I am grateful to contributors for some thoughtful comments on the boom and bust question.
There is general agreement that the ERM period and the era of combining an ‘independent’ central bank with big rises in spending and borrowing did not work. I have been asked to explain how the Uk could follow an honest money policy.
The answer is as we did in the two better periods of low inflationary growth, and as Germany did for much of the post war period in the last century. The authorities set a target for money growth and adjust interest rates and banking regulations accordingly. They seek that Goldilocks approach, neither too tight nor too lax. Print too little and you have a credit crunch and deflation. Print too much and you have an inflation. Allow banks to expand too much relative to their capital and you inflationary overstretch. Stop banks lending enough and require too much capital and you have recession.
Some say you can never trust politicians, or for that matter their appointed independent authorities, to run a fiat currency in a non inflationary way. Yet history shows that some countries can succeed with low inflationary growth and sensible money policies for quite long periods. Any individual country can be blown off course by external events and by political decisions to tolerate a bit more inflation, but there should always be people at such times exposing what the authorities are up to and trying to use the pressure of public opinion and elections to get things back on course.
Some say we should return to the gold standard. If paper money had to be backed by gold the authorities would be prevented from debasing money. Past experience of the gold standard shows that politicians may well conclude if it gets too tough to stay virtuous that they will abandon it, so gold provides no final solution to inflationary preferences.It also brings other hazards. As advocates accept, if the supply of gold does not keep pace with growth in the world economy it is deflationary. Such a policy endows those states that mine gold, and states that happen to have kept or acquired substantial reserves in gold as opposed to bonds and foreign currencies. The Gold standard in the UK is associated with a particularly unsuccessful policy period bring on recession and susbtantial job losses.
It is true that both money targets and gold raise the issue of the velocity of circulation. If velocity changes then the quantity theory is affected. If for some reason velocity increases, then you clearly need less money to sustain a given level of wealth and trade. Most economists conclude, however, that it is possible to set sensible money targets to influence both the price level and the output level. They need to look out for any important changes of velocity as they do so. None of it is a precise science. It requires judgement, and corrections if things start to go awry.
February 23, 2011
Judgement and corrections are indeed needed but this is not difficult. Clearly a link to one commodity “gold” is daft. What is needed it a general (for all purchases) inflation target and adjustments to meet this target.
At the moments the problem is a low base rate for old base linked loans but a dis-functional banking system able to charge huge fee and margins on new loan if available at all. So for most small business the interest rates and cash is too tight for the slack economy.
More competition in banking and less government tax and waste is what is needed together with banking regulation which do not discourage lending to small business.
February 23, 2011
lifelogic, have a read of Alan Greenspan from 1966; before he got Goldman Suckered. http://dollardaze.org/blog/?post_id=00527
Particularly the para containing the following:-
“The reasoning of the authorities involved was as follows: if the Federal Reserve pumped excessive paper reserves into American banks, interest rates in the United States would fall to a level comparable with those in Great Britain; this would act to stop Britain’s gold loss and avoid the political embarrassment of having to raise interest rates.”
February 23, 2011
I am with you, and Hayek, in so far as gold is not the panacea some seem to think, and that government can and have, broken it whenever it has become inconvenient. But I am with Hayek, and not you, on a different solution:
(from F A Hayek’s “A Free Market Monetary System“).
In such a vastly more interconnected world as when he wrote that thirty-odd years ago, I think it is if anything more viable than ever.
February 23, 2011
It is a sobering thought that it is forty years since ‘Competition and Credit Control’ sent us down a path from which we show little sign of returning. These are indeed political questions which politicians have since 1971 been happy to avoid so as to enjoy the dubious credit for inflating public spending whilst diffusing responsibility for money supply and inflation.
No one in 1971 could have expected the oil price crisis in 1973/4 which is precisely why we need government to be able to control money supply. It is no answer to point to globalisation as changing the argument. It has not. Responsibility for what happens in the UK is for the UK to address, or is it? That’s another question.
February 23, 2011
“…Past experience of the gold standard shows that politicians may well conclude if it gets too tough to stay virtuous that they will abandon it, so gold provides no final solution to inflationary preferences…”
Wow. De Facto – ‘We may find it rather difficult to run an economy that does not involve looting you via taxes and inflation therefore we should not try’
And don’t be afraid of falling prices, this is a good thing. Since the early 1990’s the computer industry has seen more or less permanent deflation, I now have a much better computer, for a lower price than my bulky clunky 1994 model for a far lower price. This is good. Deflation only hurts the indebted, and who is most indebted? Yep.
Modern economists conclude that countries with natural resources seriously underperform this without (the so-called ‘curse of resources’) look at Gulf states compared to say Hong Kong so don’t worry about the lack of gold mines, again this is to mis-understand what money is.
And as for the gold standard being associated with unsuccessful periods in our history, this probably refers to the 1930’s with dodgy tariff policy, world recession and fixed exchange rates. The gold standard is also associated with our greatest ever economic period, viz, the industrial revolution.
