Socialist Economic Bulletin

If this is a recovery, why are we getting poorer?By Michael Burke

At a certain point this year GDP will finally recover its pre-recession peak, 6 years or more after the recession. This will be the longest British slump in living memory and the most severe downturn since the Great Depression.

The government and supporters of austerity are keen to emphasise the fact that the economy is growing. The latest piece of supportive commentary comes from the IMF, which is projecting 2.9% GDP growth for the British economy in 2014, the fastest growth projected for any G7 economy.

Politically this is entirely understandable. Yet the problem remains that support for the Tory Party continues to flat-line at around the low 30s as a per cent of the opinion polls. Economically this reflects two different forces at work in the economy.

The economy is expanding at a very moderate pace, especially in light of the depth of its previous slump. But the majority of the population are continuing to experience a decline in living standards. Logically, it follows that as total output is growing, a minority must be experiencing a rise in living standards.

This is exactly what is happening currently. This widespread disaffection with or hostility to the government is fuelled by the general decline in living standards. The minority bedrock of support for the Tory party currently is cemented by a rise in living standards for a certain proportion of the population.

The chart below (Figure 1) shows the level of per capita GDP and Real Adjusted Household Disposable Income (RAHDI). RAHDI takes into account all the income of households, interest, rent, and social security as well as wages, after inflation and direct taxes are deducted. It is adjusted for the change (reduction) in public services.

While GDP per person peaked at just under £25,500 in 2007, RAHDI continued to grow and even in 2010 it was still above the 2007 level. That is, wages and benefits grew a little in the first part of the recession and taxes did not increase. The effect of the austerity policy is to push down both wages and social security entitlements so RAHDI fell continuously from 2010 onwards and it fell again in 2013.

Yet the ONS also reports that real household wealth has risen by £1,560 billion between 2007 and 2012, reflecting the rise in financial assets such as stock markets as well as the rise in home prices. This is an increase in financial wealth equivalent to one year’s GDP in Britain in the space of just 5 years. A further rise seems certain to have taken place in 2013.

This increase in financial wealth (shown in Figure 2 below) has occurred at the same time as living standards for the majority have fallen, as measured by RAHDI. The dual effect is a function of government policy in which VAT has risen, public services have been cut and public sector pay and pensions been cut in real terms, while the corporation tax rate has fallen from 28% to 20% and there are innumerable schemes to subsidise consumption, most notoriously ‘Help to Buy’ which has fuelled a further overheating of house prices. Only owners of two or more homes have any direct interest in rising house prices.

Figure 2. Real Household Wealth (2010 prices), 1997 – 2012 (Source: ONS)

While this situation has highly negative and potentially dangerous economic consequences, the current dynamic in the British economy does serve to illustrate an important point about economic theory, with immediate and significant consequences for the incoming Labour government.

There is no such thing as ‘consumption-led economic growth’. Economic growth is a function of the amount and quality of the capital and labour deployed, as well as some contribution from technological change (‘Total Factor Productivity’). As consumption is not an input to growth, it cannot ‘lead’ it.

Most of the population is currently experiencing falling living standards while GDP is edging higher. This is because the main component of growth is consumption. This is shown in Figure 3 below.

In the latest data for the 4^th quarter of 2013 GDP is still just over £22bn below its pre-recession peak. The only major expenditure component of GDP which is still significantly lower is investment (Gross Fixed Capital Formation). Investment is nearly £51bn lower. By contrast, government spending and net exports are both higher than when the recession began and household consumption is just under £7bn below the pre-recession peak. Consumption, including consumption by government has recovered. Household consumption by itself will recover at some point in 2014.

This also explains why the current dynamic in the economy cannot be sustained. The accumulation of debts to finance consumption cannot continue indefinitely. The debt will be regarded as unsustainable either by the borrower (currently households) or by the lender (banks or their credit card companies).

At the same time, the continued shortfall in investment means the capacity of the economy is barely growing at all. Unless the capacity of the economy increases, that is the productive forces of the economy are developed, then there can be no increase in living standards.

In Figure 4 below the contribution of private non-financial firms (PNFCs) to the development of the economy’s productive capacity is shown. The red line shows their level of investment (GFCF). The blue line shows their level of capital consumption, which is used up in the production process, through consumption of machinery or equipment, wear and tear and dilapidation. The net contribution is the difference between these two, which could also be regarded as the Net Fixed Capital Formation (NFCF), after taking account of capital consumption.

So, in nominal terms the PNFCs net addition to productive capacity was just over £29bn in 1997. On this measure, Net Fixed Capital Formation rose to just under £43bn in 2008. It fell by more than half to £21bn in 2009. But it has continued to decline and fell to a new low of just £14.7bn in 2013. This is less than 1% of GDP.

