So what should we do now to get out of the black hole?

Yesterday I heard different senior economists give their views of the Credit Crunch and recession and what we could do to get out of it. They gave them under Chatham House rules, so I will call them Views 1, 2 ,3 and 4, grouping opinions into the four main different positions at the meeting.

View 1 expressed worry about extremes in policy making. Whilst they could live with a modest reflationary package, they are concerned about undue borrowing or money printing, and felt there could be an inflation problem in due course. They also believed that we had to accept a substantial one off drop in national output, reflecting the activity of banks and shadow banks that had gone over the top and could not be continued. They felt that the recession had to take its course, and that policy action of any extreme kind could cause inflation, or fail to stabilise the asset markets.

View 2 argued that individuals and companies are very short of money. Money supply has ground to an abrupt halt in recent months. They therefore favoured the UK government borrowing substantial sums from the Bank of England or the commercial banks, to spend or give away as tax reductions so the private sector has more money to spend and repay debt. They did not agree with the recapitalisation and felt the banks had sufficient capital.

View 3 argued that the government had been right to put more money into the banks and might have to do some more. They also felt some money printing may be necessary in current circumstances and agreed there could be a period of underfunding of the borrowing requirement for a bit to generate some more money in private hands. They felt house prices should fall another 25%, preferably quickly, so the market could then be stabilised. They favoured a Medium Term fiscal strategy to start to reduce the large deficits and reassure markets that in due course Prudence would return.

View 4 argued that banks had to go back to simple banking models, relying on deposits from customers as sources of funds and lending to customers as assets. They were pessimistic about how to pull the economy out of recession, and ageed house prices had to fall further.

From the discussion which ensued, the following points emerged which I think are correct:

We will lose a portion of our National Output, represented by banking and related financial activities on bloated balance sheets, which will no longer be possible in current conditions. The UK will take a large hit as we have large banks and hedge funds relative to our GNP, and our growth was flattered by the huge financial service expansion in London over the last decade.
Somehow the balance sheets of companies and individuals have to be strengthened, which means they do need more cash and income, at the same time as we need more demand from their spending.
Some of the extra demand will come from public spending, with tax cuts and benefit payments giving individuals more money to spend
Creating more deposit money in the banks by underfunding or by the government borrowing from the Bank of England is worth a try. The US authorities have expanded the Fed’s balance sheet and are discussing buying up Treasury bonds.
Increasing future public spending on large infrastructure projects takes too long for the decision to be translated into jobs and spending. Income Tax cuts provide the fastest way of injecting the borrowed public money into the cash starved private sector.
The government does need to construct a budget plan on spending that will start to control borrowing and outlays.
It should remove its VAT cut, and substitute cheaper Income tax reductions.
The government needs to cut its risk of losses in the nationalised banks by cost reductions, netting off futures and options positions and reducing its risk to Investment bank type activities.
The government, now it is a bank owner, is the best placed to carry out the traditional banking utility function, making its direct contribution to a reduction in Investment banking capacity to reflect the new circumstances.


  1. Kit
    January 29, 2009

    View 3 sounds awfully muddled and contradictory – he must work at the Treasury. 😉

  2. Simon D
    January 29, 2009

    This is an excellent summary of what UK Plc needs to do. May I add a final element? We need a general election and the return of a Conservative government with an unassailable working majority. Until this happens the Prime Minister will regard Job 1 as his own re-election and Job 2 as trying to fix the economy.

  3. Ian Jones
    January 29, 2009

    For those that argue the Govt should borrow large sums, where do they propose the Govt will get it whilst simultaneously trying to keep down interest rates? Everything being tried leads to higher long term rates!

    I know the US is trying to push down long term rates by buying Govt debt but that will only lead to disaster later on.

    I would be in view 1 although I would maintain Govt spending for 18 months before slashing it big time!

  4. Rare Breed
    January 29, 2009

    A recession is a correction. Acorrection of something that was incorrect. It must happen.

    In a recession things contract, money supply, demand etc.

    Get over it.

    I’d rather get it over with that have this soft “fiscal Stimulus” landing just to save the politicians skins.

    The banks need to fail. If we support loss making businesses then the problems will continue because there will be no confidence between banks.

    The priority should be to set up new banks or just sort out two good ones. Let the rest fail and start again.

    It happened in Sweden and they got over it pretty quick – This does not need to be complicated.

  5. david
    January 29, 2009

    I noticed Wilshire did not vote, how did you vote on the 3rd runway?

