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This time really is different

The UK may have avoided a technical recession – two successive quarters of negative growth – in the first half of 2022, but a year from now this will be of little comfort.  This is because – despite the protestations of the US Bidon administration – the downturn in economic activity in the latest (February) growth figures – 0.1 percent, down from 0.8 percent in January – has nothing to do with Putin’s invasion of Ukraine.  Rather, the decline in economic activity is the result, primarily, of a massive global shortfall in energy, with fossil fuel extraction impaired by the lack of investment during the lockdowns, and with oil down some four million barrels a day from its November 2018 peak.

Last autumn, these energy shortages translated into painful spikes in prices, which helped fan the flames of a general inflation resulting from broken supply chains and the rapid spending of two-years’ worth of state pandemic handouts – mostly to corporations and the wealthier half of the population.  Much of the additional demand generated by state spending, however, has already disappeared – in part due to the additional price of almost everything within the economy at a time when wages are failing to keep up.

In this, at least, the inflation of the 2020s is very different to its 1970s cousin.  In those days, wages were protected by a combination of strong trade unions, governments committed to maintaining full-employment, and financial controls that prevented investor-flight.  None of those constraints exists today and are not compensated for by a minimum wage which, if set too high, can only result in fewer jobs.  In a few sectors of the economy – such as HGV haulage last autumn – market forces have driven up wages.  Although even here, employers have preferred to offer golden handshakes rather than an increase in the hourly wage.  Elsewhere – particularly in retail and hospitality, where some 30 percent of Britons work – business models based around low-pay and poor conditions have generated worker shortages for businesses which simply cannot pass additional costs on to consumers without crashing demand.

The UK labour market is also hampered by a demographic problem which is often overlooked.  Insofar as population has been considered by policy makers at all, the focus has been on the now-retired baby-boomers who, because of increased life-expectancy (which has now reversed) tend to be seen as a burden on the smaller working-age population.  The bigger problem today though, comes from a Generation-X which appears to have left the workforce in droves during the pandemic, despite not having adequate pensions to retire comfortably. 

The policy expectation had been that a much poorer Generation-X would continue working into their late 60s in order to build pension pots large enough to compensate for the two major depressions (1980s and 2008) at either end of their working lives.  And had Britain maintained an industrial base capable of supporting the kind of “jobs for life” enjoyed by the boomers, this expectation might have been reasonable.  But a large part of Generation-X found itself on the wrong side of an ageism which favours youth over experience.  Rather than enjoying the high incomes that used to come at the end of a working life, too many of today’s over-50s found themselves dumped into the precariat – pin-balling between an inadequate and punitive benefits system and a series of low-paid, insecure, zero-hours, part-time and gig jobs which seldom paid enough to get by, let alone provide sufficient to pay into a pension plan. 

Having recognised that this situation can only get worse, hundreds of thousands of them have simply dropped out.  Meanwhile, those younger workers – of whom there are far fewer in the population – who used to do the shitty, low-paid retail and hospitality jobs took advantage of the two years of lockdowns and homeworking to retrain and up-skill in order to snap up the higher paid jobs.

Adding to the demographic problem and exacerbated by two years’ worth of university closures and restrictions, most of the vacancies are in different areas of the country to where most of the workforce lives.  And with fewer Generation-Z (itself a much smaller demographic than the now middle-aged Millennials) university applicants, this traditional source of cheap labour for hospitality and retail is also drying up.

The anticipated – “levelling up” – response to this apparent shift in the labour market in favour of workers, is a general rise in prices to provide for the increased wages required to fill vacancies.  But the economy is no longer structured in a way that would allow this.  Bars, restaurants and hotels now face a much more rapid version of the retail apocalypse which decimated UK High Streets in the years after the 2008 crash.  Faced with rising prices and falling wages, too many consumers can no longer afford to eat out, stay in hotels or make discretionary purchases.  And as the prices of essentials such as food, heating, fuel and transport continue to increase, the collapse in demand can only accelerate.  Something which the generals fighting the last war – or rather, the central bankers fighting the last stagflation – can only exacerbate.