The ideology that private sector will deliver prosperity is evidently false. The policy of government ‘getting out of the way’ of the private sector is manifestly a failure. Cutting corporate taxes and attempting to finance them by government spending cuts (or increased VAT) has simply led to a debt-fuelled upturn and a net decrease in firms’ investment. The increased reliance on consumption and decreasing role of investment is making most of the population poorer.

To prevent absolute declines in GDP in the near future, net investment (NFCF) must rise. That requires an outright increase in investment. Yet the private sector is clearly unwilling to do this. Therefore only the state can play the leading role in providing the necessary investment that can alone lead to prosperity.

Investment not TridentBy Michael Burke

The Campaign for Nuclear Disarmament has produced a new pamphlet, People Not Trident. It argues against the colossal waste of funding needed to a replace the Trident nuclear weapons system. It makes the case that the £100bn saved could be used to invest in a whole host of sectors, housing, education, international development, the switch to renewable energy, and so on.

The full pamphlet can be downloaded here (pdf).

Almost no area of government spending has been spared from the axe of austerity. Housing, health, education and social security payments have all been cut. Pay and pensions, public sector jobs, even support for people with disabilities have all been hit.

Yet the one important exception to this is the government’s commitment to the replacement of the Trident nuclear weapons system. Yet the total cost of replacing Trident amounts to £100 billion.

To put this in context, £100bn on replacing Trident is approximately equivalent to a full year’s public sector deficit, on current performance.

In the most recent Financial Year the underlying deficit[i] was £110bn. Yet the proposal is to spend £100bn on replacing Trident – almost exactly equivalent to a single year’s budget deficit. This is despite the fact that the stated aim of the Coalition has been to reduce that deficit.

A wide variety of organisations, campaign groups and activists (including the current author) have contributed to the pamphlet to show what could be done with all, or even a fraction of the £100bn that would be wasted on replacing a weapons system of mass destruction,.

Crucially, investment in all these areas has a beneficial spin-off on output in other sectors, on prosperity and on jobs. In the jargon these are known as the ‘multiplier effects’. By contrast, Trident and its possible successor has none of these effects. The economic effect of nuclear weapons systems is a fraction of the initial outlay. This is because immensely high-tech equipment such as this can only be used in the event of global nuclear conflagration. It cannot be used to improve economic activity.

Only a government which wanted to intimidate the rest of the world would waste £100bn in replacing an unaffordable nuclear weapons system. A government committed primarily to the well-being of its citizens would not even consider it.

---

[i] These data are for underlying deficit. In line with Office for National Accounts practice they exclude two important accounting items; changes to the treatment of the Royal Mail Pension Fund and the impact of the purchase of UK government securities by the Bank of England

.702ZLabour will inherit a crisis not a recoveryBy Michael Burke

For once it seems that the widespread reaction to a Budget was correct. Chancellors usually bury bad news in the detail of a Budget released long after their speech. However the dire electoral position of the Tories means that the main changes were announced with a flourish. The personal income tax rate threshold was raised to £10,500 a year, which the Institute for Public Policy Research has shown mainly benefits the highest earners. In addition, the annual amount of tax-free savings was boosted to £15,000 a year, which is actually close to the average (mean) disposable income in Britain. This was a Budget to shore up the Tory vote among higher earners and savers and staunch the defections to UKIP.

Osborne did nothing to address the economic crisis. This is not because the crisis is over or a self-sustaining recovery is underway. That is a dangerous delusion. Even the forecasts from Office for Budget Responsibility (OBR), which has proved to be significantly over-optimistic on growth since it was established, project only an annual average growth rate of approximately 2.5% over the next 5 years.

Embedding poverty

SEB has previously shown that a huge gap has accumulated between the current level of economic activity and the previous trend rate of growth. Even if 2.5% GDP growth materialises that gap will not close. At best it will not widen further. The poverty and misery arising from the current crisis will become embedded in the economy.

To arrive at its forecasts the OBR has made the following assumptions:-

• Wages will only rise half as fast as GDP growth
• Average real wages (after inflation) will not rise at all, yet
• Non-wage incomes (salaries, interest and rent) will rise sharply
• House prices will rise by over 30%, and
• Stock markets will rise by 27%

Even under the OBR’s forecasts it is clear that all the benefits of projected growth are claimed by high earners, the rich and the owners of capital. Even if all these gains were spent by the rich (which is never the case) this would be insufficient to power the growth the OBR is projecting. The main contribution to growth envisaged by the OBR over the next period is a rise in household debt. This is shown in the chart below (Chart 3.33 in OBR data).

Reversing the post-crash trend, the OBR assumes that households will increase their debt on average from 142% of their incomes currently to 166% by 2019, close to levels preceding the crash. Under these officially-sanctioned forecasts most households will see no rise in incomes, only a rise in debt. They will be worse off in 5 years time than they are now.