February 23, 2011
‘Deflation only hurts the indebted, and who is most indebted?’………Ouch, right foot swiftly aimed between the legs…..Stuart, you wouldn’t by chance be referring to the government who gleefully spend future tax revenues with alarming ease would you?….I must admit when I sit in front of my lovely laptop which cost £400 and think what rubbish I could have bought with that 20 years ago a smile crosses my face. I suspect that John might be referring to Mr Churchill’s controversial decision to return the pound sterling in 1925 to the gold standard at its pre-War parity. This was widely argued as a move which created deflationary pressure on the UK economy……My wife’s father always blames Mr Churchill for that period as his mother and father (miner) suffered from malnutrition during that period (late 20’s/early 30’s).
Deflation is good for people who live within their means where possible but not for politicians as it doesn’t allow them to use inflation as a stealth tax to steal from savers or buy votes so that they can spread their ‘influence’.
I agree with John’s view that when all is said and done…’It requires judgement, and corrections if things start to go awry’….Unfortunately, British politicians have shown themselves as peculiarly inept at undertaking such action.
zorro
February 23, 2011
A rare sighting of the concept of the velocity of money.Most commentators talk exclusively of the quantity of aggregates. It must be the case that those people whose mortgage repayments have gone down because of interest rate reductions are making the money circualtion very sluggish to the point of being dysfunctional.Gordon Brown’s crisis measures would probably have worked if people had taken their savings on the mortgage and spent them in the shops in a spending spree,as seems to have been the intention.Instead the shops are closing.
February 23, 2011
A notable change in recent years was the conversion of many building societies to banks, followed by their disappearance as independent banks. Does anyone have an opinion on the significance?
February 23, 2011
I believe this to be hugely significant. The old Halifax Building Society was the equivalent of the old BOE – it took over weak societies and kept other mutuals in line. In slang parlance – it was the ” Guvnor”.
Savers were not bamboozled with a myriad of rates and borrowers likewise had straight deals based on sound personal finances. The allocation of mortgages was highly organised and it was not unusual to be on a fairly short waiting list once approved. Now I find the various admin and upfront charges to acquire a mortgage beyond belief and they should be regulated – a bit like credit card interest rates.
RBS woes were heavily down to terrible regulation and dubious government judgments, but it is very telling that it was old building societies chasing riches that were at the fore in the banking hiatus.
February 23, 2011
Mutuality is the solution and was never the problem unlike greed…..
zorro
February 23, 2011
Mutuality could be the ‘big society’ in action….
zorro
February 23, 2011
The problem with all of this is can be summed up in one word – politicians. We have just witnessed a period of economic madness, the consequences of which will be with us for decades. There are insufficient personal sanctions against politicians to prevent such malevolent activity happening again. Blair and Brown caused massive damage to this country and our only sanction was to see them removed from office and then make millions of pounds for themselves, leaving the rest of us to pay a high price for their actions. If politicians knew they knew that they would be properly held to account and not enriched by their failures they might think more carefully about how they spend taxpayers’ money and run the economy.
February 23, 2011
That is a very fair point.
February 23, 2011
Phil Johnson wrote an artice in the Speccy a while back calling for a system of ostracisation for the 21st Century. Every year we all vote to ostracise 5 people (can be anyone you like) and it becomes illegal for the media to even mention their name.
I quite liked it. PJ reckoned the French and Italians would love it too so there would be no EU problem either.
February 23, 2011
John
The real cause of our problems has been Politicians, who simply do not properly understand how real economics work, and promise the earth.
For decades we have had politicians messing with the economy, the tax system, the welfare and benefits system, interest rates, pension system and the like, for simply political reasons in promising voters what is the impossible, “that things will always get better”, “the State is your helper and will always provide” (not of last resort and for a limited time).
As a consequense we have drifted from boom and bust because we have had over reaction, and over counter reaction, before any changes have worked their way through the system.
Its almost like driving a car on ice and snow, you go to fast into a corner, you start to drift and overcorrect, then over correct the other way, then you touch the brakes, then the accelerator, and wonder why you end up in a ditch.
Managing the economy requires a gentle touch at all times, and the patience to wait for results before making any other moves which may confuse the results.
Drive on ice at a sensible speed, turn into corners gently, keep a light touch on the accelerator, and leave a good distance for gentle braking, and you give eveyone a smooth and safe ride.
Perhaps our problem is the fixation of short term polices, for short term governments, and over expectation by the voters.
What we are now left with after years of mismanagement, is gross overtaxation on both personal and business, a wasteful spend of those funds by government, everchanging policies and regulations which make future financial planning for most an absolute lottery, and a benefits culture which sucks in people from all over the world.
The only real solution is for politicians to be honest about what they can do and provide, and for the population to be aware that in order to improve your lot, you need to work to help yourself.
February 23, 2011
As Ronald Reagan said, the most frightening words in the English language…’Hello, I’m from the government, I’m here to help’
zorro
February 23, 2011
Much enjoyed John, but I wonder why we trust a state-backed planning authority to manage money when we wouldn’t trust central planners to manage the supply of, say, bread. Bread is too important to be subject to central planning and money still more so.
As my Cobden Centre colleague Jamie Whyte has set out, we should strip the Bank of England of its power:
http://www.timesonline.co.uk/tol/comment/columnists/guest_contributors/article6619963.ece (a free legacy article)
February 23, 2011
To be honest I don’t see how this could work. With a fiat currency, someone has to decide how much is issued. Even if the government decided to issue a fixed amount, that would still be a decision.
