The “experts” were and indeed are not ready for negative interest-rates

Whilst negative interest-rates are not an outright new phenomenon they are being applied right now on an unprecedented scale. As the Bank of England’s Underground Blog reminds us.

one quarter of world GDP now comes from countries with negative central bank policy rates.

There are a load of consequences from this. Let me open with one which is not publicised as much as it should be. It is that interest-rates (and indeed bond yields) are held down elsewhere by the fact that a rise would lead to currency inflows and likely appreciation as they are compared to the negative rates elsewhere. It has become another component of what has been labelled the currency wars. A feature of this has been the way that the US Federal Reserve has progressed at slower than a snail’s pace in raising US interest-rates as we are nearly in June but have seen so far none of the 3-5 interest-rate rises promised at the turn of the year. Interest-rate rises such as they occur are mostly in response to currency crises these days. By contrast Reuters records this.

Ukraine and Moldova cut rates again today, making it 11 central banks to ease in May alone. 53 since start of last year.

How do people respond to negative interest-rates?

Sweden is one of the nations involved and in fact has the lowest rate so far as whilst the headline is -0.5% the Riksbank also has a deposit rate of -1.25%. This week has seen some news which confirms one of the themes of this blog but first let us let the central bankers have a brief moment of fun in the sun. From Sweden Statistics.

In April households’ loans from Monetary Financial Institutions (MFIs) had an annual growth rate of 7.7 percent, which is 0.2 percentage points higher than in March. Households’ loans from MFIs totalled SEK 3 369 billion.

Central bankers around the world will smile at the way that negative interest-rates have led to a surge in household borrowing. The smile gets even broader when they read a little further down.

The increase is mainly due to housing loans, which increased by SEK 217 billion compared to the corresponding month last year, and amounted to a total of SEK 2 758 billion in April. Housing loans had an annual growth rate of 8.5 percent in April, unchanged compared to March.

So all the Christmases of central bankers have arrived at once it would appear. Cutting interest-rates leading to an economic surge? Er well maybe not as the Shaun critique comes into play. Remember my posts on savings where I have argued that lower interest-rates makes some save more? Well on Monday we got evidence of that.

Households’ financial savings, new savings minus increase in debt, amounted to SEK 58 billion during the first quarter of 2016.

Yes you did read that correctly as the Swedes were net savers in the first quarter of 2016. This is where they put the money.

Households mainly saved in insurance and deposits and made net sales of shares and funds. Net deposits, mainly in bank accounts and tax accounts, amounted to SEK 38 billion, a record level for the first quarter.

The increase in bank savings ( SEK 23 billion) back my argument that cutting interest-rates leads part of the population to save more not less. This offsets the conventional view which only seems to look at the increased borrowing and in this instance ignores the fact that there is net saving going on. Also the plan to get people to shift in to assets seems to be working for houses but not investments “net sales of shares and funds.”

Accordingly we see a complex situation which on the surface seems to back what we might call central banking economics 101. But once we go below the surface we see a familiar argument which is that yes it “works” but that there are offsetting forces which yet again appear to be larger. No wonder central bankers do not always get what they want and struggle to get what they need as well.

They do not apply everywhere

We do not have to step back that far in time to discover a different view of the world from a man who was responsible for much of the work in the derivatives world which provided my occupation and job. From the Bank Underground blog.

n 1995, Fischer Black, an economist whose ground-breaking work in financial theory helped revolutionise options trading, confidently stated that “the nominal short rate cannot be negative.”

You could argue he was already wrong although equally you could argue that Switzerland in the 1970s was a tax on cash especially for foreigners. However let is move on with a number which was not supposed to happen.

According to the BIS, the total notional outstanding of global FX, interest rate and equity-linked derivatives rose from $72 trillion in 1998, to $522.9 trillion in 2015. ( BIS = Bank for International Settlements).

Remember when as the credit crunch hit we were promised that this sort of thing would be curtailed? Perhaps that is why one of the main players, Deutsche Bank, remains so troubled. If we move on we see that there is a link between this and negative interest-rates.

The vast majority (nearly 80%) are interest rate derivatives whose theoretical underpinnings are often predicated on the assumption that risk-free rates are bounded at zero. These baked-in assumptions have made it more complicated for financial markets to adjust to life below 0%, particularly where derivatives were priced and risk-managed as if negative rates were not possible.

