In Britain (and most of the world), all mortgages are "recourse mortgages". That is, the borrower is personally liable for all debts, whether secured or non-secured. Therefore, if a borrower gets into difficulty and their home is repossessed and then sold, if the sale of the property yields less than the loan, the borrower is still liable for the difference, and the courts can attach their future earnings. This is one of the main reasons the UK has a low repossession rate. It makes sense to try to meet your mortgage payments instead of having to pay rent plus repay outstanding debt on your repossessed property. Even strict banks such as Northern Rock only repossessd 0.56% of the loans on their books in 2008 - and their rate was three times that of the other banks.
In the USA though, uniquely in the world, they operate non-recourse mortgages in 27 states, including California and Florida. With a non-recourse mortgage, you only need to return the keys to your home, and you are no longer liable for the debt. While property prices are rising and there is equity in the home, it's rational to continue paying the mortgage. But if your home is "underwater" as the Americans like to call negative equity, and you are struggling with the payments, it is rational to simply return the keys and let the lender deal with the problem. The lender then has to sell the house - but increasing supply of homes for sale into a falling market simply depresses house prices even more, and increases the losses the lenders incur on that property. Hence the reason why US house prices have been falling continuously since 2006. In non-recourse states such as Nevada, 7.3% of all it's housing units received a foreclosure notice in 2008.
No wonder the American lenders were so keen to sell on their mortgage portfolios to guillible European banks! And this is why the losses are mounting up.
The Obama administration is likely to take drastic action to solve the problem and simply legislate to reduce the homeowners mortgage to below the market price so that they are no longer "underwater" and no longer have an incentive to default. A write down figure of 20% has been bandied about together with a clause making the new loan a "recourse" one, so that is the limit on the losses. American banks are worried about this as they will lose on the mortgages that haven't yet defaulted. But the upside is that there won't be this glut of foreclosed homes coming onto the market to depress prices and house prices should stabalise. Those holding the liabilities (mainly our silly banks) will take a hit, but reducing the foreclosures should mean that those losses are confined to the 20% or so write down in the loans. Given that the banks are currently suffering from uncertainty about how big their losses could get, stating now that their losses will be about 20% and writing it all down in one hit should mean that the banks should stabalise too.
The true solution for the future of course is to end all non-recourse mortgages - but there are so many vested interests in America who want to keep them that this is unlikely to happen.
Thursday, January 22, 2009
Sunday, January 18, 2009
At last Obama's inauguration draws near...
It seems like an aon since the US general election. I wish they had a system like ours where the newly elected government took control the day after the election. The last three months might have been so different, from the point of view of the economy and foreign policy.
But still, on Tuesday 20th, Le Président du Mort, (whose death toll includes 2752 dead in 9/11, 1836 dead in Hurricane Katrina, 4227 Americans dead in Iraq, about 100,000 Iraqis dead, 640 Americans dead in Afghanistan plus unknown Afghans dead), finally exits the scene. Of course Bush isn't entirely responsible for all the deaths on his watch. But his incompetence made difficult situations worse. The ancients would have concluded that the gods on Olympus were displeased with him, and would have dispatched him a long time ago.
Obama, who symbolises hope, will finally take control. It's natural that expectations are running sky-high. And it will be natural that he will disappoint some people. But he seems to have the competence to make his own luck. Lets hope the gods love him and that his presidency is a success. He faces heavy-duty problems, but he just has to do better than Bush to be a success.
He comes to power with so much goodwill - according to Gallup, he has an 83% approval rating, compared to 68% for Clinton in Jan 1993 and 61% for Bush in Jan 2001 - that his mere presence in the White House is bound to have an effect on American confidence, which should immediately start to feed through to the economy.
Anyway, we are all holding our breath, and wish him well.
But still, on Tuesday 20th, Le Président du Mort, (whose death toll includes 2752 dead in 9/11, 1836 dead in Hurricane Katrina, 4227 Americans dead in Iraq, about 100,000 Iraqis dead, 640 Americans dead in Afghanistan plus unknown Afghans dead), finally exits the scene. Of course Bush isn't entirely responsible for all the deaths on his watch. But his incompetence made difficult situations worse. The ancients would have concluded that the gods on Olympus were displeased with him, and would have dispatched him a long time ago.
Obama, who symbolises hope, will finally take control. It's natural that expectations are running sky-high. And it will be natural that he will disappoint some people. But he seems to have the competence to make his own luck. Lets hope the gods love him and that his presidency is a success. He faces heavy-duty problems, but he just has to do better than Bush to be a success.
