In my essay 'A Funny View of Wealth', I made some predictions for the UK economy - most of which have been (as near as possible) exactly right. I thought it may therefore be time to mention the things that I did not manage to predict and the events I failed to mention.
The first thing I failed to see was that consumer price inflation would be accelerating. It could be argued that, in missing this, I missed a vital part of the current crisis. However, as I have pointed out elsewhere, inflation measures are not actually measuring real inflation. As such, at present, despite the headlines, real inflation is negative. This is not to say that some goods and services are not increasing in price in a dramatic fashion, but rather that the overall cost of living is falling.
One of the disturbing things about the current state of consumer price inflation is that I did not predict this, and it will have a downwards leverage on the UK economy. As such, I think that the economic collapse in the UK will be faster and more severe than I had assumed.
The reason for this inflation is a combination of the madness of biofuels taking land away from food production, and increasing demand for food amongst emerging economies. These problems will not go away in hurry, and I had no idea that they would impact upon the economy in the way that they have. Several years ago, for rather odd reasons, I studied meat consumption in Taiwan, and noted that there was a massive increase in meat consumption over the period of Taiwan's economic development. I should have noted this trend and seen that the growth in the emerging economies would eventually impact food prices. As for biofuels, I am not sure that anyone could predict that such silliness would occur, though the consequences for food prices should have been obvious.
As for oil (and other commodity) prices, I have discussed this elsewhere, and this is a matter of capacity not keeping up with demand as the world economy expanded. As economic growth turns to contraction, this situation will resolve itself and oil prices would fall back. However, I did not manage to predict this problem, as it now stands. The reason for this is that I had assumed that high oil prices were a factor of instability in the Gulf states, rather than reaching capacity constraints. In short, I got it wrong. For other commodity prices, I just wasn't paying enough attention.
My essay was focused just on the UK and one of the assumptions was that the UK was going to suffer more than any other economy in the current downturn. I knew that the US was going to hurt, and hurt badly. However, the US economy has greater flexibility than the UK, and I therefore expect the pain to be shorter lived, albeit it will still be very bad indeed. I believed Germany and France would hurt, but not too badly. For Italy, I believe that they will suffer very badly indeed. They no longer have the freedom to use their currency to save their economy, and many of their businesses are facing tough competition from the emerging economies. They lack the flexibility or will to rise to this challenge, and will need a crisis before they can even think of rebuilding their economy.
As for Spain, this country was largely off my radar. I was aware that their economic growth was largely built on construction. However, I did not realise how reliant. I read an article in the Telegraph which suggests that Spain may be a candidate for the hardest hit in the current turmoil. It seems that they have allowed a property and construction bubble to rage out of control, and the popping of the bubble will be catastrophic.
Japan I will leave for one side, as I plan to talk about it more at a later date. I also plan to discuss China at a later date, but will just mention a couple of points for the moment. The first point is that it is quite possible that China has a construction bubble. Whilst I was in China I noted that there were lots of apartment blocks being built, and that it was very popular for these to be purchased by investors. In many cases the investors were leaving the apartments empty (Chinese people like to buy property brand new, once it has been lived in the value falls), and they were holding on to the apartments in an expectation of increases in value. In addition to this there has been a boom in the construction of shopping malls, and I noted that they were already (back in January) starting to exceed demand. If the Chinese economy is pulled back due to world demand for exports dropping, it is likely that such investments will lead to a bust. It is also worth considering the state of the Chinese banks. If they are lending into construction in this way, will there be a repeat of the previous Chinese bad lending problems of a few years ago? What other bad lending is buried in their books?
Set against this is that the finances of the Chinese government are very healthy, as are the levels of savings in China. The real question with China is how much their continued growth is reliant on exports, and how much growth can be sustained within China. I will readily admit that I am not sure on this at all. I am not sure that anyone is. My best guess is that China will also hurt, and hurt badly, with a significant potential for civil unrest as a result.
India I will leave alone, as I know very little about the economy there. I have read some reports that are suggesting that the economy is very frothy, but have little else to say.
