These programmes¹ are examples, like the EU-ETS, where government intervention hands commercial advantage to the VILE (Vertically-Integrated Large Energy) companies, to little beneficial effect.

The VILE companies point to the fact that demand for domestic energy has fallen in the last couple of years, as evidence for their success. I have argued this was largely a response to price increases, increasing disparities between costs-of-living and disposable income, and warmer winters (until last year), and not the effect of their energy-efficiency programs. In my opinion, the timing demonstrates the point. EEC was introduced in 2002, and Warm Front in 2000, but domestic energy demand carried on rising until 2005², which coincidentally was when global wholesale gas prices spiked (consumers did not feel the full effect until Winter 06/07, but there was already concern and initial increases in 2005).

It is difficult to prove the relative significance of different factors on this basis. The VILE companies can argue that it would take time for the modifications funded by EEC and Warm Front to accumulate and their effect to be felt. But a small news item in last week's New Statesman offers a pretty clear way to assess which was the more significant factor. If efficiency improvements were the main factor, so the elderly and underprivileged (the main targets of these programs) could maintain a decent temperature whilst consuming less energy, you would expect excess winter deaths to fall. If the price rise was the main factor, so people were choosing to heat their houses less because of the cost, you would expect excess winter deaths to rise.

According to the New Statesman, "excess winter deaths rose by 49 per cent in England and Wales last year in comparison with the year before." The information appears to have come from a page on the National Statistics website.

Schumpeter wins, we lose

I've been angry for years about the level of economic ignorance amongst politicians, civil servants, journalists, financial professionals, intellectuals, the public, and, above all, the mainstream economics profession. Though every experience provides new evidence of our collective stupidity, after a while it is hard to keep raging. It's not that the anger has gone, it's just that the utter futility of expressing it yields eventually to weariness and frustration.

Mandelson's latest "winner" in pension fraud?

I can't beat the beautiful job Richard Tyler did in yesterday's Telegraph on a classic example of winner-picking under our Lord and master's revived industrial policy, so I'll just quote bits of it. Click the links to read the articles - they are well-worth reading.

Staff at a company whose parent group was rescued by Lord Mandelson's taxpayer-funded venture fund have discovered that their pension payments have gone missing.

Chris Allner, head of private equity at Octopus Capital, one of two fund managers appointed by the Business Department to invest the £75m fund, said: "In respect of us investing taxpayer and bank money, we are comfortable that we did as much as we could to uncover all the potential and actual liabilities of the [KeTech] group."  

A spokesman for the Department for Business declined to comment on the investigation into the missing pension money but said the investment in KeTech would "help secure the future of more than 130 jobs which were at risk".

As some readers have commented on my blog, imagine owning and running a successful business, which still has bank support. Then you discover that your poorly run rival has not only been bailed out with public funds but it can now undercut you on price because they have been incentivised with cheap/free money to retain more staff than they actually need.

Lord Mandelson champions active government. He sees political mileage and economic benefit to be had from the state doing more. His "industrial activism" has industry excited. It likes the sound of central planning, certainty and government subsidies. But it wants to see how the strategy is to be implemented in practice.

Lord Mandelson tells me that his department can conduct surgical strikes that will ripple out and benefit the wider economy. "Our investments may be small but they can be disproportionately economically significant if those investments are taking place in the right, innovative, fast growing companies. That's how I would justify our activism," he says.

So I asked him if this meant heading back to a 1970s style of industrial policy where government tried to pick winning companies? He hesitated. "It's not picking winners. It's backing some winners but inevitably not all. Most will not need our help but those that do need our help, we should."

That's a "yes", then.

The Economist is dead. Long live The Ecommunist

The Economist just published its suicide note. Unusually, it has done it well in advance, in the full flush of health and optimism. But it has nevertheless committed itself fully to a course that guarantees its eventual demise, or at least irrelevance and circulation-collapse.

It has been the corporatists' bible and the managerialists' handbook for some time. But it maintained a veneer of commitment to free markets. Its leader this week, however ("Big is back" in praise of a new era of corporate giants), nailed its colours firmly to the wall. In the immediate aftermath of an economic collapse caused by irresponsible big government allied with irresponsible big corporations, exacerbated by one bailing the other out on the basis that they were Too Big To Fail, The Economist has hailed the revival of big corporations from a supposed slump in recent decades. Of course they are going from strength to strength - big government wants to work with big corporations, because it is difficult to centrally-plan and micro-manage an economy of small, competing organisations each with a different vision. Big government therefore provides explicit or implicit guarantees, and endless competitive advantages, to its corporate friends, just as it did previously for nationalized industries (many of them the same companies, but in privatized form nowadays). This isn't something new, it is a continuation of a long-term trend. And it isn't something to be celebrated, but to be feared. It is another step along the progression towards big-block National Socialism. But that doesn't stop The Economist from rubbing its hands in glee.

In the short term, they are backing a winning horse. Of course governments faced with increasing economic difficulties will look to their corporate friends to help them out, and vice versa. We can look forward to a decade or more of increasing corporatism as the signature of our economic decline, to parallel the decade of increasing state-socialism and trades-union power of the 70s. But people will eventually come to understand the harm that this symbiotic relationship causes, just as they came to understand the harm that the "beer and sandwiches" symbiosis between state-socialist governments and the unions caused in the 70s. And at that point, The Economist, the voice of corporatism, will become as relevant and loved as Tribune and The Morning Star.

I look forward to the day. The Economist represents all that is bad about twentieth-century, mainstream, mathematical economics. The day it dies will be the day that people have realised that the purpose of economics is not to calculate outcomes in order to obviate the need for markets, but to teach us that such calculation does not work.

For those looking for the modern equivalent of what The Economist once represented, try MoneyWeek instead.

The national sub-prime borrower

Here's a bemusing statistic to follow on from the earlier post.

Question: Given that the US federal deficit is expected to be $1.8 trillion this year, taking the total national debt to $12.8 trillion, by how much does the US government expect their interest payments on that debt to increase?

Answer: They don't, they expect interest payments to fall by 44%, from $253 billion in 2008, to $143 billion in 2009. And next year, when they expect to run a deficit of another $1.3 trillion, taking national debt to $14.4 trillion, they expect interest payments to fall further to $136 billion.