It is not necessary to enumerate all the ways in which this forecast might be proven wrong, if for example there are increases in interest rates or inflation picks up because the currency falls, and so on. The key point to note is that for most people the crisis will be an enduring one, at least a decade long.

Causes unaddressed

The crisis will continue because its root cause has not been addressed. Currently the fall in investment is approximately three times as large as the entire fall in GDP since the begnning of 2008. Investment has fallen by £58bn and GDP is still £21bn below its previous peak in the 1^st quarter of 2008.

In fact, while GDP inches ahead in the longest-ever recession, investment (Gross Fixed Capital Formation) continues to decline. In addition, as the statisticians refine their understanding the most accurate position, the data for investment has mainly been revised lower. This is shown in the chart below (Chart in the OBR data).

Total investment in Britain is one of the lowest of all the industrialised economies over a prolonged period (as shown in Fig.3 below, Chart G in OBR data). Business investment is currently equivalent to just 8% of GDP, also one of the lowest. Yet the OBR is effectively forecasting that the problem will disappear.

The OBR forecasts that business investment will rise by 50% in the course of the next 5 years- which has never happened in Britain outside of war. This means investment will be growing approximately 5 times as fast as the rest of the economy- even though, according to the OBR, there will be a tremendous profits squeeze, with profits falling from 33% of GDP in 2012 to 27% in 2018. These are outlandish forecasts. Only a policy to control and direct investment could produce such results.

Meanwhile, minimal wage growth, rising household debt and the investment slump are all related. It is impossible to create new, high-skilled high pay jobs without investment. The government can boast that one million jobs have been created in the last two years. But less than half of these have been for full-time employees and many of those are on zero hours or minimum wages. In order to finance any increase in spending at all, workers whose real wages are falling are obliged to drawn down savings or take on new debt.

This is the mess that the Tories will bequeath to Labour. Only a thorough break from the policies of austerity can solve it.

.260ZThat Tory recovery in perspectiveBy Michael Burke

This week George Osborne will announce his latest Budget. The specific measures in this Budget were not published at the time of writing. But it is a fairly safe assumption that he will boast that the economy is on track, and that there is a recovery. This is simply an exercise in redefinition.

The economy grew by just 1.9% in 2013. This is following a period of historically slow growth, the deepest recession in living memory and the weakest recovery on record. Yet many commentators and not just explicit supporters of austerity seem to believe this means we are automatically on track for a genuine recovery with all that means for growing jobs, rising real pay and improving living standards.

Unfortunately both the celebrations and the optimism are misplaced. Of course this does not mean that the economy will never grow again. It is even possible that growth will be a little better in 2014 than it was in 2013. But after most recessions the economic rebound is usually fairly strong. After a very steep recession the recovery should be very strong. That is not the case currently.

Annual growth in GDP of just 1.9% in 2013 is the best since 2007. But that is really a measure of the crisis of the economy and how badly policy has failed.

Prior to the current crisis, in the 20 years to 2008 the average annual growth rate of GDP was a little under 3%. In the same 20 year period from 1988 to 2008 only 3 years have seen worse growth for the British economy than last year’s 1.9% and all of those were associated with the recession under the Tories in the early 1990s (the ERM crisis).

So, a growth rate associated in the past with crisis is now redefined as recovery and heralded as success. Crisis is redefined as success; stagnation is now growth.

Current growth rates also remain well below the previous trend. That means the gap between where we are and where could or should have been is actually getting wider. It would take many years of sustained growth above that 3% rate in order to close the gap between the actual level of GDP and its previous trend. No major forecasting body suggests anything like that is going to happen over the next few years. The chart below shows the trend growth of Britain’s GDP in from 1988 to 2008.

This growing gap matters because it effectively means living standards cannot significantly recover without altering the current structure of the economy. Instead, the misery of the economic slump will become embedded as a long-term feature of the economy.

In all probability living standards for most people will not rise for several years and for many they will fall further unless growth accelerates significantly. Austerity policies have the effect of ensuring that the lion’s share of any recovery goes to a minority of the population.

Most Budget coverage is a deluge of minutiae about minor changes to the tax system. But the most important fact is this: talk of recovery is entirely misplaced. For the overwhelming majority of the population austerity policies mean that living standards will continue to decline.

.447ZThe People’s Assembly National Recall Conference 15 March 2014

Emmanuel Centre, London SW1P 3DW
Register for the conference: http://padelegateconf.eventbrite.co.uk/
Conference Pack: Click here

Motions Document: Click here
The final motions document will be available on the day. If we’ve missed anything out please emailconference@thepeoplesassembly.org.uk

---

Conference Highlights include:

National Union of Teachers General Secretary, Christine Blower, will be discussing how we make the teachers’ strikes a success and how we bring that energy into the demonstration on 21 June.
Kirstine Carbutt, a leading Unison member in Doncaster who has just organised a seven day strike against Care UK, will be relaying her experiences on how to organise successful workplace action.
PCS general secretary Mark Serwotka and the People’s Charter will be proposing an alternative to austerity.