He comes to power with so much goodwill - according to Gallup, he has an 83% approval rating, compared to 68% for Clinton in Jan 1993 and 61% for Bush in Jan 2001 - that his mere presence in the White House is bound to have an effect on American confidence, which should immediately start to feed through to the economy.
Anyway, we are all holding our breath, and wish him well.
Saturday, January 10, 2009
Is the Guardian becoming an internationally renowned publication?
I ask because there's a bit of a moan piece in today's New York Times, entitled Who leaked to The Guardian and Why, with respect to reports that the new Obama administration is willing to talk to Hamas.
Most of the American newspapers are busily denying that there is any fundamental change in policy over Israel/Palestine - but the NYTimes piece also notes that it was the Guardian that broke the news that Hillary Clinton was to be the new Secretary of State and American publications spent a lot of time rubbishing that idea before it was officially announced and it turned out that the Guardian was right.
It's possible that the Guardian has developed close links with someone in the Obama administration, and if so, the next few years will be very interesting indeed. The characteristic of the last eight years has been the primacy of Murdoch's News International media (particularly Fox News), with American papers such as the Washington Post and New York Times being very careful not to upset the Bush Administration (most notably over Iraq). The Guardian by contrast takes a much more robust attitude in criticising governments both British and American (especially over Iraq), and if loads of Americans start to read it because they think they have an inside line to the Obama administration...
I very much hope that is the case. It will be nice to see a British publication really break through to become a major international player, and especially as the Guardian is independently owned by the Scott Trust Limited (formerly the Scott Trust) and is not dominated by a "tycoon" or single personality the way the rest of the British (and American) media is.
Most of the American newspapers are busily denying that there is any fundamental change in policy over Israel/Palestine - but the NYTimes piece also notes that it was the Guardian that broke the news that Hillary Clinton was to be the new Secretary of State and American publications spent a lot of time rubbishing that idea before it was officially announced and it turned out that the Guardian was right.
It's possible that the Guardian has developed close links with someone in the Obama administration, and if so, the next few years will be very interesting indeed. The characteristic of the last eight years has been the primacy of Murdoch's News International media (particularly Fox News), with American papers such as the Washington Post and New York Times being very careful not to upset the Bush Administration (most notably over Iraq). The Guardian by contrast takes a much more robust attitude in criticising governments both British and American (especially over Iraq), and if loads of Americans start to read it because they think they have an inside line to the Obama administration...
I very much hope that is the case. It will be nice to see a British publication really break through to become a major international player, and especially as the Guardian is independently owned by the Scott Trust Limited (formerly the Scott Trust) and is not dominated by a "tycoon" or single personality the way the rest of the British (and American) media is.
Tuesday, January 06, 2009
Christmas Retail Sales turn out OK
It was a bit of a nerve racking wait for results. Prior to the VAT cut, John Lewis had reported that their sales had been 13% down on the same period last year. It looked like there would be a proper bloodbath on the high street. However, immediately post VAT cut, their sales were only down 6.7% on the previous year, and they finally reported that in the five weeks to Jan 3rd, their sales were up 2.9% on the year before.
Other retailers posted a similar story - New Look had like for like sales increasing 2.8% in the 14 weeks to January, Debenhams had posted a 3.5% drop in sales, but said their profit had risen thanks to tight stock control, Ocado, the online grocer had it's sales up 25% compared to last year, Co-Op Group had like for like sales up 5.2% over fourth quarter, and even home furnishings firm Dunhelm managed to maintain margins and was down only 5.6% in sales, despite the housing market being stagnant.
Twas the VAT cut that did it - Alistair Darling saved Christmas for the retailers. It brought people out to shop and it reassured the customer that government would do whatever it took to keep the economy going and therefore brought confidence back into the system. So many armchair analysts tended to assume that people wouldn't turn out for a 2.5% VAT cut when there was a 50% sale on. But the actual shopper (as opposed to those who opine but avoid shopping) understands first-hand that the 50% sales were very much selective. Some things were on sale, but never the stuff you really wanted to buy - no change there from previous years! Shoppers are used to these sales and sceptical about them, even assuming that some retailers deliberately put some prices up, in order to then cut more spectacularly and justify the sales posters. But the VAT cut was very real, it was real money off, and people appreciated it.
The good Christmas also has tax implications - the Treasury might be down on tax revenue from the Banks, but at least VAT should hold up, and retail corporate profits shouldn't be too badly down. It would have been a rout though had the government not acted.