February 23, 2011
It’s nice to know there is someone in parliament who gets it. Well said sir. If I may quote Barney from the Simpsons “If I ever voted, it would be for you”
February 23, 2011
Nice one Steve but alas I see no way back from Keynesian theory (constant net inflation) as operated by western central banks. Keynsianism is the ideal model for western style grafting politicians. Fiat currencies will prevail, commodity currencies – or any demurrage system currency – would seriously cramp their pork barrelling style.
I don’t know if it was the western central banks or their political masters, that got the capital requirements and the reserve requirements wrong. The former is supposed to be set by the Basel Accord but they fudged it when they redefined “capital”. The latter ended up removing practically every asset in a bank from requiring reserve cash. It is written that no fiat money system has ever lasted more than forty years, throughout the ages. So we came off the gold standard in 1971, I think … Oh bugga.
Good vid’ on QE at http://dollardaze.org/blog/?post_id=00762
February 23, 2011
capital requirements, Basel 2, regulation…blah blah blah…’Banks, the principle of moral hazard applies, glass steagall laws apply, if you gamble recklessly – you pay, not the taxpayer – end of lesson.
zorro
February 23, 2011
Same could be said of planning permission? Why not just auction that off per square meter?
Oh yes, you”re all paid on commission to make house prices go up aren’t you, silly me.
February 23, 2011
You don’t mention the effect of rampant speculation – since currencies have been losing credibility by systematic debasement, yes – by politicians, the idea of an independent bank of England is yet more politics. It is not really true. Now the problem, according to Greg Pytel is that the Bank of England cannot affect inflation through the usual measure: raising interest rates. Because former currency holdings have now fled to the relative safety of commodities, thus causing inflationary pressure that is not going to reverse in the face of a rise.Like reputation, it takes along time to build, and can be shattered very quickly. I believe the QE program has achieved reputation-shattering effect. And in the face of such a political measure, any seeming nonsense about the independence of the bank of England is revealed for what it is.
Also, you mention the problems with the gold standard, but there is vastly more silver in the world. Silver has worked before, and I have noticed that there is a popular movement to hedge against politically-inspired inflation by buying up silver bullion.
February 24, 2011
Re silver – true, but silver backed currency doesn’t necessarily stop inflation (16/17th century Spain)……The silver miners would be at it hammer and tongs now, particularly with all its industrial uses….Gold is better as a price stabiliser….but financial discipline and rectitude is best of all. (like our good German burghers in the Bundesbank)
zorro
February 25, 2011
I think the Inca exploitation of 17th century Spain is a very peculiar case. But I hear what you are saying, the fact is though that buying silver has become a popular move, and is creating in effect a defacto currency. If it is true that (an investment banks ed) have been shorting the commodity deliberately to shore up the dollar fiat, then this movement, so far is building and perhaps it might eventually meet its aim – which is for people to have more control over inflation against a hostile state who believe in rampant inflation.
February 23, 2011
“How to run the UK economy” –
In that one line you demonstrate why we should not be trying to “run” the economy.
To even concieve that one can “run” an economy is to lack the comprehension of the size and complexity of the thing, let alone its potential.
I think “How to try not to run and economy” would be better.
February 23, 2011
‘There should always be people at such times exposing what the authorities are up to and trying to use the pressure of public opinion and elections to get things back on course.’
Indeed. Well done. 🙂
People advocating the gold standard need to be aware, I think, that it wouldn’t actually solve inflation. There would be a lot of problems in adopting the gold standard, but it wouldn’t actually deliver the main benefit that is claimed for it—stable prices.
You can see this just by looking at historical inflation records. There were periods when the supply of gold outstripped other goods, and the result was inflation. At other times, the opposite was true, and prices fell again. This looks suspiciously like boom and bust.
February 23, 2011
Most of the world’s gold resources are known and so the likelihood of serious increases in the quantity of gold is virtually nil. This is a straw man argument.
You may choose to believe in the unbacked paper issued by Mr Brown etc. I respectfully suggest you maybe about to seriously learn the error of your ways as the predictable and predicted inflation destroys those who choose to hold paper.
February 23, 2011
“Barrick shuts hedge book as world gold supply runs out”
http://www.telegraph.co.uk/finance/newsbysector/industry/mining/6546579/Barrick-shuts-hedge-book-as-world-gold-supply-runs-out.html
“Global gold production is in terminal decline despite record prices and Herculean efforts by mining companies to discover fresh sources of ore in remote spots, according to the world’s top producer Barrick Gold.”
I don’t think you have to worry about the supply of Gold outstripping other goods.
As for deflation, money is merely a means by which we exchange items of generic value for goods and services. If the value of Gold collapsed – that would be a problem.
The Reasons Gold has been used as a medium for wealth exchange for thousands of years is that it:
i) does not degrade over time,
ii) it is rare and
iii) it is malleability.
It can be broken down into smaller denominations of equal weight. The Governments Job would be to monitor and control the weights while allowing the population to get on with their business in a free, unmanipulated economy.