  6. Dr Dan H.
    January 29, 2009

    Personally I would also favour a reduction in the size of the State, by substituting some of the silly bureaucratic control systems for simpler ones.

    Firstly, Tax Credits need to go. These are really just a highly inefficient way of paying back to working people some of the tax that has been extorted out of them; far better to abolish them, increase the tax-free allowance accordingly and not grab the tax in the first place.

    Secondly, substitute the low, higher and supertax rates for a single one and peg this to the same percentage as is charged on Capital Gains Tax and Corporation Tax; all three are effectively just taxing the money paid to workers so you might as well remove the urge to dodge by making these the same.

    Thirdly, cease paying child benefits for more than two children (or in the case of multiple births, for however many children are born in that birth). That removes the urge to breed like demented rabbits to farm benefits; this would play very nicely with most voters.

  7. Acorn
    January 29, 2009

    Your four “views”, do not fill me with confidence. They are so diverse, I am left with the conclusion that none of them have got a clue how to fill the black hole. They do have one common theme; the taxpayer picks up the bill for at least the next decade.

    Having moved to a financial economic model for UK plc, we will be hit hard, particularly as our finance industry is about four times the size of our GDP. In percentage terms, the UK taxpayer’s bill will be higher than the US taxpayer’s.

    If the private sector picks up and it becomes more profitable to invest in private sector companies, (capital gain and dividend yield); who will then buy the government’s IOUs? The government bond bubble will burst when it has to increase interest rates (i.e. capital value falls) to compete for investors.

    A pound spent by the public sector will yield far less in added GDP than a pound spent in the private sector. The public sector has to be reduced back to a basic life / health / civil protection support system for several years. Using the savings to pay down the public debt and reduce household taxation. Households only change their spending habits when they see long term tax reductions. Short term tax reduction or refunds, tend to get saved rather than spent.

    The vast majority of our undereducated populace do not know the difference between “price” and “value”. They will not get back their “feel good” factor until house “prices” come back up. The easiest way for the government to do this is to create a large dose of inflation. The populace will disregard the fact that the “value” of their property has declined relative to other “prices”.

    There are still some shoes to drop. As unemployment rises, so will credit card defaults, current risk models used by card issuers may not work well if we get to three million unemployed. UK households are welded to credit cards.

    There are millions of Annuities currently being paid out to pensioners etc. What will happen to these (insurance companies) when the margin that is being paid out, is a long way from that being paid into these Annuity funds?

    Just how much of this lot do the government and the BoE think they can save at the taxpayer’s expense? And, please please please; will this government stop using the word INVESTMENT. The correct word is SPENDING.

      January 29, 2009

      It has driven us nuts too for the last 10 years but we’ve never heard the opposition pick him up on it! Mind you nobody challenges the PM/ex-Chancellor on the vast number of government ‘non-jobs’ created – and STILL being created – on his watch. Both these issues rank highly on the Essex Pub ‘Bloody Labour’ scale, Mr Cameron – far higher than getting GB to admit to Boom & Bust!

      On the same highly-relevant scale the replacement of complex tax credits with a higher threshold is a ‘no brainer’ – but the army of civil servants needed to administer tax credits must be eliminated. For some reason would-be redundant public servants seem not to drink in our pub – perhaps they’ve taken the hint and got the whiff of some plain common sense!

  8. TonyW
    January 29, 2009

    Sorry to be a party pooper, but if this is the best the economists could come up with then we are in real trouble. Surely we need to step back and look at what our economy has become: a hugely distorted and imbalanced structure relying on consumption, instead of savings, investment and production, and on a financial sector that had become a giant casino, having lost sight of its original function of providing capital for industry and commerce and pensions and other savings products for the people. Our productive sector has been squeezed and hollowed out while a bloated state sector consumes vastly greater resources than ever before. Resources need to be switched to the productive private sector, not through subsidies but by reducing the barriers to enterprise.

    In my working life I have met a number of “movers and shakers” in business who want the government and all its bureaucratic leaches to just get out of their way. Apart from private sector consultants who regard the state as a gravytrain, producing standards, reports and other paper tosh, most of them find dealing with the State like treading through treacle.

    Far better to remove the disincentives and barriers to enterprise. We still have people with ingenuity and drive in this country. Why not let encourage them? There are simply massive savings to be made in government expenditure. for example, the DTI or whatever it’s called these days could be dismantled and the money saved use to reduce the taxes on business. Without a major transfer of resources (people and money) to the productive sector of our economy we will become even poorer and the political and civil stability we have enjoyed could disintegrate.

    Creating wealth through enterprise is the way to way forward, not government intervention and planning by civil servants who no commercial acumen and zero experience of running a business.

