The era of cheap goods and rapid growth is over

All good things have to come to an end. The benign environment where China and India delivered an ever more stunning array of goods at fabulous prices is changing into an era when Chinese and Indian demand puts substantial upward pressure on raw materials. At the same time the West’s insatiable appetite for these goods based on leveraged credit has been hit by the Credit Crunch.

During an era of transition – from rapid credit led growth to slower growth, and from low inflation to higher inflation – there are always conflicting signals for policy makers. Some look resolutely back, seeing the build up of inflation that has come from past monetary excess: they demand the donning of a tougher hair shirt in the forms of high interest rates and more intense regulation. Others look forwards to the slow down, seeing that the credit crunch itself will in due course reduce inflationary pressures and slash asset prices, which in turn depresses demand more.

The latest inflation figures for the UK are poor, with RPI inflation running above 4% compared to the old government target of 2.5%, but they should have come as no surprise. The next couple of months will see further energy and food inflation flowing through. No one believes the 2.2% increase in the CPI reflects family experience of their daily budgets, and adds to the feeling that the government and the monetary authorities are out of touch.

Tne government itself is under pressure on the Non doms issue. Many in business now believe the government’s addition of more scrutiny and detailed rules on savings income to the idea of a flat fee will scare people away. If the government persists they will discover the hard way that there is one thing worse than having rich people here not paying full amounts of UK tax, and that is not having the rich people here paying any tax at all. The government needs more revenue to get closer to matching its bloated pattern of expenditure. It is not a good time to pick a fight with people who are making some contribution to the tax collected and to London’s successful economy. Sometime reality needs to take precedence over ideology or senses of fairness.

The government also eneds to tackle the obstinate problem of little or no growth in public sector productivitiy. Now we have such a large public sector it is more important than ever that its productivity should start to rise by at least the average growth rate for the economy as a whole. Manufacturers needs to raise their productivity considerably faster than 2.5% a year to stay in business in a very competitive world. It is high time the government found ways to use the new technology and better management techniques used widely in the private sector to deliver more public service for less.

The pound has been falling for some time against the Euro, and is now also falling against the dollar. Whilst this helps exporters to set more competitive prices, it means more imported inflation. The Gordon Brown devaluation is now shaping up to be bigger than the devaluation after the damaging Exchange Rate Mechanism experiment in European monetary co-operation, recommended by all three poltical parties and foolishly adopted by a previous Conservative government. The Bank of England will have to take into account this drop in the pound when it makes its interest rate decisions, as a falling currency does loosen monetary policy and relaxes inflationary disciplines.

The UK is going to have to pay a substantial premium in the form of higher interest rates than the USA, Japan, and Euroland for some time to come. That is the price of too large a government deficit, too much wasteful public spending, and a failure to raise productivity in the public realm. The UK is less well placed to offset the Credit Crunch than our main competitors because the government divorced Prudence many years ago. The government’s newer Valentine is its very own flexible friend, the Borrowing Requirement, as it continues to spend money it does not collect in taxes. Government borrowing is deferred taxation. We will all be paying the bills for years to come.

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11 Comments

  1. Posted February 12, 2008 at 12:09 pm | Permalink

    How does the current devaluation compare to the ERM and to 1966 in percentage terms?

    Reply: The devaluation against the DM on exit from the ERM was 13%. The present fall in the pound against the Euro has so far been from 1.48E to 1.34, a fall of 10%

  2. Posted February 12, 2008 at 1:10 pm | Permalink

    The era of rapid growth & therefore increasing wealth is certainly not over for China & India. Nor for Ireland, Estonia, Russia, Brazil or even Nigeria. This is because they are all actively becoming more free market driven whereas we are moving in the opposite direction.

    I would argue that the worst failure of the Tories is that they have let Chancellor Brown away with saying how well our economy has grown at 2.5% compared with those of France & Germany rather than how badly compared with China's 10% or even Ireland's 7%.

    Reply: I agree the gorwth is not over for China and India. I did highlight the great success of the Irish economy as central theme of the Economic Policy Review, comparing it to the poor Uk performance.

  3. Posted February 12, 2008 at 1:51 pm | Permalink

    I wonder if the non-doms thing could be Labour's "Sarbanes-Oxley" (this, as I'm sure you know, was the restrictive US legislation that meant many companies opted to go public on non-U.S. exchanges such as the London stock exchange, great for us, bad for the US economy)

  4. Posted February 12, 2008 at 1:59 pm | Permalink

    We must move away from import dependency and begin to supply our domestic market. The principle of comparative advantage cannot apply when the consumer is forced to buy foreign goods because no domestically produced alternative is available. Macroeconomic conditions must be made to favour British entrepreneurs who seek to supply the domestic market.

