Category: Blog

For months I have been saying interest rates need to come down to 2-3%. The authorities now seem to agree.

For months I have also been saying our public deficit is too high and rising too fast, and needs to be controlled if we cut interest rates to stimulate the economy.

Now the Treasury agrees with the first part of that forecast. I have been using £120 billion as the borrowing figure for 2008-9. The Treasury is now preparing us for a figure above £100 billion on Monday when they announce their new forecasts, followed by another high figure for 2009-10.

Let’s hope they soon get the third message. Borrowing needs to be at a sensible level, to sustain the lower interest rates we need. If they do not show a convincing path to modest levels of borrowing, they will find it increasingly difficult to borrow all the money at a sensible rate, and could feel more strain on the currency.

The quickest and easiest way of controlling borrowing would be to change the way they support banks, and to sell some of the banking assets they already own.

NO
Indeed, No, No, No.

I am surprised that some of the people writing into this site think joining the Euro might now be a good idea.

When Euromania was at its height I wrote a book entitled “Just say No”. It set out 100 reasons why abolishing sterling would be a bad idea, for the EU as well as for the UK.

From the UK point of view it will always be a bad idea, for all those of us who want to keep a democracy in these islands. The electorate needs to be able to appoint and sack the people who make the big decisions which affect our economic well being. That includes keeping our own power to determine interest rates, how much currency is in circulation, and our budget deficit or surplus.The fact that our governemnt has been making a mess of using those powers should not dim our belief in keeping them here, under democratic control.

The UK economy is too big, and too dependent on global trade and dollar business, to be a comfortable part of the Eurozone. Whereas today some of the strain on the economy can be taken by changes in the exchange rate, were we to join the Euro more of the strains would be taken in lost jobs and lost investment.

In order to join the Euro, a country is meant to keep its currency stable against the Euro for a period of years to show it has converged with the others. Sterling has moved from 71p to the Euro, to 60p to the Euro to 83p to the Euro now – wide fluctuations showing our economy has not converged, and is not about to. Our miserable experience in the Exchange Rate Mechanism showed how much damage to jobs and asset values pretending we had converged could cost. Why do that again?

A country also needs to keep its deficit down to a maximum of 3% of National Income. Our Treasury is now forecasting an eye watering 8% of National Income. Whilst I would like our deficit to be reduced, slashing it from 8% to 3% would be too far too fast requiring in the short term crippling tax rises as well as spending cuts in a way which could damage the economy further.

Euroland would be foolish to want the UK in at any price. Just as the UK destablised and then wrecked the Exchange Rate Mechanism, so in this condition we could damage the Euro. Euroland is already struggling to discipline or live with the excesses of Italian, Spanish and Greek economic policy. Incorporating sterling would be a bridge too far, and would end in disaster.

This week has been a bad one for the government as investor in bank shares. If they go ahead with their purchases of HBOS and RBS, taxpayers will be sitting on an immediate loss in excess of £8 billion.
At a time when money is scarce and people are overtaxed, is this a good idea? Why not support the banks in a cheaper and less risky way?
Shouldn’t the PAC open an enquiry into this use of public funds?

We now know that the strategy behind Northern Rock was to wind much of it up at taxpayers expense. Their mortgage outstanding lending is falling rapidly.The government probably wants to have something left for the General Election, and is telling North Eastern MPs and their constituents that the nationalised company will still make payments to the North East in the meantime. I have never understood why they wanted to manage this run down, and have always felt it would cost taxpayers substantial sums. I do not expect to see our £3 billion of share capital back.

RBS is a very different matter. The Labour party rightly sees this as a going concern. There is now an argument about what to do with it.

In the capitalist corner are those who say the government should help the bank get back into healthy profit as quickly as possible, and then sell the shares on to the private sector, making a profit for taxpayers. They favour changing the terms of the current offer, to make it easier for RBS management to pay for the capital, and easier for them to make good profits. They accept the City argument that 12% interest on the Prefs is too high in the current climate.They believe the goverment should not appoint Directors, and should stay at arms length.

In the socialist corner, they take a very different view. They see nationalisation as an opportunity to change banking, curbing the excesses of the private sector. They favour government Directors. They want the government to limit salaries and bonuses for senior people, urge increasing certain kinds of lending that they think are needed in the economy and propose lower fees, charges and interest rates for preferred account holders and borrowers like people on low incomes and small businesses. They favour banking with a conscience or a social purpose.

