Uncharted Territory

June 2, 2012

Grexit? Spout? No, better half-in, half-out!

I’m not a huge admirer of Margaret Thatcher, and still less of her Chancellor, Nigel Lawson. But, back in the day, they suggested the eminently sensible idea of “currency competition” as an alternative to European Monetary Union (or, rather aptly, EMU). The idea was that the euro would be introduced alongside the pound, franc, mark and so on, with markets deciding the extent to which the international currency displaced the national currencies. But did the eurocrats listen? No, like improbably large flightless birds, they simply buried their heads in the sand.

The time for currency competition has now arrived. The case is compelling. So compelling in fact that when I scour the web to check my (in fact accurate) recall of the origin of the idea of currency competition in the eurozone, I find that it’s already been suggested as a solution to the current crisis – an alternative to Greek exit from the euro (Grexit) and Spain out (Spout) – by Philip Booth at Conservative Home. The existence of Professor Booth’s contribution allows me to make this post a little shorter than it would otherwise be. He also points out something I hadn’t previously realised – that it would be necessary to enact “a simple constitutional change to remove the clause in the EU constitution that requires the euro to be the sole legal tender currency in eurozone countries.” Actually that seems to put a small spanner in the works – is there no limit to the stupidity and lack of foresight of the eurocracy?

What would happen is this. In the (extremely likely) event that the Greeks do not vote on June 17th for parties willing to stick to the country’s agreements with its creditors, the EU (and IMF) would say to Greece that no more euros are to be made available from, say, 1/1/13 (to allow for necessary preparations). Greece nevertheless wants to stay in the euro. The conditions would be these:

  • All euros in circulation in Greece remain as euros. New bank accounts in drachma are created alongside for those who need them. Euro debts remain euro debts. And the Greek governments euro debts remain payable (it’s too late, unfortunately, for those that have already been forgiven).
  • Drachma are issued by the Greek central bank, subsequently backed by drachma bonds made available to the domestic market (I say domestic as international lenders are likely to be somewhat sceptical). The drachma floats freely against the euro.
  • Greece starts paying public sector workers, domestic contractors and state beneficiaries (the unemployed, pensioners etc) in drachma. The private sector has a choice. But companies (say in tourism) with euro debts and euro income would have no need to change their main operating currency. Such Greek exporters are not part of the problem – they can and should remain part of the European single market. It’s the Greek government that is bankrupt. The problem is the Greek public sector, not the private sector.
  • All Greek shops (and domestic businesses) would be obliged to accept both euro and drachma at an official market rate, say the previous day’s closing mid-market price.
  • Greece continues to service its international euro debt and recapitalises its banks (in euros, though if drachma are provided, these would have to be immediately converted by the banks). The need for euros for this purpose would be a key factor in determining the value of the drachma and hence public sector wage and other costs. In return (and only if satisfied that the Greek banks are solvent) the ECB would continue to allow Greek banks to borrow from it.
  • In theory it doesn’t really matter what currency Greece collects taxes in (as they are convertible), but because of time-lags the tax currency should match the currency of the taxable event (i.e. if you’re paid in euro you pay taxes in euro). Note that the drachma is likely to inflate, so the public and companies are likely to want to convert to euro for savings purposes.
  • Greek import costs are similarly convertible, but since there may be few external holders of drachma, euro would effectively be required. Greece would be forced to balance its trade (and in fact achieve a surplus, given its debts) – and the drachma would fall until it did.

The goals of such a policy are of course to:

  • Stop the haemorrhaging of deposits from Greek, Spanish and Italian banks. This is taking place because of fear that such deposits will be forcibly converted to a weaker currency, such as the drachma.
  • Remove the need for further Greek and other bailouts.
  • Force Greece (and others) to take reponsibility for their own budget and trade deficits.
  • Allow wages and hence public-spending to adjust in Greece and any other countries that follow the same course.