I know the naysayers are going to rush to point to Waterford Wedgewood and Woolworths - but Waterford Wedgewood made six years consecutive losses (i.e. they were doing badly in the boom), and Woolworths were similarly badly placed - nothing could have saved them, apart from someone changing their business models, and that is not usually the job of government. Some businesses go bust even in boom time (Rover anyone?), it is a normal part of the commercial environment.
US Christmas sales figures come out on 7th Jan, and it will be interesting to see how they have fared, as they did not make any attempt to stimulate sales.
Finally, I must comment on Germany. After lashing out, and complaining about Britain "tossing around billions" in an act of "crass Keynesianism ", they have now U-turned. They are going for a €50bn package (much bigger than ours as a % of GDP), which they are borrowing to fund and they include some tax cuts. The Germans have gone for raising income tax personal allowances. Not sure how that will help them though. The American experience with income tax cuts showed people hoarding the money, and the Germans are even more inclined to hoard than the Americans. But I suppose a VAT cut was ruled out after all the fuss they made earlier...
Update: 7th Jan. Car registration figures came out today. They were bad, new car registrations fell 21.2%, but everyone had expected a drop of 35%. According to the FT,
"The Society of Motor Manufacturers and Traders said the cut in value added tax from 17.5 per cent to 15 per cent on December 1 may have been a contributory factor in the smaller than expected dip in sales.
Until December, the slide in car sales had accelerating, from a fall of 18.6 per cent in August to a 36.8 per cent drop in November.
....The better-than-expected UK figures contrasted with much bigger falls elsewhere in the final month of 2008. Earlier this week, all the leading US carmakers reported declines of more than 30 per cent in December, while sales in Japan dropped 22 per cent to the lowest December level on record.
In Europe, registrations fell by almost half in Spain, by 24 per cent in France and 13.2 per cent in Italy"
So VAT cut to the rescue again. Of course some of the benefit will go to those ungrateful Germans, but hopefully the Nissan and Mini plants here were supported too.
Other retailers posted a similar story - New Look had like for like sales increasing 2.8% in the 14 weeks to January, Debenhams had posted a 3.5% drop in sales, but said their profit had risen thanks to tight stock control, Ocado, the online grocer had it's sales up 25% compared to last year, Co-Op Group had like for like sales up 5.2% over fourth quarter, and even home furnishings firm Dunhelm managed to maintain margins and was down only 5.6% in sales, despite the housing market being stagnant.
Twas the VAT cut that did it - Alistair Darling saved Christmas for the retailers. It brought people out to shop and it reassured the customer that government would do whatever it took to keep the economy going and therefore brought confidence back into the system. So many armchair analysts tended to assume that people wouldn't turn out for a 2.5% VAT cut when there was a 50% sale on. But the actual shopper (as opposed to those who opine but avoid shopping) understands first-hand that the 50% sales were very much selective. Some things were on sale, but never the stuff you really wanted to buy - no change there from previous years! Shoppers are used to these sales and sceptical about them, even assuming that some retailers deliberately put some prices up, in order to then cut more spectacularly and justify the sales posters. But the VAT cut was very real, it was real money off, and people appreciated it.
The good Christmas also has tax implications - the Treasury might be down on tax revenue from the Banks, but at least VAT should hold up, and retail corporate profits shouldn't be too badly down. It would have been a rout though had the government not acted.
I know the naysayers are going to rush to point to Waterford Wedgewood and Woolworths - but Waterford Wedgewood made six years consecutive losses (i.e. they were doing badly in the boom), and Woolworths were similarly badly placed - nothing could have saved them, apart from someone changing their business models, and that is not usually the job of government. Some businesses go bust even in boom time (Rover anyone?), it is a normal part of the commercial environment.
US Christmas sales figures come out on 7th Jan, and it will be interesting to see how they have fared, as they did not make any attempt to stimulate sales.
Finally, I must comment on Germany. After lashing out, and complaining about Britain "tossing around billions" in an act of "crass Keynesianism ", they have now U-turned. They are going for a €50bn package (much bigger than ours as a % of GDP), which they are borrowing to fund and they include some tax cuts. The Germans have gone for raising income tax personal allowances. Not sure how that will help them though. The American experience with income tax cuts showed people hoarding the money, and the Germans are even more inclined to hoard than the Americans. But I suppose a VAT cut was ruled out after all the fuss they made earlier...
Update: 7th Jan. Car registration figures came out today. They were bad, new car registrations fell 21.2%, but everyone had expected a drop of 35%. According to the FT,
"The Society of Motor Manufacturers and Traders said the cut in value added tax from 17.5 per cent to 15 per cent on December 1 may have been a contributory factor in the smaller than expected dip in sales.