Confused? I am.

A. Interest rates

One explanation is relatively simple. Short-term interest rates have fallen. Tim Worstall recently provided a useful explanation of the yield curve. If they are able to borrow both the new debt and the rolled-over debt at lower rates than before, then interest payments might fall even if the principle has increased. Depends on the amount of the increase in the principle and the fall in the rates.

The average maturity of Treasury bonds is said to be around 5 years. Longer-term rates aren't that much lower now than they have been over the past decade. Yields on 5-year bonds are down to around 2.5% (from 5% a couple of years ago and 3.5% a couple of years before that), and get lower the shorter the bond, down to a fraction of one percent for 1-month and 3-month bonds.

US Treasury yield curves, 1990-2009 

If the Treasury borrowed much of the new and rolled-over debt on medium- to long-term bonds, net interest payments would be going up (or at least not down by anywhere near as much as assumed), as the increase in the principle would exceed the reduction in the rates on that portion of the existing debt that was rolled over. To achieve the reduction in interest payments that they assume, a substantial proportion of the existing debts must be coming to maturity this year and next, and must be renewed (along with the new debt) as short-term borrowing. So a large proportion of their debt will end up on short-term rates.

The trouble is, short-term borrowing needs to be renewed frequently, and short-term rates don't stay low in a recovery (nor do long-term rates come down). There is no scenario that I can think of where the economy rebounds to the extent that the Obama administration is assuming, from the point of view of the tax-revenue it is able to yield (see previous post), and short-term rates stay at a fraction of one percent. At that point, the recovery kills itself, because the interest that has to be paid on the projected national debt of $14.4 trillion in 2010 or $15.7 trillion in 2011 should be at least 3% and probably higher, given the strength of the assumed recovery implied by the tax revenue. That's $430 billion of interest payments in 2010 (compared to their assumption of $136 billion) and $628 billion if average rates are nearer 4% in 2011 (compared to their assumption of $254 billion).

Those discrepancies would mean either increased taxes to cover the extra payments, or increased borrowing to cover the increased deficit. The former would stunt growth just when it was starting to recover, reducing tax revenue in a vicious circle. The latter would further increase the cost of borrowing, making it necessary to borrow more, in another vicious circle. Taken at face value, it's hard to see how this house of cards can't collapse. It's Catch-22.

Ironically, it's a similar predicament to the situation that sub-prime borrowers got themselves into. The government is being tempted by the equivalent of teaser rates to borrow greatly in excess of what its assets are worth and what it can afford to pay back. Those rates aren't fixed for long, and are likely to be significantly higher when they come to renew (or their income significantly lower, if the economy hasn't rebounded in the way they project). And by then, they'll have racked up even more debts.

Unfortunately for the American people, there is no "jingle mail" option when its government can't afford the payments and its debts exceed the value of the economy. Or should that be "unfortunately for the bond holders", because the government will have to take one of the two options that are closest to "jingle mail": default or inflate?

B. Net interest

But this is where another explanation for the apparently improbable figures comes in. It's the explanation that has me really confused. The figure that the US government has to pay is not the whole of the interest payments due, but the net interest. The net interest takes account of the fact that the largest holder of government debt is... the government! It owes the money to itself. As this is effectively a transfer of money from one part of the budget to another, it nets-off these amounts and only counts the net interest (i.e. the interest payable to all external holders of government debt).

I can just about wrap my head around the origins of this circular notion. The US government first started to hold substantial amounts of its own debt after 1983, when the Reagan reforms to the Social Security budget left it with a surplus of social-security tax receipts over social-security outlays, and facing substantial future obligations. They used the surplus to buy Treasury bonds, which in a sense you could see as a sensible investment to provide for future obligations.

But it doesn't really stack up. Unlike corporate bonds, the money received by the government in exchange for its bonds is not invested in profitable assets that will provide the return to repay the bonds over future years. Whether used for current expenditure or capital investment, the government gets no yield from the expenditure, other than the hope that its measures will cause the economy to grow more quickly than it otherwise would have, which will allow for higher tax revenues. Ultimately, government bonds will have to be paid out of future tax receipts. And if the government hadn't borrowed from itself, the money for social-security obligations would have had to come from... future tax receipts. All that has really happened is that a convenient excuse has been found to make a surplus in one part of the government's activities available for current expenditure anywhere the government likes in its budget, and a slightly greater moral obligation has been placed on the government to raise tax in future to pay for obligations it was almost certainly going to pay for anyway.

And there was no real surplus. The US government's deficits ran at around $200 billion a year on average between 1983 and 1995 (in nominal terms, nearer to $300 billion in today's money), and at similar levels (in real terms) from 2002. Total government outlays were $800 billion at the start of that period, which should give some idea of the relative size of the deficit. In practice, this device was a way to disguise imprudent and spendthrift expenditure as somehow prudent and parsimonious.

The net effect has been to swell the US government's share of gross national debt from 17% in 1985 to 44% in 2007, while that gross debt has been increasing significantly (from $1.82 to $8.95 trillion in nominal terms, from $3.12 to $8.95 trillion in real terms, at 2007 dollars, or from 43.8% to 65.6% of GDP).

US national debt interest payments, 1962-2019 

We have become familiar with the concept of Quantitative Easing since the onset of the Credit Crunch. It might be thought that this is a sign that the policy had been running longer than we realized. But for the purposes of calculating the net interest, the Federal Reserve is treated as external to government. Payments due to the Fed are included in the net interest figures. QE as we understand it today would have resulted in an increase in the net interest payments. The Federal Reserve was not until recently a big buyer of government debt - it held only 5% of outstanding securities in June 2008 (around 10% of that big blue chunk in the pie chart below). The government had not got its money through the relatively transparent (if misguided) process of Federal Reserve balance-sheet expansion. It seems that the federal government simply issued itself IOUs in order to increase the amount of money it appeared to have available to spend. Rather than spending directly the tax it raised, it used some of the tax to buy its own debt. The money was made available for expenditure in the same way as if it had spent the tax directly, but the government had made obligations to itself to pay itself money in the future (money that will have to be raised from taxation and spent on the budgets for which the debt is earmarked, in much the same way as if the debt didn't exist).