My flavour of the idea is slightly different from Booth’s in that he doesn’t make such a clear distinction between the public and private sectors of Greece’s economy. What we have in common is the realisation that, as Booth puts it:

“There would be no doubt about the legal status of private debts and credits denominated in euro and little doubt about the legal status of Greek government debt (any doubts would revolve around whether it was denominated in euros or the ‘sovereign currency of the Greek government’ – most likely the former). There would be no capital flight – all euro deposits in Greek banks would remain euro deposits.”

I would say the policy exploits what George Soros terms “reflexivity”. That is, it creates the positive feedback that as soon as it becomes seriously discussed it becomes less worthwhile for Greeks (and Spaniards and Italians) to move their euro bank deposits to Germany, making the policy itself easier to implement.

Note that this desirable reflexivity is in marked contrast to the historically stupid decision to haircut private lenders to Greece, which had the fairly predictable consequence of raising the costs of borrowing by other euro countries perceived by the market to be weak.

I call this the “half-in, half-out” or “Hiho” plan for restoring some kind of normality to the economies of the eurozone’s ailing members and to get the overall European economy moving again. As the ditty goes: “Hiho, hiho, it’s off to work we go!”

Advertisements

May 13, 2012

Gifts to Greece

My first thought this morning was to write about the so-called UK drought again. Maybe I’ll post something on that later.

Then I had a strong urge to comment on the absurdly excessive punishment of Lewis Hamilton (a 5 place penalty or inadmission of his final run – moreorless equivalent punishments – would have been appropriate) after an error by his team in qualifying for today’s Spanish GP. I’d hardly call myself an expert on the sport, but a previous foray into F1 commentary attracted a good deal of attention.

Instead I’m going to channel my annoyance at the spoiling of what might have vaguely resembled a sporting event in Barcelona towards the Greeks.

All I want to convey is one simple point, that the Greek people have benefited hugely from the international loans on which they have already partially defaulted and look increasingly like failing to repay in their entirety.

We haven’t invented this thing we call money just for fun. Money allows resources to be allocated. If you borrow it, spend it and fail to repay the loan, you have acquired or consumed resources that could have been used by someone else. Take the Athens metro railway and all the other billions worth of infrastructure to support the 2004 Olympic Games. How was that funded? I’ll hazard a guess. Borrowed money, at least in part. And what will happen to all that capital investment when Greece defaults? It’ll still be there. These assets will remain in existence indefinitely for the benefit of the Greek people. To the extent they haven’t been paid for, they’ve effectively been stolen from the rest of the world.

Some loans may be riskier than others, because that’s how the world is, but, unlike equity investments, loans are designed to be repaid. Financial disruption – on a global scale over the last 5 years – arises when debts are not repaid. So, because of the knock-on effects, Greece’s default is worse than theft! The entire EU has been plunged into recession in large part because of the need for the financial system to prepare for possible Greek default. Instead of using capital to support new lending, banks have been writing down Greek (and other) debt and taking actual losses.

Obviously we’re just reaping what was sown when Greece and other European sovereigns borrowed unsustainably. The question is how to prevent repeats of this cycle of behaviour?

Let’s mull over that question for a minute. What is the popular conception of what’s going on?

I think it was Arthur Smith I heard on the radio yesterday saying the Greeks should be let off their debts because “it’s not the fault” of those protesting. In what sense is that, Arthur? Are you perhaps saying the average Greek took no executive decisions regarding the nation’s finances? Clearly true. But isn’t a large part of the problem that they haven’t paid and continue not to pay their taxes? What do you think is fairer, that every Greek homeowner should pay a special tax (they’re refusing) or that you and I should find the money?

And isn’t a large part of the problem the Greek public-sector? What do you think is fairer, that Greek workers should take whatever pay cuts it takes to balance the books (as has happened elsewhere in Europe, such as in Estonia – now growing again – Latvia and Lithuania) or that you and I should find the money?

Many non-wealthy Greeks must also be culpable of wilfully participating in a cash economy, benefiting from lower prices for services whilst complicit in tax avoidance. What do you think is fairer, that the Greeks start paying taxes commensurate with their public spending like people in most other countries, or that you and I should find the money?