Until December, the slide in car sales had accelerating, from a fall of 18.6 per cent in August to a 36.8 per cent drop in November.
....The better-than-expected UK figures contrasted with much bigger falls elsewhere in the final month of 2008. Earlier this week, all the leading US carmakers reported declines of more than 30 per cent in December, while sales in Japan dropped 22 per cent to the lowest December level on record.
In Europe, registrations fell by almost half in Spain, by 24 per cent in France and 13.2 per cent in Italy"
So VAT cut to the rescue again. Of course some of the benefit will go to those ungrateful Germans, but hopefully the Nissan and Mini plants here were supported too.
Wednesday, December 24, 2008
Merry Christmas!
Just wanted to say Merry Christmas to everyone! Hope you all get decent presents and Scrooge relatives don't use the Krunch as an excuse to give you a pair of socks.
Will be back blogging after the festivities.
Will be back blogging after the festivities.
Thursday, December 11, 2008
More on the VAT cut
Lots of people, including Cameron, and Germany, have been ruishing to claim that the Vat cut "won't work", just 11 days in. Their reasoning seems to be that the VAT cut involves a loss of tax revenue, which will have to be borrowed, which in turn will make people wary of spending as they worry about future tax rises to pay for the borrowing.
This argument ignores one fundamental point: in downturns, sales fall, and thus VAT revenue received will drop anyway. Therefore anything the government can do to support consumption, supports tax revenue and mitigates the need to borrow.
John Lewis says that the VAT cut has worked. They say that sales for the first week of December are down 6.7% on the equivalent week last year, but that sales in the pre-VAT cut period were down 13%-14% on equivalent weeks last year.
Lets say for ease of calculation, that John Lewis made sales of £1 million per week last year. A 13% drop in sales equates to £130,000 in lost sales and £19362 in lost VAT revenue at 17.5%. A 6.7% drop in sales equates to £67000 in lost sales and £8739 in lost VAT revenue at 15%.
Therefore the VAT cut, in getting people out to the shops, has reduced the rate at which VAT revenue was dropping. Paradoxically, more revenue would have been lost if nothing was done. Cameron's belief that a VAT cut results in a straightforward loss of revenue assumes that sales will be the same or more than last year. But it is self-evident that in a downturn sales drop. The question then becomes, how do we slow down this trend or reverse it.
People can deride the VAT cut as "too small" and a "gimmick", but anything the government can do to support economic activity, helps. Do-Nothing Cameron would have seen his tax revenue drop faster and his borrowing increase quicker than Do Something Darling.
As to why the VAT cuts work - people are programmed to just like tax-cuts, it seems to stimulate a different pleasure centre in their brains than mere discounts. And half the time they arn't being rational or logical about it. John Lewis was surprised - "Nat Wakely, director of selling operations at John Lewis, said there had been clear evidence that consumers were holding back on more expensive items until the cut in VAT spending was passed on 10 days ago - although he admitted it was "slightly curious" because the 2.5 point cut announced in the pre-budget report had appeared to be too little to make a difference". But then it is the Conservative party that has trained the general public to act like pavlovian dogs to tax cuts these last thirty years. Curious that they now no longer believe in what they themselves have wrought!
This argument ignores one fundamental point: in downturns, sales fall, and thus VAT revenue received will drop anyway. Therefore anything the government can do to support consumption, supports tax revenue and mitigates the need to borrow.
John Lewis says that the VAT cut has worked. They say that sales for the first week of December are down 6.7% on the equivalent week last year, but that sales in the pre-VAT cut period were down 13%-14% on equivalent weeks last year.
Lets say for ease of calculation, that John Lewis made sales of £1 million per week last year. A 13% drop in sales equates to £130,000 in lost sales and £19362 in lost VAT revenue at 17.5%. A 6.7% drop in sales equates to £67000 in lost sales and £8739 in lost VAT revenue at 15%.
Therefore the VAT cut, in getting people out to the shops, has reduced the rate at which VAT revenue was dropping. Paradoxically, more revenue would have been lost if nothing was done. Cameron's belief that a VAT cut results in a straightforward loss of revenue assumes that sales will be the same or more than last year. But it is self-evident that in a downturn sales drop. The question then becomes, how do we slow down this trend or reverse it.
People can deride the VAT cut as "too small" and a "gimmick", but anything the government can do to support economic activity, helps. Do-Nothing Cameron would have seen his tax revenue drop faster and his borrowing increase quicker than Do Something Darling.
