Saturday
Sep032016

Special report on natural interest rates

I've made two previous efforts to calculate the natural interest rate for the UK, and you can find them here:

I've just written a short paper talking about why the natural rate is important, and a (very) brief summary of some recent efforts to estimate it. You download it here. The charts are up through 2015, but I thought it would also be interesting to incorporate it in our data section. The chart belows shows the present situation, and as of 2016 Q2 the natural real rate was 1.8%. Using the GDP deflator as an inflation measure, this implies a nominal rate of 2.34%. With market rates (I use SONIA) at 0.47% this implies monetary policy is too loose.

Thursday
Sep012016

The lethargic recovery

I was talking today about why I thought the UK's recovery was lethargic, back when we thought that it was (we now think it was signficently better). There's obviously  a number of factors, and I wouldn't paint government policy as the sole determinant. We can split them into 6 main categories:

  • Falling real incomes: Household consumption has been squeezed via low wage increases and high inflation. CPI has been above the 2% target since December 2009 reaching 5.2% in September 2011. As already mentioned huge open ended tax liabilities and tax uncertainty has dampened spending with signs that consumers are factoring future debt burdens into their present consumption choices, “indebted consumers seem more interested in paying down what they owe than splashing out on flat-screen televisions” 
  • Low business confidence: not just because of low demand, but also due to Robert Higg’s concept of “regime uncertainty”. This results from the erosion of investor’s confidence in private property rights, and there is evidence that this occurred in the UK following the crisis.
  • Distressed export markets: since the financial crisis the trade-weighted value of the pound has fallen by about 20%, however 45% of exports go to countries within the Eurozone meaning that the UK is highly dependent on Eurozone growth.
  • Breakdown in financial intermediation: Bank lending has been weak, in large part due to new Basel rules that intend to encourage banks to hold more reserves. Evidence suggests that any gains from quantitative easing were almost totally offset by stricter capital requirements imposed by regulators.  In addition the recession directly followed a banking crisis that resulted in the government nationalising the four largest lenders in the country.  According to Reinhart and Rogoff, “the aftermath of banking crises is associated with profound declines in output and employment” , and the conventional view is that balance sheet repair takes time.  This may especially hold if accompanied by a housing bust – and the UK had one of the largest housing bubbles.
  • Regulatory problems: not only had much of the productive capacity of the economy been hollowed out prior to the financial crisis, there has been little supply side reforms as part of the recovery. The list of regulatory reforms in recent Budgets is underwhelming, treating government investment in infrastructure as being synonymous with supply side growth. Meanwhile airports are constrained by planning laws, housing developers can’t build new housing and small businesses are stifled by red tape.  In addition high marginal tax rates across the tax schedule dampens incentives and hinders growth.
  • Monetary policy mistakes: Similar to the US, interest rates in the UK were kept artificially low in the period building up to the financial crisis creating distortions in the economy. This “malinvestment” sowed the seeds of an inevitable correction, but these problems were compounded by additional monetary policy failures. In terms of the crisis period itself, nominal GDP began to collapse in early 2008 and didn’t reach its pre crisis growth rate of around 5% until late 2010. Some argue that the Bank of England was slow to respond to this – interest rates were 5% in February 2008 and they only began cutting in October (to 4.5%). Quantitative easing didn’t begin until 6 months after the collapse of Lehman Brothers, in March 2009.

In short, there has been a combination of reasons why the UK economy recovered thw way it did. It was vulnerable to a recession and monetary mismanagement compounded fiscal folly. 2008 wasn’t a temporary, irrational pause in spending but a permanent wealth shock.

Thursday
Sep012016

MA growth accelerates

Some important monetary aggregates have shown growth recently, and MA is no exception. In July 2016 it was growing at 10.28% (compared to the previous year), up from 9.27% in June. The chart below shows the growth rate over the last calendar year.

Monday
Aug292016

UK Gross Output grew by 3.49% in 2014

Last month the ONS released the Supply and Use Tables for 2014. You can find them here. They are interesting because they provide a measure of intermediate consumption, which many Austrian economists - who care about the entire "structure of production" - believe is an important missing ingredient of typical national accounts. Indeed it's somewhat odd that Gross Domestic Product strips this economic activity out, making it more of a Net concept. As Sean Corrigan puts it, we want the Hayekian horse (of production) in front of the Keynesian cart (of consumption).

Mark Skousen has advocated a measure that he refers to as "Gross Domestic Expenditure", which incorporates all of the production side of the economy. A close substitute for this is "Gross Output", which, as I've previously mentioned, is now published by the BEA (Skousen adjusts Gross Output by adding Gross sales at a retail and wholesale level, to incorporate even more business spending).

I've made previous efforts to measure Gross Output in the UK, using the Supply and Use Tables. This time, I'ive modified the method. I think the simplest way to approach it is to simply combine NGDP with intermediate consumption. Doing so provides the following side-by-side comparison:

 

Similar to US estimates, we see that Gross Output is around (in fact just under) twice as large as nominal GDP. The interesting comparison is the growth rates, and Gross Output is more volatile than NGDP:

In 2006 it was growing at 7.88% which indicated an even larger boom that was being shown in NGDP data (which grew by 5.52%). It then contracted by -2.31% in 2009 before picking up again. As with NGDP the post crisis growth rate seems enduringly lower. My main interest was the 2014 figure, and we can see that whilst Gross Output grew faster than NGDP in 2013, this was reversed in 2014. Whilst NGDP delivered a robust 4.77%, Gross Output only grew by 3.49%.

The problem with offering an alternative to GDP is there's a burden to provide a better one, or a more theoretically robust one. I wouldn't claim that I've achieved that, but I think it's worthy of enquiry. And if the recent debate between Vincent Geloso and Scott Sumner (and Marcus Nunes and Vincent again) is anything to go by, maybe there's increasing interest in getting this right.

Wednesday
Aug242016

MA growth rises to 9.27%

Our "Austrian" measure of the money supply showed growth of 9.27% in June, relative to last year. This is the highest rate since August 2014, and follows fairly stable growth of6%-8% since 2014.