But the really interesting point is that Greece is a democracy. They’ve chosen their own government since the ousting of the colonels in the 1970s. Collectively, then, they’ve repeatedly elected politicians, at least some of which have overspent, undertaxed and cooked the books, or appointed officials to do so on their behalf. Clearly, collectively, the Greeks have benefited from this behaviour. I’m intrigued, Arthur, whether you’re suggesting that, collectively, the Greek people are also not responsible for the situation they find themselves in.

That’s probably enough. After all, Arthur is a national treasure, practically the new Queen Mother, and perhaps a little fragile. Maybe he just didn’t think. Maybe, like the QM, he inhabits a world where decisions are made by waving a magic wand. Maybe, like the QM, he lives in a world where one need take no responsibility for one’s finances.

I also caught a snippet this morning of someone on the Andrew Marr Show invoking the precedent of Argentina. That great and honourable country, that upstanding, exemplary member of the international community most recently defaulted on their debts about a decade ago. And it’s been great for their economy! Who’d have thought it? It’d be great for my personal finances if I went out and bought a house, a car, new furnishings and white goods, new shoes, clothes and so on and then didn’t bother paying for them. I’m sure I’d feel pretty well off for a few years too.

Let’s pick on someone else. Arianna Huffington writes in the NYT:

“Yes, the Greeks acted irresponsibly before the economic collapse — the same way my father had acted irresponsibly in his private and professional life. But that is not reason to punish the children, to destroy their future as part of a remedy for a past for which they bear no responsibility.”

What Arianna is saying – for some reason “bleeding heart liberal” is the outmoded phrase that comes to mind – is a little more sophisticated than Arthur Smith’s indignant genialism. We have to draw a line, she says, to protect the innocent. Though, I can’t help pointing out yet again, these “innocent” are nevertheless beneficiaries of the misappropriated funds spent in Greece over the last decade or so. Perhaps they’ll remember that every time they hop on Athens’ shiny new metro trains.

The fear gripping financial markets – and contributing to the unnecessary economic hardship and suffering of innocent little children currently taking place in, say, the UK – is that other countries will follow Arianna’s line of reasoning too. Why shouldn’t Ireland, Spain, Portugal and even Italy say “don’t punish the children”? Having elected profligate, irresponsible governments that have given them what they wanted – low taxes, high spending – why won’t they now elect governments to satisfy their new desire for debt writeoff with some kind of moral justification (right wing nationalist or left wing anti-capitalist – take your pick, or, hey, what the hell, you can even pick both!).

If we want financial stability – quite possibly a good thing, I suggest, in light of the 1930s, just as a for example – then debts have to be repaid. And sovereign debts would be a good start.

So how can the international community protect itself against freeloaders? Against those countries who run up debts, fail to collect enough tax and then, in the words of the song about the girl next door and the bathroom floor, plead “It Wasn’t Me”?

Here’s my suggestion. Many of the countries that default are serial offenders. There’s something deeply ingrained, in their DNA if you like, that leads them to spend too much and collect too little tax. So cut them off from international finance for long enough for them to lose thir habits. This would be simple to implement. The financial services industry is highly regulated (all that effort’s been really effective, hasn’t it?). Regulators in responsible countries (say the UK, the US, the EU apart from Greece) could simply demand that no financial institution or its subsidiaries (maybe even no company) lends at all to a government that has defaulted on sovereign debt over the last 50 years – or maybe even more. Or, crucially, to any institution in that country dependent on its government, such as a bank or a company.

Since holding the currency of the defaulted country would constitute lending, all investment in defaulted countries would have to be funded locally in their own currency. Imports would require foreign currency that would have to be acquired beforehand by local institutions or individuals, i.e. by selling goods and services as exports (or small amounts of currency to tourists and other visitors). No publicly funded export credit guarantees would be available to UK companies, for example. In effect, such countries would be forbidden from running a trade deficit.