Francesca Martinez will be closing the conference talking about why we need a mass movement.
Steve Turner, Unite the Union Assistant General Secretary, will report from Unite’s community membership strategy and will be chairing part of the day.

Natalie Bennett, leader of the Green Party, will be addressing the conference about how we bring climate change issues into the anti-austerity movement.

Dr Jackie Davis will propose plans to campaign against the sell off of our NHS.

Lindsey German from the Stop the War Coalition will talk about why the anti-war campaigns need to remain high on the agenda.

And trade unionists, community activists, students and pensioners will be debating the next steps in the campaign against austerity.

Register: https://padelegateconf.eventbrite.co.uk
As well as being the democratic body of the People’s Assembly, we want to use the conference as a way to strengthen and grow the organisation. So please do get in touch with trade union branches, campaigns and community groups locally and ask them to send delegates. We will be sending out a formal invitation and model motion which can be adapted to send to local organisations in a following email over the next few days.

We have set the delegate entitlement for local People’s Assembly groups quite high to ensure newer activists are able to attend the conference.

Venue: Emmanuel Centre, Marsham Street, London, SW1P 3DW
Nearest tubes: Westminster, St. James’ Park, Pimlico
Buses: 88, 87, 3, 11, 24, 211, 148, 507, 53, 453, 12, 159

See the Emmanuel Centre website for detailed maps: http://www.emmanuelcentre.com/

How to book your delegates places:
Book your places through our eventbrite page for the People’s Assembly Delegates Conference now: http://padelegateconf.eventbrite.co.uk

Should you require another format please let us know.
Please do get in touch if you have any questions. We have set up a special email address for all communication to do with this event: conference@thepeoplesassembly.org.uk

Google map and directions
CONTACT Clare · conference@thepeoplesassembly.org.uk · 0208 5256988
TICKETS £5.00 GBP · Purchase tickets

.449ZMarx was right all along, says investment bankBy Michael Burke

Well, not quite. But a recent study by leading investment bank Credit Suisse shows that long-term growth rates of GDP in selected industrialised economies are negatively correlated with financial returns to shareholders. That is, the best returns for shareholders are from countries where GDP growth has been slowest, and vice versa. Where growth has been strongest, shareholder returns are weakest.

This is shown in the chart from Credit Suisse below.

Business Insider magazine carries a report of the research. It makes a series of bizarre arguments in an attempt to explain the correlation. The first is that stock markets anticipate future economic growth. But given that these data are based on the last 113 years, the stock markets must be very far-sighted indeed. The subsequent arguments do not get any stronger.

The negative correlation does not prove negative causality. But it does support the theory which suggests that the interests of shareholders are contrary to the interests of economic growth and the well-being of the population.

The clearest theory which this data supports, that the interests of shareholders are counterposed to that of economic growth, was formulated by Marx. In Capital he argues that the ‘development of the productive forces’ (the investment in the means of production and in education that are required to increase the productivity of labour and hence economic growth) runs up against the barrier of the private ownership of the means of production*.

Shareholders are not concerned with economic development but are driven by profits. Where those two conflict, the latter always win out. This is true in general, but becomes very evident in a period of crisis. Private capitalists could end the current economic slump by increasing their level of investment and they have the means to do so. They choose not to because they judge there are currently insufficient profits to be made.

So, either we wait until they deign to invest, perhaps cutting wages and corporate taxes to encourage them. Or we adopt policies that use their cash hoard to fund the investment that is necessary from growth and economic well-being.

*This contradiction is one of the central themes of the whole work. The following excerpt is a good example:

‘It is not that too much wealth is produced. But from time to time there is too much wealth produced in in its capitalist, antagonistic forms.

The barriers to the capitalist mode of production show themselves as follows:

1. In the way that the development of labour productivity involves a law, in the form of the falling rate of profit, that at a certain point confronts this development itself in a most hostile way and has constantly to be overcome by crises;
2. In the way that….a certain rate of profit…determines the expansion or contraction of production, instead of the proportion between production and social needs….Production comes to a standstill not at the point where needs are satisfied, but rather where the production and realisation of profit impose this.’ – Capital, Volume 3, Chapter 15, Development of the Law’s Internal Contradictions 

.274ZWho’s fooling who at the BBC?By Michael Burke

Robert Peston is the BBC’s new economics editor. He has opened his new role with a programme called ‘How China Fooled the World’. For a time it is available on BBC iPlayer and Peston’s own summary is here.