Estimated ownership of US securities, 2008

It seems a strange thing to do. But in any case, the government doesn't have the tax receipts to buy as much of its own debt as usual, so the Fed is indeed buying a large chunk of federal debt this year (i.e. the government will have to expend future taxpayers' money to repay money borrowed from the Fed, which the Fed created out of thin air, and which was used to allow the government to continue to run unsustainable deficits and indirectly to blow bubbles in the stockmarket). The government's share of its own debt is projected to increase by "only" $150 billion (to $4.3 trillion), whereas debt held by the public (including the Fed) is expected to increase by $2.7 trillion. Last year, debt held by the public increased by twice as much as in the previous highest year ($768 billion, compared to $382 billion in 2004). This year's increase is 3½ times higher again, taking the total debt held by the public from $5.8 trillion to $8.3 trillion. This means that the share of the debt that is paid out of taxes to recipients outside the government has increased by a significantly higher proportion than the increase in the gross debt. And it is expected to increase by a further $1.35 trillion next year and nearly $1 trillion the year after that.

This is the context against which the net interest payable (the interest payable on the debt held by the public including the Fed) is supposed to fall dramatically and remain relatively low. The principle amount on which net interest is payable will more than double between 2007 and 2011, the economy will recover so strongly that it yields record tax revenues, and yet interest payments will remain modest, apparently. I'll have some of whatever the Obama administration is drinking.

"Austrian economics invented after WWII" says lefty blogger

The left tend to enjoy a smug, patronizing sense that their views are the product of great intelligence, altruism, and encyclopaedic knowledge, while the right owe their views to ignorance, prejudice and a brutish love of money.

But for some reason, this superiority is insecure enough that they often feel the need to censor the challenges of their thuggish, stupid opponents. Surely, with the weight of reason and knowledge on their side, they can win any argument in a fair and open exchange?

Let's test that.

On Richard Murphy's Tax Research UK blog, a commenter posted to warn that some people were mentioning the Austrian school of economics in policy discussions (horrors!). I queried quite gently the claim that "the only country which carried out their ideas went bust" (I genuinely don't know which that is, and until I do, I can't say for sure that it isn't true), and pointed out the role of Mises in trying to stabilize the Austrian currency after WWI, when similar circumstances but different policies in Germany allowed inflation to get more irretrievably out of control and opened the door to the Nazis.

A reply to a flippant response from Richard Murphy led to the following peach from Paul Sagar:


The Austrian school refers an economic (and political) strand of thinking exemplified in Hayek, but with many other followers. It was developed after WWII, in specific response to the rise of state socialism.

It has never been put into practice. Especially not in the interwar period.

You twit."

The Austrian school was developed after WWII in response to the rise of state socialism! Really?

So Carl Menger, founder of the Austrian school of economics, born 1840, died 1921, magnum opus (Principles of Economics) published in 1871, was not an Austrian-school economist? You might expect someone commenting patronizingly on economics to have heard of Menger and know that P of E was published in 1871, as the year in which the marginalist revolution, on which all modern economics is based, was launched with the simultaneous but coincidental publication of works by Menger and Jevons.

Eugen von Böhm-Bawerk (1851-1914), Friedrich von Wieser (1851-1926), Ludwig von Mises (1881-1973), and Richard von Strigl (1891-1942) were not Austrian-school economists, were they not? Friedrich von Hayek (1899-1992), Fritz Machlup (1902-1983) and Gottfried Haberler (1900-1995) developed none of their ideas before the war, did they?

What a world-class plonker. It seems he never made the leap to the concept of object permanence as a toddler - if Paul can't see it, it doesn't exist.

Why would you post with such assertive confidence on a subject about which you know nothing, especially as there were hints in the post to which you were replying that you might get picked up? And if this is your modus operandi, should we not also treat with caution any other statements you make with the blind confidence of the blissfully ignorant. How sweet to be an idiot, as Neil Innes sang.

As the original focus of Richard's and Paul's posts was Glenn Beck, who is every bit as creepy, weird, extreme and inclined to misrepresentation in support of his views as they say, I posted the following on Paul's blog:

"It looks like right and left alike are capable of ignorant lies, putting ideology ahead of the facts. See Paul's contribution on the Tax Research UK blog at This may shed some light on the depth of knowledge, understanding and perspective underlying Paul's views."

It will be interesting to see if Paul allows a link to clear evidence of his ignorance to stand, or whether he removes the post to hide his arrogance and stupidity.

UPDATE: (in case people don't bother clicking through.) It seems I had it back to front - Paul has shown himself to be a sensible and decent guy, while Richard Murphy has provided the perfect illustration of the type of intellectually-insecure lefty that I was talking about.

Tax hiatus or deficit problem?

It is becoming popular amongst Keynesians (and perhaps some monetarists too) to suggest that Western governments do not have a deficit problem, they just have a hiatus in their tax receipts. Government's job, therefore, is to help the economy get back to a healthy state as quickly as possible (through deficit spending, low interest rates and quantitative easing), at which point tax revenues will be restored, the deficit will be eliminated, and normal service will resume.

Ummm... No. Here's a statistic that shocked me:

In real terms, the projected US deficit this year is more than the combined US deficits for the three years from 1943 to 1945.

This is from White House figures (see Table 1.3 of the Historical Tables of the Office of Management and Budget). Converted to year 2000 dollars, the projected deficit in 2009 is $1,440.1 billion ($1,841.2 billion in current dollars), and the deficits in 1943, 1944 and 1945 were $486.2, $448.2 and $456.8 billion respectively (in 2000 dollars). These were the previous highest deficits run until this year, with somewhat more justification.

This deficit isn't principally due to a collapse of tax receipts below the norm. In real terms, the total projected tax receipts in 2009 are higher than the total receipts in 2003 and 1997. In between, we have had two huge bubbles (in fact we were already well into the first bubble by 1997).

US tax receipts, 1940-2009, real (2000 dollars)

Depending whether you think we returned to trend in 2003-4 or remained above it (we could get a better fit with the period from 1940-1995 on the assumption that it remained above), the projected downturn has overshot the trend by somewhere between a few billion dollars and a couple of hundred billion dollars. That leaves $1.25 to $1.4 trillion in 2000 dollars ($1.5 to 1.8 trillion in current dollars) of deficit unaccounted for by tax revenue that might reasonably be anticipated, in the absence of another bubble even bigger than the preceding two.