That needs to sink in as a group of highly paid people who were are so often told need to be paid so much because they are the “brightest and the best” see their intellectual Titanic hit the rocks and in some cases hard. There have been some technical fudges to help deal with the consequences of this but the market based response was fascinating.

The obvious hedge was to protect oneself against lower rates and higher volatility, for instance by buying bonds, entering interest rate swap contracts, and buying options……However the process of hedging likely amplified the fall in yields,

So problems with negative interest-rates helped lead to negative bond yields! What could go wrong?

Floating Rate Notes (FRNs)

These have had their Houston we have a problem moment.

Legal and operational practicalities have meant FRN coupons are effectively floored at 0%.

Ah, more signs of “genius” at work. This provides yet another problem for central banking 101.

This 0% floor is important. As noted by Ippolito, et al (2016), FRNs are a significant channel through which the monetary policy transmission mechanism works.

Or rather they are not in this instance. The companies involved also have some Taylor Swift style “trouble,trouble,trouble.

But companies must contend with the prospect of having the cost of their FRN liabilities floored at 0%, whilst seeing returns on investible assets fallbelow zero.

This is mostly an issue in the Euro area right now and here is an estimate of the scale.

At present, €350bn of euro-denominated FRNs referencing Euribor (28% of total outstanding) are affected by this 0% floor. If Euribor falls by a further 25bps, we estimate that around half of all EUR FRNs would be affected (~€670bn).


There is more than a certain irony in the fact that the group who were the supposed experts on interest-rates have been proven spectacularly wrong. We have gone where they argued we could not go. I remember the arguments in the late 90s as I was there but what troubles me the most was the failure to adjust post 2007 which is nearly a decade ago now. We see so little thinking and planning ahead and accordingly the “experts” suffer so many surprises.

What we suspected and believed on here was that negative interest-rates would have a succession of unintended and unwelcome consequences has proven to be true. This matters increasingly as I note this from Robert Skidelsky in Wednesday’s Guardian.

Enter negative interest rate policy. The central banks of Denmark, Sweden, Switzerland, Japan, and the eurozone have all indulged. The US Federal Reserve and the Bank of England are being tempted.

The latter section caught my eye as is they way he was described. Do you think both he and the Guardian had forgotten he is Baron Skidelsky and could not be much more well-connected?





What are the financial and economic numbers behind the issue of Brexit?

I have regularly been asked for a breakdown of the finance and economics around the concept of the UK leaving the European Union. Perhaps the easiest part is to say that it is the European Union as some have been saying Europe which of course will remain about 22 miles from Dover in Kent whatever happens! As ever I will avoid the politics and stick to the numbers we can get something of a handle on. There are also a lot of areas which are contentious and the reason for that is we simply do not know some of the factors which will be in play. Let me illustrate by this published by the Open University magazine Conversationalist.

It opens by parroting the words of Chancellor Osborne.

George Osborne has said that mortgage rates will rise if there’s an Out vote.

It then argues that the higher risks of Brexit would mean this situation will happen.

This translates into higher borrowing costs for the UK government, and higher costs of capital for UK businesses.

Furthermore an outflow of capital will put pressure on many areas of the economy. Oh and aping “the pound would collapse” rhetoric of Yes Prime Minister we are told this.

The consensus forecasts are that the exchange rate would fall from its current value of around £1 for €1.27 to something more like parity with the euro. The latest forecast from the National Institute of Economic and Social Research think tank is of a 20% fall in the value of sterling

Such forecasts are fascinating. Has anybody published the track record of the NIESR in currency forecasting so we can see if they have the skills of a Druckenmiller or Soros?! I have to confess it is hard not to have a wry smile at such forecasts but on those grounds and the fact that many part of the UK establishment seem to have forgotten they want a lower UK Pound £ to help with the current account and trade deficits. Indeed it was Bank of England policy under Baron King of Lothbury although of course the promised “rebalancing” never happened.

One bit I can agree with.

Britain will face a substantial short-term economic shock if it votes to leave the EU.

The substantial may well be overdoing it and hype but there will be ch-ch-changes and a shock. Let me just deal with the higher mortgage rates point. You see and to be fair the article does mention this the Bank of England could have “an emergency interest rate cut” . If it chose it also could then use the Funding for Lending Scheme to reduce mortgage rates just like it did in the summer of 2012 and perhaps some more QE as well. After all some policymakers are heading in that direction anyway. Indeed those that are will be noting today’s data on economic growth.