Many businesses complain that they cannot plan ahead as the fiat money system is too unstable and unpredictable giving rises to Booms and Busts. They therefore do not feel confident taking on new staff as the Busts may destroy their future orders.
Gold is not perfect but it’s better than nothing – at present – we have a “money” or more accurately a “Currency system” based on Nothing.
Ben Bernanke’s money printing exploits loosely disguised as “helping” the economy have created a currency War and insighted major civil unrest in the Middle East – where the Oil comes from. Anyone suggesting that Fiat Money systems are wise needs their head examed – or more to the point – their alleigences.
Egyptians struggling to afford to pay for food does affect us and will affect us. Oil is already rising and will continue to rise despite Opecs assurances. Oil doesn’t cost $106 per barrel to extract – the Markets and speculator money have forced the prices up.
It’s no accident that the Worlds economies have become more unstable since Nixon took the World off the Gold Standard.
The Bretton Woods agreement would never have got off the ground unless other Central Banks around the World believed that the US Dollar was backed by something – it was Gold, then the US took the Dollar off the Gold standard. Oil jumped in “price” partly because the Dollar had just been taken off the Gold Standard.
February 24, 2011
Compare the inflation charts for the last 300 years and compare the period under the gold standard to even the last 60 years….give me gold any day.
zorro
February 23, 2011
living standards will be decline sharply at some point because the western world is a bubble economy, built on cheap manufactures abroad and deficit spending. Neither of which can continue forever
February 23, 2011
Adam
Agreed, but the problem is that those who are working and trying hard to hold it together, are going to pay a bigger price, because all of those people on benefits get the money tax free, and in addition the government does not seem to want to cut any benefits, so in effect they are guaranteed a tax free income (wage) whilst others may have to, work short time, price work on a lower margin basis, get made redundant or go out of business.
February 24, 2011
The government are scared of people on benefits doing bad things when they are taken away….One should not underestimate this effect on government thinking, particularly in the light of recent events…..But then governments should be fearful of people and not the other way around. I would respect the government if it controlled immigration and freed British people from their subservience to nanny and the spoon feeding. I am feeling spiritual…as the apostle Paul said…..'”If a man will not work, he shall not eat.” (2 Thess 3:10). Here endeth the lesson.
zorro
February 24, 2011
Do you mean Congressman Ron Paul?
February 23, 2011
There is nothing wrong with slowly falling prices. In fact “economics” or to “economise” means to strive to attain ever more cost effectiveness, and cheaper goods. It is impossible to sustain this when the money supply is being inflated because of the debt incurred creating the fiat money. Gold will quickly flow to the most profitable and economic producers, because gold pays no interest unless it is put to work and invested profitably. As it should be. Miners of gold are marginal. New gold produced annually is a trickle compared to gold already mined. Govts and banker fear gold because they cannot loot the public by the stealth tax of inflation.
February 24, 2011
Amen
zorro
February 24, 2011
This is far too sensible for our Government to accept.
I’m fairly certain they understand it though.
It’s that Stealth Tax that they are now all addicted too. The whole Government (especially Labour) need to be put in rehab.
February 23, 2011
We should not denigrate gold for causing a credit bubble to implode. The problem is the credit bubble, the collapse of which is inevitible, not the gold. That gold precipitates the wringing out of the credit bubble is desireable. Curing credit with more credit is the path to madness. Thereis no way to extinguish credit with fiat money, because fiat is itself a debt because it is created from a loan, nevermind a loan which cannot always perform.
February 23, 2011
The trouble is that we have too many career politicians who only too frequently act in the interests of their party or of themselves and we rarely get a politician who is genuinely trying to do what he thinks is best for the country. I think that Churchill was one of these, possibly Margaret Thatcher – neither became rich from politics – but when Tony Blair was cosying up to Europe, was he doing that in the interests of the country, his party, or Tony Blair? I have my view, no doubt others have theirs. It is difficult to envisage a solution to this problem and ensure that those running the country’s finances, whether at the Bank or the Treasury, are genuinely acting in what they believe to be the best interests of the country.
I’m sorry, but my contempt for most politicians is summed up in the reported words of the retiring Irish Prime Minister “There are times of crisis when the interests of the country must transcend party and personal preferences”. I would have thought this should always be the case, crisis or not.
February 23, 2011
English Pensioner.
Agree with many of your comments.
The other possibility is that too many MP’s do not have a finacial clue about their own finances (our present host excepted) let alone how to run a country.
How many successful businessmen have been Chancellor or Prime Minister ?
February 23, 2011
That’s basically an admission by the Irish Prime Minister that Party and Personal interests mostly transcend the interests of the Country.
“It’s the way they tell ’em”.
February 23, 2011
Several commentators (certainly AEP in The Telegraph) have noted the importance of the velocity of money to indicating when inflation is really going to take off, and turn into hyperinflation. Apparently the Weimar Republic was a classic example of this.
Is this a measure that is officially estimated and published on a regular basis? I have searched, but all I find is a lot of articles explaining the basic theory, and many references to newspaper articles, but nothing like, say, the Baltic Dry Index website that gives you a visual representation of the information updated daily. I can’t see that an annual measure would be any use to decision making, so surely someone must keep track of the velocity of money on a weekly or monthly basis?
I’d be most grateful if anyone could point me to a site that has this information.
