05 December, 2012

The Fall of the West

George Osborne, Britain's Chancellor of the Exchequer, will today give his autumn statement. He will tinker, there will be a slight change from current expenditure (welfare) to capital expenditure (roads and railways) but that will be all. His message will be the same as from pretty well all finance ministers in the West: growth will be less than forecast; we just can't seem to get the economy moving.

What some people are beginning to say is that we are looking at it in the wrong way.

This is, roughly, how the economy goes: we have our ups (booms) and our downs (busts) and we can all of us over a certain age remember several of them. A bust always, with varying speed, becomes a boom, and vice versa. The important points to pay attention to are where we are on the cycle - is it about to turn up or down? - and how steep or flat the cycle is - are the booms and busts short-lived.

Now, I am simplifying here, but there have been two theories of economic management since the 1920s. The earlier, Classical or Monetarist idea was that when we got to the top of the cycle there would be lots of money around chasing less decent investment opportunities, sometimes bad ones, known as malinvestment, the effectiveness of the economy would decline and we would head down the road to bust. (We can see this, with hindsight, from 2007/8 until the present). As we got to the bottom, labour would become cheaper, assets would become cheaper, and the investment opportunities better with less money chasing them so we would claw our way back to the top. This is, roughly, what I believe, but it has its imperfections, mainly that we are dealing with humans here.

John Maynard Keynes was one of the first to understand that there were imperfections, such as trade unions refusing to reduce real wages during the bust but he and his followers believed that this could be corrected by the guiding hand of government. Action to press down on the economy at the peak, action to boost government expenditure at the bottom.

So at the moment I am saying that being at the bottom of the cycle we should keep the minimum wage low so that people can work for less if they want to, and that we should remove regulations which stop business expanding (especially Europe); whereas a Keynesian is saying the government must spend more to keep things moving. I repeat, this is a simplification.

What some people are saying is we are now not just at a particular point in the cycle, but that we are on a different graph, that we have formed such a peculiar economic model in the West that things are working differently and that in particular we can never generate enough growth to drag us up the ski-slope to another boom. They are saying that Western-driven investment into emerging economies has formed high growth models before those countries have got into the heavy welfare habits we have adopted.

When George Osborne first promulgated his plan for economic recovery I was critical, saying that government should not just trim but get out of whole areas of economic activity. The new economics, if that is what it is, is this in spades. We should be looking at an economy where government expenditure is not 40-50% of GDP (France's is 56%) but 20-30%. It is why I have always been fairly bullish of America, despite the disastrous economic management there. At least, perhaps until Obama, they hadn't got on to this debilitating treadmill of welfare.

I know, it is a part of what we call civilisation. But it may have to change.

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