Between Quarter 1 2015 and Quarter 1 2016, GDP in volume terms increased by 2.0%, revised down 0.1 percentage points from the previously published estimate……The latest Index of Services estimates show that output decreased by 0.1% between February 2016 and March 2016.

Suddenly mortgage rates are not rising and the situation is different again.

How much do we pay into the European Union?

The situation here is typically complex as the UK ONS explains.

The UK’s contribution to the EU budget changes each year as it is dependent on various factors such as: UK Gross National Income (GNI), the GNI of other EU member states and the value of the UK rebate (which is not a fixed amount, rather it is based on payments and receipts for the previous year).

In terms of numbers we have seen that the net contribution was £11.3 billion in 2013 and £9.9 billion in 2014. The 2015 numbers are still estimates but are as follows.

A 2015 initial figure used by some commentators in the debate is the £8.5 billion estimate of the UK’s 2015 contribution (which is net of the rebate and the direct payments from the EU to the public sector)…….Another estimate can be found in table H of this ONS release which includes some information on the UK’s official transactions with the EU in 2015. The figure published here is £10.6 billion; however, the information used to calculate this figure is approximate

Sadly it will not be finalised until the 29th of July when for referendum purposes it will be over a month too late. The numbers are never complete because some EU expenditure is general and not specified by country and some income such as fines is not split by country and these are around 2% of the totals.

What about trade?

This is a perennial issue for the UK economy with its seemingly endless deficits in this area where trade with the European Union is a major sub-plot. The latest ONS numbers are shown below.

In 2015, 44% of the UK’s goods and services were exported to the EU, while 53% of our imports came to the UK from the EU.

In the same year, UK exports to the EU were valued at £223.3 billion, while UK imports from the EU stood at £291.1 billion.

We rarely give ourselves credit for being a major trading nation although as I have already pointed out in accountancy terms we are regular debtors. The EU is a major trading partner and we provide some £291.1 billion of gross demand for their goods and services which is £67.8 billion in net terms. That is a lot especially to the countries in the EU which have seen particular economic difficulty such as Italy, Portugal and Greece. Indeed even countries currently in better shape such as Ireland and Spain see quite a bit of trade with the UK. And there is this.

15% of imports of goods came from Germany

From their point of view we are this.

The UK is also a relatively small export destination for EU goods, accounting for 6%-7% of total exports of other EU countries over the past eight years

I think “relatively small” is somewhat misleading as they are 27 nations so of course yes but who would want to give up 6-7% of their exports?

We have been shifting away from the EU in recent times although we have become more important to them.

Last year, goods exports to non-EU countries pulled ahead, with a 53% share of the total….The share of EU exports going to the UK has been gradually declining over the past 15 years, but it has risen marginally in the last four years.

There is also the “Rotterdam Effect” which inflates trade with the European Union via double-counting as total trade rather than value added is often used. Efforts have been made to reduce this but it still exists.


As you can see the tangible numbers tell us that the UK makes a substantial contribution to the EU budget and supplies a large amount of net demand for EU economies each year. I have often pointed out we are much better Europeans than we are given credit for. However this is a long way from the end of the story as there are a lot of factors we cannot specify. Would companies leave the UK post Brexit? What are the invisible benefits and costs of being part of the European Union? How will GDP growth change? After all even supporters of the IMF have to have had a wry smile at predicting a fall of 1.5% to 9.5%. You could drive a fleet of London buses through that! And of course that would have been appropriate for Greece but the IMF turned its “blind eye” to that.

There are costs to and risks in leaving as well as remaining in the EU. But in economic terms there are more dangers on the morning of the 24th of June if we leave. For example yes there could be problems for the Pound and the UK Gilt market and there could be a subsequent loss of trade with Europe. We do not know how much though beyond that there will be some of each. The uncertainty has been raised today by the migration figures which have been published as I cannot see how we can have any confidence in them, after all people have freedom of movement within the EU. But here they are.

In 2015, a total of 44% (277,000) of long-term immigrants to the UK were non-EU citizens, 43% (270,000) were EU citizens and 13% (83,000) were British citizens……

This is good for the age balance of the UK population and demographics but also looks to have contributed to the troubles with real wages.

