For the many, not the few. Vote Labour on June 8

For the many, not the few. Vote Labour on June 8
Over 100 economists have endorsed the Labour manifesto for this election. For good reason. The manifesto sets out to defend public services and improve living standards. It will seek to balance current spending over the business cycle and improve public services by increasing taxes on big business and the highest-paid 5%. It will also see to improve prosperity, pay and jobs with an investment-based industrial strategy.

Labour is the only party promising this. The Conservatives intend to the do the opposite, renewed austerity to make workers and the poor pay for their own disastrous economic mismanagement, including Brexit. There is only one choice to defend living standards.


Tories want to drive living standards lower. Corbyn wants to end austerity

Tories want to drive living standards lower. Corbyn wants to end austerityBy Tom O’Leary

During the current crisis the UK has experienced the longest-ever recorded fall in living standards. The biggest part of that fall is not the cuts to government spending, even though these have had severe effects. Instead the largest factor contributing to the fall in living standards is the decline in real wages. The Resolution Foundation calls this decade the worst for falling pay in over 200 years

This fall has now resumed once more because of the combination of stagnation in wage growth and rising prices. The rise in prices is a Brexit effect, after the sharp devaluation of the pound following the referendum result in June 2016. It is ridiculous for Theresa May to suggest the falling pound and therefore the fall in real wages, is not the result of the Brexit vote.

Chart 1 below shows the recent acceleration of the inflation rate as measured by the CPI, up to 2.7% from a year ago in April. Other measures are worse. The RPI, which the ONS has replaced with the CPI shows the inflation rate at 3.5%.

Chart 1. UK CPI Inflation Accelerates

Mainstream economists, including the former and current chairs of the US central bank bemoan the fact that wages are often ‘sticky’. This means that ordinarily, outside ferocious attack, authoritarian dictatorship or worse, it is hard to get workers to accept cuts in their pay in cash terms. This is regarded as a necessary condition for capitalist recovery, as wages fall and profits rise. But the most effective way of driving down real wages is to hold wages down and let prices rise. This can be supplemented by other factors, such as freezes to the pay of the public sector and casualisation of the workforce. This is what has happened.

As Chart 2 shows, the pace of the fall in real wages in the UK currently has begun to resemble the decline at the start of the recession. It is precipitate. The 1-month data and the 3-month average are both shown. The latter is highlighted by the Office for National Statistics (ONS) as it smooths out fluctuations. This now shows real wages declining once more. But the 1-month data is useful in highlighting turning-points, as SEB has previously argued. On this measure, real wages are down 0.5% from a year ago. With further devaluation-induced price rises in the pipeline, the fall in real wages has much further to run.

Chart 2. UK Average Real Wage Growth, 1-month and 2-month measures, year-on-year

The cumulative scale of the decline in real wages over this crisis is shown in Chart 3 below. On a monthly basis, real weakly wages peaked at £531 in February 2008, just as the recession was about to begin. They had fallen to £497 in March of this year.

The peak in wages was in part because wages are ‘sticky’, they were still rising even as the economy was just about to slump and prices had been slowing. There was also the last hurrah of the financial boom, and reflects the City bonuses paid then.

In essence the whole of the austerity policy can be understood as a conscious effort to overcome this stickiness, that is to drive down wages and to get workers and the poor to bear the brunt of the recession while allowing big business and the rich to be shielded from it.

Chart 3. UK Real Average Weekly Earnings, £

Average weekly earnings data only applies to those in full-time work. But it seems unlikely that those in part-time work or in the swollen ranks of the fake ‘self-employed’ will have fared better than those in full-time employment.

There are currently just under 32 million in workers in the UK. As already noted, average real weekly pay has fallen since just before the recession by £34. Even if we take the less erratic quarterly data, it has fallen to £496 from £520 in the 1st quarter of 2008. This is a real fall of £24 per week, or effectively a fall of £1,250 per year. For 32 million workers that is approximately an aggregate decline of £40 billion in real wages from the 1st quarter of 2008 to the same period in 2017. Even if only the 23.5 million full-time workers are considered and part-time workers ignored entirely, the fall in their real wages amounts to over £29 billion.

By contrast, despite severe reductions in the growth rate of public spending and cuts to all types of social welfare, Government Consumption expenditures have actually risen over the same period. According to OECD data Government final consumption expenditures have risen by £32 billion since the 1st quarter of 2008.

This may seem strange, given the harsh burden of austerity that hits workers and the poor. But the rise in real Government Consumption reflects the almost inescapable rises in government spending, on items such as pensions, the NHS, education and so on, even where these do not keep pace either with growing demand or the specific inflation in those sectors. The latest Tory Manifesto, with cuts to all types of social welfare is an attempt reduce these outlays, while maintaining tax cuts for the rich and big business.

But the maths are plain. The biggest factor in driving living standards lower is the fall in real wages. This has now resumed. The Tory Government will be hoping to turn that to good effect using the fall in wages to drive up the profit rate, where they previously failed. At the same time it will reduce the automatic rises in some areas of the Budget, further reductions on those areas of spending which otherwise rise automatically.

This Tory plan is built around a Hard Brexit. Leaving the Single Market will hurt both wages and profits, as trade barriers are introduced and investment is diverted towards larger markets. In those circumstances, the Tories are attempting once more to ensure that the greater share of that loss is on wages, not profits.

By contrast, this Labour leadership is opposed to austerity in all its forms. It will attempt to shield workers and the poor from the crisis and therefore should be wholeheartedly supported even on those grounds alone.

Some on the left reject these arguments on wages, and refuse to accept that Brexit is driving living standards lower. This is an error, reflecting their misconceived support for Brexit. The left should always be the best defenders of living standards for the overwhelming majority of society, and propose arguments that would reverse the falls that are imposed during a crisis. To do that, it must first recognise reality, that real wages are falling once more from a combination of stagnant cash wages and rising prices caused by the Brexit currency devaluation. Any sober assessment would suggest that further falls in wages and living standards must be expected as the Tories attempt to get workers and the poor to pay for the Brexit crisis.

The big trade unions are sure to offer resistance to the new offensive, as will this leadership of the Labour Party. The same cannot be said of any of Corbyn’s opponents in the Parliamentary Labour Party, who either embrace austerity or offer fake opposition to it. 

The left as a whole needs to be clear about the very negative consequences of Brexit and stand with the unions and the Corbyn leadership who will resist job cuts and lower pay. It also needs to be clear about how this renewed crisis came about in order to end it.

Why the ‘Belt & Road’ region will be the main locomotive of the world economy

Why the ‘Belt & Road’ region will be the main locomotive of the world economy By John Ross

The importance of the Belt and Road (B&R) summit for China and participating countries is well known. What is not so widely grasped is that the B&R region is now by far the most powerful locomotive not only of the regional but of the global economy. To be precise:

· Measured at current exchange rates the IMF projects that in the next five years’ growth in the B&R region measured in absolute dollar terms will be almost twice that in North America and four times that in Europe.

· Measured in purchasing power parities (PPP’s) growth in the B&R region will be almost five times that in North America and more than five times that in Europe.

Growth in the B&R region, in summary, will dwarf that in North America and Europe.

This fact that the B&R region has now emerged as the most powerful locomotive of the world economy is due to two simultaneous developments:

· Rapid growth in the B&R region,

· Extraordinarily slow growth in the West by historical standards.

The aim of this article is therefore to put more precise orders of magnitude on these trends. The data used is the five-year growth projections of the IMF. It should be made clear that using these figures does not at all mean that they are being taken as a 100% accurate prediction of what will occur. But the IMF data clearly establishes that the economic growth potential of the B&R region is so much greater than that of either North America or Europe that entirely implausible assumptions of future development patterns would have to be made for the far stronger growth of B&R not to be strikingly apparent.

This data therefore clearly establishes that the B&R region will be the main locomotive of the global economy during the next period.

Slow growth in the Western economies

The first feature creating this new situation in the international economy is the quite extraordinarily low growth in the Western economies by historical standards. The statement sometimes made in the Chinese media that the period commencing with the international financial crisis of 2008 is the West’s ‘worst economic crisis since the Great Depression’ is somewhat misleading put in that form as in one crucial way it understates the problem. The overall slow growth and stagnation in the Western economies is already almost equivalent to that after 1929 while the factual projections for the next five years lead to the conclusion that the cumulative slow growth/stagnation of the Western economies will be worse, although different in form, from that during the period following 1929. To show this Figure 1 illustrates three sets of data:

• Growth trends in the advanced Western economies after 1929.

• The factual trend in the advanced Western economies from 2007-2016;

• The latest IMF predictions for 2016-2021.

The data in Figure 1 of course shows that the onset of the ‘Great Depression’ after 1929 was far more violent than that of the international financial crisis in 2008. After 1929, during only three years, overall GDP of the advanced Western economies plunged by 15.6% compared to only 3.3% after 2007.

But it is not so widely understood that after the initial post-1929 economic collapse recovery during the 1930s was rapid and post-crisis growth was strong – the US being the most important exception. This can be clearly seen in Figure 1 and by examining the situation in 1938, the last year before World War II. By a convenient statistical coincidence, 1938 was nine years after 1929, and 2016, the most recent year for current factual data, was nine years after the last pre-international financial crisis year of 2007. Therefore, in comparing 1929-38 with 2007-16 the same length of time is being analysed.

The strong recovery of most advanced economies following the post-1929 recession is demonstrated by the fact that by 1938 the GDP of most major advanced economic centres was substantially above 1929 levels. To be precise by 1938:

• Japan’s GDP was 37% above its 1929 level;

• Germany’s GDP was 31% above its 1929 level;

• UK GDP was 18% above its 1929 level;

• Western Europe’s GDP was 13% above its 1929 level;

• The overall GDP of the advanced economies 7% above its 1929 level.

The US was an exception – US GDP in 1938 was still 5% below its 1929 level.

However, in contrast after the 2008 international financial crisis there was no rapid recovery and strong growth as there was after the post-1929 collapse. By 2016, nine years after the last financial crisis year, the recovery from the crisis in the advanced economies was almost as slow as during the ‘Great Depression’ of the 1930s and by the end of 2017 it will be significantly slower. More precisely due to the slow growth by 2016, total GDP growth in the advanced economies in the nine years after 2007 was only 10.1%. By the end of 2017, on IMF predictions, the growth in the advanced economies after 2007 will actually be lower than after 1929 – total growth of 12.3% in the 10 years after 2007 compared to 15.1% in the 10 years after 1929. Furthermore IMF data shows that the future growth in the advanced Western economies after the international financial crisis will be far slower than in the same period after the 1929. IMF projections are that by 2021, fourteen years after 2007, total growth in the advanced economies will be less than half that in the 14 years after 1929 – average annual growth of only 1.3% compared to 2.9%, and total growth of 20.6% compared to 49.8%.

Figure 1

Developing economies

To grasp the present pattern of global development, and the background of B&R, it should however be noted that the data given above is specifically for advanced economies. Growth in developing economies is far faster both than in the advanced economies after 2007 and in the advanced economies after 1929. As shown in Figure 2 on IMF projections total GDP growth in the developing economies from 2007-2021 will be 98% compared to only 21% in the advanced economies. Annual average growth in developing economies in 2007-2021 will be 5.0% – not merely faster than the annual average growth of the advanced economies of 1.3% in the same period but much faster than the average 2.9% in the advanced Western economies in the 14 years after 1929.

The extreme slowing of economic growth in the present period is therefore specifically an issue of the advanced Western economies.