This is a very brief summary, but it is all pointing in one direction. The world economy, not just the UK, is teetering on the edge. The big question is; Why? At a later date I hope to start to unravel just how this situation has arisen. The theme of the essay will be the imbalances in the world economy. I made a start on this with my post on the 'Cigarette Lighter Problem', but this is only a tiny element in the overall picture. The essay will explain why the economies of the West are in such deep trouble, and why the problems will not go away in a hurry.
Showing posts with label World. Show all posts
Showing posts with label World. Show all posts
Tuesday, July 15, 2008
Wednesday, July 9, 2008
Are the cynics 'Doomsters'?
I have had another interesting comment to one of my posts, and I will reproduce the key parts below:
-------
'I have recently been discussing the economy with a friend of mine and I find it quite frustrating that whatever I say about the problems we face, he is of the view that the economy will be back to normal in a couple of years. I suppose what I particularly don't like is:
(a) It implies that he has some wisdom that I don't have. I'm just responding to the 'doomsters'.
(b) He sees nothing peculiar about ordinary people earning more money from their house than they do from their job, and that this is perfectly sustainable.
(c) He does not share my wonder at just how lucky we are (were) here in the West.'
---------
I like this comment because those of us who are cynical about the UK economy have probably had similar conversations.
Dealing with point (a) first, this is the idea that, somehow, the so called 'doomsters' are just bleating on about nothing. The root of such thinking is the complacency that comes from the attitude that, just because we have been doing well in the past, we will do well in the future. The UK has had a successful economy, and has been very successful, so there is nothing to argue with on this point. However, the question to ask of such people, making such assumptions, is on what basis would past performance guarantee future performance? The key part of this approach is to ask what it was in the past that created such economic success.
It is at this point that our friend may start to scratch his/her metaphorical head. It is actually not a simple question. If we start to examine it, we will start to consider at what point our economy did become a success, and need to ask why this happened, and why it continued to be such a success. The question gets really complicated.
One virtual certainty in the foundation of the success of the UK economy was that we led the industrial revolution. The trouble is that the reasons for why the industrial revolution took place is still a matter of some debate. If we then start to ask the question of why we continued to be such a success, the question becomes even more complicated. What does it take to make a country an economic success?
Of course, if there were a formula, then every country would be following it. As such, just in asking the friend the 'why' questions should, of itself, start to undermine the sense of complacent certainty that he/she holds. If we can not even agree on what made the UK successful in the past, on what basis can we be certain of success in the future.
At this point, it might be worthwhile to point out to the friend that, even if we were to be able to identify the cause of past success, and we could demonstrate that we were doing the same now as we were in the past, would our past approach work in the different world that we live in today?
It is only when these questions are asked that the complacency of such thinking really becomes apparent. Furthermore, when we do consider the changes that are taking place in the world economy, the lack of clarity of thinking of such optimists comes into stark relief. In particular we are now going through a revolution just as profound as the industrial revolution, in this case the IT revolution, and we have still not yet felt the full impact. To understand how such changes can have an impact, a good starting point is the humble clock. This simple piece of technology was a necessary antecedent for the industrial revolution, as time keeping is central to modernity. Just think of a railway timetable, the shift system in a factory and the impact of this taken-for-granted technology becomes clear. As another example, if we think of the introduction of electricity, it took many years before all of the impacts were felt, and many of the impacts were unexpected. For example it became to build single storey factories rather than multi-storey, creating a series of improvements in the cost of building a factory and also offering gains in efficiency in many industries.
On top of the technological changes we also have changes in the shape of the world economy. In the past there was, to put it simply, less competition. We now have new economic challengers in China, India, Russia and Brazil (the BRIC countries - I believe that in one of my last posts I may have missed out Russia - apologies for that), as well as the many other emerging economies. It is argued that the rise of this competition is, in part, due to technological change, a point of view that I will not disagree with. However, whatever the source of this change, the reality of the change is inescapable.
As such, if you have a conversation with a friend who exudes the complacency that it will all be OK just because it was OK in the past, I hope that my suggested line of questioning will give them pause for thought.