Both groups share the heroic assumption that the nationalised banks have been through the worst. They are discussing how to share or spend the proceeds of success following cheap purchase of the shares.

The market is offering a different warning. RBS shares trade well below the government’s proposed purchase price. If the market thought the government capitalists were right and would prevail, investors would be buying the shares at least up to the goverment price so they could enjoy the ride and profit alongside taxpayers. Either they think the government will require too many social policies from its bank, or they fear that the underlying financial position of the bank is worse than the government optimists believe.

What could go wrong for the goverment capitalists? The banks have admitted substantial losses on mortgage lending, but house prices are still falling and mortgage lending experience could deteriorate further. As more lose their jobs so more people will find it difficult to pay the mortgage. The banks have not yet written much off their corporate lending. This winter will see a big deterioration in the financial position of many companies. More bank write offs here are likely. The security banks have taken for many loans, based on property or shares, is being undermined by the day. Any prudent buyer of bank shares would do a lot of due diligence on loan books before commitment, and would apply a discount to the current assets to allow for more hostile conditions ahead. The government has done none of this.

Nor should we assume the capitalists in the government will have it all their own way. Whilst PM and Chancellor are mainly in the capitalist camp along with other Treasury Ministers, they are politicians wanting to do well in an election. They may seek behind the scenes to get the nationalised banks to lend more, to go easy on certain fees and charges, and take certain social matters into account. There will be limits to how much pain these politicians will take in the case of defending well paid bankers saying No to too many people and businesses.

The more I look at it, the more I conclude the government in its own political interest, let alone the country’s economic interest, should renegotiate its package of bank support. It needs to stand behind the main banks, but it does not need to buy such large shareholdigs at the proposed prices. The risks are simply too great. The banking crisis did not end with the announcement of government cash for shares. It simply entered a new and worrying phase, where the taxpayer is too much on risk, and the government faces nasty political dilemmas aout how to run these huge organisations. It is cheaper and less risky to support banks by short term loans and guarantees for which the banks pay a fee or charge.

I heard Ian Pearson speak last night. He like many Labour Ministers read out a script which told us he felt our pain. He told us we were going into recession. He then told us that the 3 point Brown plan was the answer to our banking woes. If only!

Appartently they have three aims from their international jet setting. To get agreement to more transparency, to get agreement to more capital adequacy for banks, and to reform the rating Agencies. Thud, thud, thud. That was stable doors you heard. No, there are no horses left, but worry not. The taxpayer will still pay the wages of the stable regulator.

Increased transparency is usually a good thing. It also normally means marking to market the values of everything a bank or other financial insitution owns. In the current situation where there are no effective markets for many of these assets, that is hardly likely to bring back confidence. The Minister did not bother his financial audience with the interesting discussion we are told Ministers are having about whether to suspend some elements of mark to market pending the re creation of proper markets in these instruments. They dither whilst the credit arteries of the nation seize.

Requiring sensible amounts of capital from banks is also a good thing. It is a pity the world’s regulators did not do this in the good times, when they were lax in their requirements. Demanding more capital now is deflationary. The UK government wiped out any benefit of its £37 billion new share capital for the banks by lifting the amount of capital they want the banks to have for their current level of lending. Further moves world wide to increase banking capital requirements will mean more banks seeking the repayment of more loans, and unable to make new loans available.

The Minister assured us “The age of irresponsible credit is over”. He did not say sorry for this passing age, nor accept that the UK government presided over this and helped it come into being through its monetary and regulatory decisions.

We know, Minister, the age of irresponsible credit is over. Do you know Minister we are now in the age of practically no new credit? Do you realise this is going to make the recession longer and deeper? Do you understand your banking measures so far have not solved the problem? Will you look again at your banking package, to see how it can be changed? Do you not yet understand it needs to protect the taxpayer more, whilst doing more good for the banks? That would not be difficult, given the manifest imperfections of the current approach.

Can a funded tax cut help create jobs and activity? Does a tax cut have to be unfunded to work its magic of reflating an economy?