Such a measure would do two things. It would financially quarantine serial defaulters for a time longer than short-term market memory currently manages (defaulters tend to return to the international markets within a decade). And it would give non-defaulters pause for thought.

September 17, 2011

Don’t Backslide on Greece!

You know there’s serious trouble when the Economist runs a two-page editorial, in this case proposing “how to save the euro”.

The Economist agrees with most observers that the problem boils down to how to deal with Greece.

Let’s recap.  Greece, a serial defaulter, essentially fiddled the books to understate its debt in order to be admitted to the euro club, hoping for more economic stability.  Then the financial crisis came, and, as the saying goes, the tide went out and the Greeks were seen to be wearing no trunks.  Not only that, there was an Aegean tsunami on the horizon. Luckily, the Germans had grabbed the deck-chairs so the Greeks aren’t on their own.

What are the Greeks, the Germans and the eurocrats (not to mention the IMF) to do?

What baffles me is the current hysteria from all quarters. Decisive action is not required, as for example, George Osborne insists. The Greek debt is a long-term problem which requires a long-term solution. “Decisive action” implies some kind of quick fix. “Decisive action” is the last thing we need.

In fact, I can see things that can be done to mitigate the situation – economic stimulus measures in the less-indebted eurozone, other European (that includes the UK, Mr Osborne) and other global economies – but I simply can’t see how the central problem could be handled any better than it already is. If that’s not what the markets want to hear then the markets will just have to get over themselves. Some problems just have to be lived with.

Let’s consider the alternatives (I’ve previously written about this on Martin Wolf’s blog at the FT, but I can’t even access that right now, as I terminated my FT subscription in protest at them trying to jack up the price).

1. Greece exits the euro and devalues
This would be catastrophic, at least in the short-term. The Economist discusses the possibility and quotes an estimate that such a step would cost Greece 40-50% of its GDP in the first year (though this seems to assume they leave the EU as well). The trouble is, the “mother of all financial crises” that would result would not be confined to Greece. French and other eurozone banks would take a massive hit, with all kinds of knock-on effects. Even if the initial shock could be contained without seriously recessionary consequences for the remaining eurozone countries, it would simply be a case of “who’s next?” – Ireland, Portugal, Spain, Italy, Belgium, France…

2. Greece devalues within the euro
This is the straw that many are now clinging to, including the Economist, but in fact it’s almost as bad as option 1.

First, there’s the moral argument. Why should the beneficiaries of excessive Greek borrowing be forgiven their debts? Greek taxpayers (or non-payers, by all accounts) would escape paying taxes equivalent to the nation’s long-term spending; all Greeks would have benefited from public services that they haven’t fully paid for; Greek public sector workers would have been paid more than the nation could actually afford – the list is endless. The point is, although different Greek constituencies would no doubt blame each other, the entire nation is complicit, though pre-school children can legitimately claim not to have been in a position to influence matters overmuch.

Second, if Greece is let off a large chunk of its debt, why wouldn’t other countries demand the same? Why should the Portuguese, Spanish, Italians, Irish, French and Belgians suffer tax rises and cuts to their public services if Greek debt is simply written down?

Third, and critically, there’s the problem that a Greek default within the euro doesn’t actually solve the underlying problem. It does something about the debt, but not the deficit. If Greek debt is (say) halved from around 140% of GDP to around 70%, they will still not be credit-worthy, because they’d still be running a deficit. There would still be a need for the IMF, EU and ECB troika to help the Greek government somehow bring revenue and expenditure into line. There’d still be a need for wealthy Greeks to pay more taxes, the Greek public sector to spend less and its economy somehow to grow. In the meantime there’d still be a need for someone to lend euros to Greece.

A Greek default within the euro would simply not have the usual effect of sovereign defaults because it would not be accompanied by devaluation.