In the blog and the programme Peston argues that China dodged the global economic crisis by increasing investment, specifically state-led investment. But the prevailing level of investment was already excessively high, the argument runs, and merely postponing the crisis by increasing it further will only exaggerate the inevitable crash.

The strangest thing about this argument is not the misapprehensions about the Chinese economy or even the evident lack of understanding about the forces that created what is described as the Chinese ‘economic miracle’. The main fault is that Peston does not seem to grasp the mutual relations between economies, or what is the motor force of economic growth. The BBC’s economics editor is making economic howlers.

This is the most important feature of the programme. Neither what Peston nor what SEB says is likely to affect the outcome for Chinese growth. But understanding its dynamics is crucial to a wider understanding of the economy and how to address crises where they actually exist. One of the countries where there is currently an economic crisis is Britain, not China.

Growth Forecasts

The argument rests on Peston’s own forecast of an imminent economic and financial crash in China. This puts him at odds with all the main leading global economic institutions, the IMF, World Bank, OECD and so on.

To take one example the IMF estimates that China’s real GDP growth will be 7.3% in 2014 after increasing by 7.6% in 2013. It also forecasts an increase of 7% in each of the three years from 2015 to 2018. By contrast, the IMF forecasts that British growth is stuck around the 2% rate every year until 2018, when it accelerates to 2.3%. The IMF data and projections for GDP real growth for Britain and China are shown in the chart below (Fig.1).

It is entirely possible that the official bodies are all wrong on Chinese growth. But without making the argument on why growth is destined to collapse, Peston is simply joining the very long list of those who have wrongly forecast China’s imminent demise, some of whom have continued to do so over a very prolonged period.

SEB is firmly associated with the view that the crisis of the British economy and of the leading Western economies in general is accounted for by the slump in investment. By contrast, Robert Peston argues that the underlying source of China’s alleged crisis is an excessive level of investment. This is a crucial question for growth and for prosperity.

Since the reform period began at the end of the 1970s, Chinese annual investment has not fallen below one-third of GDP and is approaching 50% of GDP. Britain’s investment as a proportion of GDP has not much exceeded one-fifth of GDP for any sustained period and has declined to 14% of GDP. The relative proportions of GDP devoted to investment are shown in Figure 2 below.

It is this rate of investment which is the main driver of growth in the Chinese economy over a prolonged period. It is a decisive element in the growth of all economies. The charge that China invests ‘too much’ does not stand up. China has steadily increased its rate of investment while in Britain it has steadily reduced.
The results are plain to see. The chart below (Figure 3) shows IMF data and forecasts for the level of real GDP in China and in Britain from 1980 to 2018, using international US Dollars at current Purchasing Power Parities.

In 1980 the Chinese economy was a little over half the size of the British economy. By 1990 the two economies were at the same level and by 2000 the Chinese economy was double the size of the British economy. The IMF forecasts that by 2018 the Chinese economy will be more than 7 times the size of the British economy.

To combat any mistaken notion that this relentlessly higher investment and growth rate is at the expense of living standards, at the beginning of the reform period per capita GDP in China was just 3% of British levels. According to IMF forecasts, Chinese per GDP will be more than one-third of the British level by 2018.

To reinforce this, the Table below shows the long-term growth rate of consumption for the economy as a whole and for households in real terms, based on World Bank World Development Indicators. China has by far the fastest growth rate in consumption of any of the countries listed and of any large economy. Both total consumption and the consumption of households are shown.

It is only possible to have such strong rates of consumption growth because such a high proportion of GDP is devoted to investment. It is this factor which determines the growth of the economy as a whole and from which it is then possible to raise living standards.

Increasing investment leads to increasing growth and rising living standards. While the current structure of the British economy does not allow for the rate of investment to match that of China, anything that raises British rates of investment towards Chinese levels would improve the trend rate of growth and allow the improvement in living standards.

Chinese growth can be good for British prosperity

Perhaps the strangest idea of all in the Peston argument is presented at the end of his programme and blog. Rhetorically, he asks would a weaker China be good for the West, and answers that “it wouldn’t be all bad”.

This follows from the assertion is that British manufacturers were killed off by Chinese competition. But this begs a very important question which relates to the current structure and future growth of the entire British economy. Why did many US, German, Swedish French and Italian car markers survive, even though in many cases their rates of pay are higher than in Britain? We could go further. What was it that caused the demise of steel making, ship building, mining and many other industries in Britain, long before China emerged into the global economy? The decisive factor was lack of global competiveness caused by under-investment.
Rather than address this issue, and the consequences of repeating the same mistakes, the BBC’s economics editor prefers to recycle myths that the rise of Chinese destroyed British industries. This may be very comforting but is delusional.