    Those who embrace the open-trade ideology are blind to the fact that there is a downside to the bounty of trade. By producing more for ourselves we can protect our economy against the shocks of forex differentials and lags in liquidity. I understand the concerns voiced by those opposed to protectionism, however I feel that they fail to understand that a market that isn't protected becomes a market that is overrun, and eventually becomes a market that is destroyed.

    Protectionism, in some form, will have to happen, out of necessity as much out of choice. The Chinese, after having successfully cornered manufacturing markets in the west have plans to do the same with agriculture and even financial services. The Chinese talk openly in their domestic press about turning others into 'Feeder nations' and 'Passive buyers' to support the 'great Chinese economic project'. China will seek to exert itself militarily to protect its economic interests. Russia will do the same. China and Russia have already held exploratory military manoeuvres together. The inevitable consequence will be a more as both countries hold an inherent anti-western philosophy. When is the west going to wake up to the problem that comes with emerging economic superpowers?

    Britain, and the other western powers must now give serious thought to ending import dependency and in becoming more economically self-sufficient. This has to be done. Otherwise the west will fade into history as it is overtaken and overrun by the east. Leaving domestic markets exposed and encouraging eastern economic expansion will not only destroy western economies but also lead to eastern geopolitical hegemony.

  5. Posted February 12, 2008 at 4:06 pm | Permalink

    What should be done is that the Chancellor must put forward a package of measures to scrap , merge , scale back or hive off as many QUANGO’s as possible untill the PSBR has been wiped out in say four or five years time – thus paving the way for lasting tax cuts that are sustainable owing to a stronger fiscal position brought about by dismantling Brown’s QUANGO state . The UK cannot live beyond its means and a bloated state sector of 45% of GDP is doing our economy no favours . This would produce an Eire style recovery in the economy by copying their policy of smaller government first and lower taxes next .

    By selling off shares in nuclear power , BBC world service and Channel 4 the government could delay the end of the 10p tax band until 2009-10 thus saving everyone up to

  6. Posted February 12, 2008 at 5:06 pm | Permalink

    What should be done is that the Chancellor must put forward a package of measures to scrap , merge , scale back or hive off as many QUANGO's as possible untill the PSBR has been wiped out in say four or five years time – thus paving the way for lasting tax cuts that are sustainable owing to a stronger fiscal position brought about by dismantling Brown's QUANGO state . The UK cannot live beyond its means and a bloated state sector of 45% of GDP is doing our economy no favours . This would produce an Eire style recovery in the economy by copying their policy of smaller government first and lower taxes next .

    By selling off shares in nuclear power , BBC world service and Channel 4 the government could delay the end of the 10p tax band until 2009-10 thus saving everyone up to

  7. Posted February 13, 2008 at 1:03 am | Permalink

    JR:

  8. Posted February 13, 2008 at 9:06 am | Permalink

    Many of the Non Dom defenders are just Bill Gates apologists.
    Another reality is that the Non Dom's will not leave, and a lot more money will be raised. You are presuming they are here for financial reasons alone. Like where you live, they are have family ties and other personal interests.
    I think we should call their bluff. It's not right that a small number of British residents use their non dom status as a tax scam, sorry loophole, and a large number of the real non doms spend most of their wealth in their own countries. Britain being just a tax haven.
    The trickle down theory does not work and this has been well proven in the past as little more than toryism. ie
    Disproportionately helping people at the top.
    To have any group of fantasically wealthy people hold any British government and their taxpayers to ransom should not be
    part of the plan.
    Matthew Reynolds with his ideas to tax plastic bags and selling off the tv and radio stations needs to pull his head out of the ground.

  9. Posted February 13, 2008 at 10:27 am | Permalink

    The non doms pay

  10. Posted February 13, 2008 at 11:27 am | Permalink

    The non doms pay

  11. Posted February 13, 2008 at 12:34 pm | Permalink

    Well said, apl. Leave the EU – that was my immediate thought for saving money.

  • About John Redwood


    John Redwood won a free place at Kent College, Canterbury, and graduated from Magdalen College Oxford. He is a Distinguished fellow of All Souls, Oxford. A businessman by background, he has set up an investment management business, was both executive and non executive chairman of a quoted industrial PLC, and chaired a manufacturing company with factories in Birmingham, Chicago, India and China. He is the MP for Wokingham, first elected in 1987.

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