So we know some of the picture but we also know that a fair bit is missing.

Meanwhile remember how we are regularly told how well things are going especially in Japan? Well someone seems to have changed the record. From Reuters.

Japanese Prime Minister Shinzo Abe warned his Group of Seven counterparts of a crisis on the scale of Lehman Brothers, Nikkei reported

Pensions and Tata Steel

Whilst on the subject of number crunching this suggestion for Tata Steel pensioners is wrong on so many levels. From the BBC.

The government is expected to propose basing the scheme’s annual increase on the Consumer Prices Index (CPI) inflation measure, which is usually below the current Retail Prices Index (RPI) measure.

This is a stealth cut to benefits by around 1% per annum which soon mounts up. It is therefore a breach of contract which presumably they hope to get away with because pensioners will not understand it. Even worse it sets a precedent.

So as Dawn Penn reminds us.

No no no









“Breakthroughs” for Greece actually mean more debt for longer

There are many sad components of the Greek crisis and only on the 9th of this month I pointed out how the whole episode is like groundhog day or more realistically year. An example of this occurred late last night.  Here is Eurogroup President Jeroen Dijesselbloem.

We achieved a major breakthrough on which enables us to enter a new phase in the Greek financial assistance programme.

We have learned to be very careful with phrases like “major breakthrough” as the original hype of “shock and awe” reminds us. The Financial Times also decided to join in with the hype.

Greece reaches breakthrough deal with creditors

Care is needed with headlines written at 5 am after a long night and as discussed above particular care is needed with Greece so let us take a look at the deal.

Greece needs more funding

This is a regular feature of the ongoing story where despite all the hype Greece remains unable to fund itself in the financial markets but needs to refinance in debt. In particular the first rule of Greek fight club is on its way. That is that the ECB (European Central Bank) must always be repaid whatever the circumstances! Some 3.5 billion Euros is required by July if we include a component for the IMF (International Monetary Fund) as well. This meant that Greece did have something of a hold on its creditors but it has not used it. Also it is hard to avoid the thought that two of the main creditors the ECB and the IMF always insist on 100% repayment of capital which of course blocks debt relief.

The details of the funding to be provided are shown below.

The second tranche under the ESM programme amounting to EUR 10.3 bn will be disbursed to Greece in several disbursements, starting with a first disbursement in June (EUR 7.5 bn) to cover debt servicing needs and to allow a clearance of an initial part of arrears as a means to support the real economy. The subsequent disbursements to be used for arrears clearance and further debt servicing needs will be made after the summer.

You may note that this only mentions debt servicing and clearing arrears and not boosting the Greek economy for example. This is a rather dystopian style future which seems to be all about the debt and not about the people. Indeed those who have claimed that this whole process is like something from the world of the novel Dune do get support from this.

Do the Greek people get anything?

This does not seem to be much of a reward.

The Eurogroup also welcomes the adoption by the Greek parliament of most of the agreed prior actions for the first review, notably the adoption of legislation to deliver fiscal parametric measures amounting to 3% of GDP that should allow to meet the fiscal targets in 2018,

Ah so austerity is now spelt “fiscal parametric measures” in the way that the leaky Windscale nuclear processing plant became the leak-free Sellafield. What do the Greeks have to do? Well here it is.

the pension reform

Back on the 9th of this month I pointed out what this actually means in practice.

Sunday night of overhauls of the Greek tax and pension systems…..All 153 coalition lawmakers backed the legislation, which is worth 5.4 billion euros in budget savings.

In other words the Greek economy will be given another push downwards. This is happening in a country which has not be growing at over 2% per annum since 2012 in the original “shock and awe” “breakthrough” but as of the latest data has done this.

Available seasonally adjusted data indicate that in the 1 st quarter of 2016 the Gross Domestic Product (GDP) in volume terms decreased by 0.4% in comparison with the 4 th quarter of 2015, while it decreased by 1.3% in comparison with the 1 st quarter of 2015.

The economy is still shrinking in what we must now call a DEPRESSION. This is a human crisis on a large-scale which seems to have been forgotten in the hype above. Also anyone with any sense can see that such a situation makes the debt ever more unaffordable and in that sense is self-defeating.