That doesn't stop the Obama government from projecting exactly that, however. Here is how the above graph looks if we add in their projections for tax revenue to 2014:

US tax receipts, 1940-2014, real (2000 dollars) 

By 2011, they project that tax receipts will have returned to a level where they exceed the 2000 peak during the first bubble, and are only a little short of the 2007 peak in the second bubble. The following year (2012), they plan to excede the 2007 tax peak by almost 10%, and by nearly 20% by 2014. And even then, spending will be so much higher than these new peaks that they will still be running deficits of nearly $400 billion, and the deficit will be going back up again. They project the average spending in the period 2009-2014 to be 27% higher than it was at the tax-revenue peak in 2007, at which time they were already running a deficit of $133 billion.

All of this is in real terms, in 2000 dollars. The figures in current money will be significantly higher.

There is only one way to try to achieve this, and that is to blow the biggest bubble in history - a bubble to make the roaring twenties or the recent lunacy look sane. Failure and disaster are inevitable. The only question is when. Will markets buy this fantasy for a while (i.e. continue to buy Treasuries and/or hold off dumping the dollar) or will they return to sanity soon and prevent the US government from running up a bill it can't afford to pay back?

Note that this is not to say that other countries are much better, their projections more realistic, or their market bubbles more rational. This is the most egregious example of a more widespread delusion. All governments' stimulus plans and projected budgets are unrealistic. They will have to be curtailed, and hence will fail to deliver the economic recovery that markets are currently pricing in (but which they wouldn't have delivered even if they could somehow have been funded). It's not about flight from one currency to another, but flight from all fiat currencies.

There will be no alternative to major real cuts to government budgets, services and welfare provision, at the same time as unemployment is soaring from a reduction in public-sector employees to match the earlier reduction in private-sector employees. A shrunken economy will face a higher tax burden (proportionately) because of the imbalance between private-sector earnings and public-sector costs, despite reduced numbers of public-sector employees. The weight of taxation will inhibit economic recovery.

Our troubles have only just begun.


I was remiss in providing graphical representations only of the trajectory of tax receipts and not also of federal outlays to give a visual indication of the (budgetary and reality) gap. So here it is:

US federal tax receipts and outlays, 1940-2009, real (2000 dollars)

Clearly, the trajectories set by the historical trend over the past 35 years are unsustainable. And yet the projections of the Obama administration are massively more optimistic than those unsustainable trends. They are so fantastic that they make the Lord of the Rings look like cinema verite. What people need to ask themselves is what happens when governments fail to deliver on their fantastic projections?  

Total Economic Quackery

The All Party Parliamentary Group On Peak Oil (APPGOPO) has released a report backing Tradable Energy Quotas (TEQs) as "the fairest and most productive way to deal with the oil crisis and to simultaneously guarantee reductions in fossil fuel use to meet climate change targets". This should serve as a warning to classical-liberals that (a) not everything that uses market mechanisms is a free-market or liberal concept, and (b) despite the presence of one or two saner members in their midst (such as Vince Cable and David Laws), the Liberal Democratic party (to which APPGOPO's chairman, John Hemming MP, belongs) is still fundamentally a beard-and-sandals, Fabian, Rawlsian, meddling, fiddling, egalitarian bunch of moralizing whackjobs, who would happily suck all the fun and reward out of life in the name of "fairness".

TEQs, as the name suggests, is "an energy rationing system" where each adult receives an equal quota of energy (measured in carbon terms) that they are entitled to use annually, calculated as equal shares of 40% of the total amount of energy/carbon permitted to be consumed annually under a falling profile set by the Committee on Climate Change in accordance with the national Carbon Budgets that have recently been enshrined into law. This system is allegedly designed "to prevent the intense competition for fuels that will otherwise develop, and to ensure that every energy-user can access their fair share".

So far, so student-socialist, but the cunning of the modern socialist is that he has learned to dress his communist wolf in a capitalist fleece. So the remaining 60% is bought in weekly government auctions by banks and brokers (no rent-seeking opportunities there) on the instructions of their clients in all those organizations who want to be allowed to use energy. And trading is allowed between possessors of the initially-egalitarian personal quotas and of the auctioned rights. The system thus lays claim to be a "market mechanism", combining "social justice" with the efficiency of capitalism in the approved manner of the Third Way prophets.

It is, in this way, different only in detail of implementation, from other cap-and-trade mechanisms, though the details are particularly draconian and deluded. Capitalists (of the type that we need to save capitalism from) who extol the virtues of cap-and-trade and yet look at personal rationing like this and shudder, ought to ask themselves if they haven't been fooled by the inclusion of the word "trade" in an approach that is fundamentally about overriding the efficient allocation of scarce resources by means of state-imposed rationing. Trading mechanisms within these rationed systems are no more than publicly-authorised black markets, which have the same benefits as real black markets under state-rationed systems, but do no more to eliminate the inefficiency and iniquity caused by the distortions that result from such a system.

We are already familiar with a system that distributes resources on the basis of social utility and provides incentives for people to use more or less of the resource depending on its scarcity. It is called the free market.

Lucas - I'm sorry you misunderstood me

Is it me, or is Robert Lucas's apologia for modern, mathematical macroeconomics in this week's Economist, effectively saying that their models are pretty good at predicting the economy will carry on in the direction it's currently going, until it doesn't, which point they are incapable of predicting? I think most of us could manage that, without needing a degree in maths and swathes of meaningless formulae. I predict that the current bear rally in the stockmarkets will continue until it doesn't. But I may have to turn to other tools than macroeconomic models if I want to avoid losing money when the market turns. Tools to help me moderate my losses in that situation are not as useful as tools that help me to avoid the losses in the first place, particularly if the tools to moderate my losses are at the expense of those who were more prudent than me.

The most pathetic and disingenuous of his arguments is that, not only were their models incapable of predicting the sharp reversal of the Credit Crunch, but that no one could, and that the sensible policy was therefore to carry on regardless, and deal with the mess if and when it arrived. It takes mathematical genius to be so disconnected from reality. It was perfectly possible to see the mess we were getting ourselves into, and to say what we ought to do to stop it from getting worse. Followers of the Austrian school called it, as usual. But they were laughed out of court before the crisis by people who had swallowed the neo-classical macroeconomic swamp juice. Instead of apologizing and admitting that their paradigm is wrong, Lucas tries to associate everyone with his failures, and claims credit for suggesting the tools that have launched us on the next stage of irrational and distorted economic development.

