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What if growth cannot return?

Unsurprisingly it is the arguments underpinning today’s UK Budget which prove more informative than the Budget speech itself.  Indeed, there were no surprises in the Budget – most of the individual policy changes having been leaked in advance.  And with the exception of the rise in corporation tax from 19 to 23 percent, and the freezing of personal tax thresholds, the spending commitments were no more than an extension of the emergency measures designed to bolster the economy through the pandemic.

Politically, the Tory government did enough to see off any serious opposition from an increasingly ineffectual Labour Party.  Much to the chagrin of Labour supporters, Labour leader Kier Starmer had already argued against raising taxes on corporations which had profited from the pandemic.  The result was an open goal for the Tories to raise the rate of corporation tax on companies with profits above £50,000 (with various deductions if profits are reinvested in the company).  In a similar manner, the decisions to maintain the £20 per week uplift on Universal Credit and to extend the furlough scheme until September, together with a package of support for small businesses and the arts will have defused another line of attack for the opposition.  In the end, Starmer was left to gripe about the absence of a policy on health and social care – which would normally be a separate parliamentary process from the Budget anyway.

So much for the froth on the top of the beer… the deeper conflict though, is far more instructive.  While old school Tory former ministers called for a swift return to higher taxes and public spending cuts, the new intake – particularly those in the former Labour “red wall” seats – called for higher public spending on infrastructure projects.  This is the surface appearance of a fundamental conflict about how best to respond to a crisis which has been decades in the making; and which had begun to unravel the neoliberal consensus long before SARS-CoV-2 put in an appearance.

As regular readers will be aware, the fundamental crisis is the growing divergence between the “real” – energy-based – economy and the magic money tree financial economy where fiat currency is literally spirited into existence at the stroke of a keyboard.  The rise in the energy cost of energy in the past four decades has caused ever more energy – and ultimately wealth – to be focused on securing energy (extracting fossil fuels, generating electricity, growing food, etc.).  This has meant ever less energy – and ultimately wealth – being available to continue growing the – far larger – non-energy sectors of the economy.  For individual households and businesses, this predicament appears as a remorseless shift from discretionary to non-discretionary spending.  That is, an ever greater part of household and business income has to be spent on public utilities, transport, rent or mortgage payments, etc., leaving ever less to invest in growing a business or engaging in recreational activities like family holidays.

For several decades, the growing gap between discretionary and non-discretionary spending was bridged by ever cheaper and more accessible debt; which appeared for a moment to defy economic gravity.  Countries like the UK – it appeared – could offshore manufacturing to the Far East while magically continuing to allow its people to borrow at will to purchase those goods.  But largely out of sight to most people and ignored by the establishment media, this came at an enormous cost.  So long as the North Sea provided the UK with more oil and gas than it needed, income from exports could prop up the currency; allowing businesses and households to continue borrowing pounds to purchase foreign-made goods.  Even then, successive governments had been obliged to sell off public assets to foreign buyers in order to raise the foreign currency required to prevent the pound losing its exchange value – a process which gathered pace after Britain became a net importer of oil in 2004.  By 2008, Britain was largely reliant upon its money laundering activities to maintain the value of the pound and to avoid plunging its over-consuming households into rapidly declining prosperity.  After 2008, the best that governments could do was to impose austerity on the population while rigging the financial system to bail out the banks and the biggest corporations, while keeping interest rates low enough to avoid mass defaults.  For those on the bottom half of the income ladder, the 13 years since the crash have been years of falling living standards.

Of course, this process has not been evenly distributed.  In the UK, for example, while London is the richest region in northern Europe, the rest of Britain contains nine of the ten poorest regions.  For around twenty percent of the population, mostly living in London and an archipelago of top-tier university towns, prosperity continued to rise through the recessions of the 1980s and the post-2008 depression, even as ex-industrial, rundown seaside and small town Britain saw prosperity implode.  It was, of course, precisely these declining regions which produced Brexit and gave the current government its 80 seat majority in December 2019.  Their equivalent regions in the USA propelled Trump into the White House in 2016, and in Europe have given rise to waves of nationalist populism – including a couple of left-wing varieties in Greece and Spain.

SARS-CoV-2 and the various responses to it, have done nothing to close the gulf between these two sections of the population; save from adding to the numbers who have seen their living standards decline.  And in such circumstances, a return to neoliberal austerity risks an uglier backlash than the one experienced in 2016.  As I wrote on the eve of the first UK lockdown:

“Just as the people instinctively understood that sooner or later their governments would lock them down to slow the spread of SARS-CoV-2, so they understand that the elites will attempt to once again suck on the teat of corporate welfare and then attempt to dump the costs onto ordinary people.