What about debt relief?

The cat was put amongst the pigeons by this from the IMF.

So Greece is the new Japan or at least it would be. Except of course Japan has surpluses elsewhere and can finance itself extremely cheaply and these days even be paid to finance itself. Of the two graphs it is the second which is the most significant and let me show you the IMF text on it.

Gross financing needs cross the 15 percent-of-GDP threshold already by 2024 and the 20 percent threshold by 2029, reaching around 30 percent by 2040 and close to 60 percent of GDP by 2060.

Firstly the situation is now so bad the numbers which first went to 2020 and then 2040 now go to 2060 in a confirmation of my To Infinity! And Beyond! Theme. But also there is a debt filled future where in 2060 Greece will be spending 60% of its GDP on financing its GDP. This even had the IMF singing along to the nutty boys.

Madness, madness, they call it madness
Madness, madness, they call it madness
I’m about to explain
A-That someone is losing their brain.

What have they done?

Right now they have done nothing at all except make sure that the left hand of the Euro area taxpayer ( represented by the European Stability Mechanism) pays out the right hand of the Euro area taxpayer as represented by the ECB. Or an example of round-tripping.

Of course the last effort at debt restructuring did not go so well mostly because of the first rule of ECB fight club. Here is the Jubilee Debt Strategy.

At the end of 2011, before the ‘debt relief’, Greece’s government debt was 162% of GDP

Ah so the “breakthrough” is for it to rise to 250% by 2060?! Most people can see the problem there. However rather than a solution what we have seen overnight is yet more can-kicking as nothing will be done until 2018. As Oasis so aptly put it Definitely Maybe.

For the medium term, the Eurogroup expects to implement a possible second set of measures following the successful implementation of the ESM programme.

Oh and considering the track record so far this is simply breath-taking.

For the long-term, the Eurogroup is confident that the implementation of this agreement on the main features for debt measures, together with a successful implementation of the Greek ESM programme and the fulfilment of the primary surplus targets as mentioned above, will bring Greece’s public debt back on a sustainable path over the medium to long run.


So we see that the “breakthrough” is in fact yet another example of kicking the problem a couple of years ahead. This passes a few elections and the UK Brexit referendum but will weaken the Greek economy even more. It is a particular shame that at least part of the Financial Times seems to have joined the trend to copy and pasting official communiques.

Meanwhile ever more heroic efforts are required from the ordinary Greek for what exactly? Every number is fudged as for example the IMF view on trend growth goes from -0.6% per annum to 1.3%. If this were true it would be an oasis of good news in a desert but the truth is that this is backwards financial engineering so that the debt numbers do not look even worse. A bit like this really from the IMF.

it is no longer tenable to base the DSA on the
assumption that Greece can quickly move from having one of the lowest to having the highest productivity growth rates in the eurozone.

Hands up anyone who actually believed that?

Meanwhile let me end with some lighter relief even if it is of the wry variety. I need to pick my words carefully so let me say that there have been rumours that the Clintons ( yes those 2…) never had a loss making futures trade putting them ahead of Buffett and Soros. Well this does not apparently apply to all the family. as if their son-in-law had not closed large losses on his Greek bond fund he might be in profit today.



The UK Public Finances are an ongoing problem

One of the features of the UK economy since the credit crunch has been the change in the Public Finances. The initial decision to bail out the banks made the national debt shoot so high that the establishment introduced plan A which is to produce figures without that. Problem solved! However as well as the explicit change there were more implicit ones such as the consequences of the 6.3% contraction in the UK economy which boosted government spending and cut revenues. Fiscal deficits were run and the national debt rose, actually the latter is still ongoing in spite of efforts by Chancellor Osborne to manipulate and adjust the data via sales of bank shares.

In a way the problems of the latter effort, highlighted in a sense by the downgrade of Deutsche Bank to Baa2 by Moodys last night, show a link with the banks one more time. As they have failed to recover ( more bad figures from RBS and Co-op Bank this year) so have the public finances. An odd link in some ways although of course there are direct links such as the continuing staff cuts and deleveraging that is going on. But if we look at the period of recovery in UK economic growth and GDP levels the truth is that the change in the public finances has under performed and been disappointing. Indeed there is one number which provides quite a critique of the progress made.