As for point (b), a few questions are again called for. If a person is earning more in a year from the increase in the value of their house than from their salary, what is the actual source of this wealth? Where does it come from? What source of growth is generating sufficient wealth to make such a massive increase in the value of an asset? Another way to ask the question is to ask what kind of wealth is the UK producing more of in comparison to the past. Is it manufacturing output or productivity increasing (in the case of productivity, it is increasing enough to justify this increase in wealth), is it an increase in the extraction/processing of commodities, are we selling more services overseas than previously, are we exporting more, are we attracting more tourist money than we spend as tourists ourselves, and so forth.
The answer that you may receive is some muttering about services, or the city. However, if we look at the value of services we have to remember that these are redistribution of wealth (this is too complicated to explain and justify here - see my essay 'A Funny View of Wealth' if you wish to grapple with this complex subject), not creators of wealth (excepting where the services are sold overseas or to tourists). If we look at the city, yes it has grown in wealth and power. This is reflected in the trade statistics that show an uplift in the balance of payments for services. However, on looking at the numbers, it becomes apparent that this is not significant enough to explain this apparent rise in the value of a property.
What all of this translates into is one big question mark over the source of the apparent increase in wealth. In order for an asset to rise in value (in a sustainable way), something must have generated the wealth such that people can afford this. The alternative is that people must be getting poorer as, if the cost of living in a home has increased, without an increase in wealth to support such an increase, then people are having to spend more for the same, at the cost of less wealth to use elsewhere (I would also like to cover the supply and demand issue, but that is again too large a subject for this brief review).
As for the final point (c) I had a similar conversation a few years ago regarding our good fortune. The person reacted very poorly when I suggested that we were the luckiest people in history - to have been born in the late 20th century in the Western world. I was told at the time that this was arrogant. Even now, I am very puzzled at this reaction. In my mind this was a simple statement of fact. We have long life expectancy, healthcare, excellent economic opportunities, security from most external threats, freedom and so on. Even now I find it odd that this would be a contentious point.
However, having said all of this, I am not sure that we can take all of this for granted any more. As I have already suggested, the world has changed and is still changing. The rising power of the East is a fact of life, and the impact of that rise is only now becoming apparent. It is for this reason that I argue against the complacency that seems so prevalent. Just repeating that 'it will all be OK' will not make it so.
-------
'I have recently been discussing the economy with a friend of mine and I find it quite frustrating that whatever I say about the problems we face, he is of the view that the economy will be back to normal in a couple of years. I suppose what I particularly don't like is:
(a) It implies that he has some wisdom that I don't have. I'm just responding to the 'doomsters'.
(b) He sees nothing peculiar about ordinary people earning more money from their house than they do from their job, and that this is perfectly sustainable.
(c) He does not share my wonder at just how lucky we are (were) here in the West.'
---------
I like this comment because those of us who are cynical about the UK economy have probably had similar conversations.
Dealing with point (a) first, this is the idea that, somehow, the so called 'doomsters' are just bleating on about nothing. The root of such thinking is the complacency that comes from the attitude that, just because we have been doing well in the past, we will do well in the future. The UK has had a successful economy, and has been very successful, so there is nothing to argue with on this point. However, the question to ask of such people, making such assumptions, is on what basis would past performance guarantee future performance? The key part of this approach is to ask what it was in the past that created such economic success.
It is at this point that our friend may start to scratch his/her metaphorical head. It is actually not a simple question. If we start to examine it, we will start to consider at what point our economy did become a success, and need to ask why this happened, and why it continued to be such a success. The question gets really complicated.
One virtual certainty in the foundation of the success of the UK economy was that we led the industrial revolution. The trouble is that the reasons for why the industrial revolution took place is still a matter of some debate. If we then start to ask the question of why we continued to be such a success, the question becomes even more complicated. What does it take to make a country an economic success?
Of course, if there were a formula, then every country would be following it. As such, just in asking the friend the 'why' questions should, of itself, start to undermine the sense of complacent certainty that he/she holds. If we can not even agree on what made the UK successful in the past, on what basis can we be certain of success in the future.