Figure 2

The B&R

Turning specifically to the B&R, which as will be seen is the most powerfully growing region among the developing economies, this is of course closely connected with China – which is now one the three great centres of the world economy with the US and the EU.

Comparing these three economic centres it is well known that measured at current exchange rates China’s economy is smaller than either the US or the EU – in 2016 China’s GDP was $11.2 trillion compared to $16.4 trillion for the EU and $18.6 trillion for the US. Measured in PPPs China’s economy is actually larger than the US but to avoid discussion of PPP calculations, and because data on savings is not available in PPPs, in this article all measures are at current exchange rates unless specified otherwise.

However, while China’s GDP is smaller than the US or EU it is not yet sufficiently widely understood that China already enjoys a decisive advantage over these other economic centres in one decisive field – savings, that is finance for investment. Furthermore, China’s considerable lead in this will get bigger with time. As shown in Figure 3 by 2016 China total annual savings – that is the sum of company saving, household saving and government dissaving – was $5.1 trillion compared to $3.5 trillion for the US and $3.6 trillion for the EU. By 2021 on IMF projections China’s annual finance created for investment will be $6.9 trillion, compared to $4.2 trillion for the EU and $4.0 trillion for the US.

In summary, while China’s GDP is smaller than the US China has already overtaken the US as a financial ‘superpower’. It is this which enables China to take initiatives such as AIIB and international fixed investment and infrastructure initiatives which are crucial in the B&R.

Figure 3

B&R as locomotive

Based on these economic fundamentals the comparative growth potentials of the B&R region, North America and Europe may now be analysed. As B&R is a regional initiative IMF data for North America, including Canada and Mexico, is given – rather than simply that for the US. For Europe the European Union (EU) as a whole is taken. Given this framework then:

· Measured at current exchange rates projections from IMF data from 2016-2021 shows that in the next five years the B&R region will account for 46% of world economic growth – compared to 24% for North America and 10% for the European Union – as shown in Figure 4.

Figure 4

The situation in 2016

Turning now to the impact of the different growth potentials in the main world economic centres on the structure of the global economy, as a starting point Figure 5 shows that in 2016 the GDPs of the B&R region and the North American region were approximately equal in size while the EU was slightly smaller than either – B&R being equivalent to 27.5% of World GDP, North America 28.1%, and the EU 21.8%.

Figure 5

However, as the average growth rates in countries in the B&R region are much faster than those in either North America or the EU within five years the structure of the world economy will be sharply changed – as is shown clearly by Figure 6 and Figure 7. By 2021 the GDP of the B&R region, calculated from IMF data, will be $29.7 trillion, compared to $21.1 trillion for North America and $18.3 trillion for the EU. In percentage terms the B&R region will be 31.3% of world GDP – compared to 27.3% for North America and 19.2% for the EU.

Figure 6

Figure 7

Can another country block B&R?

The fundamental economic data also makes clear why no other individual country can block the success of B&R – specifically India cannot block B&R. This is due to the fact that while B&R is open to numerous countries economic realities make clear which countries are indispensable for B&R’s success.

Four large economies are within the B&R region – in descending order of GDP size China, India, Russia and Indonesia. Together these make up 79% of the GDP of the B&R region in 2016 and 85% of its projected growth in 2016-2021. However no other country makes up even 5% of the GDP of the B&R region or 2% of its projected growth – therefore no single other country than these four is by itself large enough to ensure the B&R initiative did not succeed.

Of these four large economies Russia and Indonesia are strong supporters of B&R and their presidents will attend the Beijing summit. India is therefore the only large economy in the B&R region which has indicated at the time of writing it will not participate in the Beijing summit.

This reticence is regrettable, and India’s enthusiastic participation in B&R would undoubtedly strengthen B&R. But in 2016 India was only 11% pf the B&R region’s GDP and 15% of its projected growth in 2016-2021. Put in other terms, 89% of the GDP of the B&R region and 85% of its growth potential was outside India. Given this weight India could not block B&R’s development even although its participation would be extremely valuable.

Tasks for the B&R

These macroeconomic trends naturally do not mean there are no problems for B&R. The advantage of North America and the EU is that their per capita GDPs are much higher than the B&R region, and both NAFTA and the EU have an institutional structure which B&R does not have nor is projected to have at present. But the much greater growth performance in the B&R region compared to any other, and therefore the vastly greater market expansion of the B&R region than any other, is much stronger than the institutional framework of the relatively stagnant North American and European economic centres.

It is clear that the B&R region is aided by, and can build on, the existence of a number of partial institutional frameworks within its area. These include the Association of South East Asian Nations (ASEAN), the Shanghai Cooperation Organisation (SCO), the existing Eurasian Economic Union (EAEU – Russia, Belarus, Kazakhstan, Armenia, Kyrgyzstan) and the Asian Infrastructure Investment Bank (AIIB). The wider proposed initiatives include the Regional Comprehensive Economic Partnership (RCEP) promoted by China. The wider concept of a Eurasian Union promoted by President Putin clearly overlaps with the B&R – as President Putin states.

The Beijing summit on 14-15 May will therefore have numerous tasks to work on not only its own projects but building and integrating existing initiatives. But the reshaping of the world economy by the B&Rs much greater growth potential than any other region is clear.


It may be seen from the data above that the differences in growth potential between the B&R and other major economic centres are not small – that is within the margin of error of five year economic forecasting . On IMF data projections:

· In the next five years, the B&R region will account for 46% of total world growth.

· The growth of the B&R region in the next five years will be almost twice that of North America, and over four times that of Europe.

· By 2021 the B&R region will account for a substantially higher share of world GDP than North America or Europe.

No plausible margin of error therefore alters the fundamental fact that in the next five years the B&R region will be by far the most important locomotive of the world economy. In particular, that the growth potential of the B&R region far exceeds that of North America and Europe. This reality must therefore be the basis of economic strategy in the coming period.

* * *

This article originally appeared in Chinese at Sina Finance Opinion Leaders.

What is at stake in France?

What is at stake in France?By Tom O’Leary

Although they are broadly similar in terms of GDP and population size, France is a more important country than Britain in the EU. Any move by France to exit the EU and the Single Market would have a far greater impact than the self-inflicted damage to living standards in Britain arising from Brexit. As a founder member of all the EU’s forerunners and an economy more deeply integrated into the Eurozone economy, a French departure would have a shattering effect. At the very least a number of other countries could also be expected to depart, including Spain, Portugal and Italy.

Marine Le Pen is vying for the lead in the Presidential race, and she proposes a referendum on a French exit. The continued strength of Marine Le Pen’s far right and overtly racist Front National in the opinion polls is evidence of a deep malaise in French society. The FN continues to record about one quarter of the vote, while many other candidates also play a similar anti-immigrant and anti-Muslim tune in a lower register.

France, like many European countries including Britain, does not have an immigration crisis. It has an economic crisis in which immigrants and minority ethnic and/or religious communities are used as scapegoats. Without its migrants, and the daughters and sons of migrants, the economic crisis would be even more grave. 

The road to socialism is very unlikely to lead through the EU. Under certain circumstances, where a socialist programme of taking control of the means of production to increase investment was being offered, exit could lead to far better outcomes than sticking with the EU. Even then, the new government would need great skill in minimising the disruption to trade. But of course, this is not what the overtly racist Le Pen proposes, but nor does any other candidate.

The French crisis

Like every other phenomenon, the analysis of current economic situation must begin from evidence, not myth or rhetoric. The outline of the crisis is evident from Chart 1 below. It shows the change in real GDP since the crisis began and the change in the main components of GDP.

Chart 1. France Change in Real GDP & Components, 2007 to 2016
Real GDP has risen by just €104 billion since the crisis and after 8 years is only 5.2% higher than in 2007. This is equivalent to an annual average growth rate of little more 0.6%. Once again, we find that Consumption growth has been unable to lead the economy. Consumption has risen more strongly than GDP itself. Contrary to widespread belief, Government Consumption is also higher. It has risen by 13.8% over the period and in percentage terms is actually the strongest component of all.

The drag on GDP has come from the weakness of Investment, which has fallen by €8 billion since 2007. This combination of rising Consumption and falling Investment has led to a widening trade deficit. As falling Investment means declining competitiveness any increase in consumer and other demand is disproportionately met by rising imports. Statistically, the widening deficit on net exports has been the biggest factor subtracting from GDP. 

The fall in Investment has also been reflected in a decline in both industrial production and construction over the period. The French crisis is a crisis of investment.

Investment-led growth

In the corresponding 10-year period up to 2007, Investment rose by 39%. Simply in order to achieve that pace, Investment would need to rise now by €90 billion, equivalent to 4.2% of GDP. It would then need to continue to rise faster than GDP. The private sector, which accounts for the bulk of Investment in all capitalist economies, is either unwilling or unable to raise its level of Investment. French profits have not even kept pace with meagre GDP growth, up €63 billion in nominal terms since 2007 compared to a €280 billion rise in nominal GDP. As a result, the public sector is the only other agent that could increase Investment.

Is this even possible within the EU and operating under the EU Commission’s ‘Trimester’ of national budget oversight, the ‘six-pack’ and the strictures of the ECB?

The reality is that no country has tried. While a number of countries have a higher proportion of GDP directed towards Investment than France, they have all been cutting Investment. In virtually every European country (including the UK) public spending has been rising (on Consumption) while public sector Investment has been cut.

What would be required is a 180-degree turn. Public spending should be maintained, but public Investment should be very substantially increased. In terms of the main candidates, Le Pen says nothing coherent about the economy at all. Her entire programme and campaign is racist scapegoating. Macron says he would initiate a €50 billion public investment programme. But this is just €10 billion a year, when €90 billion and more is required. At the same time he would tear up worker protections, and slash taxes for businesses and the rich. This would lower living standards, and probably increase the public sector deficit, with even the meagre investment pledge the first likely casualty. Fillon’s policies are similar, if more right wing. He talks of €35 billion in public investment, but as this is conditional on private investment it has more of the character of a subsidy than an investment programme. By contrast, the only left candidate in the race is Melenchon who would invest a much more substantial €102 billion.

In EU terms, France is a very important country, the second most important after Germany. As a French exit risks destroying the entire EU, it has a very great weight within the EU and could use that for its own benefit and for the whole of Europe. A menu of measures could include:

  • a derogation from (or better, rewrite of) the EU fiscal rules to exempt public borrowing for investment from all fiscal targets
  • a large increase in public borrowing for investment
  • a large increase in the budget and lending of the European Investment Bank across Europe
  • an increase in the EU Budget for investment purposes
  • ECB bond purchases to widen to include the debt of the state-owned enterprises and semi-state sector, public bodies, regions and municipalities linked to their increased investment
  • Europe-wide investment programmes in renewable energy, integrated energy storage and distribution networks, hi-speed rail, improved broadband and telecommunications links, and in higher education
  • using their balance sheet strength, increase borrowing for investment by the still substantial French state-owned sector, including railways, energy, cars, telecoms, post, airports and others
  • altering the tax code to penalise companies paying exorbitant salaries or shareholder dividends, and to benefit companies increasing their level of investment and training.
Naturally, this is only an outline programme, and those with specific knowledge could improve and refine it substantially. It should be accompanied by a series of measures boosting wages, capping prices, and improving public services to ensure living standards rise and to bolster public support. The tax revenues from rising investment-led activity can be used to fund these.
What then, if the EU Commission and the ECB said no? In that event, the logical course would be to begin to implement these measures on a national basis. This would have a strongly positive effect on growth, albeit diminished if they are not EU-wide.
There would be huge risks if there was an attempt to sabotage this series of reforms. France could refuse to pay all fines or penalties that might be imposed by the Commission, secure in the knowledge that its bargaining position was greater than almost any other EU country. If then the ECB cut French banks adrift from its liquidity operations (as it did with Greece), this would be taken as a notice to quit the Euro.
In that circumstance, the EU institutions would be trying to prevent polices which were evidently in the interests of the overwhelming majority of the population. The French government would be trying to enact them. At that point, would the institutions risk the entire European edifice in order to block sensible reforms? This is an unknown, as it has not yet been tried. 