  9. chris southern
    January 29, 2009

    Whilst the traditional methods of correcting bubbles by letting the badly organized and debt ridden companies to go under would have been short (and very painfull) we have unfortunately gone down the route of throwing money at the banks.
    This worked in sweden because they forced the banks to sort out the bad debt and the banks that didn’t look good were allowd to go under.
    We haven’t done that unfortunately and as such have a large amount of public debt built up without an end in sight.

    I feel that unfortunately we need to see this mad cap plan through and then change how banking works (buy only allowing banks to lend what they actualy have)

    I do think that taxes need to be cut (and income tax eventualy got rid of, not just because it’s immoral but because it was just a war time measure and the goverments promise was never kept to get rid of it after the war)

    just hope i got across what i meant as i realy struggle to explain myself in type (like many of you have probably already realised!)

  10. oldrightie
    January 29, 2009

    “They also believed that we had to accept a substantial one off drop in national output, reflecting the activity of banks and shadow banks that had gone over the top and could not be continued. They felt that the recession had to take its course, and that policy action of any extreme kind could cause inflation, or fail to stabilise the asset markets.”

    “They therefore favoured the UK government borrowing substantial sums from the Bank of England or the commercial banks, to spend or give away as tax reductions so the private sector has more money to spend and repay debt. They did not agree with the recapitalisation and felt the banks had sufficient capital”

    If you adjust these views above and mix in that dreaded word, “cuts”, you might make a difference. Sensible reductions outlined in Conservative Policy have good merit. I made similar remarks here;

    Tax rises to pay for this incompetent shower are inevitable, just to service the debt. 30p in the pound minimum.

    1. StevenL
      January 30, 2009

      “Put Bank Rate back to 3% so that savers do not lose so much.”

      The fixed rate market is bizarre at the moment. My bank were paying me around 2% so I withdrew it and lent it to a blue chip FTSE 100 company by buying bonds that pay 6.8%.

      My savings are out of the retail deposit guarantee scheme, so there is more risk, but if I lend the money to the bank through retail deposits, whats the bet they won’t lend it to companies anyway and take the profit?

      Not that I’m telling anyone what to do with their savings, I’m not qualified to do that.

  11. Magelec
    January 29, 2009

    Short Term

    Put VAT back to 17.5% to stop that rot.
    Put Bank Rate back to 3% so that savers do not lose so much.
    Start demolishing many of the quangos that have been created in the last eleven years.
    Stop all civil service, local council etc recruitment for the present.
    Stop all bonuses for public sector employees and pay what passes for management what they are really worth i.e. less than they are paid now. If they want a better paid job with less security thay can try the private sector.
    Increase personal tax allowances and start the 10% band higher up the scale to get rid of the presently confused situation.

    Medium/Long Term

    End child allowances from the fourth child onwards and ensure any loss of income is not made up by other benifits.
    Transfer all public employees to money purchase pension schemes as soon as possible.
    Sort out the banks into those that operate the core banking activity and those that wish to speculate.


      January 29, 2009

      MAGELEC – most contributors would agree with most of these as this site seems to attract folks with real life commercial experience and a large dose of that commodity so rare in Westminster…PLAIN COMMON SENSE!

      Would you not add to your list a halt in government IT projects? Did we really read this week that Ed Balls’ latest unnecessary and dangerous – data link-up had cost £230million! (Oops… ! replaced the ?)

      How about a complete and immediate ban on Consultancy projects?

      And a halt to all conferences, seminars, ‘away days’ and overseas trips in central and local government?

      And redeployment of staff in the ‘non-jobs’ to more productive roles – or show them the door…but let’s avoid big redundancy payments.

      In short all staffing and expenditure on projects that might be ‘nice’ in another financial climate would be eliminated leaving just the imperatives and efficiencies with a prospect of an early return.

      Let’s run this show like a hard-headed business instead of the ‘soft touch’ works outing that Labour has created!

      1. Magelec
        February 1, 2009

        Yep, I agree. There is so much that can be chopped with much general public approval. My suggestions were just for starters. The big problem for GB and his crew is that they cannot/will not face the facts that they have made huge mistakes in the past and will continue to do so as they are in denial. Also they don’t wish to anialiate their perceived core vote, although with the ‘British job for British Workers’ scenario emerging I believe they (GB and Co) are in for a rough time.

    2. Ian Jones
      January 30, 2009

      I do wonder if a Conservative Govt will use its political capital to move the public sector pension scheme to a defined contribution basis. Can you imagine the police (retire at 50…) accepting it nevermind the rest! You will have endless strikes.