In fact, the main effect of Greek default within the euro would be for the Greeks to say “thank you very much”. There’d still be a big hit on eurozone banks (including the Greek ones which would need to be recapitalised from somewhere, and not to mention the ECB), although not the automatic loss from lending to the Greek private sector that would occur in the case of option 1 (when devaluation would make it more difficult, to say the least, for Greek companies to service euro-denominated debt).

Now, it seems to me the troika must recognise this. If I was them I’d demand the budget reforms before allowing any kind of Greek default. In particular, the possibility of Greece having to leave the euro needs to be still on the table. In fact, it wouldn’t surprise me if there hasn’t been a nod and a wink to the off-message officials and politicians (usually German) who regularly float this possibility.

It seems the next payment to Greece is being put off to the last possible moment, even though stumping up is much better for everyone than the alternatives. What puzzles me is that the markets don’t recognise that this brinkmanship is a necessary part of the strategy of forcing Greece to balance its budget in the long-term.

What the Greeks should really be worrying about is the possibility that they haven’t resolved their fiscal problems by the time the rest of the eurozone has recovered (and in particular the banking sector has rebuilt its capital) sufficiently to withstand a Greek default, euro exit and devaluation. Then the eurocrats might just decide to throw them to the wolves.

Still, I wouldn’t rule out a collective loss of nerve and a Greek default within the euro. We’d have to muddle through somehow. If there’s a double-dip, there’s a double-dip – maybe that’s now the least we can expect; if there are further sovereign defaults, the sun will still come up the next morning; if we do end up calling it the Second Great Depression or a Lost Decade, life will still go on. As I said, some problems just have to be lived with.

October 1, 2010

Dissecting a Wolf, a Bean and a Vulcan

Filed under: Credit crisis, Economics, Inequality, Inflation, Public borrowing, Public spending — Tim Joslin @ 8:04 pm

I see John Redwood was up bright and early this morning, blogging away.  At 6:34am he posted that:

“…the [cuts] strategy has worked, bringing interest rates on government borrowing down and seeing off a possible Greek or Irish style borrowing crisis.”

Well, maybe.  But there’s an alternative explanation which would chill the former Minister’s blue blood.  I would have thought traders would pay a lot of attention to the interest rate desired by a central bank able to use QE to drive down yields to whatever level it desires.  FT Alphaville suggests that the Fed, at least, might decide to simply target long-term interest rates rather than apply a specific amount of QE.  Not a market to short just now, I would have thought.  Much safer to bully the Portuguese.

For the record, I can’t help a nasty feeling about all this QE.  The danger is letting inflation catch up with us.  A bit of inflation right now would be a jolly good way to get rid of all that negative equity.  But if inflation expectations sneak up on us the Old Lady would be compelled to sell off her QE bonds at a loss to soak up excess cash.  And it would suddenly make new government debt rather expensive.

Still, there don’t seem to be any better ideas out there.  And the clear and present danger, as pointed out by Posen, does seem to be a Japanese style “lost decade”.

But it was what the Vulcan did next that really amused me.  He was on the Today programme this morning absolutely fulminating that the Deputy Governor of the Bank of England, Charlie Bean, had suggested that if savers spent some of their money it might benefit the economy.   Redwood apparently believes that: “We are all collectively embarked on cutting the mortgage and putting some more money into savings and pensions.”  Yes, “all”.  How does that work, John?  Where does this money come from?  The same magical mystery place as bank interest apparently, since the former stalking horse also lectures us that: “Consumers might spend more if they got a better return on their savings and had more savings income” and that: “As house prices fall, people become more alarmed by the level of the mortgage.”

Um, doesn’t one person’s savings income come from another person’s mortgage interest payment?  And won’t house prices fall even further and people become even more alarmed if their monthly mortgage payments rise?

What on Earth does the Member for Wokingham think the economy is?  Maybe on Vulcan there are some different principles, but in this part of the Milky Way it’s generally considered that the more money circulates in return for goods and services, the healthier the economy is.  Yes, John, money has to circulate.  We can’t all stuff our mattresses with it.