Austerity has only half worked. New, more radical measures will be attempted

Austerity has only half worked. New, more radical measures will be attemptedBy Tom O’Leary

The latest GDP data show that austerity has only been effective in driving down wages. It has not been effective at all in boosting profits, which is its purpose. As a continuation of existing policy may simply yield the same results, new and more radical measures will be needed.

Wages down, but profits not up

The purpose of austerity is to increase the share of national income that goes to business and the rich, that is, to boost the profit rate. It has nothing to do with deficit-reduction, which is much more readily achieved by polices that boost growth and thereby increase tax revenues. To boost profits, wages have been frozen or cut, while the total level of social spending has been frozen. Taxes have been cut for business and the rich. So, the UK began the crisis with a main Corporate Tax rate (on profits) of 28%. It is now 20% and is due to fall to 17% in 2020. At the same time, taxes paid by workers and the poor have risen, especially VAT.

But the UK version of austerity has only produced the effect of depressing wages and the incomes of the poor. Real wages have begun to decline once more. But austerity has not succeeded in transforming the profitability of UK businesses. Table 1 below shows the distribution of national income as a proportion of GDP in 2013, when the current very modest recovery properly began. It also shows the proportionate distribution of national income of the £200 billion rise in nominal GDP between 2013 and 2016.

Table 1. Distribution of UK National Income as a Proportion of GDP
Source: Calculated from ONS data (Schedule D of ONS national accounts release)

The share of profits (Gross Operating Surplus) has not risen at all. From 2013 to 2016 nominal GDP rose by £200 billion. The Compensation of Employees has risen by just £84 billion. Austerity has been very ‘successful’ in driving down workers’ share of incomes, from 50.5% of GDP in 2013 to just 42% of the change in GDP from 2013 to 2016. (In real terms, the effect of inflation is that total compensation has risen minimally over the period). 

But austerity has not been successful at all in driving up the profit share of private corporations. In the financial sector profits have actually fallen even in nominal terms. For non-financial private companies as a whole profits have only just about kept pace with the moderate rise in GDP. There has been no profits bonanza for private producers.

Instead, there has been a sharp increase in the ‘Other income’ share of national income. This includes a variety of income streams, and mixes profits and incomes of the non-profit institutions, households and others. Partly it reflects the growth of spurious ‘self-employment’.

To demonstrate this is not a quirk of using the year 2013 as a starting-point, the same exercise is repeated in Table 2 below. This shows the distribution of national income as a proportion of GDP in 2007, the last year before the recession. It also shows the proportionate distribution of national income in the £409 billion rise in nominal GDP between 2007 and 2016.

Table 2. Distribution of UK National Income as a Proportion of GDP
Source: Calculated from ONS data (Schedule D of ONS national accounts release)

The outcome is that austerity has worked to driven down the wage share, but it has not boosted the profits of companies. Without boosting their profits there will be no significant increase in business investment. As raising profitability remains the aim of policy, so further more radical measures will be required.

This government will try to impose radical measures to further curb wages and spending on public goods to boost profits. The mechanism for this will now be the opportunities afforded by Brexit. It seems likely, given the ineffective outcome of policy to date, that this project would have been attempted in any event within the EU. But removing the protections on workers’ rights, the environment, consumer safeguards and so on provides greater room for manoeuvre.

Weak starting-point

For the year 2016 real GDP grew by 1.8%. This is the second weakest annual rate of growth since the crisis began. Tory government policy temporarily boosted consumption in 2014 as part of its re-election campaign. Growth has been decelerating since.

Real UK GDP growth in 2016 was marginally less than that of the EU as whole (1.9%) and a little greater than the US (1.6%). Of course, it was a fraction of Chinese GDP growth (6.7%).

The effect of the Brexit vote has been mainly felt through a decline in the pound, which has both lifted prices and should boost exports. Those trends will not continue indefinitely. Instead, the act of leaving the Single Market will create a new situation. The GDP data provide evidence of what that new situation will look like and how the current contradictions will be resolved.

Chart1. UK GDP Growth Is Slowing

Commentators have tended to focus on the rundown in the household savings ratio to a new low of 3.3%. This is an average rate and clearly implies that a large and growing proportion of households are able to save nothing at all or are becoming more indebted.

Household Consumption grew by a full percentage point faster than GDP in 2016, 2.8% versus 1.8%. As Household Consumption accounts for about three-quarters of all Consumption in the UK this would usually mean total Consumption was rising strongly. If Consumption could lead growth this would be a positive development.

For ‘keynesians’ who persist in arguing that Consumption does lead growth, the UK economy is a text book case. Except that the argument is wrong. Strong Consumption has not led to rising Investment, as the ‘keynesians’ suggest. The rise in Consumption cannot be sustained by a persistently declining savings rate. Instead, at a certain point households will decide they cannot or will not continue to support rising Consumption when incomes are not rising as fast and will restrain spending, maybe sharply. Sustained rises in Consumption requires sustainably rising incomes. This is only generally possible if the economy itself is growing.

Falling business investment

Rising growth itself depends on increasing trade and rising investment. Yet business Investment fell in the final quarter of 2016, down 0.9% from a year ago. This is in line with 2016 as whole, where business investment fell by 1.5% from 2015 to 2016. Rising Consumption has not led to rising Investment as Chart 2 shows.

Chart 2. Annual levels of business investment and annual growth rates of business investment
Source: ONS

Private Investment is driven by anticipated profits. This is not the same as preceding profits, which businesses judge can and do vary considerably. Chart 3 below shows there is a close correlation between the change in Profits (blue line) year-on-year and the change in Business Investment (red).

Chart 3. UK Profits and Business Investment, % Change, 1997 to 2016

As the purpose of private investment is to realise profits, in general changes in profits tend to lead changes in business investment. But in 2016 business investment fell while profits grew very modestly. Businesses expect profits to be significantly lower in future. 

Naturally businesses can be wrong. A rise in exports could have a sustained positive impact on production and profits for export. This could be a response to the fall in pound, compensating for the rise in prices and fall in real incomes that is underway.

But there is no evidence that this is the case. Exports rose by 1.8% in 2016, not faster than GDP as a whole. By contrast imports rose by 2.8%. So the trade gap actually widened from £45 billion in 2015 to £52 billion in 2016. Economists speak of ‘J-curve’ effects on the trade balance after currency devaluations. This simply describes a process where the trade balance initially deteriorates and only improves years later as the effect of rising import prices fades and exporters win market share based on lower export prices.

That might be possible, although it would run contrary to established UK custom, where devaluations are used simply to hike prices, while investment is kept low so that any competitive gain is quickly eroded. If UK producers were gearing up for a global export drive, they would be using the windfall of the more competitive currency to restrain export price increases and raise investment. Neither of these two potential developments are taking place. As previously noted, business investment is falling. Remarkably too, UK producers have chosen to raise export prices at a faster rate than the rise in import prices (see Chart 4, below).

Chart 4. Indices of UK Export prices and UK Import Prices January 2015 to January 2017
Source: ONS
While the level of Investment in the UK economy is stagnant or falling it is almost impossible for real wages to increase significantly. Wages are not set primarily by the supply and demand for labour, but by the struggle between workers and their employers. To raise wages and conditions on the docks, it was necessary to end the system of day labouring through unionisation, not to reduce the number of dockers needing work.

Over the medium-term growth is driven by Investment. Without growth, workers would have to engage in enormous struggles in order to increase their wages by wresting capital’s share of total income. Real wages look set to fall further, and will be part of the government strategy for boosting capacity.

Brexit and the crisis

Using the Rahm Emmanuel dictum of ‘let no good crisis go to waste’ the government has embarked on a policy which will use the new-found freedom of Brexit to get rid of ‘red tape’ (workers’ rights such as restrictions on the working week or maternity leave, environmental protection and consumer standards).  

The claim is that the UK will be moving closer to the Singapore model of development. This is untrue. Singapore’s per capita GDP is US$85,382 versus the UK’s $41,756, according to World Bank data. This primarily arises from two factors. First, Singapore’s openness to trade is nearly 6 times greater than the UKs (326% of GDP versus 56.5%). Secondly, Investment (Gross Fixed Capital Formation) is a higher proportion of that much higher per capita GDP (25.5% versus 16.9%). Contrary to myth, Singapore also exercises a large degree of public control over investment, including outright state investment.

Chart 5 UK Average Weekly Earnings

The blue arrow points to the date in 2016 of the UK’s EU Referendum

Brexit will not include any of this. In the words of leading leave campaigner Michael Gove, the aim is that the UK’s relationship with the EU will not be like Norway or Switzerland, but like Albania. The UK is severing its links with its closest markets, whereas Singapore has thoroughly integrated itself into the regional South East Asian economy and the rest of the world. In the UK the low level of investment is declining. The state will not be a directing hand over investment. It will be increasingly laissez-faire. In 2012 the Tories commissioned, but were unable to implement the main measures of, the Beecroft Report, calling for the wide-ranging removal of workers’ right.

So far, austerity has ‘worked’ only to drive down wages. It has not driven up profits. New, more radical solutions will be attempted if a real recovery in profitability is to be achieved, facilitated by Brexit. 