The pernicious consequences of an unwillingness to face reality can be seen from the simple fact that the rate of Chinese economic growth is a significant benefit to many economies, but that Britain is barely one of them. According to the British Foreign Office, in 2011 Chinese imports from the rest of the world were equivalent to £1.2 trillion, or approximately 80% of British GDP. Yet the British share of that market has fallen to 1%. This contrasts with Germany whose share of China’s imports is 5 times greater than Britain’s.

Britain could benefit from China’s growth. The question is how to realise that potential. It would require large-scale investment in key industries, in aerospace technology, business services, pharmaceuticals, the creative industries and so on. It would mean integration in global supply chains where China is sometimes a destination but also where it is a link in that chain, adding value for re-export. It would mean acquiring language skills, and would be aided by some knowledge of Chinese culture and history. All of this would boost British GDP, jobs and prosperity.

The alternative is equally clear. Britons could sit at home watching TV programmes that provide distraction from the long-term decline of Britain’s economic performance with reassuring fictions about the imminent collapse of the Chinese economy. This would be very foolish.

.857ZWorld Bank sees a ‘turning-point’ in world economyBy Michael Burke

The World Bank has recently released its updated forecasts for the world economy. Two key features of the forecasts have received the greatest attention. The first is that the World Bank describes the overall trend in the world economy as at a ‘turning-point’ and secondly that this is led by a recovery in the advanced industrialised countries, or High Income Countries in the World Bank’s categorisation.

In terms of the forecasts, global GDP growth is expected to advance from 2.4% in 2013 to 3.2% this year rising to 3.4% in 2015 and 3.5% in 2016. Within that the Developing Economies are expected to grow by 5.3% in 2014, accelerating to 5.5% and 5.7% in 2015 and 2016 having grown an estimated 4.8% in 2013. But the bigger contribution to global growth is expected to come from the High Income Countries (HICs) which grew by just 1.3% in 2013 (estimated) rising to 2.2% in 2014 and 2.4% in both the following years.

So global growth is only ‘led by’ the HICs in the sense that the modest acceleration in projected growth is from the low base of 2013, a rise from 1.3% to 2.4%. By contrast the Developing Economies as a whole are expected to accelerate from 4.8% in 2013 to 5.7% in 2016, a rise of 0.9%. As a result the growth gap between these two key categories of the global economy narrows from 3.5% to 3.3%, on World Bank forecasts.

Over the medium-term the compound effect of growth differentials of this magnitude is very large. If a 3.3% differential in growth were maintained over 25 years, the Developing Economies would double in size relative to the HICs.

Turning to the performance of the HICs alone, the chart below shows World Bank data for their gross savings and investment (Gross Fixed Capital Formation) as a proportion of GDP (left-hand side). The growth of GDP is the grey line shown on the right-hand side.

What is clear is that all three variables are in a downtrend. That is, both the cyclical high-points and low-points become progressively lower over time. The slump in activity in 2008 and 2009 is the exception not the rule. The rule is a steady downtrend in activity.

Savings are the basis for investment. Of course savings can be supplemented by borrowing but as both the interest and principal on debt must be repaid at some point, debt can only serve to reschedule the time when savings are used for investment.

It is the declining proportion of GDP devoted to investment which is the primary determinant of the slowdown in GDP growth. All output is either consumed or it can be saved for investment purposes. It is only with the accumulation of capital through investment that economic activity can expand.

GDP growth in the industrialised countries is in a long-term downtrend because economic activity is determined by the declining rates of savings and investment. The ‘turning-point’ for the HICs may only be growth is no longer falling. But it is not in an uptrend.

Developing Economies’ Turmoil

However it is also notable that from the mid-1970s to the late 1990s investment exceeded the gross savings of the HICs. This can only arise by the HICs drawing on the savings of other countries and using them for investment. The last great wave of savings flowing from the Developing Economies to the HICs (primarily the US) was in 1997 and 1998, through the Asian financial crisis. Since that time savings and investment have been almost identical.

The World Bank among others highlights the risk that talk of a recovery in the industrialised economies will combine with reduced money-creation (‘tapering’ by the US Federal Reserve) to place some of the Developing Economies in severe difficulties. Some Developing Economies have low savings levels and are highly dependent on inflows of foreign capital to finance overseas debts or trade deficits, or both. The risk is that savings flowing into New York, London and other financial centres from the high savings economies (mainly in Asia) will stay there and not be recycled to the Developing Economies that require them. Financial markets have already identified a hit-list of potential casualties.

The graphic below from the Financial Times highlights some of those economies. The currencies of Indonesia, South Africa and Turkey have all fallen by approximately 20% versus the US Dollar in the last year. Other countries on this list include Brazil, India, Chile, Hungary and Poland.

Even so it is noteworthy that chaos and dislocation has already begun in some Developing Economies because of developments in the indistrialised countries led by the US. The HICs have a feeble economic recovery that does not threaten to break out of the long-term downtrend. But the weakness of savings and investment in the industrialised economies is so marked that any upturn comes at the expense of growth and living standards in some Developing Economies.