How does someone like Lucas get the reputation he has in the economics community? Doesn't that tell us something about the wider irrationality of the mainstream economics establishment? Why are the mainstream economics schools not admitting that the Austrians got it more right than they did, and that that tells us something about the validity of the different paradigms? Is it because of their public-choice incentives? Few governments and corporations are going to pay good money for the anti-interventionist, sound-money insights of the Austrian school.


Many of the more delusional, socialist contributors to the Claverton Energy group of energy fantasists (as I labelled them previously to their founder member's apparent offence) are persistently and vehemently opposed to "growth". See, for example, a recent exchange of half-baked ideas on the subject of "Olduvai theory". But to be fair, this sort of nonsense is at least partly provoked by the frequent exposition of the opposite extreme: the naïve promotion of growth at all costs (popular amongst our political elites).

Of course, neither side bothers to define what it means by growth, and it struck me that the concept seems to be singularly ill-defined, at least in the context of popular philsophizing. At best, it seems to be mostly useless in its vagueness, and at worst, it seems to be the cause of much confusion and misunderstanding, leading to economic and philosophical errors, and hostility between groups who mean different things by the same term.

What these Clavertonians want is a shift to a more "sustainable" way of life (and energy system in particular). There's a whole other can of worms in the term "sustainable", but let's imagine for a moment that we could all roughly agree on what it meant. And let's say that the Clavertonians persuaded most people to share their preference. The economy would become more focused on sustainable goods and less focused on unsustainable goods. The share of sustainable goods in the economy would increase. Increased demand for and supply of these goods would cause not only their share of the economy, but the economy as a whole to grow (unless inhibited by bureaucratic inefficiencies). Growth would be synonymous with improved sustainability, rather than antithetical to it, as these Clavertonians perceive is the case at the moment. Would they still oppose growth in those circumstances? If not, why do they oppose growth per se now? What they really oppose is not growth, but the undervaluing (as they see it) of sustainable goods and the overvaluing of unsustainable goods. But starting from this misapprehension, they fall easily into other economic fallacies and socialist delusions.

Conversely, the "growth at all costs" crowd are pandering to mirror-image delusions. Some of them focus on GDP growth, forgetting that some things that are harmful to the economy and to people's welfare, such as monetary inflation or expansion of the bureaucracy funded by deficit spending, can give a short-term boost to GDP. Simple population-change can give a distorted impression - mass immigration will probably increase GDP even though it may not be beneficial to most people, but if we were to try to counteract that by referring to GDP per capita rather than plain GDP, we could be fooled into thinking that high mortality (whether natural or artificial) can be an economic blessing.

Others confuse growth with consumption, and seek any means to stimulate consumption (whether or not our propensities to consume and to save are reflected in a sustainable balance of spending and saving, or have been distorted by government policies) because they perceive that resumed growth hinges on resumed consumption, and that our general prosperity and wellbeing hinges on resumed growth. Actually, where (as in recent times) we have had substantial malinvestment and an imbalance of spending relative to saving thanks to unwise government action (or inaction), we need a period of creative destruction, rebuilding of savings and consequent reduction in spending, in order that the economy can return to a more realistic and satisfactory balance (until the next time that governments decide to screw it up).

Growth is not necessarily good or bad. It is the nature of the growth that matters. There will be many shades of opinion on what constitutes "good growth", but to oppose growth per se or promote it willy-nilly is like opposing or promoting discipline. A world in which there is no discipline and everyone does exactly what they want (the law of the jungle) would be chaotic and dissatisfying to most, but a world where the need for some discipline is abused, perhaps by an authoritarian power, is intolerable. The virtue of particular instances of discipline or growth depends on whether they enhance or reduce people's scope to move from a less to a more satisfactory condition.

And for that, there is no satisfactory metric, whether we are talking about discipline or growth. GDP is not a meaningful proxy for the latter, even for a "first-order approximation", nor is any other econometric index. Instead of approaching this with the objective of trying to measure the immeasurable, we should approach it from a philosophical or systemic perspective. We can say that, if we create the conditions that provide the greatest scope for people to move to a more satisfactory condition and be protected from unwarranted impositions by others, then the developments that proceed from those conditions are as "good growth" as it is possible to encourage, without trying vainly to put a figure on it.

What a waste

According to David Kidney, Energy Minister with responsibility for fuel poverty, the Government has "spent £20 billion helping people in fuel poverty since the year 2000" (it's near the end of the interview).

UK fuel poverty levels 1996-2006 At 3.5 million, the number of homes in "fuel poverty" in 2006 was significantly higher than it was in 2000 (see graph from DEFRA's UK Fuel Poverty Strategy 6th Annual Report 2008), and that was before prices went really high.

Is it possible that the Government's strategy is not working? Have we wasted a colossal amount of money trying to encourage improvements to energy-efficiency and usage whilst keeping domestic energy prices as cheap as possible? Is fuel poverty a bogus concept that gets in the way of rational energy policy?

Or is £20 billion to make things worse a good return on investment (to use the Government's favourite word for spending)?

Stepping marginally

Here's a graph from the Renewable Energy Strategy, of a type that the Government has been growing increasingly fond, as it steps up the complexity of its efforts to calculate outcomes and costs of support policies:

Marginal resource costs of renewable generation by sector in 2020 

The first and most important point is that it is remarkable how precisely the Government believes it is possible to predict the costs of achieving the 2020 target. But let's nevertheless play the game of pretending that these figures are worth applying some critical thought to.

It is amazing how much the marginal resource costs of various technologies within the three sectors cluster together. One would have thought that one of the fundamental features of marginal costs is that they vary across the piece, and don't proceed in a few large steps. For example, it seems that there are no opportunites for renewable heat that incur marginal resource costs of between £15/MWh (the second, dark-blue block) and £70/MWh (the eighth, mustard-yellow block).