This is the new idiocy in Labour’s view of the economic debate. To them an unfunded tax cut – a tax cut which means the state has to borrow more on behalf of taxpayers to carry on with its high spending – is the only type of tax cut which makes sense as they try to stop recession turning into depression. This, like all government soundbites, needs examining.

A tax cut “paid for “ by borrowing does not necessarily reflate an economy. It depends who lends the money to the government, and what else they would otherwise have done with it, it depends on how the government spends the money it borrows, and how the person or company receiving the tax cut behaves.

If the money the government needs is all borrowed from UK individuals and companies, they will spend less on goods and services in the UK in order to find the money to lend to the government. Mr and Mrs Prudent may be tempted to save more and spend less if the government offers attractive interest rates in order to borrow all the extra it needs.

If the people receiving the benefit of the tax cut use it partly to repay debt or to save themselves, that portion of the tax cut will not be spent and will not generate immediate employment for others. Mr and Mrs Overstretch will not reflate by spending if their nationalised mortgage company is demanding more interest and their semi nationalised bank is demanding repayments on the credit card account. If higher income people spend their tax cut on imports or a foreign holiday, the favourable impact on UK jobs of the spending will be also be much diluted.

If the government persists in spending much more than it collects in taxes, not all of this spending creates extra jobs or activity. Some of it passes to public employees who save it. Some is put into public sector pension funds who may keep it in cash or invest it abroad.

Conversely, a tax cut “funded” or paid for by reducing government spending may still be reflationary to some extent. Again it depends on who receives the tax cut, what they do with the extra money, and where the public spending saving comes from. Let us take a desirable but unlikely example. Let us assume that the government decided that every public employee earning more than say £63,000 a year (an MP’s salary) was to take a pay cut to help sort out the crisis. Let us suppose this was spent on giving income tax cuts to the lower paid. A substantial chunk of income would pass from people who are saving a considerable proportion of their good incomes, to people who would spend more of it as their budgets are badly squeezed. It would probably also help the balance of payments, as people on high pay tend to spend much more on foreign travel and other foreign luxuries. This would have some reflationary benefits. A more realistic example might be some reduction in government payments to very expensive consultants, who save or spend abroad substantial amounts of their income, to allow a tax cut to lower paid people who will spend more of it.

The point the government does not want to understand, but the MPC now does, is the risk of borrowing too much. If a country borrows more than investors in international markets think is reasonable, the whole country ends up suffering. The currency falls, making all imports dearer, and the price of borrowing rises, making all taxpayers worse off. In extreme cases like Iceland there can be a collapse of normal banking and commercial activity and the need to go to the IMF and other foreign lenders for the imposition of proper public spending and borrowing disciplines – something a Labour government had to do in the UK in the 1976. That is why the Opposition is right to urge the government to keep its borrowing within sensible limits for these extraordinary times.

I favour tax cuts as always, but I also favour better controls on public spending, starting with the over expensive banking share buying. “Back the banks, don’t own them” should be the slogan..

It was good to hear David Cameron saying we need to cut out waste and unwanted expenditure, and good that he now recognises that Labour’s spending plans post 2010 are unaffordable. Labour responded in two contradictory ways. They both lied that Tories would cut jobs in front line services, and then said they could find more “Gerschon” style savings by running things better!

As readers of this blog will know, I think the least affordable part of Labour’s spending plans is the purchase of bank shares. The Lib Dems today rightly say the share purchase proposals are not working, before going on to recommend a dearer and worst mess by saying they want the government to go directly into the banking business,lending taxpayers money to companies direct!

There needs to be some clearer thinking how to support and encourage banks to lend more. The government has negated the favourable impact of £37 billion of extra capital for 3 banks, by demanding more capital for any given volume of lending. The regulator, who kept levels of capital too low during the boom has now set them higher to intensify the crunch. The greater regulatory requirements cancel out the extra taxpayer capital.

The government is now trying lower interest rates, printing more pounds, ballooning the Bank of Enngland balance sheeet, guarantees and short term loans on a big scale. These devices should start to loosen the squeeze. However, the potential losses on bank loan books allied to the extra capital requirements laid down by the Regulator mean much less lending than in the bubble days, as you would expect. People should understand that the regulators have called time on easy credit, so we are not going back to 2006 conditions any time soon.