February 23, 2011
Can’t agree with you about the gold standard Mr Redwood. Britain’s currency was based on gold for hundreds of years when it expanded to the largest and most successful empire in history. For a relatively short time in the 20th century after we had almost destroyed ourselves in war our government failed to produce an effective economic model. That doesn’t mean it wouldn’t work in the future, although I accept that it would mean that our politicians would be unable to buy votes as they are used to doing so it will probably not happen until sterling actually collapses.
February 23, 2011
It is clear that the NHS is being broken up into small parcels so that these can be cherry picked by the private sector in the near future. The NHS will be left with the unprofitable chunks which will descend into charity status.
If you already have DenPlan then prepare for MediPlan my friends.
BobE, Region 6, EUSSR.
February 24, 2011
It would allow Cameron to join the Euro after the next election (if, a big if, he wins) subsequent to him giving a ‘cast iron’ guarantee not to do so…..
zorro
February 23, 2011
It may sound naive but here goes where do governments borrow money from and where do these institutions they borrow money from get their money from to lend it out.
Reply: Usually from savers through pension funds and insurance companies, bhut mroe recently by printing it.
February 23, 2011
And also Sovereign wealth funds like China, Saudi Arabia and other such places that it’s a really great idea to be indebted to.
February 24, 2011
Paper money is debt created out of nothing – it is printed.
zorro
February 23, 2011
At least the current Government is attempting to reduce the debt.
This system works great for the banks, but not so well for us. It’s the reason why:
* The average UK adult owes £29,918 (including mortgages) – 126% of the average salary
* 15% of the average family’s income will be spent on interest on this debt
* Government debt now adds up to £32,730 for every worker in the UK, costing every household a further £1,890 in interest each year
* In 1960, a house would cost 3.6 times the average yearly wage, in 2010, a house would now cost 9.8 times the average yearly wage.
* Banks had to be bailed out by the taxpayer.
This is how the Government is running our economy. A lot of the blame for this lies with Tony Blair and Gordon Brown.
February 24, 2011
‘At least the current Government is attempting to reduce the debt’……Talk is cheap, actions speak louder.
zorro
February 24, 2011
Zorro,
Precisely.
February 23, 2011
A non-gold standard system alternative…
http://www.positivemoney.org.uk/how-it-works/
Still fiat money but with a difference. I am not convinced about this as I would prefer a gold standard. But I have an open mind.
The PositiveMoney campaign are proposing a system as follows:
1. MPC sets the money supply
2. The Bank of england creates it.
3. This newly-created money would be non-repayable and therefore debt-free.
4. Current Accounts would become “Transaction Accounts” – non interest paying – effectively Deposiit Accounts not loaned out, with bank charges.
5. Savings Accounts would become “Investment Accounts” and would be time deposited – No Access at all for a fixed period from 1 month to 5 years and upwards.
Interest is payable on these accounts.
6. 100% Reserves of demand money – no Bank runs and therefore no need for Government (tax payer) bail outs.
7. The MPC would no longer decide interest rates – these would bcome driven by competing Banks. If they have too much money – then interest rates drop, too little – they go up.
8. Governments would not be able to creat money -as this would be decided by the MPC based on the needs of the economy. Inflation would be the prime factor.
The creation of debt free money would mean that the economy would no longer demand people to borrow money to maintain the money supply.
The main problem with this system is that it would still mean that the Bank of England would create money out of nothing. But at least it would hand it over to the public free of charge to maintain a stable non expanding money supply so could be an equivalent of the Gold Standard and not a Keynsian, debt based, saver hating, type of economy.
The PositiveMoney campaign I believe is the most positive alternative to the system we have now. They also enthasise the degree of debt this Country is in – “Education, Education, Education” – as Tony Blair once said.
February 23, 2011
I personally don’t agree that the ERM was a failure as it achieved low inflation and low interest rates. You would agree that in general principles, those who supported the ERM saw it as an opportunity to get inflation down, primarily by holding down wage inflation, and by making the British economy look serious in that it could keep inflation down.
That in itself worked. Before we left the ERM, inflation and interest rates were on their way down and the economy went back into growth. At that crucial time, inflation and interest rates were under control, John Major’s policies had worked.
But as Major said at the time, and others since, the ERM was just one mechanism to keep inflation low, but an important one at the time. I’m not sure how you feel Major managed to get low inflation and low interest rates, but he did.
Thatcher, Heath, Wilson and so on, all lost control of either interest rates or inflation, or both. Their policies were muddled, unlike those of Major, and they came unstuck.
Since history is often a good indicator of the future, what measures would you have taken in 1990 to get inflation down? Major cut interest rates from 15% to 10% during our membership of the ERM, in a period of recovery, and he managed to avoid inflation, and he actually got it down to record lows in terms of recent economic figures.
Reply: Nonsense – it was the ERM that gave us 12% and even 15% interest rates – they went down to 5% when we left. And it was shadowing the DM which gave us the inflation.
February 23, 2011
This just isn’t even true. Interest rates under Thatcher went up and down between 1979 and 1985, all at a relatively high level. In 1988 they reached a low, and then they steadily increased until we joined the ERM. Then they went down constantly whilst we were in the ERM, without any ill effects on inflation, which also kept going down.
