Saturday , November 25 2017
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A tale of two economies

In the years since the Great Financial Accident of 2008 it has become common to talk about something called “the real economy.”  In doing so we unconsciously acknowledge that something has gone terribly wrong with the way our society has developed over the past four decades.

Go back to the 1970s and there was just “the economy” – the sum total of all of the transactions (paid and voluntary) that we all engaged in.  Had anyone suggested that there was some other economy different to the manufacture and trade in goods, the provision of services and the administration and management of processes; they would have been a candidate for a straightjacket.  Today, however, we quite correctly distinguish between that “real economy” and an entirely different economy of assets and finance.

To be clear, the economy of the 1970s also had assets and finance – but these were small and their purpose was to serve manufacturing, trade and the provision of services.  In 2017 the reverse is true.  The asset/finance economy is nominally worth hundreds of trillions of dollars.  What used to be small, local, conservative banks are today global behemoths; so powerful that they dictate policy to nation states.  Assets – once merely the seed capital for industrial investment – have been transformed from a means to an end into an end in themselves.   In modern Britain, asset speculation accounts for more than four fifths of investment; leaving the real economy to scramble after the remaining ten percent… no wonder so many ordinary people have experienced the years since 2008 as one long depression.

In a recent interview with CNBC, billionaire investor Ray Dalio talked about the same divide in the USA:

“There’s the ‘top 40 percent’ and ‘the bottom 60 percent’.  If you look at the economy of the bottom 60 percent, it is a miserable economy. Not only hasn’t it had growth and economic movement and so on, it has the highest rising death rates, it is the only place in the world where death rates are rising because of a combination of opiates, other drugs and suicides.  The top one tenth of 1 percent of the population has a net worth that is equal to the bottom 90 percent combined.  So, we have two existences, two parallel existences that are taking place.”

The 40 percent are what used to be called the middle class (which, in the USA included skilled working people).  They are that portion of the ordinary working and salaried population who have assets – mainly homes, but also pensions, savings and investments.  Of course, we should really call these the ’39 percent,’ because although they benefit (temporarily) from the inflation of asset bubbles, unlike the top ‘one percent’ they do not enjoy direct access to the quantitative easing money that has inflated multiple asset bubbles.

To understand this, imagine that you are a senior manager of a global corporation whose remuneration package includes shares in the corporation.  Being a giant corporation, you have access to new currency at the base interest rate of 0.5 percent (which is considerably less than inflation).  So you use your position as a senior manager to get the corporation to borrow money to buy back its own shares.  This gives the impression that the corporation is doing well; so the shareholders are happy.  More importantly, though, it means that you can sell some of your own shares at a much higher price than would have been the case.  Since lots of people in a similar position as you have been doing the same thing, shares in corporations across the economy have risen remorselessly in one of the longest stock market expansions in history.

The problem, however, is that having sold off your shares for cash; you need to find somewhere to invest them that will provide a better-than-inflation return.  Investing in the real economy might bring in a decent return.  But it is risky.  Assets, however, appear much safer because you get to own something physical in the event of the investment failing.  Thus, you look for investment opportunities in such things as property, collectables and fine art.  You are also aware that in order to hold the interest rate down, central banks have to buy government bonds in order to keep their price high.  And since government bonds – backed by taxation – are the safest paper asset on the market, you invest in these too.  The rest of the one percent does the same thing.  The result is that you collectively pump up the biggest multiple asset bubble ever witnessed.  And you have no choice – the rules of the game dictate that you make a return on investment; and so you are forced to gamble on assets rather than take risky punts on manufacturing, trade and services.

If you are one of the one of the 39 percent, you are either working in one of those companies whose shares are being artificially inflated, or you are in a public sector organisation that is being funded out of all of those bond sales.  Either way, unlike the other 60 percent, your salary has been inflating along with the bubble or, at worse; your salary has remained stable.  But what makes you feel far more confident than you should is that the one percent has also bid up the price of your assets. Your house is worth far more in 2017 than it was in 2009.  If you own shares and bonds, you have seen the value of these increase significantly.  You may even have been fortunate enough to purchase some fine art, collectibles or – if you are a little more tech-savvy – some Bitcoin.