The employment rate (the proportion of people aged from 16 to 64 who were in work) was 74.2%, the highest since comparable records began in 1971……There were 31.58 million people in work, 44,000 more than for October to December 2015 and 409,000 more than for a year earlier.

Under the economic models of the establishment we would now be surging into a land of milk and honey for the public finances. We have been hearing a lot from these same models over the past week or so and there seems to be a lack of humble pie there and instead a lot of certainty.

The Office of Budget Responsibility

Back in June 2010 they made some forecasts about the UK public finances.

public sector net borrowing (PSNB) to fall from 11.0 per cent of GDP in 2009-10 to 1.1 per cent in 2015-16;

public sector net debt (PSND) to increase from 53.5 per cent of GDP in 2009-10 to a peak of 70.3 per cent in 2013-14, falling to 69.4 per cent in 2014-15 and 67.4 per cent in 2015-16;

Actually the new OBR went further.

there is a greater than 50 per cent chance of this target being met in 2015- 16. There is also a greater than 50 per cent chance of it being met a year early, in 2014-15.

If we now leave the TARDIS of Doctor Who we can go to the front page of its website and see what happened in those years.

Today’s release provides the first provisional outturn estimate for the full 2015-16 financial year. Public sector net borrowing (PSNB) was £74.0 billion,

So if we show some mercy and cast a veil over 2014-15 we see that the last fiscal year bore no resemblance at all to what they thought. Indeed they were wrong only a month before.

The provisional estimate for net borrowing in 2015-16 is slightly higher than our March forecast,

This is all in spite of the employment situation being extremely favourable as described above. But the OBR did make a fatal error via the flawed “output gap” theory the establishment loves so much they ignore that it has had something of its own lost decade.

Wages and salaries growth rises gradually throughout the forecast, reaching 5½ percent in 2014.

If only!

An extraordinary windfall

This is something that gets very little exposure and if it was a piece of music it would get very little airplay. Indeed the UK has seen two large windfalls and a readjustment. The main one has been the fall in bond or Gilt yields which has made debt so much cheaper to issue. The OBR thought they would average 5.1% now whereas they are below 2%. As this has come at a time when we have not only a lot of debt to issue but also even more maturities to refinance this has given the numbers quite a boost.

Added to this has come the fall in inflation as measured by the RPI which means that index-linked Gilts which are around 22% of UK bonds have been cheaper to finance as well. Between the two an extraordinary windfall has been provided which is mostly silent because of course credit is only for politicians!

Oh and there is the financial reshuffle in the way that the Bank of England still holds some £375 billion of UK Gilts. We pay it debt interest and it gives it back saving politicians a small fortune and in that concept alone meaning it will be with us for a very long time.

What about now?

The problem we currently face is that there have been more than a few signs that the economic recovery phase is mature and may be fading. Not every signal has gone this way as for example last week’s retail sales numbers were refreshing and better. But after economic growth in the first quarter of 2016 we see the NIESR suggesting this has dipped to 0.3% and the Purchasing Manager’s Indices hinting at a further fall to 0.1%.

It is hard not to smile at the UK establishment forecasting a 12 month recession for maybe the first time ever. There were a few replies about 2008 on Twitter until I pointed out that this was post changes not ahead of events. Any such scenario would put a hole in the public finances and let me give you another thought which is a theme of these times. There are many calls for fiscal action around with the most public recently being from Japan at the G7. Well with a fiscal deficit of £76 billion in the last fiscal year – yes the OBR was even more wrong – we see that we have continued to have a fiscal stimulus and if you think that you have to face the troubling issue that it may not be working. Of course the easier approach is simply to cry “More! More” like Agent Smith in the Matrix series of films.

Oh and yes fiscal stimulus is in my financial lexicon for these times.

Today’s numbers

The headline is both good and bad.

Public sector net borrowing excluding public sector banks decreased by £0.3 billion to £7.2 billion in April 2016 compared with April 2015.

Good that it is lower but bad when you note that in spite of the economic growth we apparently have the progress on the deficit is yet again only minor. If we look back over a longer period we see the revenue growth has been solid.

In the financial year ending March 2016 (April 2015 to March 2016), central government received £633.6 billion in income. This was around 3% higher than in the previous financial year, largely due to receiving more Income Tax, and National Insurance contributions,

In April itself there was a boost from one area presumably due to the changes made to rates there.

social (National Insurance) contributions increased by £0.9 billion, or 9.4%, to £10.0 billion

As well as a consequence of the Buy To Let boom just seen.