And when Lawson shadowed the Deutschmark, he pushed interest rates down, which inevitably pushed inflation up as the economy over-heated. The markets and the economy could see no strength in the Government’s strategy, no reduction in wage demands, simply the reverse, hence the over-heating.
Which is the point, if you just push down interest rates, then inflation will come back unless there is some mechanism to prevent it that the markets believe in. That is surely also the risk today. A good Prime Minister surely should not accept high inflation.
The ERM was never the answer to the problems in the long-term, Major never said it would be, and it was inevitably temporary given how some countries were moving to a single currency. But whilst we were in it, it worked. The economic figures prove inflation and interest rates were brought down to generational lows.
I’m still not sure how you believe John Major delivered the economic miracle that he did, that eluded Thatcher, Wilson, Heath, Callaghan and so on if it wasn’t for the ERM. Claiming it happened only after we left the ERM doesn’t tally with the figures.
Reply: Rates rose to 12% at the end of the ERM tragedy and the Chancellor threatened us with 15% rates, all to no avail.
February 24, 2011
The ERM may have reduced the affects of Inflation but it removed the United Kingdom it’s right to control it’s own interest rates and therefore, it’s economy – given a Fiat Currency System.
The UK was in a different part of the Business Cycle – we needed economic stimulation where as the Germans needed economic cooling by higher interest rates.
Note also that a lot of tax payers money was taken by currecny speculation in the City of London who made fortunes at the expense of Tax payers.
Interest Rates of 15% were reached – as Mr Redwood says. I know people who were put into negative equity for years after the decisions made by Norman Lamont and John Major.
Fantastic for Savers though. Briefly.
February 24, 2011
‘At that crucial time, inflation and interest rates were under control, John Major’s policies had worked.’…….John, please tell Lord Major to stop writing here under a pseudonym….:-)
zorro
February 23, 2011
We need to look to Countries with long term successful economic strategies such as Germany of Singapore, possibly today also China and maybe India too. Our Politicians first need to really understand the word “Service” and to honourably and to the best of their ability serve their Country and their Constituents. So many of you simply serve your Party first, for career gain, higher perks, salaries and pensions and take the rest of us for fools. Many of us who vote, are vastly better experienced than Politicans in Economic managment as we have built companies from scratch, to Multi Million pound turnovers. Few of you have done that and most never listen when we speak to you. Most successful business men know a clear strategy is to offer your customers and clients fast speedy and competant service or goods, quicker and better priced than your competion, with an added excellent after sales service. Politicans need to go on a year or so apprenticeship, they would learn a great deal about people, life and money – How hard it can be to earn it. Humility, an ability to admit then fix mistakes are all added skills -yet Politicans avoid such values like the plague and prefer lies and spin, which destroy their credibility with the public in one go. Never lie and NEVER spin, but communicate clearly a strategy for the Country for fifteen to twenty years and then stick to your part of the bargain. The Public really (dislike Balir for his wars ed) and also Brown for …… economic incompetance- selling our gold Reserves at a massive discount. A Century ago, these men might (have been more roughly treated-ed). Today, they walk away to make (large sums) whilst others face penury in their old age and their children are mired in debt. Someone, must be held accountable and must be punished accordingly, including Bankers and Politicians. No wonder Politicans are treated with contempt and not trusted.- You do not command our respect, merely force your laws and rules upon us, against our wishes. The days of Growth are over – we need honest Politicans who can design a strategy for our survival, in the days of $250 dollar a barrel Oil.- without taxing us beyond reason.
Reply: The reason your comment was delayed in moderation was it takes time to consider how to publish something that makes strong personal attacks upon named individuals and uses immoderate language. I have made it clear I do not wish this site to prompt legal action that could adversely affect someone leaving a comment, so I seek to amend accordingly whilst preserving the thrust of the point being made. For faster moderation please do not make personal attacks that cannot be sustained by published evidence.
For the record, I have run businesses.
February 23, 2011
“The Gold standard in the UK is associated with a particularly unsuccessful policy period bring on recession and susbtantial job losses.”
Dig deeper and you will realise that this was not the fault of the Gold standard, it was the fact that Sterling was removed from the gold standard during WW1, was thoroughly debased to help pay for it, and then, in act of vanity and insanity, Britain rejoined the gold standard in 1925 at its old prewar rate, ncecessitating a crunching deflation in prices of up to 40%.
As Ludwig Von mises said, you don’t cure a car crash victim by reversing the car back up over poor guy you have just run over….
February 23, 2011
“Print too little and you have a credit crunch and deflation. Print too much and you have an inflation. Allow banks to expand too much relative to their capital and you inflationary overstretch. Stop banks lending enough and require too much capital and you have recession.”
Why put banks in charge of the money supply? That is surely where the problem lies.
The printing of money surely indicates that the government is living beyond its means. Surely, we don’t want that, either.
It is the “Money out of Debt”, fractional reserve system which has created every boom and bust since it was first introduced.
We need to set a growth figure each year to overcome problems CREATED by our “money as debt” system – inflation and debt!
It is high time politicians had the courage to admit that our corrupt money system is the root of the problem. We need to return to an asset/productivity-based economy.