At this point, it might be worthwhile to point out to the friend that, even if we were to be able to identify the cause of past success, and we could demonstrate that we were doing the same now as we were in the past, would our past approach work in the different world that we live in today?
It is only when these questions are asked that the complacency of such thinking really becomes apparent. Furthermore, when we do consider the changes that are taking place in the world economy, the lack of clarity of thinking of such optimists comes into stark relief. In particular we are now going through a revolution just as profound as the industrial revolution, in this case the IT revolution, and we have still not yet felt the full impact. To understand how such changes can have an impact, a good starting point is the humble clock. This simple piece of technology was a necessary antecedent for the industrial revolution, as time keeping is central to modernity. Just think of a railway timetable, the shift system in a factory and the impact of this taken-for-granted technology becomes clear. As another example, if we think of the introduction of electricity, it took many years before all of the impacts were felt, and many of the impacts were unexpected. For example it became to build single storey factories rather than multi-storey, creating a series of improvements in the cost of building a factory and also offering gains in efficiency in many industries.
On top of the technological changes we also have changes in the shape of the world economy. In the past there was, to put it simply, less competition. We now have new economic challengers in China, India, Russia and Brazil (the BRIC countries - I believe that in one of my last posts I may have missed out Russia - apologies for that), as well as the many other emerging economies. It is argued that the rise of this competition is, in part, due to technological change, a point of view that I will not disagree with. However, whatever the source of this change, the reality of the change is inescapable.
As such, if you have a conversation with a friend who exudes the complacency that it will all be OK just because it was OK in the past, I hope that my suggested line of questioning will give them pause for thought.
As for point (b), a few questions are again called for. If a person is earning more in a year from the increase in the value of their house than from their salary, what is the actual source of this wealth? Where does it come from? What source of growth is generating sufficient wealth to make such a massive increase in the value of an asset? Another way to ask the question is to ask what kind of wealth is the UK producing more of in comparison to the past. Is it manufacturing output or productivity increasing (in the case of productivity, it is increasing enough to justify this increase in wealth), is it an increase in the extraction/processing of commodities, are we selling more services overseas than previously, are we exporting more, are we attracting more tourist money than we spend as tourists ourselves, and so forth.
The answer that you may receive is some muttering about services, or the city. However, if we look at the value of services we have to remember that these are redistribution of wealth (this is too complicated to explain and justify here - see my essay 'A Funny View of Wealth' if you wish to grapple with this complex subject), not creators of wealth (excepting where the services are sold overseas or to tourists). If we look at the city, yes it has grown in wealth and power. This is reflected in the trade statistics that show an uplift in the balance of payments for services. However, on looking at the numbers, it becomes apparent that this is not significant enough to explain this apparent rise in the value of a property.
What all of this translates into is one big question mark over the source of the apparent increase in wealth. In order for an asset to rise in value (in a sustainable way), something must have generated the wealth such that people can afford this. The alternative is that people must be getting poorer as, if the cost of living in a home has increased, without an increase in wealth to support such an increase, then people are having to spend more for the same, at the cost of less wealth to use elsewhere (I would also like to cover the supply and demand issue, but that is again too large a subject for this brief review).
As for the final point (c) I had a similar conversation a few years ago regarding our good fortune. The person reacted very poorly when I suggested that we were the luckiest people in history - to have been born in the late 20th century in the Western world. I was told at the time that this was arrogant. Even now, I am very puzzled at this reaction. In my mind this was a simple statement of fact. We have long life expectancy, healthcare, excellent economic opportunities, security from most external threats, freedom and so on. Even now I find it odd that this would be a contentious point.
However, having said all of this, I am not sure that we can take all of this for granted any more. As I have already suggested, the world has changed and is still changing. The rising power of the East is a fact of life, and the impact of that rise is only now becoming apparent. It is for this reason that I argue against the complacency that seems so prevalent. Just repeating that 'it will all be OK' will not make it so.
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