Perhaps I am holding them to too high a standard, and the mustard-yellow block is (for example) intended to contain all potential renewable-heat projects with marginal resource costs between £15 and £70/MWh. But in that case, why does the chart distinguish consecutive blocks of transport energy with marginal-resource costs of £20, £35 and £40/MWh (approximately, see the third, fourth and fifth blocks in the graph)? Couldn't they all have been lumped together like the 10% (mustard-yellow) heat block, or the 24% (sixth, salmon-coloured) electricity block? And doesn't this contradict Government policy on support mechanisms, which tries to tailor the support-level to ensure that projects all get only just enough to make them viable (projects of each technology being consistent in cost and the Government's knowledge perfect).

Old Hat

Just came across a post on Richard Murphy's blog (via Bishop Hill and Tim Worstall, who have both been laughing at a more recent contribution from him) that claimed to show that cutting public-sector jobs would cost the government more money than it would save. For him, this means that we should increase public-sector employment to deal with the government debt problem. I have posted a comment, but I don't know if it will get moderated away, so I thought I would stick it up on here as well, just in case...

You appear to have demonstrated that welfare provisions are more generous than we can afford, and that the combination of tax and withdrawal of benefits creates a very high effective rate of tax on those just above the mean earnings level.

By your maths, someone with gross pay of £25,000 has a disposable income that is £7,365 higher than someone who is earning nothing. That is an effective tax-rate of over 70%. Not great reward for the effort involved. No wonder public-sector employees don’t cost us much more than the unemployed - but is that something to write home about? What you are saying is that we don’t reward people doing work much more highly than people doing nothing.

Your conclusions do not necessarily follow from this calculation. One might equally conclude that we need to rebalance our tax and welfare system so that effective and marginal rates of tax are lower and people are better rewarded for work.

That's not a pensions crisis. Want to see a real pensions crisis?

A couple of weeks ago, I went to a drinks party for a Climate Campaign organized by the Conservative Energy & Climate Change team. The crowd was amiable enough - mostly pin-striped types with a leavening of tweedy country squires and the odd celeb, as one might expect. But the level of bullshit was off the scale. And I'm not principally talking about the politicians, though there wasn't much substance to their words. I am talking about the guests - the people the Tories are talking to and apparently listening to on energy and climate policy.

One squire told me about the Energy-from-Waste (EfW) project that was planned for his neighbourhood, in which he was involved. This was not any old EfW project. It was a full-blown, cloud-cuckoo, mad-hatter's EfW project. Though located in the sticks, it was going to take twice as much material as the giant EfW plant that has just been built near Heathrow. It wasn't going to use conventional technology (like the Heathrow project), but gasification - a technology that people have been trying and failing for decades to implement commercially to run on waste. And this was not "vanilla" gasification (which is unproven enough for waste), but a particularly high-temperature version known as plasma technology. It wasn't just going to take municipal solid waste (MSW - the stuff in our bins), but waste straw and other agricultural residues and energy crops (which was where the squire came in), despite the fact that this plant would be located around 30 miles from one of the biggest existing straw-burners in the country, which had so distorted the market for waste straw when it was commissioned that it had pulled in material from a 150-mile radius. By some magical means, it would produce absolutely no waste by-products at all - not a tonne of char, tar or contaminated recyclate would need to go to landfill. And this, I have since discovered, was the scaled down version - it was originally intended to be twice as big, using technology from a different supplier (who had never built one before to demonstrate the commercial and technical feasibility of the concept). But most worryingly, though this fantasy project using unproven technology was expected to cost £200 million (according to the squire; £250 million, according to my subsequent research), they already had three-quarters of the funding in place, and had funders falling over themselves to provide the final 25%. Or so he said. I don't know if he had been fooled, or if he was trying to fool me, but someone somewhere was being kidded in a big way.

But perhaps he was just a lone fantasist. Or so I hoped until I spoke to a pin-striped type who ran a green-energy investment fund. I suggested to him that his difficulty would be finding enough projects that were solid enough and offered a good enough return to satisfy his investors, and that as a result he might have to be settling for less than ideal average returns. Not so, apparently. It seems that the world is awash with attractive, solid, green-energy projects, to the extent that he was confident of averaging 24% returns. That is some performance, when one considers that none of the renewable-energy companies that I am aware of is delivering figures like that, nor indeed many companies of any description. "Carbon prices" are low, support for mature technologies is being reduced, and estimated costs of immature technologies are being repeatedly increased. T. Boone Pickens has just knocked his plans for the biggest wind farm in the world on the head because he couldn't make it stack up, despite levels of support that have been making America the favourite country for new wind developments. Nothing in the world of green energy or the wider economy gives grounds for optimism, and yet this fund-manager was confident of returns to make a speculator blush.

But what was really concerning was the type of fund he ran. He claimed his fund acted as a middle-man to bridge the gap between pension funds and green-energy developers. If he was telling the truth (a big "if"), the money that he was taking to invest in these mystery projects, was money that ought to be invested in the safest, dullest investments available. But instead it was going into high-risk (whatever he claimed, you don't get 24% returns with low risks) green-energy projects promising returns that no experienced developer in the sector would believe remotely feasible.

Perhaps the room was just awash with fantasists, and the finance was not in reality so easily available for their fantasies as they claimed. In that case, we need "only" worry about the sort of advice that our probable future government is being given. This tone that there is easy money to be made in energy and climate change, and that the City can deliver masses of investment, profit and jobs in the sector if suitably encouraged certainly chimes with the Tories' policy pronouncements in this sector so far.

But just possibly, people in the City really believe this (as well as the Tories). The room was certainly throbbing with optimism. And there were a lot of pin-stripes there. And you can certainly find reports prepared by consultants that could justify this sort of delusion, if you were ignorant enough of the practicalities that you believed the consultants' bullshit. Could these people be representative of a City view that genuinely believes, despite never having built anything real in their lives, that longstanding technical obstacles, energy-price volatility, and sovereign risk from inadequate, badly-designed, micro-managed, government interventions, are details that can easily be overcome through a combination of their cash and their genius?

Hedonic losses

One of my new socks has a hole in it already. That's no surprise. Nowadays, at least one of each pair that I buy usually develops a hole within weeks. Or I buy size 10-12s and within a couple of washes, they are down to a size 8 (I am a 9). It's the same with new boxer shorts: fly button gone within a week, shrunk within two, and ragged within a few months. My new shirts seem to have a tendency to develop holes at the elbows, lose buttons, and shrink, like my old shirts never did. Trousers quickly develop holes where trousers never should.

