Wednesday, March 18, 2009

UK Unemployment - lessons from recent history

I thought it might be interesting to compare how unemployment is faring at the start of this recession with the last two UK recessions: 1980-81 and 1990-91.

Unemployment is what is known as a lagging indicator - that is rises in unemployment usually come alongside and later than falls in GDP rather than before. An example of a leading indicator would be changes in company stock levels as companies run down stock if they feel that bad times are coming.

For the purposes of this article, I take a recession to be 2 consecutive quarters of negative GDP growth. I use the unemployment rate (no of unemployed divided by total workforce) rather than absolute numbers of unemployed. All figures come from the ONS (link) unless stated otherwise.

1980-1981

In 1979, there were 2 non-consecutive quarters of negative growth but overall the economy grew at 2% which is slightly below 'trend'* and during this time unemployment was pretty much flat. Then between the first quarter of 1980 and the end of the first quarter 1981, GDP fell by a total of 4.6%.

The reason for the fall was that the Conservative Government pushed interest rates higher in an attempt to bring down inflation rates. They also reduced subsidies to loss making companies and industries. Unemployment rose from 5.5% in Q1 1980 to 8.9% in Q1 1981. Unemployment then continued to rise, quarter after quarter until by the first quarter of 1983, when GDP got back to pre-recession levels, it stood at 11.3%.

The final peak in unemployment was in the second quarter of 1984 and it didn't drop back to levels seen at the end of the recession until mid-1988, more than seven years later!

1990-1991

GDP fell by 2.6% between the third quarter of 1990 and the third quarter of 1991. This was again as a result of increased interest rates to squeeze inflation out of the system, inflation caused by a pre-election give-away by Chancellor of the Exchequer (Finance Minister) Nigel Lawson and a disastrous attempt to shadow the Deutschmark which had led to interest rates being set too low. Unemployment rose from 7.1% to 9.2% during the recession and then continued to climb until it peaked at 10.6% in 1993. It didn't reach the levels of the end of the recession until the last quarter of 1994, more than 3 years after the end of the recession.


Lessons for Today

The biggest problem with unemployment for Government is that it comes with a double fiscal whammy - tax receipts fall as unemployed people don't spend much money and welfare payments to those unemployed rise.

The problem for the UK Government right now is that the UK fiscal position is looking very messy already and set to get worse as the Government is looking to borrow well in excess of £100,000,000,000 - when looking at this figure it is also worth bearing in mind that it seems that almost every official estimate of how bad things are or will be has been too optimistic, probably because the economic models they use just can't respond to a Black Swan event such as the near-collapse of the banking industry.

Clearly the UK can't run such huge deficits indefinitely as ultimately they have to be financed as there is a limited appetite for UK sovereign debt - at some point investors just won't want any more at a rate of interest that can be financed by the UK taxpayer.

If it was down to me, I'd be trying to push people into the jobs that are available, even if they don't want to do them. It's unreasonable to expect the next generation to pay taxes so that you could wait for the right job to come along and the best way to do that is through the welfare system - if you don't genuinely try to work then you don't get benefits.

I'd also be looking to train people for the jobs that can't be filled, not the ones that the Government hopes will be empty when the economy recovers. There's little point in training solar power engineers for the future when the UK needs IT people now!

From looking at previous recessions we can assume that unemployment will rise for a lot longer and stay high for some time. The best that we can hope is that Government policy doesn't worsen the impact now and in the future.




*The trend growth rate is the normal level of growth a country can expect to see and is governed by many factors including investment rates, how well educated and trained the population is, how corrupt or otherwise the country is, the state of its infrastructure and lots of things like that. You get the picture I hope.

Monday, March 9, 2009

Warren Buffett on CNBC

http://www.cnbc.com/id/29595047/

Some highlights of his economic comments - I'll try to post his investment stuff similarly soon:

...ever since we talked in September, we talked about [the economy] being an economic Pearl Harbour and how--what was happening in the financial world would move over to the real world very quickly. It's fallen off a cliff, and not only has the economy slowed down a lot, people have really changed their behaviour like nothing I've ever seen....
...you had 11 trillion of residential mortgage debt built on this theory that who was borrowing it, what their income was really wasn't that important because the house itself had to go up in price. And when that tumbled and houses which might've been worth 22 trillion at the peak are worth maybe four or five trillion less...it's a huge amount out of people's net worth. It's the biggest asset most people have....
When people get scared, they change their buying habits. When they quit buying as much, people lay off. We are in a very, very vicious negative feedback cycle....