As to why the VAT cuts work - people are programmed to just like tax-cuts, it seems to stimulate a different pleasure centre in their brains than mere discounts. And half the time they arn't being rational or logical about it. John Lewis was surprised - "Nat Wakely, director of selling operations at John Lewis, said there had been clear evidence that consumers were holding back on more expensive items until the cut in VAT spending was passed on 10 days ago - although he admitted it was "slightly curious" because the 2.5 point cut announced in the pre-budget report had appeared to be too little to make a difference". But then it is the Conservative party that has trained the general public to act like pavlovian dogs to tax cuts these last thirty years. Curious that they now no longer believe in what they themselves have wrought!
Wednesday, December 10, 2008
Saving the World...
Much merriment in the Commons, as Gordon Brown meaning to say "the government has led the world in saving the banks" said by mistake "we saved the world..."
It's funny, but also sweet and oldfashioned. Not many politicians go into politics these days aspiring to save the world. Certainly the derision from Conservative benches, together with their resistance to temporary tax cuts, resistance to recapitalising the banks, resistance to all government efforts, combined with their belief that "recessions can be good for us" shows that the Conservatives arn't even interested in saving Britain. What are they interested in? Raising the inheritance tax threshold to £2 million, so that the shadow cabinet can leave their money without the Treasury touching it - that's why they've gone into politics.
There is absolutely nothing wrong with aspiring to save the world. In trying much good is done. Those who refuse to try, achieve nothing of worth at all.
It must be chilling for voters to see how palpably Conservatives wish things would get worse, how gleeful they are when people lose their homes and jobs, and how cynically they deride those on the Labour side trying to ameliorate the downturn. The voter is probably thinking, what have I done that the Conservatives wish me ill and take such pleasure in misery in this way?
It's funny, but also sweet and oldfashioned. Not many politicians go into politics these days aspiring to save the world. Certainly the derision from Conservative benches, together with their resistance to temporary tax cuts, resistance to recapitalising the banks, resistance to all government efforts, combined with their belief that "recessions can be good for us" shows that the Conservatives arn't even interested in saving Britain. What are they interested in? Raising the inheritance tax threshold to £2 million, so that the shadow cabinet can leave their money without the Treasury touching it - that's why they've gone into politics.
There is absolutely nothing wrong with aspiring to save the world. In trying much good is done. Those who refuse to try, achieve nothing of worth at all.
It must be chilling for voters to see how palpably Conservatives wish things would get worse, how gleeful they are when people lose their homes and jobs, and how cynically they deride those on the Labour side trying to ameliorate the downturn. The voter is probably thinking, what have I done that the Conservatives wish me ill and take such pleasure in misery in this way?
Friday, December 05, 2008
Savers complain
As predictably as night follows day, we have had a savers rant in the Times, complaining about falling interest rates.
What people don't seem to understand is that interest rates are the price of money and savers are really lenders, who loan money to borrowers, with the banks acting as middlemen and taking their cut as middlemen do. All year we've had savers complaining about the feckless youth of the country who are borrowing too much when they should be saving. And these same people have been complaining about prices. Now they've got their dearest wish - this it what it looks like when you have rapid disinflation and everyone is saving. The profits (interest rates) of the savers/lenders are falling, because no one will borrow from them. Message to savers - your interest comes from borrowers, not out of thin air, and when people cease to borrow, you cease to get a return for your money.
Of course some savers believe they should be paid high interest rates even if no one is borrowing, in the same way that some people think they should be paid an income even if they do no useful work. But that's not how it works in a capitalist system. If savers want interest rates to go back up, they need to get out there and do their Christmas shopping and stimulate the economy.
If the above makes you feel grumpy, then console yourself with the thought that we are not a pure capitalist economy. Instead we are a mixed economy with a big Labour government. There is still one borrower left in town willing to pay you for lending your money. You can lend to Her Majesty's Government either by buying gilts (you can do this directly - see your Post Office for the form) or through National Savings. National Savings are offering tax-free Index-Linked Savings Certificates at 1% + RPI, which is pretty damn good. It should be enough to cheer up the grumpiest saver.
What people don't seem to understand is that interest rates are the price of money and savers are really lenders, who loan money to borrowers, with the banks acting as middlemen and taking their cut as middlemen do. All year we've had savers complaining about the feckless youth of the country who are borrowing too much when they should be saving. And these same people have been complaining about prices. Now they've got their dearest wish - this it what it looks like when you have rapid disinflation and everyone is saving. The profits (interest rates) of the savers/lenders are falling, because no one will borrow from them. Message to savers - your interest comes from borrowers, not out of thin air, and when people cease to borrow, you cease to get a return for your money.