Another getting their knickers in a twist over all this is our old friend Martin Wolf over at the FT.  If he feels the Coalition’s cuts agenda is dangerous I suggest we listen.  And this morning Wolf’s teeth were dripping the blood of the IMF, who (much to the delight of Grant “Anyone for Rugger?” Schapps on Question Time yesterday evening) have dared to endorse the new government’s spending plans.

Personally I think there’s a good chance the whole cuts debate is redundant as – just like in a household – it’s not always that easy to cut back on your spending.

But what really surprised me this week was a rare slip by Wolf.  He wrote that:

“The [policy strategy] of slashing the fiscal deficit while the private sector tries to slash its debt suffers from a fallacy of composition: it is impossible for all sectors of the economy [i.e. the public and private sectors] to spend less than income at the same time.”

This is simply incorrect. There is no “fallacy of composition”. The creditors are all private sector, so it is entirely possible for both public and private sector debts to be paid down simultaneously. It’s not the balance between the sectors that matters; it’s what happens within the private sector that’s important. Simply put, to decrease total debt, there needs to be an increase in financial equality (though not necessarily in living standards, since public spending reductions affect the rich financially and the poor non-financially).

Strangely, whilst my first contribution to the debate appeared immediately, my second comment which began by succinctly pointing out Wolf’s error failed to appear on the FT for a couple of days (then appeared twice).  I have little tolerance for this sort of thing.  It seems to me that the mainstream media who have coopted much of the blogosphere debate have a responsibility to allow debate to actually proceed and make sure their technology works reliably.  I was going to have a good whinge.  Now I suppose I’ll have to give the FT the benefit of the doubt.  Must have been a glitch.

There’s a really big issue here, though.

It’s becoming more and more apparent that the big picture is that inequality is more than just bad for us Spirit(Level)ually – it’s also bad for the economy.  Robert Reich has apparently explained this in Aftershock which I was just about to order when I realised I had his Supercapitalism on my shelf.  Unread.  Not any more though, so I’m off to see who can rush me Aftershock (2-3 weeks say Amazon, tsk).

September 23, 2010

Launch QE2 or Scrap It

Filed under: Economics, Public borrowing — Tim Joslin @ 8:07 pm

Apparently the monetary authorities in both the US and the UK are thinking about a second round of quantitative easing (QE2), on top of $2350bn and £200bn of central bank asset purchases so far.

In the case of the UK, I’ll believe it when I see it, as inflation is already above the target range and we have a VAT rise to look forward to as we finish our Christmas turkey leftovers (I think the tax increase comes into effect, like a hangover, on New Year’s Day).

In the US, though, it seems the Fed could be serious.  They could do with a bit more inflation.  But they should put up or shut up.

The problem is that, whilst the short-term aim of QE is to reduce interest rates (longer-term aims are to prevent deflation, which is a good idea if you’re a debtor and – whisper it quietly – devalue the currency to try to export your way out of trouble), thereby encouraging private sector investment, the anticipation of QE could have the exact opposite effect on the cost of borrowing in the real economy.

The idea, of course, is that the central bank prints money to buy Treasuries (aka gilts).  A trillion dollars is enough to increase demand sufficiently to push up the price of the bonds, and their yield down.  Investors choosing between Treasuries and riskier instruments – e.g. and esp. lending to business – will tend to favour the latter and, hey presto, growth resumes.  Well, maybe.

But teasing the market could have a quite different effect.  Investors will figure that there might soon be huge demand for Treasuries.  So they pile in.  But at this stage there’s no new money in the economy.  To buy Treasuries our well-paid traders are smart enough to work out that they’re going to have to sell something else.  So the price of the other assets they sell – commercial loans and investments of all kinds – goes down, and – oops – the yield – that’s the interest rate to you and me – goes up.

Not only that, the prospect of QE creates inflation (and hence devaluation) worries for a certain class of investors so they pile into gold (as well as other currencies – helpful for the devaluation and hence inflation goals of QE, admittedly – and other “safe” assets).