Being a cheap-skate and (as a married man) not too worried how I look down to my grundies, I am still making my old socks and boxers do duty as well. They may show their age a little, but they are still hanging together - few holes, buttons still there, still fit. Old trousers don't get so much of a look in thanks to an expanding waste-line, but old shirts still do duty and soldier on dutifully without needing repairs.

In my subjective impression, there has been such a deterioration in quality of off-the-peg clothing over the past two decades that it barely matters whether clothing is two decades, two years or two months old - it's a moot point which will need replacing soonest.

When discussing indices of price or progress, economists like to talk about hedonic valuation - the improvements in performance (due, for example, to modern technology), which are not reflected properly in changes of prices over time. The classic example is computers, where prices have been quite stable since the early big gains, but the processing power that you get for your money has increased exponentially. If we use raw computer prices as a component of price inflation, they have been a stabilising or modestly deflationary influence. But if we adjust the contributions of computers within the index to take account of their increased ubiquity and power, they are a strong deflationary force - a given unit of processing power costs a tiny fraction of what it used to.

Yet this example has always irritated me. Hedonic valuation refers to the increase in utility that derives from improvements to a type of good. I cannot say that I get twice as much utility from a computer with twice as much processing power. In fact, in recent years, increased processing power seems to have been dedicated mainly to providing the cycles to allow for irritating bells and whistles that actually reduce my utility (the Office paperclip, anyone?). Perhaps, if I were still running Windows 95 on a modern computer, I'd appreciate how much faster it ran. But of course, generally Microsoft won't let me, and finds ways to force me to upgrade. And anyway, would I really care that steps that took 100 ms in 1997 now take 10 ms?

You could see this in a couple of ways. Maybe the hedonic gains from improved hardware are genuine, but they are compensated by the hedonic losses from the bloated, glitchy software that fritters away the hardware improvements. On this basis, there is a good case for viewing the Microsoft monopoly as one of the most pernicious inflationary forces in the modern world. Or maybe we should treat them as one (you can hardly use one without the other), and attribute a limited net hedonic gain to the combination (most core computing tasks - writing, calculating, communicating, researching - are little better than 10 years ago, but some things, like improved graphical capability have brought genuine increases in utility). Whichever, we can say that hedonic valuation is most often used to exaggerate the benefits of the modern world.

As my socks demonstrate, it seems to me that we might usefully apply the logic in reverse. If the price of off-the-peg socks has stayed fairly steady, but the service that one pair of socks would have given a decade ago needed three pairs of socks to do the same job three years ago, or ten pairs of socks now, shouldn't we say that there has been powerful inflation in sock values, on a hedonic basis? Likewise for other clothing items. It seems to me that this is a germ of an idea that goes some way to explaining (along with the increasing gap between earned income and disposable income due to high levels of taxation and property-price inflation) the dissatisfaction that people feel with modern life, despite the statistical evidence that we have been getting progressively better off.

So I started thinking what other things in our life showed significant changes in hedonic valuation.

Liquidating reality

Can we get one thing straight? Administration and liquidation do not destroy productive assets or viable jobs. If the assets can be put to profitable use based on any valuation down to a penny, they will be put to that use, unencumbered by the debt that had weighed down on them, as the company emerges from administration or the assets are offered for sale at liquidation. If they are not even worth a penny in that process, then the value had been destroyed before the company went into administration or was liquidated – either because the market changed (i.e. people no longer valued the products to whose production the assets contributed enough to justify the ongoing cost of the asset), or because the managers who invested in the asset made a bad judgment in the first place. Either way, administration and liquidation offer the best way of discovering whether someone with better judgment than the existing management thinks they can make profitable use of them.

Likewise for jobs. If someone believes that they can make a profit out of the use of an insolvent company's assets, they will need employees to operate the assets. If the best use is the original use, the existing employees will be able to carry on as before (although possibly with reduced remuneration that reflects the economic realities). If the best use is a change of use, some employees may be able to retrain, and others will lose their jobs, but still others will gain jobs created by the change of use. If no profitable use can be found, the jobs, like the value of the assets, had been destroyed by the market and the management before the company went into administration.

Subsidising an insolvent company to maintain the existing jobs destroys jobs in the round, it does not conserve them. The subsidised business is continuing to do something unprofitable, requiring taxpayers' money to keep it doing that. It is destroying wealth by continuing to use the assets for a loss-making purpose, when we could be creating wealth (if a profitable alternative could be found by an administrator or purchaser) or at least not destroying more of it, by spending good money after bad (if the best that we can do with the assets is send them to the knacker's yard). The amount of taxpayers' money needed to keep the thing afloat exceeds the value that it adds to the economy (otherwise it could raise the money by other means than relying on the taxpayer). At the margins, those unnecessarily-high taxes are destroying jobs, and because the cost exceeds the benefit, more jobs are being destroyed elsewhere than are being conserved by the subsidy. Unfortunately, politicians, the commentariat, and the public can see the direct effect of the jobs being conserved, whereas they cannot easily spot the indirect effect of the jobs being destroyed, though if they stopped to think about the levels of unemployment in the circumstances where governments prop up bad businesses (usually a downturn), it might occur to them that taxes to subsidise bad businesses do not appear to be helping at a wider level.

Devaluation or deflation - are these genuine alternatives?

The choice for countries like Latvia, whose currency-peg to the Euro is crippling their economy and which have borrowed heavily in Euros, is routinely presented as devaluation or deflation. Either they must allow their currency to float (down), making their exports more competitive and imports less competitive but at the cost of making their Euro debts more expensive, or wages and prices must be driven down if they wish to retain their currency peg. Are these genuine alternatives, and is either of them a solution?

What I am wondering, which no one who posits these alternatives seems to address, is: how will they pay their debts when wages and profits have been decimated? Or conversely, if they honour their debts (whose cost of finance will be a major component of overall costs, as will be taxation to pay for increasing welfare requirements from a shrinking tax-base), will cuts to wages and prices make much of a difference to their competitive position? And won't their government deficit get even worse in these circumstances, maintaining pressure on their currency? Already, no one wants to buy their government bonds.