      I believe it should happen but doubt it will…..

      1. Magelec
        February 1, 2009

        The Government have got to start somewhere to sort the pensions timebomb. I suggest the Civil Service, for one, to lead the way. Yes, I believe it would be necessary to make some exceptions e.g. the fire service as you mentioned, police, military and the like. Those working in ‘soft jobs’ should have their pensions accrueing in defined contribution schemes.

  12. Adrian Peirson
    January 29, 2009

    Just Give me two hours in No 10 and 1, JUST ONE executive order.

    I’d issue and executive order Stopping the Govt from Borrowing our Money at Interest and Begin Issuing Our Own Honest money, Free of charge into the economy.
    No Borrowed money, no loan or interest to pay back to the Private Banksters, no Govt debt and hence, absolutely no need for income tax.

    Then I’d ring a Locksmith and ask for the Locks to be changed after I had left.

    Job done, total time about two hours.

    Imagine what I could do if I did a forty hour week there.

  13. mikestallard
    January 29, 2009

    Thank you for the simple summary of four economists’ views. I suppose I am most attracted by the second.
    The problem with dealing with Socialist Britain is that we take it on its own terms.
    A number of people above have noted that we are heavily overtaxed and that there seems to be some consensus that this will only get worse. At the moment we are meant to be down at 43% of our income being spent for us. Actually, it feels much like being mugged. How much higher can this appalling level go? 75%? Then who will be able to afford to go shopping?
    Government is far too big. Under the Conservatives in the 80s and 90s, it was half what it is now and it was steady too. Half! And that is before the huge hundreds of billion bail outs of the last few months.
    The worst part is that there seems to be no sense of urgency about all this. The Conservatives indeed have noticed that all is not well, but the Labour seem to think that everything in the garden is lovely.
    Perhaps they might like to ask themselves how Dubai (world recession?) manages to get by on zero taxation. Believe me, people can go shopping there in the largest mall in the world!

  14. Lola
    January 29, 2009

    Well, hooray, someone else thinks that income tax reductions would be a Good Thing. As long as they are not paid for by borrowing but are accompanied by cutting equivalent government spending. It’d be nice to see every one in three HMRC box tickers laid off wouldn’t it? Sort of poetic really.

  15. Adam Collyer
    January 29, 2009

    In summary:

    View 1: We don’t know what to do so it’s best to do nothing.

    View 2: Let’s inflate our way out of the problem. (It’s worked before! What could possibly go wrong?!)

    View 3: We don’t know what to do but we have to do something.

    View 4: There’s nothing we can do and it’s all the banks’ fault.

    Here’s my view: there’s a shortage of credit so the government should cut its borrowing and increase interest rates. And it WILL happen eventually. You can’t buck the market – at least not for ever.

    1. Robert
      January 30, 2009

      Agree – the real cost of money is higher – you can’t spend your way out if you are indebted as we are both as a nationa and per capita, we have to cut government expenditure and encourage savings via higher interest ratesand then we can move forward. There is no easy solution, no quick fix and the temptation to infalte our way out would be a complete disaster debased the real value of money.

  16. Charles
    January 30, 2009

    Time To Abolish VAT?

    Surely, now is the right time to abolish VAT.

    Apart from being a grossly unfair tax – a tax through which even the poorest of pensioners have to pay the same tax for goods and services as the richest of billionaires – VAT also acts as a major impediment to the growth and success of businesses and it acts as a major disincentive to consumer spending.

    It is accepted by nearly all economists that countries such as the UK need to stimulate economic activity if they are ever going to crawl out of the current economic crisis, but the imposition of VAT acts as a major obstacle to nearly all economic activity.

    As a result of VAT, goods and services cost people significantly more than they would otherwise do (which means that they buy fewer of them) and it acts as an extra tax on most businesses.

    Indeed, for most small businesses and for most of the self-employed, VAT is nothing more than a large extra tax that is imposed on their gross income. It is a very unfair tax that penalises small businesses particularly harshly.

    The collection of VAT also costs an enormous amount of taxpayers’ money. There are more than 22,000 civil servants employed in VAT collection (which costs over 1 billion pounds per year) and businesses have to expend many billions of pounds every year and millions of hours in order to deal with all the red tape that is involved in VAT collection.

    Abolishing VAT would transform our economy. People could both buy more and save more – and both buying more and saving more is exactly what economists say would get us out of the current economic crisis. Businesses, both big and small, would be able to make greater profits and they would also have to waste far less time and money dealing with complicated government regulations.

