A Few Snowflakes On The Curate's Hat

We're doomed : Jeremy Warner on our knacked economy and inflation. I myself am of the opinion that Brown's 'low inflation' economy was based on Chinese productivity keeping goods prices down and mass immigration keeping service wages (and prices) down - while inflation in housing roared ahead. What's this 'spare capacity' going to produce ?

Much of the present City debate around inflation therefore seems to me to be too simplistic and somewhat wide of the mark. The standard view, reflected by the Bank of England, is that once the present spike in inflation is over, abundant spare capacity in the economy will force prices back down again, allowing the persistence of very low interest rates into the indefinite future. This in turn will underpin house and other asset prices, including shares.

I'm not sure that either of these assumptions is correct. In the old days of largely closed domestic economies it might indeed have been true that a collapse in output would cause price and wage pressures to abate.

Unfortunately, the inflationary pressures of the future are quite unlikely to come from domestic demand. Instead, they will come from emerging markets, where fast growing consumption is already causing prices to rise sharply. After decades of exporting disinflation to the West, these markets could soon be exporting quite serious inflation.

The implications for monetary policy are alarming. During the Great Moderation, disinflationary pressures from China and Eastern Europe allowed UK interest rates to be lower than otherwise, which in turn helped cause upward pressure on asset prices and a bubble in credit.

There is now every chance of the reverse phenomenon occurring; interest rates might have to be higher than warranted by domestic demand to keep inflation at bay. That in turn will be bad news for growth, employment and asset prices – unless, of course, the Government wants to opt for a higher inflation target ...

I've been saying for a year or more that they won't be able to resist keeping the tap turned on and inflating their way out of one trouble and into a different sort. What would a Cameron/Osborne administration do ? Anyone know ? I can't make head nor tail of most of their pronouncements.

Two recent Alphaville posts raise the spectre of the press. I like this comment :

No, they'll say "the recovery is faltering and the economic situation worse than we thought, so more QE is required to safeguard recovery".

What they won't say is "we used QE to defer enormous amounts of economic pain and it also helpfully assisted the government in financing the deficit, but the trade-off is that all that deferred pain will descend like the wrath of god if we stop, because none of our structural problems, such as an unaffordable public sector and levels of household leverage, have been tackled, so we'll keep trying to defer the pain in the hope things get better on their own somehow. But they won't."

And this one :

'Just one more hit... I need it I just need it... I will quit tomorrow. I can quit. I will turn my life around...'

Oh Dear.

Can Pay, Won't Pay - Paul Kedrosky quoting an unnamed Greek banker on the debt crisis :

Once upon a time, Greece was a model small democracy. An extremely frugal government ran tight budgets and provided an extremely basic safety net, and truly threadbare services for a very low cost: Tax collected was minimal.

While tax rates may have been high, collection was virtually nil. A small oligarchy was the only source of capital and had the acumen, education and experience to deploy it as the country developed. Old families controlled the steel, cement, foodstuffs and construction companies that rebuilt Greece after the war. As recently as 1980, debt/GDP was at 30% and it would have been much lower were it not for the high costs of defense. When Greece joined the EU in 1980, all that changed. It was party time. Money that was sent to build the Greek infrastructure was funneled pretty much directly into the pockets of the oligarchy as well as the new Socialist oligarchy that emerged.

This was not chump change. It was 6% of GDP for 30 years. With the exception of farmers, who did extremely well off of the Common Agricultural Policy, the rest of the money went pretty much straight to Swiss bank accounts. As an example, Greece has paid 250% over list for F16's and Mirage fighters and has spent EUR 750 million for an airport that was built by the same company that originally bid EUR 220 million for the project. No prizes for guessing what happened there. Once the addiction to easy money set in, the government of Greece was transformed from a lean provider of defense, basic health, basic education, a basic road network and extremely basic pensions to an auctioneer of projects to the oligarchy.

The families who control business in Greece used a system of bribes the government was happy to accept and set up a newspaper each to deliver threats its members would rather not. Sticks and carrots, and lots of Euros. And once the system was established, there was no need to stick to the money that was coming from the EU. ERM entry cost our politicians the printing press, but thanks to low EUR rates, the government could now service previously unthinkable amounts of debt with impunity. A residual part of that money may have ended up in useful projects, but the bulk ended up in the pockets of the twenty families who run Greek business.

A big chunk of that money, in turn, has been invested by these families in bringing to Greece every foreign franchise from Starbucks and Pizza Hut to IKEA and Stanley Kaplan, driving existing companies out of business in the process. In summary, EU funds have done to Greece what oil did to Nigeria, while low EUR rates have allowed the government of Greece to be able to service a debt of 100% of GDP, most of which has gone straight to the pockets of the oligarchy. Man on the street, with the exception of the farmers, has not benefited one jot. This does not make all Greeks poor. Shipowners do very well, and a natural resource called the sun is very helpful to our 165,000 hoteliers. Man on the street never saw the benefit of the 250 billion the government has borrowed. Ergo, support for austerity now that the bill has come is zero. You won't see anybody accept an Irish solution in Greece.

The notion that Brussels will dictate to Greece terms on public sector wages and impose a May deadline are, frankly, comical.