What China achieving ‘moderate prosperity’ means for China and the world

What China achieving ‘moderate prosperity’ means for China and the world

By John Ross

China’s recently concluded “two sessions,” the National People’s Congress and the Chinese People’s Political Consultative Conference, reaffirmed China’s strategic medium term goal to create a “moderately prosperous society in all respects” by 2020. But “moderately prosperous” is a specifically Chinese term. To give a clearer idea internationally of what achieving this would mean, it is enlightening to give a global comparison for China’s goal of “moderate prosperity.”
The result is extremely striking. If China successfully attains “moderate prosperity” by 2020, then at current exchange rates:
  • Only 19 percent of the world’s population will be in countries with a higher per capita GDP than China,
  • 62 percent of the world’s population will be in countries with a lower per capita GDP than China.
China will have overtaken almost every developing country. Its level of economic development will have become higher than several countries in Eastern Europe. A country’s level of economic development, its per capita GDP, is an overwhelming determinant of improvement in overall living and social standards. Internationally almost three quarters of life expectancy, the single most sensitive all round indicator of human conditions, is explained by per capita GDP. The difference in life expectancy between a low-income economy and a high income one by international standards is twenty years – 61 compared to 81.
It is necessary to note that in 1949, when the People’s Republic of China was created, China was almost the world’s poorest country – in 1950 only 10 countries out of 141 for which data can be calculated had lower per capita GDPs. In 1949 China’s life expectancy was 35 – only 73 percent of the world average.
From 1949 to 1978 China achieved a “social miracle” without precedent in world history. From 1949 until Mao Zedong’s death in 1976, China’s life expectancy rose by 29 years – from 35 to 64, increasing by more than one year for each chronological year, or from 73 percent of the world average to 105 percent. There has never been such a sustained rapid increase in life expectancy in any other major country in human history.
But if in 1949-78 China’s social achievements were historically unprecedented, its economic growth was only approximately in line with the world average.
Trends after 1978
After the 1978 “reform and opening up,” as is well known, China’s economic growth became the world’s highest. Taking World Bank data:
  • Between 1978-2015 China’s annual average growth rate was 9.6 percent compared to a world average of 2.9 percent – China’s growth rate was more than three times the world average.
  • As China’s population growth was relatively slow, China’s global growth lead in per capita GDP was even greater. In 1978-2015 China’s annual average per capita GDP growth was 8.6 percent compared to a world average of 1.4 percent – China’s per capita GDP growth rate was more than six times the world average.
The result was the dramatic continuing rise in China’s relative position in terms of world economic development. The relevant data, showing the proportion of the world’s population living in countries with higher and lower per capita GDPs than China, is set out at current exchange rates, China’s preferred measure, in Figure 1. In internationally comparable prices (purchasing power parities – PPPs), the measure preferred by international economic institutions, the data is shown in Figure 2.
For clarity it should be noted that the sharp oscillations in China’s relative global position measured at current exchange rates during the 1980s do not reflect shifts in China’s productive economy but merely exchange rate shifts between China and India. Taking first the starting point:
  • In 1980, measured in PPPs, only 2 percent of the world’s population lived in countries with a lower per capita GDP than China, while 75 percent were in countries with a higher per capita GDP.
  • Measuring in current exchange rate is more complex, due to the changes in exchange rates in 1981-82. But if an average is made of 1981-82, then at that date 14 percent of the world’s population was in countries with a lower per capita GDP than China and 64 percent higher than China.
By either measure, of course, China’s relative position in the world at the beginning of “reform and opening up” was low.
The situation in 2016
By 2016, due to rapid economic development, China’s situation was entirely transformed.
  • In PPPs, only 26 percent of the world’s population lived in countries with a higher per capita GDP than China, while China had a per capita GDP higher than 55 percent of the world’s population.
  • At current exchange rates 26 percent of the world’s population lived in countries with a higher per capita GDP than China and 55 percent in countries with a lower per capita GDP than China.
In summary, by 2016 approximately only one quarter of the world’s population lived in countries with a higher per capita GDP than China, while the majority of the world’s population lived in countries with lower per capita GDPs than China – a total transformation of China’s situation.
Figure 1
17 03 15 Figure 1 Current Exchange Rates
Figure 2
17 03 15 Figure 2 PPP

From 2017-2020, the final period during which China projects “relative prosperity” to be achieved, economic projections must be made. Those used for calculations here are from the IMF’s October 2016 World Economic Outlook. These are chosen as they are conservative – exaggeration is of no use in analysing serious matters. The IMF data assume lower growth rates than China’s targets – an average 6.0 percent growth in 2017-2020, compared to the 2017 target of 6.5 percent and those for the 13th five-year plan (2016-2020). By 2020 on this data:
  • At market exchange rates only 19 percent of the world’s population in 2020 will be in countries with a higher per capita GDP than China and 62 percent in countries with a lower per capita GDP.
  • Measured in PPPs, 24 percent of the world’s population will be in countries with a higher per capita GDP than China and 58 percent in countries with a lower per capita GDP.
China has already overtaken in per capita GDP or in PPP all of the world’s other largest developing economies – India, Indonesia and Brazil. By 2020 China’s per capita GDP will be higher than several Eastern European countries.
As China has 19 percent of the world’s population, quite literally never in human history has anything approaching such a large proportion of the world’s population had its conditions of life improved so rapidly. That will be the astonishing measure of China’s success in achieving “moderate prosperity” – it is, without comparison, literally the greatest economic achievement in human history.
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This article originally appeared at

The economic logic behind Trump’s foreign policy – why the key countries are Germany and China

The economic logic behind Trump’s foreign policy – why the key countries are Germany and China