If you are one of the 39 percent, JPMorgan has come up with a name for what is about to be inflicted upon you – the Great Liquidity Crisis.  Liquidity refers to the ease or otherwise with which an asset can be converted to cash.  To see what this is like in a crisis, consider what happened to assets and cash in Puerto Rico in the aftermath of Hurricane Maria – with electronic banking disabled, assets were devalued because they had to be traded for cash.  In the very likely event of another banking and finance crash sometime in the next year or so, people will be desperately attempting to cash in paper assets (like shares and bonds) even as physical assets (like property) are crashing.  But here’s the thing – whereas the one percent will be first in the queue to sell, the 39 percent will be at the back of the queue and will be left with worthless paper and devalued assets.

At that point, a large part of the 39 percent will get a taste of what the 60 percent have been experiencing since 2008 (indeed, what some of them have been experiencing economic depression since 1980).  This is the world that the real economy has become.  It is a world in which people reel from paycheque to paycheque, and just a few have more than £1,000 in savings for emergencies (if they are lucky).  It is the world of credit, payday loans and in-work benefits to top-up inadequate wages.  It is the world in which low-paid public sector employment is the best they can hope for.  Others struggle to hold down two or three low-paid part-time jobs in the most precarious and labour-intensive sectors of the economy – health and social care, transport and storage, accommodation and food.  This is the world of zero-hours contracts and the gig-economy in which the poorest workers race each other to the bottom of the pay scale in order to keep securing the gigs.

Traditional employment policies developed in more affluent times risk driving those at the bottom even deeper into poverty.  But nobody in government seems able to understand the deep transition that the real UK economy is undergoing.  None seems capable of developing a workable policy to turn things around.  All we can see is an almost sadistic determination to drive people into penury.

At the very bottom of the pile is what remains of what we used to call social security… no longer a welfare state so much as a US-style insurance-busting scam.  Just this week we learned about  Elaine Morrall:

“An anorexic mother-of-four who was found dead in her freezing home had her benefits stopped because she was too ill to attend a job centre meeting…  Elaine Morrall was discovered wrapped in a coat and scarf with the heating switched off at her property in Runcorn earlier this month.

Just another unnecessary state-sponsored death among thousands who naively believed that if you pay your taxes and your national insurance there is going to be a safety net in place to catch you if misfortune befalls you.

In the same week, we learned that:

“Desperate children in the UK are filling their pockets with food at school on Fridays to avoid starving over the weekend.”

Just another indication of the hunger crisis that is spreading across Britain as further cuts to social security force millions of households to turn to a network of more than 2,000 foodbanks for support.

The real economy is now so starved of cash that we are in the midst of a retail apocalypse.  In the UK, non-food retail companies are teetering on the edge of bankruptcy as the 60 percent are forced to savagely cut their household spending.  Meanwhile, the 39 percent are experiencing rising prices as these firms desperately attempt to stay in business.  The reality, however, is that the 39 percent cannot spend enough to make up for the spending cuts imposed on the 60 percent.  The result is that the UK retail sector is just one bad Christmas away from a collapse.

The one thing that we can be sure of is that the UK government will always favour the asset/financial economy over the real economy.  The result is that they will continue to drive businesses to the wall and households into destitution rather than risk any air coming out of the asset bubbles they have inflated.  No doubt a large part of the 39 percent will support them in their efforts, since their (temporary and largely fictional) wealth also depends upon the continued inflation of the asset bubbles.

But the unpalatable truth is that there are not two economies.  All of those trillions of dollars, euros, pounds and yens of derivative paper asset bubbles depend upon a healthy manufacturing, trading and service providing economy for their survival.  When the real economy goes down, the asset/financial economy is going down with it.  Only this time around, banks will be too big to save and governments will be too small to save them.

As you made it to the end…

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