Isn't the reality that we long ago passed the point at which Latvian default on external debts was inevitable, and all the efforts to prop them up is simply delaying the inevitable? Massive deficits, government borrowing and (when they arrive) defaults already put them in breach of the terms required to enter the Euro. And if they maintain the fiction of exchange-rate stability, they will have to join the Euro at a level that will cripple their economy for decades. Isn't it time to bow to the inevitable, allow their currency to revalue, and start the process again at a more realistic exchange rate, if they are so foolishly determined to join the Euro?

Construction as leading economic indicator

The core business of our family company is producing aggregates (sand and gravel) for the construction industry. I focus on our energy activities, and don't have much to do with gravel, so wouldn't normally comment on it.

However, what I have just learnt seems to have broader significance. I understand that, after a brief pick-up earlier in the year, demand for aggregates has fallen back, at a time of year when normally it would be picking up. The Ready-Mix Concrete plant that operates from one of our sites (not run by us) has just had its worst month ever, and it has been there for decades. The only demand still going strong is public-sector infrastructure projects.

Construction has always been a leading indicator of economic activity. And it is obviously linked in particular to the prospects for the property market. So the first obvious point is that this suggests that the recent optimism that the property market is close to the bottom is misplaced.

You might say that this also proves how important it is that the Government maintains its Keynesian policy of trying to pump-prime the economy through infrastructure spending. But I would look at it another way.

The Department for Picking Winners

The press seem determined to ignore a crucial aspect of Peter Mandelson's accumulation of power. They are very interested in the symbolic and honorary aspects, such as the award of the titles of First Secretary of State and Lord President of the Council. But most of them are reporting that he remains in charge of BERR. He does not. BERR no longer exists.

The Department for Innovation, Universities and Skills has been merged into the Department for Business, Enterprise and Regulatory Reform to form the Department for Business, Innovation and Skills. I am all for reducing the number of departments. But the nature of the merged departments indicates something more important: the revival of industrial policy continues apace, and this department will be its powerhouse.

This government knows nothing about entrepreneurial innovation. Its only contribution to the field is the negative one of providing perpetual competitive advantage to corporate incumbents, who have vested interests in maintaining the status quo and disadvantaging innovative new entrants. This government couldn't distinguish a real entrepreneur (not the fiction-peddlers in the City, nor the publicity-hunting media-darlings, but the iconoclasts who try to build real, innovative businesses) from a trades-unionist.

Hence the appointment of Suralan (soon to be Lordsugar) as Enterprise Czar. This was presumably inspired by the huge success of Lorddigby (most recently seen marching in support of protectionism for our car industry). If the Government and Suralan understood entrepreneurialism, they would know that entrepreneurs do not want or need a Czar to represent them in government. They need the Government to stop meddling, micro-managing and picking winners, so we can have genuine competitive markets in which innovative ideas thrive or fail according to their merits, and not according to how well they fit with the Government's latest ideas of what the outcome of the market should be.

A department that combines responsibility for businesses with responsibility for the least commercial group in the world (academics), run by people (ministers and civil servants) who have absolutely no commercial experience themselves, will end up rewarding those who try to implement academic cloud-cuckoo schemes and punishing those who are more interested in commercial reality. This has been the effect of the various grant schemes in the energy sector (and probably elsewhere) since time immemorial, and yet these efforts to sponsor white elephants are about to be re-doubled, at a time when we can afford them even less than usual. The new department will throw money at grandiose schemes dreamed up by academics who promise the earth without the responsibility of having to put their money and reputations where their mouths are. And because these grandiose schemes will require enormous amounts of finance, the big corporations will be invited to participate, in exchange for providing that part of the funding that is not provided by taxpayers. The commercial advantage this will provide to big businesses, and ideas that would be uncompetitive without the public funding, will crowd out private efforts, genuine innovation, and the smaller businesses that have usually been responsible for real innovation.

On the other side of the equation, industrial policy will appear to create jobs, and profits for those businesses favoured by involvement in government-approved enterprises. It will create the illusion of economic recovery, which is exactly what the government is reckoning on, whilst embedding uncompetitiveness and corporate influence further into our economy. Eventually, many years down the line, we will discover that we have created our own General Motors, just as we did with our nationalized industries.

Economic development is only sustainable and real where it allows genuine competition undistorted by government intervention, favour and planning. But a lot of people can be fooled otherwise for a long time, especially when they have forgotten or misunderstood their history. It wasn't public ownership that was the big problem in the seventies, but the protected position of favoured, and consequently lazy and ossified, enterprises. There are many ways to achieve that without full public ownership, but with just as negative long-term implications for innovation, competitiveness and the economy. The Government has been driving in this direction for many years in the energy sector, and probably many others. It is about to get worse.

The opposition parties do not have a significantly different attitude, as Tory policy on STEM (Science, Technology, Engineering and Maths) demonstrates. It is past time for entrepreneurs to get out of the country.

More from Mark "externalities are internal" Wadsworth

Further to the earlier post about the dumbest economic argument in the world, the perpetrator (Mark) has now published the results of his poll, which asked "Who is best placed to decide what to build on any particular plot of land?" He has discovered that most people think that the owner is. Well, knock me down with a feather. Of course they do. So do I.

But in Mark's strange world, dreamt up to justify his devotion to LVT, this somehow means that whatever use gets the best value for the landowner also is most beneficial for the neighbours. Gems from his analysis include:

"Interestingly, even though each of these uses must have some 'external costs', it must also have 'external benefits', and the rental value of each shop reflects the profit value to the owner/occupier, plus the external benefits and minus the external costs of the neighbouring businesses."

"as the rental values of premises in the same street are going to be broadly the same, the external benefits generated by each occupant must exceed the external costs (or else rental values would tend to nil rather than skywards)."

"So the 'location value' of any site, being a positive figure, consists to a large extent (I can't quantify this as a fraction of the total rental value, but it it very significant) of the external benefits created by neighbouring occupants"

Notice how Mark is rather casual about the direction and extent of externality. So long as there are some external costs and benefits floating around, it doesn't much matter in Mark's world whether you are the inflicter or the inflictee. Somehow, this has all magically coalesced into fair value for all.