By John Ross
This article was published in Chinese before the recent summit between Chancellor Merkel and President Trump – which strongly confirmed its analysis.
The first steps by Trump as US President confirmed that he will pursue an anti-China policy but also that he will use different tactics to Obama and Clinton. Simultaneously Trump has launched a serious conflict with Germany, supporting countries leaving the EU and demanding European states rapidly increase their military spending – policies rejected by Merkel at the recent Munich Security Conference. What, therefore, is the internal logic uniting such apparently different actions as:
  • Trump bringing hard line China forces into the core of his administration;
  • New Defence Secretary Mattis’s first foreign trip being to Japan and South Korea to emphasise support for THAAD and US military support for Japan;
  • A new US policy by Trump of attempts to weaken or break up the EU, as opposed to supporting it;
  • Trump’s criticisms of Germany;
  • Trump’s deliberate confrontation with Mexico and fierce criticism of Australia,
  • Trump’s announced economic strategy.
There is clarity regarding Trump’s actions towards China – the Tsai phone call, THAAD deployment in South Korea, Trump’s initial attempts in interviews to challenge the ‘One China’ policy and then his necessary acceptance of it in his phone call with Xi Jinping. But some actions by Trump’s are incorrectly seen as unrelated to China, as being counter-productive, or even as ‘bizarre’ – for example virulent criticism of Germany, one of the US’s most important allies, or a telephone shouting match with another close US ally, Australia’s prime minister. But the internal logic of these actions becomes clear when the real economic situation facing Trump is understood. Once the real US economic situation is analysed Trump’s foreign policy steps fall logically into place, and it will be seen that Trump’s actions towards Germany, Australia, Japan etc are indeed related.
To most adequately understand and respond to Trump’s policy, therefore, it is necessary to clearly understand its aims, its internal logic, and the ways it differs from Clinton/Obama. This article, therefore, focuses on the constraints on Trump’s economic policy and the way these determine his administration’s foreign and military strategy. First the real situation of the US economy will be demonstrated and then the possibilities for Trump to improve this analysed. From analysis of these realities the coherence and constraints which dictate Trump’s tactics in his foreign policy can be clearly understood.
The economic situation facing Trump
Self-evidently Trump’s goal is to strengthen the position of the US compared to all other states (‘America First’) and he recognises that improving the position of the US economy is the key to all aspects of this – including sustaining his promised US military build-up. But to understand the possibilities available for Trump to achieve this it is necessary to analyse accurately the situation of the US economy.
Various forces which either simply repeat propaganda without comparing it to facts present a myth that the US is undergoing ‘strong growth’ allegedly driven by ‘dynamic innovation’. This creates disorientation and inability to understand the logic of Trump’s actions. For the exact opposite is the case – it is the difficulties of the US economy which create the internal logic of Trump’s approach.
It was precisely because of the problems in the US economy that Trump was elected. US median wages are lower than in 1999 while simultaneously inequality has risen to the point where the total income of the top 20% of the US population is now greater than the combined income of the bottom 80%. It was deep popular economic discontent created by this situation which led to the candidates of the traditional Republican elite being swept aside in favour of Trump during the Republican primaries and to manual working class votes in previously Democrat voting states supporting him at the presidential election.
The real long term situation of the US economy is therefore demonstrated in Figure 1 which shows US annual average GDP growth, using a 20-year moving average to remove all purely short term fluctuations due to business cycles. This data shows clearly that the most profound trend in the US economy is a half century long economic slowing – the peaks of US growth progressively falling from 4.9% in 1969, to 4.1% in 1978, to 3.5% in 2003, to 2.3% by the latest data for the 4th quarter of 2016.
Figure 1
The immediate situation of the US economy
Turning to the more immediate situation for the US economy, this is shown in Figure 2 which confirms clearly the sharp slowdown in the US economy during 2016.
  • US GDP growth fell from 2.6% in 2015 to only 1.6% in 2016 – that is during 2016 the US economy slowed down by almost 40% from its previous growth year’s rate.
  • US per capita GDP growth fell from 1.9% in 2015 to only 0.9% in 2016 – US per capita GDP growth therefore declined to under half of its previous year’s growth rate, and fell to less than an annual 1%, which is approaching stagnation.
These trends show clearly that the claim of ‘strong recovery’ of the US economy during 2016 was entirely a myth. In fact, the US economy was slowing sharply compared even to the previous years
Figure 2
Comparison to other major economic centres
This data on the slowdown of the US economy is still more striking when compared to the statistics for the other two major world economic centres – China and the EU. What this data shows is that far from the US undergoing ‘strong recovery’, the US was the slowest growing of the major world economic centres in 2016
Final data for 2016 for China and the US is already published. Final data for the EU is not yet available, but it is published up the 3rd quarter of 2016, showing growth at 1.9%. The October 2016 IMF World Economic Outlook, based on the most up to date statistics, concludes this growth rate will continue until the end of the year. Given the closeness of this data to the end of the year it would be unlikely the final figure would differ greatly from this projection.[Note publication of the final EU data confirmed its 2016 growth rate at 1.9% – JR]
Given these trends GDP growth in 2016 would be:
  • China – 6.7%
  • EU – 1.9%
  • US – 1.6%
Therefore, not merely did the US economic decelerate sharply in 2016 but the US was the slowest growing of the major economic centres.
Figure 3
The present US business cycle
Finally, the position of the US economy can be seen particularly clearly by comparing this US business cycle to previous ones.
As an economy is cyclical, for the most accurate analysis it is crucial that equivalent positions in the business cycle are compared. If only chronological measures are used then, for example:
  • comparing a position at the peak of a business cycle to one at the bottom will give an exaggerated indication of economic growth,
  • comparing the bottom of a business cycle to the top will understate average growth.
The peak of the last US business cycle was in the 4th quarter of 2007. The latest data for the US is for the 4th quarter of 2016 – exactly nine years since the peak of the previous US business cycle. Figure 4 therefore compares growth in the nine years between the 4th quarter of 2007 and the 4th quarter of 2016 with growth nine years after the peak of US previous business cycles in 1973, 1980, 1990, and 2000. This shows clearly that US growth in this business cycle is weaker than in any of these previous business cycles. Total US GDP growth after nine years during this business cycle is only 12.1%, compared to 14.7% after 2000, 18.9% after 1973, 33.2% after 1990, and 33.3% after 1980.
In summary, the factual situation is that far from Trump inheriting a US economy undergoing ‘strong growth’ due to ‘innovation’ Trump has inherited a US economy growing very weakly compared to its previous economic performance. It is therefore necessary to assess Trump’s possibilities to reverse such slow US growth.
Figure 4
Short term trends in the US economy
Confronted with this reality of very slow growth in the US economy Trump has claimed he will accelerate annual US GDP growth – he has announced a target of 4% annual growth. To accurately evaluate the chances of Trump’s success in this, given that the US economy is cyclical, it is necessary to separate short term from medium/long term trends.
In calculating the medium/long term rate of growth of the US, trends are severely affected by any period which includes the Great Recession of 2008-09. Any short-term calculation including the Great Recession will necessarily show a very depressed US growth rate – long term trends will average out such effects. To analyse US growth trends Table 1 therefore shows 5, 7, 10 and 20 year moving averages for annual US GDP growth. The 10-year period, commencing in 2006, diverges strongly from the others as it shows a very low annual US growth rate – due, as noted, to the huge impact of the Great Recession. However, the 20-year moving average, which is a sufficiently long period to average out the impact of the Great Recession, and the 5 and 7-year growth rates all show US GDP growth rates relatively close together in the range of 2.0% – 2.3%. The medium/long term growth rate of the US economy, which should be used for evaluating the effects of Trump’s policies, may reasonably be calculated to be around 2% or slightly above.
Table 1
Short term upturn
To evaluate purely short term trends as was noted above in 2016 as a whole US GDP only grew by 1.6%. This is significantly below the average long term growth rate of the US economy. Taking quarterly data, in the year from the 4th quarter of 2015 to the 4th quarter of 2016 US GDP growth was 1.9% – an acceleration from the very slow growth in the first half of 2016 but still below the US long term average. Therefore, US economic growth in 2016 was below its long-term average.
Figure 5 therefore shows a comparison to the 4th quarter of 2016 compared to the 20-year average – other comparisons can easily be calculated from Table 1. It may be seen that by any measure, except the 10-year average, which is severely depressed for reasons already noted, the US economy in 2016 was growing below its trend rate. The conclusion that flows from that is that there should be a short-term acceleration of growth during the early period of the Trump presidency, for the simple statistical reason that in 2016 the US economy was growing significantly below its long-term average and a move of the US economy up towards its long-term average growth rate will therefore create the illusion that the US economy is improving during the early period of Trump’s administration – when it is in reality a predictable statistical effect.
As this would coincide with the initial period of Trump’s presidency this would lead to the claim ‘Trump is improving the US economy’. But this is false, such acceleration would be expected purely for statistical reasons. The key question, however, is whether Trump can raise the long-term growth rate of the US economy?
Figure 5
The determinants of US growth
Turning from purely short term trends to assessing the potential for medium and long term US growth the reasons for the US long term slowdown already shown in Figure 1 are easy to analyse. The most fundamental of all features of the US economy is that it is a capitalist economy. This means when there is a high rate of capital accumulation the US economy grows rapidly, when there is a low rate of capital accumulation the US grows slowly – this basic theoretical analysis is fully confirmed by the data which follows.
Elsewhere, in ‘The Relation of Innovation and Fixed Investment in the US ICT Revolution’ [in Chinese] modern growth accounting methods were used to show factually that capital investment/accumulation is a decisive factor in US economic growth. For the most precise and accurate methods of analysing economic growth the data there can be consulted. However, the same fundamental result can easily be demonstrated using the simpler and familiar categories of US national accounts data so these are used in this analysis. In terms of economic statistics two measures could be taken as showing additions to capital in the US:
  • The first is US net savings – new capital added by the US itself,
  • The second is net investment – US savings plus investment in the US financed by saving from abroad.
Both will be analysed in turn. They show similar trends, as would be anticipated from the fact that the largest source of finance for US investment is US domestic savings, but they show some differences, due to US use of foreign savings for financing investment. It will be seen these differences have significant consequences for Trump’s foreign and economic policies.
Long term trends
A comprehensive study of the long-term development of the US economy was given in The Great Chess Game? [in Chinese] which should be consulted for further detail. A brief summary however clearly demonstrates the main underlying trends in the US economy.
Analysing first capital accumulation by the US itself, in terms of economic statistics net capital accumulation by the US is equal to US net savings. Figure 6 therefore shows the long-term trend in the US savings rate/capital accumulation rate since 1929. The curve of long term development of the US economy is clear:
  • During the crisis creating the beginning of the Great Depression in 1929-33 US capital accumulation was negative – that is the US economy was creating no capital. This necessarily produced a deep crisis of the US economy. After this the rate of US savings/capital creation rose, with a powerful acceleration during World War II, to reach a long-term peak as a percentage of the economy in 1965.
  • After 1965 US net savings/capital creation steadily fell as a percentage of Gross National Income until it once again became negative during the ‘Great Recession’ in 2008-2009. This declining trend of US capital creation explains the long-term growth slowdown shown in Figure 1.
Figure 6
US use of foreign capital
Turning to net fixed investment in the US, that is fixed investment financed not only be US but by foreign capital/savings, this is shown in Figure 7. This shows the same fundamental curve as for net savings by the US itself – rising from a low point in 1929-33, reaching a post-World War II peak (in this case in 1966), before declining again towards the Great Recession.
However, there is one significant difference between net savings by the US, and US net fixed investment – the latter including fixed investment financed by use of foreign savings/capital. Net fixed investment in the US did not actually become negative during the Great Recession as the US was able to use savings from abroad to finance US net investment. This use of foreign savings to finance investment meant that US net fixed investment remained higher than US net savings.
In short, during the Great Recession, the US was able to use foreign savings/capital creation to cushion and lessen the negative effect of the fall of the US’s own savings. This use of foreign savings/foreign capital creation helps determine the foreign policy choices for Trump – as will be analysed.
Figure 7
Shorter term trends on the US supply side
The above trends allow the basic economic constraints on Trump to be clearly analysed. The best fundamental approach to analysing the US economy, as with China’s, is via the structural features of its supply side – which brings out clearly the choices facing Trump and the interrelation of his economic policy with foreign and military strategy.
In the purely short term, as in all countries, numerous influences affect US economic growth– overall demand, trade, investment, consumption etc. This is clearly confirmed in Table 2 which shows the year by year correlation between US GDP real (i.e. inflation adjusted) growth and the size of components of the US economy measured as a percentage of GDP. This shows:
  • The only such component of US GDP for which there is a strong correlation with real GDP growth in a single year (0.60) is the build-up or run down of inventories – which is logical as inventories are highly sensitive to economic accelerations and declarations.
  • For other such components of US GDP there are correlations over a single year with real US GDP growth but none of these correlations are high – for example a positive correlation of the percentage of net fixed investment in GDP with GDP growth (0.25) and a negative correlation of the percentage of total consumption in GDP with GDP growth (-0.19).
Therefore, over the very short term, a single year, with the exception of inventory build-up/run down, there is no single major component of US GDP whose change of weight in the economy has a high correlation with US GDP growth.
These low correlations merely express in statistical form that in the purely short-term US economic growth cannot be predicted from changes as a percentage of US GDP of any single variable (except inventories).
Table 2
Long term determinants of US economic growth
However, while short-term correlations between the structure of the US economy, the size of components of US GDP, and US GDP growth are weak a number of the medium/long term correlations are extremely high. This is illustrated in Table 3, which shows moving averages of from 1-10 years for the percentages of components of US GDP which have a positive correlation with real GDP growth. This shows clearly:
  • There is essentially no correlation between the percentage of US government consumption in GDP and US GDP growth – the highest correlation is only 0.07. This data is important for reasons other than those forming the subject of this article, as it shows that for the US it is a myth that lowering government consumption as a percentage of US GDP leads to faster growth, and that raising government consumption as a percentage of GDP leads to slower economic growth – there is no evidence for this.
  • There is a positive correlation between US gross fixed investment (fixed investment without deducting capital depreciation) and GDP growth but it is not high – a maximum 0.36.
  • The very strong positive correlations with US GDP growth are with total gross savings (0.61), total net savings (0.62) and net fixed investment (0.72). For clarity, it should be noted total gross savings are not only household savings but also include company savings and government savings; net savings are total savings minus capital depreciation, and net fixed investment is gross fixed investment minus capital depreciation.
Such a difference between short and long term correlations regarding US economic growth is easily explained. It indicates that some structural components of US GDP are very powerful over the medium/long term but are simply overlaid in the short term by purely shorter term factors.
The decisive power of some of the key components of US GDP is therefore clear from both medium and long term trends. Already over a five-year period, which might be taken as the medium term, a correlation of the percentage of net saving and net fixed investment with US GDP growth is over 0.50. Over the longer term, the correlation of 0.72 over an eight-year period between US net fixed investment and US GDP growth is extremely high.
As the highest positive correlation is between net fixed investment, that is the annual net addition to the US capital stock and US GDP growth, it is this which will be analysed in detail.
Table 3
The correlation of US net fixed investment and GDP growth
As is well known, correlation is not the same as causality. The high correlation between medium/long term movements in the percentage of net fixed investment in US GDP and US GDP growth does not by itself prove that a high percentage of net fixed investment in GDP causes higher GDP, that high GDP growth causes a high percentage of net fixed investment in GDP, or that some other factor(s) causes both. From the point of view of Marxist economic theory, as is used in China, it would be argued that the high percentage of net fixed investment in GDP causes higher economic growth, but for present purposes it is unnecessary to establish this. But this extremely high correlation (0.72) between US net fixed investment and GDP growth simply means that without achieving a higher level of net fixed investment Trump cannot achieve higher GDP growth. This extremely high correlation is shown in Figure 8.
Figure 8
Determinants of US growth
These facts regarding the long-term determinants of US economic growth necessarily decisively affect Trump’s ability to raise the long-term US growth rate. They demonstrate it is a myth that this can be achieved merely by innovation, tax cuts etc. The very close correlation between US net fixed capital formation and US GDP growth dictates that Trump can only realistically succeed in substantially speeding up the US economy’s medium/long term growth if US net fixed investment is raised. Put in the simplest terms, Trump can only accelerate US medium/long growth if the level of US capital accumulation can be raised – as is entirely logical given the capitalist nature of the US economy.
However, fixed investment necessarily requires exactly equivalent savings to finance it. Therefore, the question of whether Trump can raise the US long term growth rate in turn depends upon whether his administration can find sources of finance (savings) to raise US net investment.
To finance such an increase in US net fixed investment two potential sources exist – US domestic savings and foreign savings/capital. To raise net fixed investment in the US Trump’s policies must therefore either or both:
  • Raise the US savings level,
  • Increase US use of foreign savings
These two policies necessarily have very different political effects both within the US and internationally. In particular, as will be seen, they determine the basic features of Trump’s foreign policy.
Possibilities to raise US savings
Analysing first the US domestic economy, as this is divided into only consumption and savings, raising the percentage of the US economy devoted to savings necessarily means reducing the percentage of consumption in US GDP. Considered abstractly there are certainly ways Trump could achieve this without squeezing the percentage of US working class consumption in GDP – i.e. without squeezing the proportion of the US economy going to those who elected him. For example:
  • Military expenditure from an economic viewpoint is consumption. Reducing military expenditure as a percentage of US GDP would therefore raise the US savings level without reducing the percentage of US GDP used for the living standards of the majority of the US population.
  • Not all consumption is by the average population. Reducing consumption on luxury items would cut the consumption of the rich but would raise the US savings level without reducing the percentage of the US economy devoted to the consumption of the great majority of the US population.
But such economic methods go against Trump’s political priorities. Trump has stated his intention to increase military expenditure while a tax cut primarily for the rich is his key budget priority. Increased military expenditure, tax cuts on high incomes, and a possible government infrastructure spending programme will increase the US budget deficit – cutting government saving and, other things remaining equal, therefore reducing the US savings level. Given such commitments by Trump the only practical way he could achieve an increase in the US savings level would be to lower the proportion of the US economy allocated to consumption by the mass of the population. That is, given his other policies, the only way Trump could raise the US savings level would be to lower the proportion of the US economy used for the consumption of those who elected him – the consequences of which would be extremely unpopular.
As Trump only became President due to the non-democratic character of the US electoral system, with Clinton defeating him by almost three million in the popular vote, a significant part of the US political establishment is against him, and as his opinion poll satisfaction ratings have fallen faster than any previous US president, launching a strong economic attack on his own electoral base would be a risky policy for Trump.
Therefore, once Trump’s political goals are taken into consideration, it is highly improbable that the US savings level will rise – on the contrary it is likely to fall. This is certainly the market judgement regarding increased government borrowing – the yield on US 10 Year Treasury bonds rose from 1.83% on the day before Trump’s election to 2.35% on 9 February.
Use of foreign savings
If the level of savings by the US itself is not raised this only leaves the option of the US financing investment from foreign savings. Indeed, such a shift to greater reliance on borrowing foreign capital was a great historical change in the international position of the US inaugurated by Reagan. This relates to the difference of policies between Trump on the one hand and Clinton/Obama on the other. Clinton/Obama considered that it was necessary to make concessions to allies in order to form a broad ‘anti-China alliance’ – for example in the TPP and in Obama’s close political friendship with Merkel. Trump, as will be seen, in contrast considers that other countries must more directly subordinate their economic interests to the US, so that the US can strengthen itself for confrontation with China. US reliance on foreign borrowing for financing its investment, however, necessarily means that US economic policy becomes more tightly connected its foreign policy.
