The Chancellor of the Exchequer’s Pre-Budget report was November’s big eye-opener as to how you can regurgitate 1970’s policies to deal with current problems in an old way.
The current problems are a recession, a housing market collapse, a bunch of private corporations on the brink of insolvency and ready to go into either bankruptcy or administration, a restriction of credit to small businesses and mortgage customers, deflation (supposedly), collapsing currency, collapsed interbank lending, collapsing stock market, collapsed commercial paper market, collapsing retail sales and unemployment rising to nearly 2 million. This is only the core list of problems, of which there are many more.
To deal with these problems the Chancellor plans to increase borrowing up to £118 Billion by 2010 through the issuing of more bonds (UK gilts), dropping VAT from 17.5% to 15% (worth £2.5 billion), making the 10p tax solution permanent (resulting in more money for the low paid), the part nationalisation of many UK banks (58% holding of RBS at a £2.5 billion loss 28/11/08) in a holding company called ‘UK Financial Investments Limited’ and the encouraging of the (Independent) Bank of England to cut Interest Rates to 2%.
The chancellor is reportedly working with the Business Secretary Lord Mandelson on drawing up a list of potential companies that can expect state aid to avoid the financial difficulties their reliance on customers with credit has caused.
Taken together this is very similar to the state intervention of the 1970’s where ‘Beer and Sandwiches’ with the Prime Minister resulted in state aid for strategically important industries such as British Coal and British Leyland, with the only real difference being that unions wanted big pay increases, where as the rescued businesses of today want modest % pay increases for workers, and big bonuses for top management.
While we may have dispensed with throwing state aid at corporations that don’t have shareholders (for the last 25 years), the new Labour government have in recent months turned to using every last bit of cash the country has to prop up inefficient businesses that can’t survive even the first 12 months of a downturn in the economy.
Aside from the conflict caused by rewarding shareholders with state aid (when they have invested in lame duck companies that should be allowed to go out of business) the Labour government has allowed itself to get dragged into cow-towing to CEO’s of reckless companies like Royal Bank of Scotland (RBS), because they are too big to fail. This was the same argument used back in the 1970’s for failing businesses like British Leyland, and smacks of the same failure today that was overcome through privatisation during the 1980’s.
The moral hazard of allowing a business to know it is too strategic to fail allows it to ‘name its price’ in state aid, to call the shots on pay, as happened with ‘beer and sandwiches’, and treat the government like dirt in the end, because the government have already stated they will do whatever is wanted. Majority ownership of RBS by the government is meant to head this problem off, but in the end the moral hazard of providing a consequence-free environment means RBS will eventually take advantage of this situation.
RBS can even throw the dog a bone and promise a headline catching 6 month moratorium on mortgage customers in arrears, to make it seem that the government is helping steer this corporation into doing the right thing by customers. I have concerns however about what RBS will extract as the price for this favour.
Getting back to the problem of borrowing £118 Billion to encourage spending in the economy, is that it’s a blatant ’spend your way out of trouble’ manoeuvre. I would like to believe it represents the government stimulating a recovery in the economy by latching onto an upturn in sentiment, and will help businesses and consumers pull themselves out of a recession.
The problem with this approach is that they aren’t looking to pick the economy up off the bottom, and help those surviving businesses that have run efficient operations to get the ball rolling and kick off a long overdue upswing. Instead they are trying to force the market to find an artificial bottom, they are trying to interfere in the natural deleveraging process, and they are trying to restart the credit boom without having paid the piper for the last 10 years of excesses.
This is foolish in the extreme. Labour tried throwing good money after bad in the 1970’s and using a Keynesian market intervention approach, Alistair Darling and Gordon Brown hope to spend enough money fast enough to manipulate the natural cycle of the economy, and bring it back out of recession.
It won’t work. It has never worked. In the 1970’s we proved it definitely won’t work if you do it with borrowed money, and even Keynes agrees with that point as he stated only surpluses should be applied to a recovery package. As we have no surpluses and seek to borrow £118 billion to manipulate the markets, we can expect the same IMF bailout that occurred in 1976 when finances were in better shape than they are right now.
The Shadow Chancellor George Osborne recently said “All Labour Chancellors eventually run out of money, and this one will be no different”. By the time we find out he’s right and the Labour party have spent our money trying to engineer a recovery that was never going to work while the whole world economy went into recession, it will be too late to reclaim the good money we’ve thrown at the bad losses.
The really stupid part of Labours approach is the ‘what’s counted as National debt and what’s not’ approach they’ve taken. The dud assets they’ve purchased in bankrupt companies should be marked down as part of the National debt, but they haven’t been. Instead they are noted as investments by the Government, and so are kept off the National debt. That way you can spend £37 billion bailing out banks and not have it double the National debt overnight.
The problem with this approach is that it matches the failed approach taken by these banks in the first place, who used Structured Investment Vehicles (SIV’s) as separate ‘off balance sheet companies’ to issue commercial paper and invest in Credit Default Swaps and Consolidated Debt Obligation’s (CDO’s). When Zoe Cruz at Morgan Stanley finally had to bring her £25 billion SIV back onto the books, because it was in trouble (July 2007), it marked the start of the banking crisis and gave us our first look at how these banks were hiding their real liabilities.
So to now find the Chancellor of the Exchequer allowing the Treasury to run the public finances in the same way as has just caused the collapse of the banking system, by keeping our real debts hidden and misrepresenting the UK’s real liabilities, is a complete disgrace.
The Chancellor of the Exchequer, Alistair Darling, has used the same argument in public to justify this action as the now failed banks used before the losses started to appear. The banks back then said these SIV’s were viable asset management businesses that were holding assets that had market value. When it turned out that Credit Default Swaps and CDO’s were worthless pieces of paper which actually caused heavy losses not annual returns, they went crying back to their originators (the banks) and appeared as losses on balance sheets.
Eventually the National debt will have to absorb the most of the £37 billion lost from these bad investments as the banks share prices fail to recover quickly, and in the meantime rack up billions of pounds of extra losses, due to the massive quarterly losses these business are still making. Eventually the Labour Government will have to accept these bank shares as worth far less than they paid for them, just like the banks themselves had to with SIV’s, CDS’s and CDO’s.
At that point our economy’s credit-worthiness will be downgraded, the value of our bonds will collapse, our currency will go into free fall, and if the Government haven’t already raised the £500 billion they need to pay for all the spending they’re planning, they will find no one willing to fund their manic spending spree. At that point the IMF will be called in as lender of last resort, and we’ll all want to lynch Gordon Brown and Alistair Darling for investing in worthless businesses that will have brought our country to the brink of collapse like Harold Wilson, James Callaghan and Dennis Healey did before them in the mid to late 1970’s.
Posted by ullrakesh 