“Britain’s Tory government are caught on the horns of a dilemma in this respect.  Their donors are a part of the corporate elite that expects to be bailed out.  Their voter base, on the other hand, is largely made up of the non-metropolitan working class that was forced to pay a disproportionate part of the bill last time.  If the Tories repeat what was done by New Labour and the US Democrat Party in the aftermath of the 2008 crash, they will never be elected again.  If, on the other hand, they are prepared to act in the interest of the electorate, there is every chance that they will lead a de facto one-party state for years to come.

“To be clear here, there is no such thing as free money.  Any new currency spirited into existence by central banks and governments to combat the economic fallout from the pandemic crisis will have to be paid back one way or another.  Last time around, the bill was paid through public spending cuts which, among other things, have left our critical infrastructure woefully ill-prepared for responding to a pandemic…”

This time around there is at least a whispering in government and central bank circles that inflating our way out of debt will be the politically advantageous course to follow.  This is currently being couched in the language of economic growth.  But the growth rates being projected – four percent in 2021 and 7.3 percent in 2022 – are higher than any this century.  Indeed, UK growth has only once reached 6.5 percent in the last 72 years. 

The four percent figure is plausible insofar as there is believed to be a high level of pent-up demand in the economy as a result of the prolonged lockdown. With many people working from home and several million on furlough, it is assumed that people have saved on the ordinary costs of having a job – running a car or using public transport, buying lunch, replacing work clothes, etc..  It is further assumed that this demand will be released once the economy opens up.  And so at least some of the historic decline of 2020 will be recovered in 2021; with growth continuing through 2022.

But savings are not distributed evenly across the population either.  While some people have been able to build up savings – largely the same group living in London and the archipelago of top-tier university towns – a larger part of the population has experienced rent and mortgage arrears and/or have turned to debt to keep their heads above water.  Moreover, hundreds of thousands of workers are aware that once government support is withdrawn, their employer is likely to file for bankruptcy.

For the anticipated growth to occur, almost all of the supposed savings have to be spent.  But a large part of the “savings” is now already committed to future interest payments – themselves a part of non-discretionary spending.  At the same time and as a result of the anxiety around the pandemic, households that have built up savings for the first time are more likely to hold onto them than to go on a spending spree.  And so the government is likely to have to become a spender of last resort if it is to meet its own growth forecasts.

It is here that inflation often proves pernicious.  Inflation is not solely the result of spiriting new currency into existence.  Indeed, when massive volumes of currency were spirited into existence in the aftermath of the Second World War in the form of Marshall Aid, it helped trigger the expansion of the once-and-for-ever post-war boom.  This was because Planet Earth, with a population of 2.5 billion and only a handful of developed states, had more than enough energy and resources to expand at a rate that absorbed the new currency.  In the wake of the oil shocks of the early 1970s, in contrast, when the money printing trick was tried again, the result was double-figure inflation that took decades to bring under control – people spent the new currency, but there was insufficient energy to absorb it.  In 2021, with a population of 8 billion, declining oil extraction and emerging limits on a range of mineral resources, growth of any kind in the western economies is unlikely.  Indeed, even the coal-burning Asian economies may struggle as western economies attempt to re-localise supply chains in the aftermath of the pandemic.

The final ingredient for inflation is that households and businesses have to spend the excess currency.  But as we have seen, in the immediate, risk-averse, months after the pandemic restrictions are lifted, many will save it for a rainy day.  Many more will use it to pay off existing debt – in effect sending the fiat currency back to the Pit of Hell from whence the central bankers conjured it.  In this way – barring fiddling the figures with more financial engineering – growth of 7.3 percent is inconceivable.

Resource shortages are all too likely though.  In part this is due to extractive industry cuts and layoffs in response to the collapse in global demand in 2020.  Despite oil consumption falling dramatically – even the UK has briefly become a net exporter of oil again because its consumption has fallen below its shrinking production – prices have risen above $60 per barrel in recent weeks, as financial speculators bet on oil shortages when the global economy begins to unlock.  Put simply, it could take up to six months after demand begins to pick up for December 2019 levels of oil extraction to be restored; so that demand for oil will far outstrip supply.  This is one reason why China is reported to have re-filled its strategic reserve; taking advantage of lower prices and seeking to cushion the expected blow.  It is also why western traders are anticipating a 2008-style oil price spike above $100 per barrel in the near future.

It is when this happens that inflation becomes a more serious issue, because oil is ubiquitous.  There is almost nothing of yours that wasn’t made from, manufactured with or transported in a vehicle powered by oil.  And so, when the price of oil rises, that price rise ripples through the entire economy.  In and of itself, this is not inflationary.  As Frank Shostak from the Mises Institute explains:

“If the price of oil goes up and if people continue to use the same amount of oil as before then this means that people are now forced to allocate more money for oil. If people’s money stock remains unchanged then this means that less money is available for other goods and services, all other things being equal. This of course implies that the average price of other goods and services must come off.