Analysing these trends historically prior to 1980, as Figure 9 shows, the US was normally a net lender of capital abroad – i.e. a net supplier of capital to other countries. This meant the US stabilised the international economy – both generally and more specifically in that the US could loan/grant capital to other countries if required to alleviate their economic/political situation. This was a key element of US foreign policy during the 1950-70s. US foreign policy in that period was able to use the powerful combination of not only the ‘stick’ of military threats but also the ‘carrot’ of large scale economic aid.
But after 1980, as Figure 9 shows, the US became a net international borrower of capital – using other countries capital to finance its own investment. Such borrowing reached a peak of almost 6% of US GDP in 2006 on the eve of the international financial crisis. This meant that the US itself was using other countries capital instead of them using it for their own development. In foreign policy terms, the US overall no longer had the ‘carrot’ of large scale aid to the rest of the world but only the ‘stick’ of military force. US economic policy became a net destabilising factor internationally – this overall position naturally not excluding US support to certain privileged states (e.g. Israel, Egypt, Ukraine).
Reagan, who launched this turn to financing US investment by foreign capital, did not stop the slowing of the US economy – as was clear from Figure 1. But Reagan was effective in ensuring other countries financed US. In particular Japan provided the main international source of funds for the US throughout the Reagan period – as analysed below. The consequences of this huge extraction of funds from Japan by the US was one of the chief reasons for the two-decade long economic stagnation of Japan after the 1980s.
Figure 9
Financing of US investment from abroad
Turning to a more detailed examination of this US turn to financing its investment by foreign capital this is shown in Figure 10, which gives – data for the financing of US net capital creation, i.e. US investment not financed by US depreciation allowances on existing capital. This shows that from Reagan onwards the US became increasingly dependent on the use of foreign capital/savings for financing net investment. Indeed from 2002 to 2012, astonishingly, more US net capital formation was financed from abroad than was financed by the US own savings! After 2012 US net savings regained a positive level but:
  • The level of net US savings by 2015, the latest available full year data, remained low by historical standards – 3.3% of Gross National Income. The data for the first three quarters of 2016, the most recently available, shows this declining to an average of 2.8%.
  • A significant part of the improvement of US net saving was due to the reduction of military expenditure under Obama – US military expenditure fell from 4.7% of GDP in 2007 to 3.9% of GDP in 2016.
In summary, US net saving remains low while simultaneously Trump’s proposed economic policies are likely to reduce US savings. Given Trump’s policies, therefore, there is little scope to raise US net savings levels. Therefore, any moves by Trump to accelerate US GDP growth, which depends on raising fixed investment, require greater use of foreign savings. This in turn underlies Trump’s foreign policy choices.
Figure 10
Which countries can finance US investment
The real situation of the US economy therefore immediately poses the question of which countries could potentially finance Trump’s projected accelerated US growth? The number of countries able to do this is extremely small given the huge size of US foreign borrowing.
The IMF estimates, in October 2016’s World Economic Outlook, that the US balance of payments deficit in 2016 would be $469 billion – the current account balance of payments of any country is statistically equal to the foreign inflow of capital with the sign reversed. To show which countries could potentially finance such a scale of borrowing as by the US Figure 11 therefore shows the US balance of payment deficit together with the five countries/regions with the largest dollar balance of payments surpluses – these are, in descending order, Germany, China, Japan, South Korea, and Taiwan Province of China. The combined Middle East oil exporters are also shown as in the past these played a major role in financing the US.
Due to the size of the US foreign borrowing other countries have surpluses which are too small to play a decisive role in financing this and therefore analysis will concentrate on these major surplus countries. Once these are analysed the internal logic of Trump’s foreign policy positions falls clearly into place.
Figure 11
The international economic situation facing Trump
In carrying out a policy dependent on foreign borrowing Trump faces a situation much more complex than US presidents from Reagan to Obama due to the cumulative changes in the international economy brought about by the 2008 international financial crisis.
First, to demonstrate the simple situation for foreign borrowing faced by US presidents from Reagan to George W Bush, Figure 12 and Table 4 show the surpluses available from countries for financing of the US balance of payments deficit – and therefore for US foreign borrowing. For each country/region its cumulative balance of payments surplus/deficit during a presidency is shown in absolute terms in Table 4 and as percentage of the US balance of payments deficit in Table 4 and Figure 12. Thus, for example, during Reagan’s presidency the total US balance of payments deficit with all countries was $681 billion while Japan’s balance of payments with all countries was $366 billion – under Reagan Japan’s balance of payment surplus was equivalent to 54% of the US balance of payments deficit.
This data shows clearly that from Reagan to Clinton Japan was the decisive country for financing US international borrowing. Japan’s balance of payment’s surplus was equivalent to 54% of the US balance of payments deficit under Reagan, 127% under George H.W. Bush, and 60% under Clinton. Prior to George W Bush, therefore, Japan could be the essential international source of US finance – provided Japan followed economic policies satisfactory to the US merely adding resources from a few smaller other countries to Japan’s finance could satisfy US borrowing needs.
Figure 12
Table 4
Weakening of Japan’s economy
But while this situation of financing the US deficit from Reagan to Clinton was satisfactory for the US it was disastrous for Japan. In particular, after the 1987 Wall Street stock market crash the US demanded Japan follow ultra-low interest policies to allow finance to flow out of Japan into the US, thereby allowing the US to avoid the negative consequences of the stock market crash. The result within Japan of such ultra-low interest rates was the late 1980s Japan ‘bubble economy’ and the ensuing disastrous Japan financial crash beginning in 1990s. Japan’s economy has still not recovered over a quarter of a century later from this financial catastrophe, passing into more than two decades of near economic stagnation.
The huge transfer of resources from Japan to the US under Reagan/George Bush/Clinton therefore financed the US economy but devastated Japan’s. However, as Japan is a semi-colony of the US, Japan was simply forced to follow policies which damaged its own economy but aided the US.
However, the cumulative effect of the huge economic blows dealt to Japan was that by the beginning of the 21st century Japan alone became too weak to finance a large part of the US deficit. During George W Bush’s presidency, 2001-2008, the percentage of the US balance of payments deficit that could be financed by Japan’s surplus fell to only 24% – too little to finance US needs. However fortunately for the US, prior to the international financial crisis, weakening of Japan’s ability to meet US financing needs did not lead to severe problems for the US as George W Bush found two additional international sources of finance. These were:
  • Middle East oil exporters, whose balance of payment surplus was equivalent to 27% of the US balance of payments deficit due to the high oil price,
  • China – whose balance of payment surplus was equivalent to 24% of the US balance of payments deficit.
The ability of the US to tap these two new sources of finance, however, necessarily entailed foreign policy choices. The easy one of these for the US was with the Middle Eastern oil exporters. Many of these (Saudi Arabia, Kuwait, UAE etc) are essentially in the same position as Japan in being entirely subservient to the US and can therefore, if necessary, be instructed/pressured to finance US deficits.
China, however, is not in that situation – it is not a semi-colony of the US or subservient to it. But George W Bush, throughout most of his presidency, maintained reasonable foreign policy relations with China – not seeking to create great tensions. This created a mutually beneficial situation in which China was content to de facto aid financing the US balance of payment deficit in return for no major trade or political tensions existing with the US.
George W Bush’s presidency, by balancing three major sources of foreign financing for the US – Japan, the Middle East oil exporters, and China – therefore did not prior face great problems in meeting US foreign borrowing needs prior to the international financial crisis.
Trends after the international financial crisis
The consequences of the 2008 international financial crisis, however, cumulatively radically changed the previous relatively easy situation regarding potential sources of US international borrowing. This is shown in Figure 13 – in this figure the percentages at the end of the graph lines are for the country/region’s balance of payments surplus/deficit as a percentage of the US’s 2016 balance of payments deficit. The data is calculated from the IMF’s October 2016 World Economic Outlook.
Figure 13
17 02 10 Figure 13
As may be seen, Japan’s balance of payments surplus remains too small to play the same decisive role in financing US deficits as under Reagan/George Bush/Clinton – Japan’s surplus is only 38% of the US deficit. But the crucial new factor confronting Trump is the collapse in the surplus of the Middle East oil exporters due to the fall in the oil price.
As recently as 2013 the Middle East oil exporters balance of payments surplus was equivalent to 94% of the US balance of payments deficit. Therefore, Middle East Oil exporters by themselves could virtually finance US foreign borrowing needs. Two sources of finance wholly subordinate to the US, Japan and the Middle East, could potentially meet all US foreign borrowing needs.
But the oil price fall, produced by the cumulative slowdown in the global economy after the international financial crisis, devastated the international position of Middle East oil exporters. By 2016 the Middle East Oil exporters had moved from surplus into a large collective balance of payment deficit of $142 billion. Only a major increase in the oil price, due either to a strong upturn of the world economy or increased fossil fuel use, could restore the Middle East oil exporters balance of payments surpluses and therefore their ability to finance the US. Certainly, an increase in the oil price would aid the US fracking industry, and it is a deliberate policy of Trump to seek to increase the use of fossil fuels whatever the consequences for global climate change, but no such large increase in the oil price has yet occurred. Therefore, Middle East oil exporters are currently in no position to finance the US balance of payment deficit.
Germany and China
The result of all these international changes is that only two countries, Germany and China, now have very large balance of payments surpluses. On the latest IMF data in 2016:
  • Germany had a balance of payments surplus of $301 billion, equivalent to 64% of the US $469 billion deficit.
  • China had a balance of payments surplus of $271bn, equivalent to 58% of the US deficit
But neither China nor Germany is anything like as easy for the US to force to finance its requirements as are Japan or the Middle East oil exporters.
  • Germany is military dependent on the US, and seeks good relations with it, as vividly shown in close Obama-Merkel ties. But Germany is the centre of the EU whose total economy is larger than the US. Germany, therefore, has considerably greater leverage for negotiation with the US than does Japan or Middle East oil exporters.
  • China is not at all dependent on the US in the same way as Japan/Middle Eastern oil exporters. China certainly prefers friendly/stable relations with the US, and would be prepared to make sensible economic compromises in that framework. But China is not in any sense a US semi-colony. China can be negotiated with, but China cannot be ordered around, and has clear red lines on issues such as territorial integrity, the South China Sea etc.
In summary, both countries with very large scale balance of payments surpluses, Germany and China, to different degrees, are much harder for the US to extract resources from than Japan or the Middle Eastern oil exporters.
Outside of these, two areas exist where modest US gains for international financing can be made. South Korea and Taiwan Province of China are both now accumulating medium sized balance of payments surpluses – in 2016 South Korea’s was $102 billion and Taiwan Province of China’s was $78 billion. Neither South Korea nor the leadership of Taiwan Province can afford to disobey pressure from the US and therefore they can be forced to pay more to the US. Indeed, Trump’s rhetoric during his election campaign, denouncing US ‘allies’ for failing to pay sufficient for US military protection, was clearly aimed at extracting larger resources from Japan, South Korea and the leadership of Taiwan Province of China.
But useful as extra resources from South Korea and Taiwan Province would be for the US, even added to the resources from Japan these are insufficient for US financing requirements, The only countries with really big financial resources are Germany and China, and it is therefore relations with Germany and China which forms the economic core of the foreign policy choices facing Trump.
Analysing first Germany, Germany’s extremely large balance of payment surplus arise from its historically powerful economy, which continued during the post-World War II period, but this was reinforced after 1990 by two extremely powerful interrelated factors:
  • In 1990 Germany reunified, significantly increasing the size of its economy,
  • In 1992, largely in response to Germany reunification, the Treaty of Maastricht established the Euro.
In turn, the Euro produced two powerful competitive advantages for Germany:
  • The Euro prevented countries within the Eurozone (France, Italy, Spain etc) from carrying out competitive devaluations against Germany.
  • As other Eurozone countries were less internationally competitive than Germany, the Euro’s exchange rate was lower than would have been the old German Deutsche Mark – thereby aiding Germany’s competitiveness outside the Eurozone.
The result was that while German reunification created certain short term economic difficulties overall it greatly strengthened Germany’s economic position including in comparison to the US. This is demonstrated clearly in Figure 14 which shows Germany’s balance of payments surplus as a percentage of the US balance of payments deficit. As already noted by 2016 Germany’s balance of payments surplus reached $301 billion, or equivalent to 64% of the US deficit.
Figure 14
This relation with Germany is therefore the first key international economic/foreign policy issue for Trump. To serve the interests of Trump’s economic policies Germany must either, or both:
  • be persuaded voluntarily to pursue an economic policy which more aids the US, or,
  • be weakened so as to allow the US to become stronger relative to Germany so that the US can extract greater resources from Germany or other countries in the EU.
Most effective for the US in pursuing such a course would undoubtedly be a ‘carrot and stick’ approach to try to get Germany to change economic course is a way more favourable to the US. But, as already analysed, the US now has such large needs for financing from abroad that it has few significant economic carrots to offer Germany. Therefore, only the ‘stick’ is available – to attempt to intimidate Germany to change economic course and adopt policies which would make it weaker and the US stronger. This stick is precisely the threat to weaken Germany by encouraging other countries to leave the EU and/or Eurozone. This is why Trump has reversed the US’s historic policy of support for the EU and instead is attempt to weaken or disintegrate it. This explains the strong public attacks made on Germany by Trump and leading members of his administration.
A few other US allies fall in the same category as Germany, i.e. countries for which carrots are not available so the stick must be used. Australia, for example, does not have remotely the same financial resources as Germany but even a few billions squeezed out of it over a period of time could be useful for the US – therefore the Australian prime minister is insulted to make sure that he understands his subordinate place and he must be prepared to give greater resources to the US. Trump’s telephone rants against the Australian prime minister were not ‘irrational’ or ‘bizarre’ – they were part of a policy of attempting to intimidate ‘allies’ to transfer greater resources to the US.
However, among US allies it is above all Germany which has large economic resources but which is not fully under US economic control, unlike Japan or the Middle Eastern states. Therefore, Trump must seek to intimidate Germany. Equally for Germany maintenance of the Eurozone & EU against Trump’s attacks has become a decisive foreign policy and economic issue.
The political danger for the US in this clash is that opposition to Trump among Europe’s population will sharply increase – as well as in smaller countries such as Australia. Indeed, such a process is clearly already occurring.
In policy to China, Trump bringing into the core of his administration some of the hardest line anti-China US forces, symbolised by National Trade Council director Peter Navarro, author of Death by China, leaves no doubt as to the Trump administration’s hostility to China. This also easily explains such actions as the phone call with Tsai, the rapid commitment to deployment of THAAD, Trump’s initial post-election threats to overturn the One China policy etc.
But Trump simultaneously faces a dilemma. Australia’s prime minister can be insulted, South Korea can be ordered around militarily, Japan is a semi-colony of the US etc. But Germany and China are two of the world’s strongest economies. While Germany relies on the US militarily, giving Trump leverage, Germany’s position within the very large EU/Eurozone area means Germany cannot be seriously economically intimidated by the US while China cannot be ordered around by the US.
It would, therefore, be a considerable risk for the US to launch simultaneously an economic/political struggle against both Germany and China – two of the world’s most powerful countries. As Trump regards China as a more powerful rival to the US than Germany, a less risky strategy would be to delay a full-scale confrontation with China until after (hopefully) Germany had been forced into line with US demands. Such a success by Trump would certainly mean an economic weakening of Germany, and would therefore be expected to meet resistance in that country, but in the 1990s Japan literally wrecked its own economy to meet US demands. Perhaps Germany can also therefore be intimidated into carrying out policies which are against its own interests but in the interests of the US?
Therefore, whether Trump should proceed immediately to confront China, or whether his administration should adopt a more delaying tactic to China until it has (hopefully) intimidated Germany into submission is therefore a key tactical issue for Trump and undoubtedly explains some of the contradictory signals coming from his administration. The decision to finally declare support for the One China policy in Trump’s phone call with Xi Jinping, therefore, certainly reflects China’s own strength, and its refusal to compromise on this issue, but also involves calculations by the Trump administration that a simultaneous confrontation with Germany and China may be too risky.
This international situation therefore undoubtedly has consequences for China. China has strong ties with South East Asia. China has built very good relations with Africa. China is strengthening relations with Latin America. The One Belt, One Road (OBOR) initiative can further strengthen China’s relations with Central Asia, Russia, and countries such as Iran. But Trump’s new attack on Germany means that Europe, particularly Germany, has now become a key area of direct concern for China.
Germany will attempt to defend its own economic interests for its own sake not China’s, but nevertheless Germany’s defence of its own interests, and of the EU/Eurozone against Trump’s attacks, is directly in China’s interests.
To summarise, this article shows that actions by Trump, both those directly related to China and those which are sometimes portrayed as ‘bizarre’, such as offensive behaviour to US allies, are connected once the real economic choices confronting Trump are understood. The chief parameters are:
  • It is a myth that the US economy is undergoing rapid innovation driven growth. The US economy has been slowing for over half a century and in 2016 its economic growth was even lower than other major economic centres. While US growth in 2016 was so slow it is likely that in 2017 there will be some acceleration purely for statistical reasons, this by itself is purely short term and would not represent any long term strengthening of US growth. Indeed, the reality is it was popular discontent created by slow US growth which explains why Trump was elected.
  • While various measures could be taken which would increase US growth in purely the short term (increase in overall demand, increase in consumption etc) to accelerate US growth over the medium/long term Trump would have to increase the level of US net investment. Without such an increase in the level of capital accumulation claims by Trump he will accelerate the US rate of growth are merely ‘hot air’.
  • Trump’s policies, such as increased military expenditure, tax cuts for the rich, combined with the political risks to his support that would be involved if he attempted to cut the share of working class consumption in US GDP, means that it is unlikely the US savings rate will rise. Therefore, an increase in the investment level in the US could not be financed from US resources and would have to be financed from abroad.
  • Unlike US Presidents from Reagan to Obama, who could fundamentally finance the needs of US investment from countries entirely subservient to the US (Japan, Middle East oil exporters) Trump can only extract moderate resources from countries similarly subservient to the US (Japan, South Korea, Taiwan Province of China) while the Middle East oil exporters are no long able to provide major resources to fund the US. Smaller US allies, such as Australia, can be intimidated to provide extra resources for the US but their economies are too small to supply resources to the US on the scale it requires. The only two economies with sufficiently large resources to meet US international financing needs are Germany and China.
  • As the US has no economic ‘carrots’ to offer Germany therefore the US must use ‘sticks’ in order to attempt to intimidate Germany to pursue policies more favourable to the US even at the expense of Germany weakening its own economy. This ‘stick’ is the attempt to break up the Eurozone/EU.
  • The presence of hardened anti-China forces in the core of the Trump administration makes clear its anti-China orientation. However, it would be a risky policy for Trump to attempt simultaneously to have a severe confrontation with both Germany and China. Therefore, the Trump administration has to balance those who favour an immediate confrontation with China with those who believe the US must first to force Germany into line before confronting China. The result is some hesitations and confusions in Trump policy. But for the present the latter group appears dominant – as signalled in Trump’s announcement of support for One China. However, this does not mean that the anti-China wishes of the Trump administration have been ended, merely that it believes it must first secure other goals before moving to full scale confrontation with China – notably Germany must be forced into giving greater support to the US even if this weakens Germany’s own economic position.
  • This international situation means for China that in addition to its existing good relations with South East Asia, Africa, Latin America, and Russia and Central Asia and the Middle East in OBOR, China’s relations with Europe, in particular Germany, will acquire a greater significance. While Germany will undertake defence of its economy, and therefore of the EU/Eurozone, for its own interests nevertheless these interests objectively coincide with those of China.
As always therefore policy must be based on reality not misunderstandings. Trump is not ‘bizarre’ or ‘irrational’ – no one who is would achieve such a powerful position as US President. His actions only appear ‘irrational’ if the real economic situation facing the US, and the way this determines US foreign policy, is not understood. Once the real situation of the US is analysed the integration of Trump’s foreign policy with his economic goals is entirely clear.
It follows that an accurate understanding of Trump, and the policy to take to him, must break with myths regarding the US and instead ‘seek truth from facts.’
* * *
This article was originally published in Chinese on 22 February 2017 at