Stamp Duty on land and property increased by £0.4 billion, or 46.6%, to £1.3 billion

But this reminds us that the story continues to disappoint as revenue growth seems to affect the overall position by less than we would hope as spending which we might hope would fall in fact has been pretty much constant.

Central government expenditure (current and capital) for the financial year ending March 2016 (April 2015 to March 2016) was £685.6 billion, an increase of £0.4 billion, or 0.1%, compared with the previous financial year.

It would be possible to write a book as to whether that is austerity or not. But perhaps that is as good a performance as we can put up. At the moment the figures are also real figures at least according to the official measure of Consumer inflation called CPI.


The saga of the UK public finances has seen a lot of misrepresentation over the credit crunch era. For example the way that the net debt of the Royal Mail pension fund was booked as a credit and there is the ongoing issue of Bank of England QE. That theme is ongoing and in a way that is perhaps the biggest critique of all as it happens because the UK establishment needs it to. If we were doing well such manipulations and misrepresentations would not be necessary.

Also the forecasts have been hopeless. As the physicist Niles Bohr reminded us.

Prediction is very difficult, especially if it’s about the future.

Let me serve myself a slice of humble pie as back in 2010 I certainly would not have forecast Gilt yields to be here. Except unlike the establishment I take such things with a fair splash of salt whereas they plough on before exclaiming “surprise” later on. Meanwhile the public finances are struggling in spite of the windfalls I have described earlier.

Here is another example of the attempted manipulations as I provide the headline and what you might call world standard for the national debt.

Public sector net debt excluding public sector banks at the end of April 2016 was £1,596.0 billion, equivalent to 83.3% of gross domestic product (GDP)

general government gross debt (Maastricht debt) at the end of March 2015 was £1,601.3 billion, equivalent to 87.4% of GDP

I note you have to look a long way down the release to see the latter larger number! That resonates with me because you see it was put on the front page around a couple of years ago on my advice. So it would appear that someone did not approve of that…..





The problem that is Imputed Rent and hence GDP

Over the lifespan of this website I have explained quite a few problems with our main measure of economic well-being and growth called Gross Domestic Product or GDP. This time I will focus on the problems and issues caused by a rarely discussed issue called imputed rent. This concept skulks away in the back ground partly because it is from the income version of GDP and the main figure is the output version. For those who are not aware of the state of play there are 3 ways of measuring GDP which are output, expenditure and income. Output is the most commonly used and if you here GDP mentioned then invariably that is what is meant but not every version is as for example Japan has a more expenditure based calculation.

There have been two roads which have led me to the Income GDP version. They are that the American numbers were a better guide post credit crunch to economic activity than the output version, and my interest in the housing sector reflected in this instance by the rent issue. Sadly such numbers are restricted access in the UK as a problem in particular occurred in the late 1980s under the then Chancellor but now Lord Lawson. In theory the 3 versions are supposed to come to the same answer but back then the variation was wide enough for him to order our statisticians to prioritise the output numbers and “adjust” the other versions. I can give you an example from Portugal of how the 3 numbers can vary as a while ago when I was looking at the data the divergence was 4%. It makes you think about those who discuss 0.1% changes does it not?!

What is Imputed Rent?

The story starts here.

In the national accounts, owner occupiers are deemed to be unincorporated businesses producing housing services, which they then consume.

Are “deemed to be”! So here is the first issue which is that it does not actually exist. After noting that let us press on.

The principle involved is to impute a rental value for an owner-occupied property, which is the same as the rental that would be paid for a similar property in the private rented sector. The imputed rent methodology calculates rent for owner occupiers and rent-free dwellings.

Why is this done. The US Bureau for Economic Analysis explains.

 The largest imputation in the GDP accounts is that made to approximate the value of the services provided by owner-occupied housing.  That imputation is made so that the treatment of owner-occupied housing in the GDP is comparable to that of tenant-occupied housing, which is valued by rent paid.  That practice keeps GDP invariant as to whether a house is owner-occupied or rented.

Their explanation is from 2006 when Imputed Rent was already 6.2% of GDP and the largest imputation which combined were 14.8% of GDP. It then argues this.