    Abolishing VAT would reduce the income of the government by about 100 billion pounds, but much of this money would be recuperated by the massive increase in economic activity that would result.

    For example, the predicted increase in unemployment that is going to arise out of the current economic crisis is going to cost more than 40 billion pounds in benefits alone.

    Abolishing VAT would act as such a large stimulus to the economy that the unemployment figures would fall very dramatically indeed.

    Furthermore, government spending has been far too high for the past decade and it needs to be reined in.

    Gordon Brown, however, seems determined to continue to force current and future taxpayers to bear the costs associated with keeping government spending high.

    But how can it be fair to expect our young men and women to foot the bill over the next decade or so for the government failures of today? Surely, he is just giving away their future prospects.

    Indeed, when Gordon Brown convinces the public that, “Government services must be maintained in these most difficult of times,” he is merely articulating the view that everyone who does not work for the government must bear all the costs of the current crisis while those who do work for the government must not.

    Thus, Gordon Brown is quite happy to see the income of all pensioners who have not worked for the state plummet like a stone, while those who have worked for the state continue to have their pensions safeguarded by the very people who are having to pay most of the costs incurred by the current crisis. Indeed, those retirees who do not have government pensions have seen their savings and their pensions slashed both through the falling stockmarket and through the large reduction in interest rates that have recently taken place. And with the added prospect of Gordon Brown increasing the money supply in order to stimulate economic activity, it seems likely that an increase inflation is almost guaranteed to take place. And this, once again, will hit those pensioners who have not worked for the government, while those who are living off government pensions will remain unaffected because their pensions are inflation-proofed.

    Furthermore, with the value of the pound having decreased hugely in comparison to other currencies, even holidays abroad are now considerably more expensive.

    To get out of the current crisis, Gordon Brown is essentially pulverising those who work in the private sector in order to maintain jobs and pensions within the public sector. He is creating a privileged and protected aristocracy who work for the government while gradually enslaving and impoverishing those who do not. The upshot is that Gordon Brown, himself, is helping to strangle the UK’s economy, and the only solutions that he seems to be offering are those through which government gains more and more control over who gets what.

    But abolishing VAT would liberate the entire economy. It would help the poor. It would help businesses both big and small. And it would get rid of a mountain of wasteful red tape and all the costs associated with it.

    But Gordon Brown will not abolish VAT for one reason and for one reason alone. It would reduce the power of government.

    Finally, if the Tories would argue for the abolition of VAT my guess is that they would receive a huge amount of public support and they would SERIOUSLY DAMAGE THE LABOUR GOVERNMENT.

  17. TomTom
    January 30, 2009

    Before 3i became greedy and mainstram private equity it was Finance For Industry set up in 1945 by the major clearing banks to supply loans and other finance to SMEs. probably modelled on the German Kreditanstalt fuer Wiederaufbau (KfW)

    It is time this was recreated as Finance for Industry providing sums for working capital funding and loans to SMEs. This time maybe some of the major corporations could be the shareholders together with certain bankers and create a Small BUsiness Bank with local knowledge and offices.

    I had hoped privatisation of Regional Electricity Companies would have created regional cash-rich investors to regenerate Yorkshire say through Yorkshire Electricity Plc but instead The City sucked them dry for transactions fees in M&A deals.

    We need to revive 3i as it once was to invest long term and build new businesses and save others. The banks are hobbled…if not by their own stupidity then by forced recapitalisation which has been like a Treasury LBO of the banking system.

    Lloyds Bank which could have been a strong bank is now hobbled by being lashed to a crippled institution HBOS and shareholders have lost £16 billion in capitalisation by taking on HBOS. It is bizarre that the Government has acted (removed unflattering cf)imposing new rules then forcing them to sell to government with artificially high costs to transfer real value to the State. Cutting saver interest whilst letting credit interest rates soar and charging 12% post-tax on Pref Shares is expropriation and seemingly a plan to destroy any value creation process

  18. Edward Morgan
    January 30, 2009

    Minor pedantic correction.

    There is only 1 Chatham House rule. Meetings can be held under the Chatham House Rule, not Rules.


  19. David Birch
    January 30, 2009

    Another point of note, I thought, was that the panel seemed broadly to approve to the Obama approach. I think that the phrase they used, which I hadn’t heard before, was “shovel ready”. In other words, if you are going to pump money in to get the economy going, the spending has to be directed into areas where people can pick up shovels and get to work right away. One can’t help but suspect that too much of any UK spending would be frittered away on management consultants, quangos and public sector expansion.

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