Fall in wages has much further to run

.181ZFall in wages has much further to run By Tom O’Leary

The latest consumer price inflation (CPI) data showed a sharp acceleration in prices increases. This will have a negative effect on real wages and real incomes, once inflation is taken into account. Most workers are facing flat wages and the poor, who rely on social welfare and are seeing freezes or cuts, will all be poorer as a result. Even worse, economic trends suggest that this problem will deepen.

Chart 1 below shows the medium-term trend in real wages. It uses single month data rather than the more customary rolling 3-month average data highlighted by the Office for National Statistics (ONS) to smooth out monthly fluctuations. However, the single month data can be superior in identifying key turning-points. As the chart shows, it seems likely we have entered a key turning-point, with a sharp downturn.

Chart 1. Real Average Weekly Earnings, January 2008 to January 2017

This is even more apparent in a ‘close-up’ of the same data focusing in the more recent period since the beginning of 2016 in Chart 2. This shows that real average weekly earnings fell by 0.2% in January compared to a year ago.

Chart 2. Real Average Weekly Earnings, January 2016 to January 2017

In the immediate period ahead the fall in real average weekly earnings is set to become more pronounced. In February, the acceleration in inflation saw the CPI jump from 1.8% from a year ago to 2.3%. There was zero inflation as recently as 18 months ago. It is extremely unlikely that wages will have kept pace with the recent jump in prices. So real wages are set to fall more sharply in the next few months.

Over the medium-term, these negative trends are likely to worsen. The complacency about inflation following the slump in the exchange rate value of the pound is misplaced. Devaluation effects take their time to work their way through the economy.

The pound slumped by 31% in the period from end 2008 to early 2009. But CPI inflation only peaked at 5.2% around 2½ years later in later 2011. This time around the devaluation is a little more than half the previous fall, which should limit the scope of price rises. But there is no reason to believe the period of rising prices will not be similarly prolonged.

This means that the fall in real incomes will also be similarly prolonged. The real wage slump will be deep and long.