The bank capital issue needs rethinking. Government should reassure markets it stands behind all the major banks with short term loans, guarantees and liquidity.It should renegotiate the share issue and ask the banks to find more of their own extra capital as they can do. At the moment taxpayers are sitting on a loss above £7 billion for no good reason. Anyone who thought £37 billion would fix it did not understand it. The government should start worrying about how easy it would be to lose all that £37 billion, given the scale of the banks balance sheets and the risks being run.

Yesterday I debated the state of Britain with Hazel Blears and the Young Fabians in a Committee Room at the Commons.

Mrs Blears did what Labour now always does. She personalised the whole debate to me. She laced her remarks with personal abuse towards me, and ascribed views to me I have never held. Her two favourite lies were that I wanted to sack teachers, nurses and doctors, and I wanted to deregulate mortgage banks.

Back in the Commons Chamber, the Prime Minister was busily misrepresenting Conservative views. He accused David Cameron of changing his mind on borrowing, unable to distinguish between David’s remarks on the natural rise in borrowing that a recession causes (which David accepts),and the additional rise in borrowing that the PM is advocating as a matter of policy (which David opposes). For good measure the PM repeated the point about deregulation and the Conservative party Policy Review.

I asked him why he fails to quote the advice in the Economic Policy Report to strengthen capital adequacy regulation of the banks,and to strengthen the role of the Bank of Englandas the controller and supporter of the banks. As he seems to like quoting the Report so much, it is such a pity he leaves out the best bits. If he had followed the advice, we would not have seen a run on Northern Rock, and taxpayers would now be a lot better off.

Listening to Labour figures, they sound as if they think the Conservatives have been in offcie and are to blame for this crisis. I don’t think that’s how the public sees it!

Yesterday in the Sky debate with Will Hutton I was impressed by Will’s realism. Far from trying to argue the self justifying and unrealistic Labour line, Will concluded:

1. There is a serious banking problem, which has still not been solved or gone away
2. There is a UK government borrowing problem, and the government did fail to put the finances in order in the good times
3. UK banks are very large in relation to the National income and the size of the government’s revenues. We could have a small version of the Iceland problem, as banks here are more than 4 times GNP. There are limits to how much the government can support them as a result.
4. Government does have to keep confidence in the currency and its finances to maintain borrowing at sensible interest rate levels
5. The Shadow Chancellor is not the reason sterling is falling.

I hope I have been fair to him in this summary. My purpose of repeating this here is to appeal to all those government supporters who read and comment on this site to listen to these points. If Will and I agree about these things there is the chance they are right. Will’s agreement demonstrates these are not “right wing” criticisms, as Labour usually seeks to suggest when I put well meant and serious points to them.

My conclusions from all this are also pretty clear:

1. The government needs to take action to cut its borrowing this year. It can do so by changing its approach to spending on the banks. They can raise more of their capital for themselves, sparing the taxpayer. Will and others do not yet agree with this, but it is the cheapest and best way out of the government’s hole. The government should sell off Bradford and Bingley and Northern Rock as quickly as possible, taking its loss before it gets bigger.
2. Once this has been done the government should then cut taxes, putting more money into the pockets of those likely to spend more.
3. The government needs to widen the range of stocks its issues to finance its remaining debt, with more at the long end of the market and more index linked securities.
4. The government needs to pursue its Gershon and related savings more energetically. It should impose a staff freeze on administrative posts, and terminate index linked final salary pension schemes for new recruits.

I welcome the fact that the Conservative party is examining a changed economic strategy for the changed conditions. This strategy must include plans to deliver more for less throughout the public sector, building on the big three themes the party has identified for savings. It should also include lower taxes on income and enterprise, funded from the reductions in spending. There will be no proposed cuts in teachers, nurses, doctors, service personnel and other important front line public servants, nor should there be.

Yesterday I joined a 9 minute discussion of the economy on Sky, and was allowed to talk about the big issues of tax, spend and banking, without questions on George Osborne. This morning I turn on the Today programme and a whole item is devoted to the BBC’s political correspondent examining the “Osborne crisis” before concluding that David Cameron will not move him!
It is amazing how much power of spin Labour have, that at a time like this when people are desperate to learn how Labour is going to try to dig us out of their economic hole, we have to put up with this side show created by Labour’s black counter arts department.