February 23, 2011
A very thoughtful piece.
My view remains that a culture based firmly on civic responsibilities will always know the right thing to do – as opposed to the politically correct course of action.
There is no place for the engorged egos of bankers in such a society, for they know only a loyalty to their bonuses and shareholders. And therein lies the problem.
As long as the dominant influence on an economy is a banking sector too often contributing nothing to it, sensible thought about what to do will be unnecessarily diverted and distracted.
We do need banking – of course we do – but we also need economic renewal. That can only come from a new banking sector of more mixed motives….because big, globalised banking wishes only to deal with big multinational M&A.
We have more than enough Potters out there: as a capitalist Tory (rather than a monopolist globaliser) we need to look for better models of finance.
http://hat4uk.wordpress.com/2011/02/21/david-camerons-big-society-is-really-another-big-sell-off/
February 23, 2011
Somewhere I have a cutting with a chart showing how base rate had changed over several decades and marking the general elections.
It was pretty obvious that again and again the interest rate was cut in the run-up to an election and then raised again afterwards, and that both Labour and the Tories had indulged in this abuse of power for their party political ends.
That was a very good reason for setting up a system whereby routine operational control of monetary policy, including decisions on interest rate changes, was taken out of the hands of party politicians.
February 24, 2011
Perhaps we are just voting for the wrong people.
February 23, 2011
As John Redwood says any gold standard will if the going gets to tough be overridden by any government even if it were the right strategy. Another banking crisis might send the country so far into economic ruin, that far from gold being used, anything of value will become the currency as happens in Belarus which happens to be in the geographical centre of Europe. The barter system is quite common as everyone is so poor and prices are so high. You can buy anything though, as long as you have got the money..
February 23, 2011
I am a bit late to this debate. Might I add my penny-worth?
The lessons that I take from the current crisis, and the preceding boom, are these.
1. Averting minor recessions post dot.com bubble and post 9/11 lead to a bigger recession some years later. There was concerted action by the monetary authorities in the face of a potential crisis.
2. When the asset prices were overheating, and economies were still expanding, the collective wisdom was that great men were in control – such as Alan Greenspan and Gordon Brown.
3. The end of boom and bust took the shackles off fiscal prudence. In the USA, UK and in many European countries deficits were allowed to grow.
4. Regulation failed not because it was non-existent. The failure was in too much information-gathering and not enough strategic analysis. We could not see the wood for the trees.
5. Independence of the Central Banks does not mean independent thinking. They leaders of these institutions are imbued with the current thinking. In particular, in 2003-2004, they believed that the systemic risks were small, or they did not have the power to slow down the economy and deflate the asset price bubble with a monetary tightening.
The solution is to change from micro-managing monetary policy and detailed regulation to a strategic view. It requires fiscal and monetary conservatism. A deficit should only occur when there is negative growth in the economy. Interest rates should only be actively adjusted downwards when a major crisis looms, and a recognition that economies go through cycles. In both cases, monetary and fiscal tampering to prolong and enlarge a boom means both that the bust will be larger, and the tools to alleviate it will be much less effective. That is interest rates that are already low cannot be lowered further, and a deficit-financed fiscal expansion is less effective (and more risky) when there is already a structural deficit.
It is not new structures that are required, but a change in the received wisdom. The crisis occurred due a false belief that the only reality that is relevant the world of opinion, presentation and the latest statistics or events. The longer-term is beyond our focus.
February 23, 2011
I think what you’re talking about is efficiency and competitiveness and productivity. What about good old fashioned goods and services that are in demand.
February 23, 2011
The elephant in our room is property and the lack of regulation of its supply. The empirical proof of this lies in looking at comparative inflation figures issued by the Swiss National Bank. Their money supply went haywire in 2008/9, as did ours, and inflation took a leg up but quickly fell back. For the first time since their inflation target of 2% was set in 1993 they missed it… for 2 quarters I believe… There was no fear, panic and money printing to support real estate prices, because lower % increases historically mean that people aren’t used to using their homes as piggy banks.
The key for the UK is to get property prices down and regulate access to mortgages. Stabilise access to and growth of the largest outlay in most peoples’ lives. Property trading is unproductive, and for every winner there has to be a loser. Couple this with an element of a plan for economic growth, not in estate agents and nail bars, but in producing goods and services for export, and we might have some chance of escape from the boom and bust trap.
Anyhow, the last set of inflation figures below is what you get when you arrive there:
http://www.snb.ch/ext/stats/statmon/pdf/deen/T1_Konsumentenpreise.pdf
February 24, 2011
What you describe as being the problems were caused by Fiat Money and the Banks ability to create credit from nothing using the Fractional Reserve Banking System.
A big change occurred in the Eighties which seemed to miss most News Media – at least the Front Page – at that was the Banks allowing two salaries to be counted for the Income Multiplier to calculate the available Mortgage allowed. This both damaged the Social Fabric of Society and Inflated the Housing Market. The Banks Won as interest payments went up.
The second was the way Inflation was described – it was no longer said to be the Inflation of the Money Supply but was now said to be the Rise in Prices, the affect of an Inflating Money Supply – which fooled everyone into believing that the Banking System had nothing to do with Price Rises.
