Friday, June 27, 2008

The wake up starts

In my essay, 'A Funny View of Wealth', I highlighted the fact that the UK economy was built not on real growth of productive wealth, but was built upon a foundation of debt and immigration (written in October/November last year, sent to Boris Johnson at that time, only recently published here). My point was that this was unsustainable and was economic madness. The UK appeared to have a growing economy, and economists were treating the growth in debt as wealth creation. See the following link for the full argument (it is a lengthy essay, I'm afraid).

It now seems that, as ever, the economists are waking up to the reality of the situation too late. This is a quote from the Telegraph:

'British households are now more indebted than those of any other major country in recorded history, it has emerged.

Families in the UK now owe a record 173pc of their incomes in debts, official figures have shown. The ratio of debt to income is higher than any other country in the Group of Seven leading industrialised economies, and is sharply higher than the 129pc of incomes it was five years ago.'


'Economists warned that the combination of data, which also included news of the saving ratio dropping to the lowest level since 1959 and of household disposable incomes falling at the fastest rate since 1999, suggested Britain is heading for a sharper downturn than many had anticipated.'

I have tried to find a neat quote from 'A Funny View of Wealth' but the nearest I can come is the following:

'The UK has been seen as a stable and expanding economy, an economic success, and this belief has attracted the inflows of money available for lending. The problem here is that it is the inflow of cheap money that has supported debt accumulation by consumers, and this in turn has made the economy appear so successful.'

I strongly recommend you read the full article, as it explains the position more clearly. I could fine no single quote to illustrate how this was all so predictable, but all the elements are included in the essay.

So here we are, when it is all too late, the economists have finally managed to grasp that high levels of debt do not a strong economy make. However, they have still not managed to link this growth in debt to the supposed 'growth' in the UK economy. It is at times like this that my frustration bubbles up, an I have an urge to yell at the economists who are supposed to be the experts. How on earth do they manage to miss this simple point? In the unlikely event that any economists pull their heads out of their charts, this is my simple message to them:


Sorry for the caps, but it is the only way that I can express my frustration. In other words measure real growth in UK output in terms of real SUSTAINABLE wealth generated. There are, of course, other factors that need to be considered such as the exchange rate and inflation, but the principle is clear. Real growth is not the same as growth in debt, or growth as a result of temporary immigration.

The point is to ask; has the UK become richer over the last ten years? According to the idea that increase in economic activity equates to a real increase in wealth, 'yes'. According to the idea that increases in economic activity due to temporary immigration and growth in debt, 'no'. How simple is that? As soon as you strip out debt and immigration, you will find that the UK is no richer than 10 years ago, it just looks richer. In fact, it is much poorer, as all the debt now needs to be repaid.

I am massively simplifying here, and losing some key points (and better explanations) through the simplification. If what I am saying strikes a chord, take the time to read the full essay.

The Telegraph report also said the following:

'Market researcher GfK said its consumer confidence barometer dropped five points this month to -34 points - the lowest since 1990, when the worsening economy contributed to the downfall of Margaret Thatcher. GfK warned that the measure is now only a point away from hitting its lowest ebb since comparable records began in 1974.'

I would point you to the following section in my essay:

'These layoffs will commence from a trickle at the end of January and will rapidly accelerate to a deluge in the following months. Consumer sentiment will drop to all time lows. Credit defaults will start to rise rapidly, with the rise in defaults lagging the downturn by about 3 months.'

The drop in consumer confidence is 100% right. The layoffs were slightly slower to start than I predicted, but I hope that being about 2 months wrong will be forgiven. The deluge is starting now. Wait for the employment figures for May/June/July. Unemployment is already rising, and the deluge will follow.

On a related subject, there is also a report in the Telegraph that it will be many, many years before house prices return to their recent peaks. Once again, the economists are waking up to reality. The rate at which house prices decrease is now accelerating. My prediction in 'A Funny View of Wealth' was as follows:

'The slow fall in house prices will accelerate into a full blown crash, with February or March being the months where the falls really start to accelerate. In the six months that follow prices will drop by an average of 20 - 25%, as buy to letters panic and sell into a falling market. In part this will be a response to the fall in house prices, in part it will be due to increasing difficulty in renting their properties (though this factor will lag the price drop).'

I am starting to think that this was conservative. I went on to say that:

'After about six months the rate of the fall in house prices will decline, as some individuals start to imagine that house prices are now at the bottom. They will, unfortunately, be mistaken. Prices will continue to drop a further 20% over a period of a further year, at which time they will bottom out and stagnate for another one to two years. The real fall in house prices will be over 45% during the period of economic contraction (the IMF estimates an overvaluation of 40% and the drop will overshoot this).'

I am now thinking that this may be conservative too. Perhaps as much as 60% will be closer to the mark.

As ever, an apology for so much gloom and, as ever, I am just reporting it as I see it.

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