Though the markets move in mysterious ways and it’s not a good idea to read anything into a day’s trading, it should perhaps not be a complete shock, then, that an FT columnist noted that:

“…the higher likelihood of QE2 did nothing for equities, which are flat to down.”

which is on the face of it is rather surprising as you’d have expected bets that QE happening would push prices up.  Perhaps there was buying on the rumour, selling on the news, on top of the move into Treasuries.  Or maybe there really are only so many dollars around and if you want to buy one asset you need to sell another…

In short, the idea of QE is to encourage investment in riskier assets.  Talking about it, I suggest, could achieve the precise opposite.

So I recommend that the Fed either starts QE2 pronto or publicly gives up on the idea.

In the UK the MPC should rule QE2 out, because the speculation (pun intended) is damaging, and the MPC is not in a position to crack the champagne on the bows.

Of course, it’s possible that all the QE talk is a device to help exporters by knocking a few % off the dollar and pound vs the yen and euro for a while.  I couldn’t possibly comment on that, though!  And I won’t even mention that QE talk is bound to reduce the cost of new  government borrowing…

April 9, 2010

Job Sums

I’ve been trying to avoid commenting on the General Election campaign, since it would be a huge distraction from far more important issues, but I can no longer ignore the absurd reasoning that’s making its way into the media.

Yesterday, the Guardian, bless their little cotton socks, tried, under the banner “Reality check”, to answer the question “Do national insurance rises cost jobs?” (if you follow the link, then don’t be puzzled – as usual, the online title is different to that in the print version of the paper). The Guardian’s answer is slightly to the “solid” side on a cute little dial that goes from “shaky” to “solid” – let’s call it “mushy”. They seem to think NI rises might cost jobs.

The article included some strange logic, most notably from Richard Dodd of the British Retail Consortium who apparently argued that “…in a competitive market, retailers will struggle to pass the tax on in the price of goods…”. The “competitive market” has nothing to do with it, since the tax will affect all employers. No-one has a new competitive advantage as a result of the tax.

The Guardian also failed to question why business leaders might be against an NI rise. The point is that increasing taxes (like other costs) reduce profitability (temporarily) because in general it takes time to raise prices and recover margins following an increase in costs. As clearly testified by Richard Dodd’s concerns about how “retailers will struggle to pass on the tax”.

But the Guardian’s piece made a bigger mistake – in fact they managed to completely miss the point. You can only answer a question like whether an NI increase will “cost jobs” by considering also what happens to the money raised by the tax. Taxes rob Peter to pay Paul, so if you can only evaluate the effect on any measure – in this case jobs – by looking at the issue in the round.

Since, as argued by the Guardian, the effect on (private sector) jobs of the NI increase is marginal and the money will be spent on retaining jobs in the public sector, then, if it’s the overall number of jobs in the economy you care about, you should be in favour of the NI proposal. The arguments put forward by the Tories and their business friends are misleading.

[I should say I don’t actually believe the prime goal of an economy should be to create jobs and I don’t believe the Tories or business leaders do either. The goal should be to produce as much as possible with as few resources – including people – as possible. Then we’ll all be rich and jobs will then take care of themselves. What I object to is all the dissembling. Having said that, unemployment is high and rising, so it’s not the best time to be bearing down on jobs. In other words, the trajectory Labour wants to put the economy on makes more sense to me than that which the Tories propose. We may as well, for instance, maintain staffing levels in the NHS – thereby saving and improving lives – and, in particular, continue to invest in the IT necessary for future efficiency savings, rather than have people sitting around on the dole].

Today’s FT gives us some clues on how many jobs would be lost by reducing public expenditure by an amount equivalent to that which would be raised by the NI increase. The FT appears to consider a slightly different question, i.e. the effect on jobs of additional public spending cuts in 2010-11 (i.e. this financial year), as proposed by the Tories. The point, which several BBC news bulletins have missed this morning, is that the NI rise only comes in in 2011-12. With the usual disclaimer that unless I’ve completely misunderstood something, in which case perhaps someone will be good enough to put me right…

And it’s surprisingly in the FT, where a “Cameron adviser discloses cuts detail” that the serious dissembling starts.