Of course some savers believe they should be paid high interest rates even if no one is borrowing, in the same way that some people think they should be paid an income even if they do no useful work. But that's not how it works in a capitalist system. If savers want interest rates to go back up, they need to get out there and do their Christmas shopping and stimulate the economy.
If the above makes you feel grumpy, then console yourself with the thought that we are not a pure capitalist economy. Instead we are a mixed economy with a big Labour government. There is still one borrower left in town willing to pay you for lending your money. You can lend to Her Majesty's Government either by buying gilts (you can do this directly - see your Post Office for the form) or through National Savings. National Savings are offering tax-free Index-Linked Savings Certificates at 1% + RPI, which is pretty damn good. It should be enough to cheer up the grumpiest saver.
Thursday, December 04, 2008
Action in Queen's speech on Repossessions
The Labour government has secured agreement from eight banks who control 70% of the mortgage market (HSBC, Abbey, Nationwide, Lloyds TSB, Barclays, Northern Rock, Royal Bank of Scotland and HBOS) to allow homeowners who are struggling to either take a two year mortgage holiday, with the interest added to the loan, or more likely to make reduced payments, with the balance added to the loan.
Why is this a good thing? First of all, it's cheaper for the householder to take a payment holiday (even if they will end up paying interest on the deferred interest) than to go through the whole nasty palavar of repossession through the courts. Plus they get to stay in their own homes. From the government's point of view, this means that they don't have to suddenly house people who are homeless (and fork out housing benefit for them). From a macro-economic point of view, it slows house price falls. House prices fall mainly due to forced selling (otherwise householders simply stay put rather than sell). This also gets rid of some of the fear factor (the main reason people arn't spending is that they are worried sick about losing their jobs and homes). And from the lenders' point of view, this makes long-term sense - their biggest profits come from people who pay their mortgage over the entire term. Having to repossess, sell-off and write down bad loans is a hit on profits that they only undertake to please the short-termists in the markets - but now the govt is a major shareholder, the long-term can be considered. If this actually gets the economy moving again, the banks will be the first to benefit.
Today also saw the French unveil a €26bn stimulus plan. Unlike the UK which went for tax cuts, they have gone for public spending via the state owned companies like EDF, and building social/affordable housing.
So we are now seeing several different stimulus models. The Americans went for a straight income tax rebate in the summer (this is generally believed to have failed as a stimulus), and Obama intends to undertake a mammoth $700bn public spending spree when he takes office on Jan 20th, spending the money on infrastructure (which the USA desperately needs as they've let things atrophy in the last 30 years). The public spending should work (but we will have to wait till the New Year to see if it does). The French are also going down the public spending route (though you could argue that their infrastructure is in good shape already). The British have gone for support for business - the 2.5% VAT cut plus another £7bn help for small business (eg spreading tax payment for struggling firms) - plus help for householders (spreading mortgage payments for struggling homeowners). The Chinese are going to spend $586bn on infrastructure (though they have spent plenty on infrastructure already, arguably too much - they might have been better off providing a social safety net, as the lack of domestic spending in China is due to a lack of welfare support). The Germans have decided to Do Nothing, though bizarrely they are hoping everyone else is acting - Michael Glos, the economics minister, said last week: “We can only hope that the measures taken by other countries ... will help our export economy.” Free-riders!
Everyone has also cut interest rates sharply. So now the fiscal and monetary authorities have done their stuff, and we wait to see whose remedies work best. Of course I'm biased, but I think our remedy is the best. Business activity is key - they pay tax and they employ people. If they survive everyone else does too.
Why is this a good thing? First of all, it's cheaper for the householder to take a payment holiday (even if they will end up paying interest on the deferred interest) than to go through the whole nasty palavar of repossession through the courts. Plus they get to stay in their own homes. From the government's point of view, this means that they don't have to suddenly house people who are homeless (and fork out housing benefit for them). From a macro-economic point of view, it slows house price falls. House prices fall mainly due to forced selling (otherwise householders simply stay put rather than sell). This also gets rid of some of the fear factor (the main reason people arn't spending is that they are worried sick about losing their jobs and homes). And from the lenders' point of view, this makes long-term sense - their biggest profits come from people who pay their mortgage over the entire term. Having to repossess, sell-off and write down bad loans is a hit on profits that they only undertake to please the short-termists in the markets - but now the govt is a major shareholder, the long-term can be considered. If this actually gets the economy moving again, the banks will be the first to benefit.
Today also saw the French unveil a €26bn stimulus plan. Unlike the UK which went for tax cuts, they have gone for public spending via the state owned companies like EDF, and building social/affordable housing.