...we are doing things now that are potentially very inflationary...if you look at this bill ...on the back it says, "In God we trust,"....And on the front it says, `In the Federal Reserve, we trust,' basically....it is paper money, and if you keep issuing more of it...that is inflationary. The more of these you have out compared to the economic activity, the less it's worth....
Everything will be all right. We do have the greatest economic machine that man has ever created, I believe. We started with four million people back in 1790 and look where we've come and it wasn't because we were smarter than other people, it wasn't because our land was more fertile or we had more minerals or our climate was more favourable. We had a system that worked. It unleashed the human potential. Didn't work every year, we had six panics in the 19th century, in the 20th century we had the Great Depression and World Wars, all kinds of things. But we have a system, largely free market, rule of law, equality of opportunity, all of those things that cause the potential of humans to get unleashed, and we're far from done....
...there was a week where 200 billion...poured out of the money market funds, which had about 3 trillion in them, the money was just gushing out when Reserve broke the buck. That meant that the commercial paper market was disappearing. You know, the blood was being drained from the American economic body and we had some very prompt, wise, action. Chairman Bernanke, the Fed, I mean, they stepped in and said the commercial paper market is going to work...They said the same thing about money market funds we should now say about the whole banking system. ....The president of the United States has to say it very clearly that you just don't have to worry about that.
we need banks to get back to banking. But we need to get through this situation...Banking has never been better in one sense. I mean, the banks are getting their money very cheaply, deposits are coming in, spreads have never been wider, all the new business they're doing is terrific. They will earn their way out of it, in most cases...
the domestic auto industry has a lot of legacy costs. They did some dumb things in the past because they had a business model in mind that doesn't exist anymore. The union bargained for those things, you know, they feel entitled to them, they made a deal, you know, and they've got hundreds of thousands of retirees dependent on it and all sorts of things. So you need a new business model somewhat. You also need a recovery. It isn't just the business model. And I would say net I would come down on--if they modify the business model to adapt to the reality of a 13 million car a year and we'll do better than that in the future in some years. If they adapt, have a business model that works with that I would get them through this period.






Saturday, March 7, 2009

General Motors Should be allowed to Fail

General Motors who already took USD13,400,000,000 in loans from the US Government are believed to be looking for another loan, this time of USD22,600,000,000. This would be on top of handouts from various other Governments across the world; for example the Australian Government gave GM AU$149,000,000, ostensibly to make a 'green car' (it wasn't specified whether or not GM'd be given more money to make it in other colours) and according to a GM website (link) GM are looking to Europe for a futher EUR3,300,000,000 .

This is a bad deal for taxpayers on many levels.

Firstly, General Motors are far from being the best car makers out there. They have been losing market share for years, according to Forbes for example (link) since 1980 their share of the US market has fallen from 46% to less than a quarter. The reason? Their products don't represent as good value to consumers as those made by their competitors. If you make bad products that your potential customers don't like then you go bust in favour of those that make better ones. That's capitalism.

Secondly, General Motors employed 266,000 people in the US as at the end of 2007 (link). The loans totalling USD36,000,000,000 work out to be a little over USD135,000 per employee. If even a fraction of that money was made available to small companies who either have had funding withdrawn by banks or to entrepreneurs with great ideas a lot more could be done with a lot less. There would also be less risk attached to lending the money more widely as some would fail and some would succeed. With GM, the US taxpayer will most likely either get all or nothing back. My guess is that the latter would be the outcome.

Now of course there are the workers who are indirectly employed by GM, for example the people who work for supplier and associated companies. These are estimated to number about 650,000 people. Lots of these people will lose their jobs if GM is allowed to fail. However most will get jobs with rival companies, jobs that will quite probably be more secure as the competitor companies are much better run and not in imminent danger of going bust!

Thirdly, General Motors has been badly managed for many years. To keep the unions happy at minimum current cost, the management kept promising employees greater and greater benefits upon retirement - ever more generous retirement terms and health care schemes. These benefits are now the equivalent of USD1,600 per car (link) or to put it another way, while workers at other companies make $40 or $50 per hour, it costs GM $70 per hour if you include legacy costs. This makes it impossible for GM ever to hope to compete with its rivals. Add to this the fact that they have so many interlocking brands that they end up competing with themselves (basically the same minivan is sold under four different brands for example).

Worst of all, GM has now gone cash flow negative - in other words, it costs GM more money to make cars than it makes from selling cars, clearly an untenable position for the company to be in.

The problems at GM are so severe that the US Government is going to be forced to let them fail at some point. They are beyond turning around. If this happens, the factories and skills of their workers won't be destroyed. Let other, more able people use the skills and assets of this once great company to make great cars at a decent price again.

Thursday, February 26, 2009

Introduction

Hello and welcome to my blog.

This is the first in what I hope will be a regular series of posts on macro and micro economics, some politics and my views on business.

I describe my political and economic views as 'Libertarian Lite' - generally I believe in small Government and social and economic liberty but within some limits, usually completely arbitrary ones I admit.

My aim is to write this so that a reasonably intelligent person without any formal economics knowledge can understand it. I apologise in advance if people with a greater amount of knowledge find the explanations a little tortuous as a result.

Most of all I hope to generate a little light where too often there is only heat. Oh and also I hope to avoid using horrible clich├ęs.