First, there’s an enormous howler. The article describes a proposal for £1-2bn in job savings by natural wastage this financial year, 2010-11. That is, during the year that’s already started. But the article appears to reckon on a saving of the full annual cost of the jobs – estimated to be £50,000 each – this financial year. Wrong. You can only reckon on that saving if the jobs disappear at the start of the financial year. On average they will disappear halfway through the year (actually later than that, because the Tories wouldn’t even be able to start until May 7th). So on average only £25,000 will be saved this financial year per job shed. Therefore, to save £1-2bn this financial year would require the wastage of £1-2bn/£25,000 = 40,000 – 80,000 jobs, not the 20,000 to 40,000 stated.

Note that if the jobs are lost other than by natural wastage there will be redundancy costs and less, or more likely negative, cashflow savings this financial year. Basically the Tories need to find 40-80,000 retirees or leavers this year who have not yet been accounted for. And whose jobs are so inessential that they don’t need to be replaced. Tough call, I’d have thought, when there aren’t so many other jobs out there to move to.

Furthermore, some of the cost savings are in things like office space, not salary. There’s always going to be a delay in realising such savings, because you can’t move to a smaller office every time someone retires and is not replaced.

Even furthermore, the cost in benefits of 40-80,000 people who would otherwise have had a public sector job to go to needs to be subtracted from the fiscal saving. Let’s be generous and assume that this has been taken account of in the £50,000pa annual cost of a public sector job quoted in the article. You can do your own sums if you want to assume the actual saving is less than £50,000pa (or less than £25,000 saving on average in the current FY, 2010-11).

Second, we’re discussing jobs in the overall economy. The FT article considers how the Tories propose to save an extra £12bn this financial year:

“Other cuts set out by Sir Peter include reductions in IT spending, yielding ‘potentially at least’ £2bn to £4bn. Renegotiation of contracts with suppliers of goods and services – which Sir Peter described as ‘not rocket science … it’s not about beating them up on price’ – would save about £3bn.

Cuts to ‘discretionary’ spending, such as consultants and staff expenses, should yield a further £2.5bn for 2010-11, he said. He declined to be drawn on a figure for property costs.”

Let’s see. Reductions in IT spending will cost jobs at IT suppliers, not all of them overseas. “Consultants” last time I looked were living, breathing working people as well. Reducing staff expenses would cost jobs indirectly as would renegotiation of contracts. The trouble is the lead time on renegotiation of contracts as well as “property costs” – realised presumably by selling offices – is months to years, so achieving the promised cashflow savings this financial year is implausible, to say the least.

I simply don’t find the Tory plans credible. They’d have more chance of getting my vote if they were actually honest about what they believed in. I remember Labour came to power in 1997 with a promise to stick to the Tory spending plans for the next two years. Cameron thinks he knows better. His position is contradictory – he said on the radio this morning that it was difficult for an Opposition to make spending plans, yet he’s confident he can make huge additional cuts this year. Cameron was once thought of as the new Blair. He now seems to have morphed into the new Thatcher. It seems to me that he’d give the economy the sort of shock treatment it received in the early 1980s. Steeply rising unemployment, an assault on the public sector and so on. Maybe it needed it then. I don’t know. But if it needs it now, perhaps Cameron should be making that case, not promising to save jobs when, at least in the short term, his policies are more likely to produce higher unemployment than would otherwise be the case.

Cameron is giving the impression that he can reduce public sector borrowing and unemployment this year and next compared to Labour’s plans. If he really believes this then he’s seriously wrong and not ready for the job of PM. If he doesn’t believe he can square the circle, then perhaps he should clear up the misunderstanding (or is he already planning to make his old chum George Osborne the fall guy when the Government can’t deliver?). The only other possibility is that he’s deliberately misleading the electorate.

Blog at WordPress.com.