So we are now seeing several different stimulus models. The Americans went for a straight income tax rebate in the summer (this is generally believed to have failed as a stimulus), and Obama intends to undertake a mammoth $700bn public spending spree when he takes office on Jan 20th, spending the money on infrastructure (which the USA desperately needs as they've let things atrophy in the last 30 years). The public spending should work (but we will have to wait till the New Year to see if it does). The French are also going down the public spending route (though you could argue that their infrastructure is in good shape already). The British have gone for support for business - the 2.5% VAT cut plus another £7bn help for small business (eg spreading tax payment for struggling firms) - plus help for householders (spreading mortgage payments for struggling homeowners). The Chinese are going to spend $586bn on infrastructure (though they have spent plenty on infrastructure already, arguably too much - they might have been better off providing a social safety net, as the lack of domestic spending in China is due to a lack of welfare support). The Germans have decided to Do Nothing, though bizarrely they are hoping everyone else is acting - Michael Glos, the economics minister, said last week: “We can only hope that the measures taken by other countries ... will help our export economy.” Free-riders!
Everyone has also cut interest rates sharply. So now the fiscal and monetary authorities have done their stuff, and we wait to see whose remedies work best. Of course I'm biased, but I think our remedy is the best. Business activity is key - they pay tax and they employ people. If they survive everyone else does too.
Monday, November 24, 2008
Some initial thoughts about the budget
My main impression was that this was a budget to shore up business. Let's deal immediately with the temporary cut in VAT from 17.5% to 15%, which will cost circa £12bn. Tories are saying "this won't make any difference". They sincerely believe that releasing £12bn into the economy will have no effect and this reflects their lack of understanding of how business works (possibly because their leadership comes from the aristocracy rather than the commercial community).
Here's why it will make a difference. In the current tough retail climate, retailers are slashing prices - for example the M&S 20% discount sale. When retailers slash prices, they are in effect slashing their margins. But there is a limit as to how low they can slash. If the price the consumer is demanding is below the break-even price for the retailer, the retailer has only a few options. They can try to cut costs such as heads of staff - which will increase unemployment, and which has the effect of scaring other consumers, fearful for their own jobs, into spending less. They can try to cut the price below break-even to grab market share and force their weaker competitors to try to match them and take losses in the hopes of forcing them out of business (job losses again), which then opens up room to raise prices again. Or they can try to hold prices at break-even and hope that their competitors who are discounting cannot sustain the discounts for long, and either go bust (job losses) or raise prices to above break-even again.
Therefore doing nothing leads to job losses. VAT represents a cost to business. So the 2.5% cut means that they should be able to maintain small margins even while discounting, and hence forstall the need to cut costs through letting employees go. That's why the retail industry has welcomed todays move. The main point about this is to help businesses maintain trading and thus safeguard employment.
The Tory opposition to the £12bn cut is also incoherant - if we had raised VAT by £12bn they would have made no end of fuss. But if it makes no difference one way it should make no difference the other way!
The govt has also deferred the small business corporation tax increase, and let struggling businesses spread the amount they owe the Inland Revenue, which should make a huge difference to cashflow. As any small business knows, the Inland Revenue is the scariest of creditors and it is usually not being able to pay the Revenue that precipitates firms going into bankruptcy. The additional help to small business will be worth £7bn.
What about boosts to the consumer, I hear you ask. This will come from monetary policy. The 1.5% cut in the base rate has been passed on by most lenders (apart from HSBC), and will hit people on the standard variable rate or trackers in Dec. It's worth about £100 a month. The BoE will undoubtedly cut rates again in Dec, and going forward.
So you see a two-pronged attack - putting money into pockets via monetary policy and shoring business up (and hence employment) via fiscal policy.
With regard to the tax rise for those earning over £150k - the cover for doing this comes from the election of President Obama. I wrote the following on 5th November:
Obama has stated that he thinks a person on an income of $250k is rich (this is about £158k). He intends to raise the top federal tax rates to to 36% and 39.6% (from the current 33% and 35%). Remember that Americans pay state income tax in addition to federal income tax. The American state that mirrors Britain's economy most is New York State. There, the state income tax if your income range is between $100,001 and $500,000, is 7.375%. If your income range is $500,001 and over, your tax rate is 7.7%. People living in New York City pay city income tax too of between 2.9% and 3.6%.
That means that the top marginal rate of tax for high earners in New York City (London's great rival) will go up from the current 46.3% to 50.9% under Obama. Compare that to the 41% levied in the UK.