The ‘turning-point’ that the World Bank speaks of is unlikely to be a return to robust growth in the industrialised economies. The greater risk is that it is actually a new round of turmoil for many of the Developing Economies.

.690ZHow bad will it get?By Michael Burke

Chancellor George Osborne has recently been promoting two ideas. One is that a recovery is under way and the other is that further cuts in government spending are needed, up to £25bn.

The contradictory nature of those two statements tells us something important about the nature of the current recovery and the actual content of economic policy. It is clear that however weak the current recovery is, the overwhelming bulk of the population will not benefit from it. Austerity policies have always been aimed at transferring incomes from labour and the poor to capital and the rich. So for example, a VAT increase was said to be necessary to cut the deficit yet was simultaneously implemented with a cut in the corporation tax rate which reduced government revenues by almost exactly the same amount.

The popular shorthand for this is a recovery solely for the 1%. The class content is clear. The policy is designed to boost capital at the expense of labour and its allies.

Austerity is not at all designed to boost total economic output, in which capital might be one of the beneficiaries. The reason is simple. In the ordinary course of events an economic downturn or slump leads to a fall in profits far greater than the fall in output. A simple recovery in output could entrench that for a prolonged period.

So, the owners of a car firm sell cars worth £1,000 million in a year. Their main costs are all the inputs of labour, capital and raw materials amounting to £800 million. But these largely to tend to stay the same or even continue to rise a little when the downturn occurs. Suppose sales fall by 10% to £900 million. Input costs are unaltered in aggregate. Now profits are only £100 million and previously they were £200 million. On a 10% decline in sales, profits have fallen by 50%. Profits fall faster than output.

From the owners’ perspective the danger is that over the next period everything, sales and input costs all rise at the same rate. If so, once they have more or less recovered to £990 million in sales (an increase of 10%) the costs of labour, capital and raw materials will have risen in parallel by 10% to £880 million. Where the profit margin was previously 20% now it will be just 11%. Austerity policies are designed to avoid this permanent and unacceptable decline in the profit rate by pushing costs lower (or increasing unpaid labour though zero hours contracts, unpaid overtime, reduced pension benefits, etc.).

There is no shortage of capital to invest. SEB has previously shown that British firms are sitting on a cash mountain as are firms in nearly all the Western economies. But it is imperative from their perspective to permanently lower costs, most especially labour costs before resuming investment.

To date this project has met with only limited success. Profits, as measured by the Gross Operating Surplus of firms is £14bn lower than in the first 3 quarters of 2008 when the slump began.

This explains the weakness of the recovery as firms continue their investment strike. The NIESR chart below will be familiar to many readers. It shows the current slump in relation to the most severe recessions of the 20^th century. Although not as severe as the Great Depression the current crisis has lasted considerably longer. All prior slumps had led to a recovery after 4 years (48 months). By contrast the current downturn remains 2% below its pre-recession peak. It will be at last 6 years before there is a recovery of the previous level of output.

It may be useful to delve further back in history for comparison. Between 1879 and 1893 the British economy grew by just under 13% in what has become known as the Long Depression. Even if growth in the 4^th quarter of 2013 was reasonably strong, for the year as whole GDP would be 2.5% below the level of 2007 a full 6 years later.

The current cycle is compared to the Long Depression in the chart below. For the time being, even this comparison is not encouraging as the current slump is currently more severe.

There can be no suggestion that any previous recession can be mechanically extrapolated in order to suggest the path from the current crisis. But the comparisons do provide a context for the both the severity and duration of the current slump. They also belie any nonsense from the supporters of austerity about the strength of the current recovery.

The recovery itself remains dependent on a revival in investment. This is not the same as an upturn in ‘demand’, which is comprised of both consumption and investment. Household consumption has almost completely recovered its prior peak and government consumption is at a new high. The fall in investment more than accounts for the entire fall in GDP. The fall in business investment alone (not including government or household investment) exceeds the fall in output.

This is also true historically. After contraction the British economy crawled along at a snail’s pace for a further decade in the Long Depression. It only began to grow robustly from 1894 onwards. Through most of the Long Depression investment continued to decline. It was only when investment recovered its pre-recession peak in 1894 that the economy began to grow robustly. This relationship between growth and investment during the recession and recovery of the Long Depression is shown in the chart below.

The structure of the British economy is very different now and so too is its weight and role in the world economy. Then increased exploitation of a growing colonial empire combined with increased military spending were key components of the recovery. Britain’s relative economic decline since then means that option is closed.

Even with increased imperial exploitation it required a full recovery in investment to end of the Long Depression. Unless and until there is a full and robust investment recovery the British economy is set to remain in an Osborne-recovery, weak and solely for the 1%.

