DABERIAM LXXXVI

October 2014

In August I thought we were in for a bumpy ride!  To extend the analogy, the bumps arrived towards the end of September and in October they turned vicious.  Most of the August worries remain unresolved but as the news gets stale and the problems haven’t got worse, it is likely that economic optimism will return, certainly by the beginning of 2015.  While problems abound, the progress towards solving them is slow, particularly in large bureaucracies; it takes a crisis to change the huge inertia within the leaderless bureaucracies.

This phenomenon particularly seems to apply to Europe.  Regulatory paralysis within the banking system has meant that European banks have failed to write down or write off their bad debts and the implementation of Basle 3 regulations means that European banks are unable to increase their lending base.  While there is probably not a great demand for borrowing in Europe, particularly as private sector debt levels remain very high, the political pressure is causing the European Central Bank to talk about Quantitative Easing.  This is more a political move than a relevant financial activity as far as Europe is concerned.

The major problem in Europe is the slow rate at which the economies can adapt and the excessive Government deficits in France and Italy, whose respective governments have abrogated responsibility for controlling their country’s finances and are daring Brussels to impose penalties that would enforce discipline and exacerbate internal political tensions.  France and Italy’s, among others, argument with Brussels is financial sovereignty, while Britain’s argument is over border controls and immigration.  Both these issues are critical to the stability of the EU and these increasing public wrangles are stoking Euro-scepticism.  Whether one is pro or anti EU, political instability is not helping economic recovery.

On the American front, the news is basically good, the economy continues to grow steadily and the bonus of a flexible labour force and cheap energy is regenerating the economy.  The American political logjam is another bonus.  Everyone can get on with their business without too much concern about debilitating regulatory uncertainty.

China and Asia are working through the restructuring of the Chinese economy and the Chinese lower growth rate is being absorbed without too much political disruption.  There is, however, still considerable unease among the professional classes who naturally become very politically interested as the slowdown in economic growth impacts their lifestyle.  Recent unrest in Hong Kong is an example.

Generally the economic, journalistic reporting finds itself concerned about the historic economic problems and these conventional worries have had an upsetting effect on stock markets recently.  Markets have risen a long way since the crisis of some six or seven years ago.  Most people have learned that borrowing money for current expenditure has painful consequences, so it is odd that conventional economic thinking and Government policy is tilted towards encouraging people to borrow.  Conventional thinking also is worried about falling prices: deflation.  In the commodity area, falling prices are hardly surprising.  China’s double digit growth was driving up prices of raw materials and the some ten year cycle it takes to bring on new production has coincided with the slowdown in consumption (not unusual), so the demand for energy and metals has fallen, leading to lower prices.  Added to the fact that now America is virtually self-sufficient in energy, it’s hardly surprising that prices are on a downward path.  For other reasons food prices at the moment are also on a downward path.  These trends auger well for the future as they have the effect of increasing personal disposable income amongst the lowest paid, and also to help those living on savings who are suffering acutely from the low interest regime.

As a final thought, what is good for people is not equally good for politicians.  Low inflation does not wipe government debt and the downward drift of the primary items in the cost of living means that wage increases are subdued; this situation does not bring extra tax revenue to governments.  These politically disruptive forces are likely to create interesting fall-out in the elections to be held in the next eighteen months or so.

In general, the instabilities we are seeing are relatively benign, but the road to Christmas still has a few bumps in it.