The apparently successful policy response to the inflation of the 1980s was to use ultra-high interest rates and public spending cuts to trigger a massive depression.  This helped break the power of organised labour but failed to produce the mystical entrepreneurs who were supposed to ride to the rescue.  Instead, Britain experienced industrial collapse as its manufacturing base failed to compete on international markets – a process exacerbated by capital flight as financial controls were abolished and corporations offshored their activity.  Recovery of sorts, when it finally arrived in the late 1980s, came not from the anticipated growth in new, high-tech manufacturing, but in the money laundering and Ponzi scheming of an over-dominant banking and financial sector.

Less obviously though, the growth of British banking and finance in the 1980s was underwritten by the revenue from the once-and-done oil and gas deposits in the North Sea.  At its height, UK oil production exceeded Kuwait’s output, and laid the foundations for the debt-based boom of the 1990s and early 2000s.  The USA experience was similar.  Rather than Volker’s interest rate rises and Ronnie Reagan’s Star Wars programme, it was the new oil from North Alaska and the Gulf of Mexico which eventually allowed Slick Willy Clinton to go on a debt-based spending spree which appeared to finally dig the US economy out of the doldrums.

Interest rate rises are back on the agenda once again – although even the tiny uplift so far looks set to help trip the economy into recession or worse.  But they are not a solution to the problem before us today.  The neoliberal idea of a “constructive recession” – analogous to chopping down the old trees in order to allow new growth – doesn’t really apply in a supply-side crisis.

Demand – insofar as it was increased by state spending during the pandemic – is already trending down.  One clue to this is seen in the rise in credit card debt, which is now at its highest since records began.  As Valentina Romei at the Financial Times reported at the end of March:

“Individuals borrowed a net £1.5bn on credit cards in February, the highest monthly amount since records began in 1993, according to data published by the Bank of England on Tuesday.  The figure was more than three times higher than the average of £400mn borrowed in the previous six months and pushed total consumer credit, which includes personal loans and car dealership finance, to £1.9bn net — the highest level in five years.

“Consumer borrowing is usually considered a measure of spending growth, but with inflation at a 30-year high and falling consumer confidence, some economists have warned that it was increasingly a sign of consumers running into debt to maintain their standard of living.”

The increase in credit card borrowing coincides with a dangerous fall in the rate of M2 currency entering the economy:

While the currency supply is still growing, the slowing rate which, like wages, is not keeping pace with rising prices, is sufficient to trigger a recession later in the year.  Indeed, given the supply-side woes which are only just beginning to break over us, we will count ourselves very lucky if all we get to experience is two quarters of negative growth.  And remember, all of this was happening before Russia invaded Ukraine.

Although the economists and policy makers of the 1980s didn’t understand it, it was the influx of new and relatively affordable energy into the economy, rather than constructive destruction, which paved the way for the final burst of industrial growth from the early-1990s.  This time around though, there is no untapped reserve of relatively cheap oil to underwrite a new burst of industrial growth.  Indeed, it was the end of cheap (to extract) oil in 2005 which laid the basis for the 2008 crash and the ensuing depression which a large part of the population has lived with ever since.  US shale production famously lowered the price of oil afterward, but investors got burned by a process which used billions of dollars to extract millions of dollars’ worth of oil.  So that even before the Great Plague of 2020-22, US shale extraction was falling.

In the UK, interest in fracking for gas and in opening up relatively tiny oil fields in the northeast Atlantic overlooks the key issue of the energy cost of energy.  The reason these projects failed in the past is because it was obvious to investors that the cost of extracting the oil and gas from them is greater than the market could bear.  The same is true of new nuclear and even of non-renewable renewable energy-harvesting technologies (NRREHTs) once the costs of balancing intermittency are factored in.  Once the cost of energy rises to today’s levels, we are no longer just facing the transitory re-adjustment of consumption outlined by Frank Shostak from the Mises Institute in 2017:

“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.”

In the absence of any new, affordable, energy, we are not simply going through a rebalancing of the economy in which slightly more is spent on essentials and slightly less on discretionary items.  By the beginning of 2022, we were already in a process of economic shrinkage and simplification in which only the wealthiest 20 percent or so will be able to engage in widespread discretionary spending.  Certainly, the bottom 50 percent – whose incomes have fallen since 2008 – will see an ever-greater part of their income devoted to essentials like food, light and heat.  And it goes without saying that those at the very bottom are going to go cold and hungry next winter.

