so far before people calculate that it simply isn’t worth their while trying to earn more, or they simply seek to emigrate to more favourable countries. Ultimately, spending cuts are inevitable, and on a massive scale. In the UK, we are still forecast to spend £122 billion more than we earn in 2011; that’s more than the entire NHS budget. It does make you wonder where cuts big enough to make a difference will come from.
There is significant public resistance to ‘cuts’ and ‘austerity’; witness the troubles in Greece, or the imminent teacher and public servants strikes in the UK. I wonder whether those who support such action fully appreciate the consequences of giving into their demands. Most economies are rather sick right now, and the medicine doesn’t taste very nice. But nice or not, it’s difficult to avoid.
Stagflation – what’s the implication for interest rates?
17th May 2011
I remember years back being asked by a journalist for my comments on the risks that the UK faced a period of stagflation. Back then I didn’t even know what the word meant. Unfortunately, we are now in different economic times, and stagflation is beginning to enter common usage.
Stagflation is an inelegant combination of ‘stagnation’ and ‘inflation’; in other words, the economy is flat but prices are rising. The basic economic law of supply and demand explains that prices tend to rise when more people want to buy the product or service; the vendor can get away with increasing his prices as there are still people willing to buy. But if the economy is flat, how can demand be increasing?
The answer is that we now live in a global economy, and so even though demand may be flat domestically, demand is growing in the developing markets of China, India and the Far East. This impacts on worldwide prices for commodities such as food and oil. We in the UK are increasingly competing with producers and consumers all over the world; the more this happens the less relevant domestic policy becomes.
There is much pressure on the Bank of England to raise interest rates, and I have sympathy for savers and pensioners in particular who have seen their incomes freeze or decline whilst prices continue to rise. On the other hand, the Bank is primarily charged with reducing inflation, and UK domestic interest rates will have no effect on worldwide commodity prices, making a rise for such reasons futile. At the same time, increasing interest rates at such a sensitive point in the economic cycle will cause real pain for homeowners, businesses seeking finance and exporters. It’s a difficult balance to strike, but maintaining low interest rates for the near future is probably the right decision for UK PLC.
A very warm welcome to the re-designed, refreshed and re-launched Dufton Kellner web site...
06th April 2011
I very much hope that you find something of value on our site, and would welcome any feedback.
6 April seems an appropriate date for an accountant to start a blog, marking as it does the start of the new tax year. I wish I could claim that this was by careful planning, but alas it is more by good fortune. Good fortune is a phrase that we’re not hearing much at the moment; today has been dubbed ‘worse off Wednesday’ by the media, because it marks the start of the financial year in which the much-talked-about cuts will begin to bite. There’s so much doom and gloom around that it’s easy for us to forget that actually, we are in a comparatively fortunate position in the UK.
Whilst some countries have to contend with natural disaster, war or civil unrest, we like to get all flustered about proposed changes to the voting system. That in itself is a mark of how we live in a stable democracy, and one that has shown itself willing to begin the task of rebuilding our economy on a more sustainable footing.
Whilst the year ahead may be painful for individuals, the action taken collectively will be good for our nation. No country could continue to spend and borrow like the UK has done for years; there was always going to be a time of reckoning. And by bringing that time forward we will ultimately lessen the pain, and put UK PLC on a stronger footing.
There is a long road ahead, and much that needs to be done. Businesses across the land, and small businesses in particular, are truly the engine room of our economy and the key to our future prosperity. As we start this year, I remain optimistic that we may see a reduction in red tape, bureaucracy and crippling levels of taxation that stifle enterprise and penalise success. ‘Good fortune’ is something we should value and aim for, and the most effective government is one that facilitates this as much as possible.