Another key issue is that of “Moral Hazzard” enabling Banks to lend money to Home Buyers even if there is no chance of a borrower surviving a hike in Interest Rates (a very real problem at present) – as the Banks no that they will get help through the Bank of England with QE BAIL OUTS – paid for by Savings – more covert Taxation.
We have had Boom and Bust ever since the Bank of England was created. The BoE’s original purpose was to lend money (with interest) to the Government in times of Crisis – especially War. The debt would be repaid through the mechanism of inflation – taking Taxes covertly as direct Taxes would be unpopular. The BoE still operates like a private institution but the profits now go to Private Banks and Corporations without the Public knowing exactley where their money goes.
February 24, 2011
Why not a fiat currency which is never expanded? Why is there a need to expand the money supply?
“To prevent deflation”.
But we want deflation, don’t we? We want goods and services to get cheaper. That is how growth occurs! If they do not get cheaper in real terms, there is no growth. Growth is a consequence of greater efficiency, not more money.
“But wages will deflate”.
That is an odd one. If the money supply is stable, so must be the national income (that is, the sum of all individual incomes). So, clearly wages are not forced to deflate. Only goods and service prices deflate. They only do that when the wage earners (and a wage is also a director’s remuneration, a shareholder’s dividend, etc). The sum of monies paid to every person in the economy must remain the same. The goods become cheaper as the workers’ efficiency improves.
So, flat money supply. No inflation. Falling prices. Everyone gets wealthier (in terms of goods and services). What’s not to love? Why the terror of “deflation”?
February 24, 2011
Examine the pattern in the last 4 busts
1987 – stock market bust, over priced stocks.
1992 – interest rate bust, over priced money (interest rates)
2000 – stock Market bust, over priced dot com shares
2007 – interest rate bust, over prices money
So there is a predictable pattern. The question is why do they swing from over priced shares to over priced money. Why dont commodities cause busts in the UK?
Inflation, interest rates and other overtly politically controllable aspects etc are symptoms not causes.
Busts are due to weaknesses becoming exposed, such as the true value of shares, the true risk of money. Shares and money need to become more expensive to reflect risks. Thinking interest rates control inflation is naive – interest rates need to reflect risk. Which is why I say interest rates need to go up to burst the housing bubble before we can move on. Once this has been done then money and shares can be managed properly, until then the whole economy will stagnate and wages will inflate slowly for years until house prices deflate to their long term level.
February 24, 2011
It’s interesting reading these comments and how so few people are able to (a) generalise the cause of a bust and (b) look for patterns.
A bust happens when interest rates rise and people can’t afford housing or shares fall and companies can’t pay wages. It’s not beyond the wit of man to stop these happening. Mortgages need to be restricted and jobs not depend on shares.
February 24, 2011
Its the economy (money supply) stupid.
Manipulate it,pump it up up up, overborrow, overtax, more client state/council non jobs, encourage spend now (punish relatively small savings means testing v house deposits ), trap people in dependency remove 10% income tax, it should do you until the next election.Also pump up immigration it may help your vote push GDP higher and keep wage inflation down and housing up up up.
Or has the other party tried that one?
How do we control politicians with an upside but little to no downside?
How do the electorate vote for an issue suppressed by incumbents?
How do we vote no to the EU?
How do the Swiss manage their money supply and inflation?
How does direct democracy work?
Is it time to revisit a constitution with an effective balance of powers subject to a more representative democracy. It will be more difficult the more the state dependency grows, this includes all our privately but publicly subsidised and funded banks.
Who still thinks a powerful interest and industry like unions and miners are the major problem? Oh for ‘Mrs T’ , it would be a pleasure to watch her take these guys out.
As always my comments are not aimed directly at yourself but rather our system.
February 24, 2011
Hopefully John Redwood will answer this but I think it is because the Swiss Franc is still regarded as a safe haven currency. It was removed from the Gold Standard (it was partially backed by 40% Gold) in May 2000 – although it’s difficult to confirm this. Switzerland still has substantial Gold Reserves.
If it was still backed by Gold they it’s value would have dramtically outstripped all other currencies. switzerland is also a Financial Centre with strict anomynity Laws. Therefore a lot of currency flows into the Country.
The City of London is regarded as a Financial World Centre which is probably why the GB Pound is also regarded as a Reserve Currency. But it doesn’t mean the Pound is stable as ALL currencies are being devalued together.
Reply: Yes, the Swiss did remove their partial gold backing for the Swiss franc, and foolishly sold a large quantity of their gold reserves – at higher prices than Mr Brown but well below today’s price. The Swiss franc continued to be a strong currency owing to low inflation and good monetary control.
February 24, 2011
My comments STILL awaiting moderator?
February 24, 2011
The Fed is the black hole in American democracy. Interesting number of articles and pertinent questions for consideration here. Conflicts of interest etc.
February 24, 2011
“Conflict of interests” – Putting it mildly.
The Bank of England has a few black holes of it’s own. check out the BoE subsidiary Companies which operate in complete secrecy – their activiites are protected by the Freedom of Information Act EXEMPTION and the Companies Act.
There’s probably nothing much going on there but – if that is the case; then why the secrecy?
It is a Nationalised Bank after all.