Wages are falling

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Workers and the poor hammered as Hammond gets UK ‘match-fit’ for Brexit

.392ZWorkers and the poor hammered as Hammond gets UK ‘match-fit’ for Brexit By Tom O’Leary

The economic policy outlined by Chancellor Philip Hammond in the Budget is so extreme that it represents a new fierce attack on living standards for the overwhelming majority. This is despite the fact that there is in total a modest giveaway, or fiscal loosening. This is because it is based on narrow class interests, a very large giveaway for big business and an almost equal series of taxes on workers and cuts in social security. 

The character of this Tory attack, and the narrowness of the beneficiaries of the Budget opens a wide political and then economic opportunity for Labour. As a result, it is extremely important to be clear on the fundamental economics behind the Budget. 

Hammond’s gamble

Hammond has effectively signalled a rise in taxes (National Insurance Contributions, NICs) on the self-employed, to widespread criticism. The self-employed now includes a wide array of social categories, from extremely well-paid professionals, through to what are actually small businesses, to a surge in fake self-employment, where workers are forced off payrolls so that employers can avoid employers’ NICs, statutory sick and maternity pay and other protections. Numerically, it is the latter category which is the largest.

According to the Resolution Foundation, the median average income of the self-employed will rise to £13,200 next year. If so, it will still be less than half the average wage. The Foundation’s support for the change in NICs is entirely misplaced. Those on average wages will be at least £200 a year worse off. Any change to workers’ NICs should focus entirely on the very high paid, or on employers’ NICs.

The reason for this political gamble should be clear. Hammond expects much more fake self-employment over the next period in response to Brexit and his own response of ‘making the UK competitive’. This strategy means turning Britain into a low-tax, low-investment, non-union and low-pay economy and Hammond cannot afford to lose the tax revenues from this growing army of ‘self-employed’. This gamble illustrates the high stakes for the labour movement, for the whole economy and all political actors over the next period.

McDonnell’s correct framework

Hammond and this Tory Government share the main tenets of the reactionary and illogical framework of their predecessors. Hammond aims for a zero public sector deficit. As Government expenditure is comprised of two quite separate categories, public current spending and public investment, so aiming for a balance on the entire budget effectively means refusing to borrow for investment. For a Government fond of individual analogies, it is equivalent to refusing to borrow for a mortgage to buy a house because you have confused it with your credit card bill. Perhaps a closer analogy would be a business that refuses to borrow to grow. 

Current Government spending includes all such items as the NHS, the police, all public services, including public sector pay and pensions, and so on. If there is a deficit on current spending it can be brought into balance not by cuts but either by increasing tax or by increasing economic activity which generates tax revenue. As only the latter can sustainable be repeated, the way to raise revenue is by increasing investment. Permanent current budget deficits mean borrowing for consumption when it could be used for investment. As borrowing for consumption cannot sustain growth it simply leads to greater government debt and to a bloated class of ‘investors’, and a finance sector that subsists on the interest payments from that Government borrowing.

By contrast, government investment includes every type of public sector investment, in rail, roads, housing, infrastructure, broadband, and so on. Arguably, spending on education is more appropriate to this category, although not officially classified as such. Investing in these raises output over the long run.

John McDonnell has correctly elaborated a fiscal framework which makes the distinction between current spending balances and borrowing for investment. This is completely different to the Tories, who pursue a deeply reactionary policy of transferring incomes and wealth from workers to business and from poor to rich. This is cloaked in the economic illiteracy of balanced budgets, fixing roofs and gas in the tank.

Labour’s policy is to balance the current spending budget over the business cycle and to increase borrowing for investment. It is based on economic logic not reactionary sound bites, so it has very few serious critics, even from the economic mainstream. This is because the greater the borrowing for, and returns from, public investment, the greater the funds that can subsequently be directed to public services.

The maintenance of the current leadership of the Labour Party is also the only hope of ending austerity, so these questions are of the utmost seriousness.

OBR forecasts surpluses 

The Office for Budget Responsibility (OBR) has a poor record on forecasting GDP growth and its components and their effect on the fiscal aggregates. So its forecasts must be treated with caution. However, the startling fact is that the OBR is forecasting a surplus on the current budget well before the end of this Parliament. 

In the Tory framework, this is of no account because they aim for a balance on the entire budget, including investment. This has nothing to do with fiscal sustainability. Falling investment (and total investment fell in 2016) increases instability, a propensity to crisis and fiscal receipts based on other factors such as unsustainable consumer spending.

The purpose of the current Tory plan and its predecessors should be clear from the fact that, as taxes have risen for workers and the poor, there have been a series of deep tax cuts for businesses and the rich. The Corporation Tax rate was 28% in 2010 and is set to fall to 17%. This is precisely done to transfer incomes to capital. The claim is that this boosts ‘entrepreneurship’ and business investment. The entrepreneurship is the surge in fake self-employment and as noted business investment fell in 2016.

But a surplus on the current budget matters a great deal in the Labour framework, even if it is only a forecast. The full table from the OBR budget document Economic and Fiscal Outlook is reproduced below. The balance on the public sector current spending is highlighted both in terms of proportion of GDP and in cash terms. 

According to the OBR the current budget will be in surplus in the Financial Year prior to the next legally mandated election in 2020. In GDP terms the surplus will by then be 1% of GDP or £21.3 billion. In the following two years it will be 1.3% and 1.6% of GDP respectively, or £29.6 billion and £37.1 billion respectively.

Table1. OBR Fiscal Forecasts Spring Budget 2017

For Labour this surplus would mean that there will be significant additional funds to immediately alleviate and begin to reverse austerity, in addition to its own planned borrowing for investment. Realistically, even with an emergency Budget that would surely be necessary early in the new Parliament in 2020, the following year is when a Labour Government could have a much more significant impact on the direction of the economy and the allocation of public expenditure. In those years the current budget surpluses are forecast to be in the order of £30 billion to £37 billion. 

Calculating the effect of policy

The McDonnell framework represents a break from dominant Left thinking in the Western economies and elsewhere, a ‘keynesianism’ which has nothing to do with Keynes. This argues that increased Government spending will increase economic activity on a sustainable basis. In this case by ‘spending’ is meant current spending. Government current spending has risen by £90 billion in nominal terms under the Tories without ever supporting a sustainable recovery. In fact, it is a marker of economic failure, as cuts have simply led to depressed activity, more poverty and upward pressure on tax credits and social security spending. Taxing one average paid worker to subsidise the wages of one poorly paid worker does not lead to growth.

Instead, investment leads growth. It is the most important factor in determining growth after the division of labour/socialisation of production. The effect of investment on raising output is measured as the Incremental Capital Output Ratio (ICOR), which simply measures the ratio of changes in the capital stock and changes in the level of output. The Office for National Statistics’ current estimate of the ICOR is 4. This means that that the capital stock must increase by £4 billion in order to increase output by £1 billion. The return on investment takes place over several following years.

Chart1. ONS Capital Stock Output Ratio

Assuming no change, this means that every £4 billion of increased public sector net investment will yield an additional £1 billion in output, as well a large increase in tax revenues (and reduction in welfare outlays) based on that increase in output. If current ratios are unaltered, then a £4 billion increase in investment will yield a £1 billion increase in GDP and (using UK Treasury analysis) a £750 million improvement in Government finances (comprised of rising revenues and, in a smaller degree lower outlays). This is an annual return on investment directly to the Government of 18.75% per annum for the entire life of the investment. It is about 10 times greater than the Government’s average cost of borrowing. This underpins the mathematical logic of Government borrowing to invest. 

Brexit effect

However, current ratios are altered. Removing the UK economy from its largest market and replacing that with an unknown series of tariffs and non-tariff barriers will have a wholly detrimental effect. 

Yet this will not even primarily be felt in terms of trade, but investment. Investment fell in 2016, which is highly unusual either outside of recessions or as a precursor to them. It was clearly a Brexit effect. Removing the UK from the EU Single Market will depress the level of investment, both domestic and from overseas. It will also reduce the efficiency of that investment, as the UK will be required to pay more for the world’s most advanced capital goods and may even have less access to these in areas such as aerospace, biotech, renewable energy production and storage and so on. 

As the OBR has little or no firm information to go on, its lower GDP forecasts after 2017 do not reflect likely Brexit outcomes. They are simply based on an analysis of current trends. Therefore the forecast level of GDP and the improvement in Government finances is likely to be significantly worse. 

Labour Politics 

If the Brexit timetable is accurate, it is planned that the UK will be outside the EU Single Market before the next election. If the OBR is proven right, the current budget will already be in surplus before then too. 

But Labour does not have to wait until that time before setting out its alternative. The maximisation of economic growth depends on the accumulation of productive capital through investment. But to be politically sustainable, there must also be easily identifiable improvements in the living standards of the population both through its real incomes and its public services. Therefore, a political judgement is required in the allocation of resources. 

Labour can announce now that it would spend, say, £20 billion of the current budget surplus the OBR has forecast in beginning to reverse austerity in key areas such as the NHS, social care, public sector pay and childcare. That can be announced now as a solid commitment for its first year in office, Financial Year 2020/21. A sustained programme of publicity can be used to illustrate how the NHS will improve in each area, or how public sector pay can rise in the first year, and so on. 

The remaining £10 billion, of the £30 billion, could be added to Labour’s commitments on investment. Here, it seems that the pledge is to increase public sector investment by a further £25 billion in each year. This could now rise to £35 billion to improve rail, build homes, invest in renewable energy and so on. 

This means Labour can promise both to increase current spending, which is what will determine votes and support, as well as increasing investment which will actually sustain recovery. From that, further Government funds can be then allocated to both spending and investment in proportion, based on the 18%-plus returns from investment. In this framework the returns on investment from the previous year can be added to government investment and government consumption. 

Labour must also answer a key question that will be posed What if the OBR is wrong, or significantly lowers its forecasts to reflect the deal on exiting the EU as it becomes more apparent? From the point of view of people who believe that Brexit leads to prosperity this is not a major risk. But, if that risk materialises, then Labour must have a plan for that eventuality, and an answer now, otherwise it has no funding basis for its pledges. 

The current Labour policy has a ‘knock-out’, where the fiscal rules can be suspended in a crisis, with interest rates at zero as a trigger-point. If it is going to use the OBR forecasts as the basis for pledges, and the forecasts could change very adversely once details of the Brexit terms are known, it needs another ‘knock-out’. 

A Brexit/OBR knock-out would maintain the pledges to increase investment and begin to reverse austerity. But, if the forecasts are much worse or the emerging Brexit deal is clearly very adverse, Labour can pledge to meet these by emergency increased borrowing. Labour would also politically need to oppose the Brexit effects by opposing the Brexit deal itself. 


The Hammond Budget makes no pretence to deficit reduction. It is simply a transfer of incomes from poor to rich and from workers to business. The attack on the ‘self-employed’, who are mainly now casualised workers, is a high-risk strategy, which reflects the expected growth in casualisation in the post-Brexit economy. 

This policy is cloaked with a reactionary determination to balance the entire budget, including even investment. John McDonnell’s framework is borrowing only for investment and balancing the current budget, which is entirely correct. As the OBR is forecasting large surpluses on the current budget balance, these forecast surpluses can be used now to illustrate the benefits of the Labour position of beginning to reverse austerity and increase investment. This is a vote-winning and sustainable combination. 

But the OBR could be wrong, especially as it cannot now take into account the effect of any Brexit terms deal. Labour could adopt an OBR/Brexit ‘knock-out’ on its spending and borrowing plans. If the forecast or the reality deteriorates sharply it would not change those plans but would temporarily increase borrowing to cover both. This would also require politically opposing any Brexit deal which led to such a negative outcome.