The optimistic belief among policy makers is that as the price of NRREHTs decreases, so our dependence upon fossil fuels will disappear.  Ironically though – and this is why the distinction between the non-renewable technologies (wind turbines, solar panels, etc.) and the renewable (for all practical purposes) but diffuse energy sources is crucial – as the cost of fossil fuel energy goes up, so too does the cost of the raw material inputs and the cost of manufacturing, transporting, deploying and maintaining the non-renewable technologies.  Moreover, the two things which generally lower the cost of technologies – efficiency savings and economies of scale – have already been achieved.  As the cost of the minerals required to build NRREHTs and the energy to manufacture, transport, deploy and maintain them spikes ever upward, so too will their true cost to the economy – much of which is currently hidden in subsidies and kickbacks.

The bad news is that this is merely the beginning.  Because the official data which is now pointing to a recession is backward looking, it doesn’t include the direct and indirect consequences of the economic war against Russia.  That data will only begin to appear from next month.  Even then, Russian oil and gas were excluded from the sanctions salad imposed on Russia, so that any increases in energy prices are solely down to shipping companies being reluctant to carry Russian oil.

Unforeseen shortages are already popping up across the economy in commodities as diverse as cooking oils and pallet nails.  But the full cost of these has yet to be seen.  Indeed, if, as is threatened, the world economy shifts away from the West’s dollar system to a new BRICS trading block, then many of the previously cheap commodities and goods which western populations have taken for granted may either disappear completely or at best rise in price considerably.

The big supply-side commodity price increases – from Russian hydrocarbon and food exports – will only come in the autumn, as contracts for coal, gas and oil come to an end, and as the anticipated poor grain harvest comes in.  Although the EU leadership may well short-circuit the process by imposing an import ban on Russian oil and gas once the French election is out of the way.  As Carla Mozée at Business Insider reported yesterday:

“Oil prices could soar if the European Union quickly bans Russian crude from its energy markets, JPMorgan said on Tuesday.

“A full and immediate embargo would displace 4 million barrels per day of Russian oil, sending Brent crude to $185 a barrel as such a ban would leave ‘neither room nor time to re-route [supplies] to China, India, or other potential substitute buyers,’ the investment bank said in a note. That would mark a 63% surge from Brent’s close of $113.16 on Monday.”

Post-pandemic western economies which were already reeling from spiking energy prices and broken supply chains last winter are unlikely to be able to sustain a $100+ oil price indefinitely.  A surge to $185 would trigger a chain reaction which will make the unravelling of the banking and financial system between 2005 and 2008 look like a mere blip.  And it doesn’t end there.  Global oil reserves are dwindling and there has been little appetite for new discovery or recovery in recent years.  As a result, the long-predicted, economy-wrecking $200 per barrel oil may well arrive in 2023.

The problem before us is psychological.  For the best part of 300 years, the outcome of recessions has appeared to be creative destruction – old, inefficient businesses fail and are eventually replaced by the new, high-tech equivalents of their day.  The sticking point has always been the availability of currency – the eternal row between Keynesians who see state spending as the pump primer to escape recession, and Austrians who see sound money as the means to prevent recession in the first place.  But until now, Earth limits have not factored in economic policy because we have simply assumed that the energy and resources we need for infinite growth will always be available at the right price and in the right quantities.

Financial alchemy though, turns out only to approximately correlate to the workings of the economy – as we learned in 2008, it neither causes nor moderates it.  In one sense, provided the economy has access to an excess of cheap energy and resources, governments can run pretty much any policy they choose, and businesses and households will figure out a way of making things work.  Of course, some policies and some forms of government are better than others.  But the growth that has been maintained for the best part of three centuries is down to energy and resources which – until now – have always been cheap and abundant.

This is why this time is different.  In the absence of an alternative, cheap, high-density energy replacement for finite fossil fuels, there is no financial means of preventing a permanent depression – quarter after quarter, year after year of negative growth until the economy comes back into balance with the energy and resources available to us.  And while a process of managed de-growth might have been possible had we acted sooner, the reality is that we have been so conditioned to the myth of infinite growth on a finite planet that only a small minority would have ever voted for a politician who advocated de-growth. 

This time is different because there is no way out…

As you made it to the end…

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Getting vacancies wrong

A large part of the over-50s have simply disappeared from the employment figures entirely , and so can't be coerced.