Ali’s blog

Mostly quant stuff with occasional digressions

Looming problems for Britain

Posted by alifinmath on March 13, 2008

An article in today’s Torygraph (oops, I meant Telegraph):

In the words of former US Treasury Secretary Lawrence Summers, we are facing “the most serious combination of macro-economic and financial stresses in a generation, and possibly, much longer than that.”

The emergency action by the US Federal Reserve this week amounts to a back-door nationalisation of the housing loan system. The Fed will now accept $200bn of mortgage debt as collateral. The Rubicon has been crossed. If the rescue fails, the markets know that Fed chief Ben Bernanke will raise the ante to $500bn, or $1 trillion, until the job is done. “The determination of the Fed to fend off financial armageddon cannot be doubted,” said Société Générale.

Yep, as I’ve said before, costs get socialised while profits remain private. Where’s this money going to come from?

The global contagion from America has been fitful so far, with lethal bursts followed by bouts of eerie calm, just like 1930. Canada has stalled. Japan is teetering on the edge of recession. Tokyo’s stock market has suffered the worst New Year slide since World War Two, led by Honda, Sony and the export giants that live off the US market. The Nikkei index is down a third since July. The Shanghai bourse has dropped even harder. China is having to jam on the brakes to curb inflation.

Italy has buckled. The economy contracted in the last quarter. The housing bubbles have burst in Spain and Ireland. Unemployment is now jumping across most of the Club Med bloc.

And now the good news from Britain:

This then is the darkening world closing in on Mr Darling. He has few defences. The Brown spending spree over the last five years has led to the worst deterioration in public finances of any major country, according to Standard & Poor’s.

The budget deficit is above 3pc of GDP at the top of the cycle – or 2.9pc on Mr Darling’s friendly calculator. Germany is in balance. Mr Darling cannot begin to offer the sort of fiscal relief under way in America. Any such move would breach EU deficit limits and push Britain beyond the point of economic respectability, in company with Hungary.

This may happen anyway once the storm hits. Capital Economics says a hard landing will have a “catastrophic impact on UK public finances. A recession as deep as that in the early 1990s could push borrowing up to £150bn per annum.” The bond vigilantes are not captive Britons. Foreigners have doubled their share of the UK national debt to 33pc under Labour, and now hold £148bn of gilts. They can be quick to punish.

Reminds me of the time Clinton said: “You mean to tell me that the success of the (economic) program and my reelection hinges on the Federal Reserve and a bunch of f**king bond traders?”

Britain had a surplus of 2pc of GDP before the last bust. It starts this crunch 5pc of GDP worse off. Hence the spectacle of Mr Darling having to tighten into the downturn with net tax rises of £2.5bn this year. No government lasts long doing this.

For the first time since Callaghan, the state share of the UK economy is now greater than that of Germany. It has risen from 37pc to 45pc in eight years. The competitive margin bequeathed by Margaret Thatcher has vanished. We are back to the 1970s, in the top third of the high-tax league.

No open economy can avoid the ugly fall-out of an American slump. Yet Britain is doubly at risk. It duplicated the errors of the US bubble, and must suffer the same fate. The UK is merely nine months behind. America tipped last autumn. We tip this summer.

British household debt is 103pc of GDP, surpassing the highs seen in America at the peak of the credit boom.

We have been withdrawing £50bn a year in home equity, spending our paper profits at a rate of 4pc of GDP. Yes, we avoided the worst of the sub-prime follies, but matched with our own uniquely British buy-to-let excesses. Our current account deficit reached 5.7pc of GDP in the third quarter, mimicking the final phase of the US boom. Unlike the US, this country has become overly dependent on a single industry – finance – the one at the epicentre of this crisis.

Not looking too good for Britain. As I’ve said before, the country is even more dependent on financial services and financial capitalism than the United States. The repurcussions of an eviscerated manufacturing sector are going to be savage. The country can’t feed itself. Its “ecological footprint” is about five times larger than its land area: it has to trade to obtain the wherewithal for survival, like Japan and Switzerland. Unlike Japan and Switzerland, it has nothing to trade with — except services.



One Response to “Looming problems for Britain”

  1. Anonym said

    Off topic, here’s an interesting article about the dollar decline.

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