The tax rise comes into effect in 2011, when Obama will have implemented his tax rise. This means that those in the City inclined to complain won't find it viable to up roots and go to New York. They are still better off in London. The 0.5% increase in N.I. will mainly affect those who earn over £20k (due to moving of the thresholds).
The other point to make is that the tax rises will come after the general election, so the country has a chance to vote on it.
Regarding borrowing - the point needs to be made that doing nothing and letting a deep sustained recession take place will kill tax revenue, and force government borrowing up even further. Only the economically illiterate do not understand this. As for public spending, the next round will have an increase of just 1.2%, which is very tight. In order for the Tories to do better than that they will need to actually close schools and hospitals.
So now the battle for the next election is set. People in 2010 will be voting to either increase tax on those over £150k to 45%, or to vote Tory and keep the top rate as it is, to increase the inheritance tax threshold to £2 million from the current circa £600k, and to pay for it by physically closing hospitals.
Here's why it will make a difference. In the current tough retail climate, retailers are slashing prices - for example the M&S 20% discount sale. When retailers slash prices, they are in effect slashing their margins. But there is a limit as to how low they can slash. If the price the consumer is demanding is below the break-even price for the retailer, the retailer has only a few options. They can try to cut costs such as heads of staff - which will increase unemployment, and which has the effect of scaring other consumers, fearful for their own jobs, into spending less. They can try to cut the price below break-even to grab market share and force their weaker competitors to try to match them and take losses in the hopes of forcing them out of business (job losses again), which then opens up room to raise prices again. Or they can try to hold prices at break-even and hope that their competitors who are discounting cannot sustain the discounts for long, and either go bust (job losses) or raise prices to above break-even again.
Therefore doing nothing leads to job losses. VAT represents a cost to business. So the 2.5% cut means that they should be able to maintain small margins even while discounting, and hence forstall the need to cut costs through letting employees go. That's why the retail industry has welcomed todays move. The main point about this is to help businesses maintain trading and thus safeguard employment.
The Tory opposition to the £12bn cut is also incoherant - if we had raised VAT by £12bn they would have made no end of fuss. But if it makes no difference one way it should make no difference the other way!
The govt has also deferred the small business corporation tax increase, and let struggling businesses spread the amount they owe the Inland Revenue, which should make a huge difference to cashflow. As any small business knows, the Inland Revenue is the scariest of creditors and it is usually not being able to pay the Revenue that precipitates firms going into bankruptcy. The additional help to small business will be worth £7bn.
What about boosts to the consumer, I hear you ask. This will come from monetary policy. The 1.5% cut in the base rate has been passed on by most lenders (apart from HSBC), and will hit people on the standard variable rate or trackers in Dec. It's worth about £100 a month. The BoE will undoubtedly cut rates again in Dec, and going forward.
So you see a two-pronged attack - putting money into pockets via monetary policy and shoring business up (and hence employment) via fiscal policy.
With regard to the tax rise for those earning over £150k - the cover for doing this comes from the election of President Obama. I wrote the following on 5th November:
Obama has stated that he thinks a person on an income of $250k is rich (this is about £158k). He intends to raise the top federal tax rates to to 36% and 39.6% (from the current 33% and 35%). Remember that Americans pay state income tax in addition to federal income tax. The American state that mirrors Britain's economy most is New York State. There, the state income tax if your income range is between $100,001 and $500,000, is 7.375%. If your income range is $500,001 and over, your tax rate is 7.7%. People living in New York City pay city income tax too of between 2.9% and 3.6%.
That means that the top marginal rate of tax for high earners in New York City (London's great rival) will go up from the current 46.3% to 50.9% under Obama. Compare that to the 41% levied in the UK.
The tax rise comes into effect in 2011, when Obama will have implemented his tax rise. This means that those in the City inclined to complain won't find it viable to up roots and go to New York. They are still better off in London. The 0.5% increase in N.I. will mainly affect those who earn over £20k (due to moving of the thresholds).
The other point to make is that the tax rises will come after the general election, so the country has a chance to vote on it.
Regarding borrowing - the point needs to be made that doing nothing and letting a deep sustained recession take place will kill tax revenue, and force government borrowing up even further. Only the economically illiterate do not understand this. As for public spending, the next round will have an increase of just 1.2%, which is very tight. In order for the Tories to do better than that they will need to actually close schools and hospitals.
So now the battle for the next election is set. People in 2010 will be voting to either increase tax on those over £150k to 45%, or to vote Tory and keep the top rate as it is, to increase the inheritance tax threshold to £2 million from the current circa £600k, and to pay for it by physically closing hospitals.
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