.221ZFairytales from the OBR, nightmare for the populationBy Michael Burke

The Office for Budget Responsibility (OBR) has come under fire from across the political spectrum following publication of its latest report accompanying the Chancellor’s Autumn Statement.

The economics editor of the Financial Times Chris Giles says there ‘is not a shred of credibility’ to the OBR forecast that the unemployment rate will fall to 7.1% at the beginning of 2014 and stay there for over a year. As the Bank of England has identified 7% unemployment as the threshold for possible interest rate increases, without much conviction. But there is clearly a political merit to forecasting 7%-plus unemployment, if no logic. It certainly saves George Osborne from having to explain why interest rates could rise even before the economy has recovered its pre-recession level.

Among opponents of austerity, the anti-poverty and tax campaigner Richard Murphy says the OBR’s assumptions resemble George Osborne’s ‘wish list to Santa’. James Meadway at the new economics foundation argues that both the OBR and Osborne will not reveal the true dynamic at work in the recovery which is rising consumer debt and the reflation of a property price bubble centred on London.

The OBR admits it has a poor forecasting record. This is hardly surprising given that it uses the Treasury model of the economy. In all the arcane debate about ‘multipliers’ (the cumulative economic effects of government spending) a central truth tends to be obscured. The highest multiplier admitted in the Treasury/OBR model is just 1. This implies that no area of government spending can add to growth at all. Since the private sector has no magic wand to render its own investment in bridges, housing, railways or education more productive than government, then logically it is impossible for the economy to grow at all. The long-term decline of the British economy has been given an official rationale.

However an examination of the OBR forecasts is revealing about the real dynamic at work in the economy.

How bad will it get?

According to the OBR over the next 5 years jobs and wages will grow and the unemployment rate will fall. These central forecasts are shown in Table 1 below (excerpted from the OBR’s Table 3.5 of OBR data here).

Consequently average earnings (the growth of wages and salaries divided by the number of employees) will stagnate or even fall in real terms. Measured against the CPI the OBR forecasts average earnings will return to 2011 levels only at some point in 2016. Measured against the RPI, which takes housing costs into account, real wages never recover over the forecast period.

Even this scenario seems unlikely. In a stunning reversal of both pre-recession trends and the entire aim of austerity, the OBR is forecasting is that the lion’s share of the recovery will go to labour, not to capital. Table 2 below shows the distribution of the growth in nominal GDP over the next 5 years (table attached to Chart 3.20 of OBR data).

Labour’s share of national income has been declining on a trend basis since the 1970s. The purpose of austerity is to reverse the natural fall in profits from a recession as sales fall but cost are unchanged or even rise (including the cost of labour). Yet the OBR’s forecast of flat or falling real wages is based on labour maintaining its share of national income or even increasing it.

Perhaps the most outlandish forecast of all is reserved for the rise in business investment. The fall in business investment during the slump has now exceeded the entire fall in GDP. As government and other sectors have also cut their investment this means that total investment has now fallen far further than aggregate GDP. GDP has fallen by £40bn since the 1st quarter of 2008, business investment is £42bn lower and total investment has fallen by £61bn.

It is also accepted that the primary source of the OBR’s repeated over-optimistic forecasts have been its projections for rising business investment that have failed to materialise. Yet once again the OBR is projecting a rise in the expenditure of firms in plant, machinery, building, transport equipment, and so on.

Previously, SEB has shown that the investment rate (investment as a proportion of profits) of British firms has declined markedly over several decades. The OBR forecasts that profits as a proportion of GDP will peak in the second half of next year at close to current levels and that they will then gradually decline. Despite this, according to the OBR, business investment will rise dramatically at the same time, from a new low of 7.6% of GDP in the 3^rd quarter of 2013 to over 10% of GDP by the beginning of 2019.

These trends and the OBR forecasts are shown in the Chart 2 below.

Economic forecasting is always uncertain. But the notion that businesses will substantially increase their rate of investment while profits trend lower is fanciful. Businesses do not invest because it is socially necessary or even because the economy is growing. GDP has been rising since mid-2009 and business investment has been falling. In a market economy investment is driven by the return on it, which is profits.

In reality there are only two main trajectories for the economy while austerity remains in place. The first possibility is that the OBR’s assumptions about flat or falling real wages prove wrong and wages are driven down much further to boost profits. In that circumstance investment can rise if profits rise first. The alternative is the current pattern, where neither profits nor investment have recovered and a snail-like recovery takes place driven by increased borrowing to finance consumption.

There is a third variant, which breaks from austerity. This would see the state leading an investment based-recovery using its own resources and those of the private sector to boost growth and productivity, create well-paid jobs and so allow the sustainable funding of a decent social security system.

Unfortunately, without this radical change in policy, the fairytales from the OBR are likely to be a nightmare for the overwhelming majority of the population.