“Note that the overall money spent on goods does not change. Only the composition of spending has altered here, with more on oil and less on other goods. Hence, the average price of goods or money per unit of good remains unchanged.”

This is an example of the shift from discretionary to non-discretionary spending which is caused by the rising energy cost of energy, and which results in declining prosperity for a much larger part of the population than traditional measures of wages and GDP growth reveal.  It is also a bear trap for central bankers, whose economics text books tell them to respond to such circumstances by raising interest rates.  It was a rise in interest rates following an oil price spike in 2006 which started the process of debt defaults which ultimately unravelled the global banking system in 2008.

This time around, if people have saved currency for a rainy day, they may perceive $100 oil – and the knock on price rises – as precisely the weather they were worried about.  With savings eroded by rising prices, it is then – rather than immediately after the pandemic restrictions are lifted – that people may decide to spend the excess currency.  And as we have seen time and again down the ages, when there is insufficient energy and resources to absorb the additional currency, the result is uncontrollable inflation.

Even so, that choice may be a preferred option for politicians chastened by Brexit and the rise of the populist right.  Because within an economy, rising inflation can be an unavoidable tax on the very wealthy and to the benefit of ordinary households and small businesses; much depends on whether wages and pensions are allowed to keep pace with inflation.  In the UK in the 1970s, for example, wages rose to the point that the nominal cost of a house – valued at three times an annual salary – had fallen to just a month or so salary by the end of the decade (one way in which the baby boomer generation enjoyed more wealth than any subsequent generation could ever repeat).

This, ultimately, is what the Tory disagreements prior to the budget were actually about.  Inflation to the uber-wealthy is like sunlight to a vampire – enough of it will see them crumble to dust.  The only viable alternative means of reining in the £300bn or so additional government debt resulting from the pandemic, though, is an austerity programme that would make the Cameron-Osborne years look positively benign.  Ex-ministers – many of whom have been rewarded with sinecures in the banking system and seats in the unelected House of Lords can espouse austerity without worrying about being re-elected next time around.  Government ministers and red wall back benchers are not so fortunate.  Any hint of cuts to public services or taxes on the poor will end their prospects of re-election in 2024.

Inflation is the stealthiest of stealth taxes precisely because the nominal amount of household income and small business profits can increase even as its value is plummeting.  And if, instead of today’s practice of giving the already wealthy first access to new currency, it is used to pay for public sector wages, pensions, private contractors and public infrastructure spending, it can act as a buffer for those at the bottom while simultaneously becoming an unavoidable tax on wealth.

It is unlikely that a Tory government will go that far.  Nor, in the immediate aftermath of the pandemic might it have to.  For the moment, governments around the world can borrow at low interest rates and, if all else fails, can follow Japan’s example and monetise the debt (i.e., create new currency to buy back the debt).  The decision to claw back currency by freezing a series of tax thresholds at 2021 levels though, hints at a desire to at least partially inflate the debt away.

In the end though, both the inflation and the austerity routes to repaying government debt depend upon a reappearance of economic growth.  And there’s the rub, because GDP growth in the twenty-first century has depended upon ever more borrowing.  Strip away the debt-based, financial growth and there has been near zero real growth in the past two decades.  The reason is that sometime in the 1990s, the energy cost of energy rose above the point at which developed economies such as the UK could no longer maintain growth.  Ironically, this is one reason why inflation – as currently measured – has failed to put in an appearance: as people’s discretionary spending has fallen, so discretionary goods and services – which account for a large part of the inflation measure – have fallen in price due to falling demand.  In this way, big rises in non-discretionary items like food, electricity and gas have been offset in the official statistics.

Unfortunately, the energy cost of the renewable energy which is likely to form the core of the proposed infrastructure spending is too high to reverse the process.  So that for the immediate future, non-discretionary items will continue to rise in price even as goods manufactured in Asia continue to fall in price… at least until it no longer makes sense for Asian factories to continue making them.  In the absence of a low energy cost source of energy at least as dense and versatile as conventional oil, far from enjoying growth in the aftermath of the pandemic, we can look forward to continuing decline. 

The only question to be answered is how that decline plays out… and there are only two options on the table:  Either the value of the currency will be inflated away until the currency claims on wealth are brought back into line with the amount of real wealth in existence; or we can tax and cut our way to a massive collapse in asset prices which gets us to the same place.  Neither route is particularly pleasant.  But as long as we remain wedded to the belief that we can have infinite growth on a finite planet, one or other is the post-pandemic misery that we will inflict upon ourselves.

As you made it to the end…

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