Without imputations, the GDP story is incomplete and can be misleading.

The other side of the argument is that including things which do not exist – owner occupiers do not receive Imputed Rent – is misleading.

Measurement of Imputed Rent

As it does not exist it cannot itself be measured and the only route to it is to measure actual rents. This poses its own problems in practical terms as this from the UK ONS demonstrates.

Imputed owner occupier rent is calculated from an average rent per room being multiplied by the total number of rooms in owner-occupied dwellings. Rent per room is calculated from Actual Rental (see section 02.4.1) and number of rooms rented (based on Living Cost and Food survey – LCF).

In the UK they will have some idea of the number of rooms but there will be errors in those numbers. However the main issue is whether we have numbers for rents which are reliable. I am sure that there are issues in every country but the UK has had particular problems and this is linked to my articles on the CPIH measure of inflation which includes rents. My view is that this has been a shambles illustrated by the way that the UK establishment had to abandon its rental estimates because they were in disarray.

You might think that a complete change to the actual rental numbers would have a big impact on Imputed Rent. In fact they seemed to sail through it pretty much unscathed as all sorts of other adjustments were made to provide the same answer. Or as Kylie would put it.

I should be so lucky
Lucky, lucky, lucky

As the luck quotient rose the credibility one fell.

Upwards Revisions

Back in the 2013 Blue Book the UK ONS decided the Imputed Rent numbers had been too low.

There are upward revisions to the level of total annual HHFCE (national concept) in all years from 1997 to 2011. The largest revisions, of just under 2% of total HHFCE, are in 2008 to 2011.

HHFCE is Household consumption and increasing it by 2% is a big deal and it was Imputed Rent that did it. Actually it more than did it as looking at 2010 will explain. UK household consumption and hence GDP rose by £17.1 billion of which the rise in Imputed Rents was £33.6 billion. The difference was a rise in estimates of repairs of £12.7 billion and some smaller items such as smuggling.

The New Economics Foundation weighs in

Just over a year ago the NEF gave an idea of scale.

Inclusion of how much home-owners would pay if they actually rented boosted UK GDP in 2014 by £158bn – a 8.9% share

We also got an idea of the scale of the housing and Imputed Rent boom.

A growing proportion of GDP is nothing more than earnings from property. 12.3%  of the UK’s measured GDP in 2014 was rent and “imputed rent”…….Since 1985, rent and imputed rent have almost doubled as a share of GDP, from 6.2%.


In the last few days and weeks the situation has changed again and let me show how.

these changes will have a substantial impact both on imputed rental itself and on total current price GDP.

Okay how? I summarised it thus on the Royal Statistical Society website.

For those who have not looked at the numbers then nominal UK GDP has been revised up by at least £50 billion in each of the years 1997 to 2006 due to Imputed Rent and then by a declining amount up to 2011. To give an idea of scale VAT fraud is considered a big deal but changes to it top out at £2.1 billion in 2011.

The official view on the changes is as shown below.

Although this improved the series for the most recent period, bringing it in line with the CPIH, it also led to a discontinuity (which has now been removed in the new method).

The discontinuity peaked in 2010 and I would tell you by how much but the link to the numbers on the official ONS site take you to a page which does not exist. Friday’s update tells us this.

In 2014, annual real GDP growth has been revised up by 0.3 percentage points from 2.9% to 3.1%,

Not the strongest grasp of mathematics there I think! Anyway there was yet another change to Imputed Rent as it added 0.1% to economic growth in that year (and in 2012 too).


You are perhaps waiting for an idea of scale so let me help out from the last quarter of 2015 when Imputed Rentals in the UK reached £43.2 billion in current price terms compared to £24 billion a decade before. That is a lot for a number which not only has theoretical issues in terms of its concept but the way we have tried to measure it has been very flawed as otherwise we would be needing all these “improvements” would we?! There was an obvious problem here in a nation the size of the UK.

The LCF data are based on around 400 households’ rental prices per quarter,

So whilst I welcome the efforts to improve the quality of the UK data on rents – which also feeds into the inflation numbers – there is a clear problem with what we have been told in the past. This feeds into less confidence in what we are being told now. At a time of house price booms this poses more than a few questions for the UK economic landscape and as for the Imputed Rent numbers well they continue to sing along with Jeff Lynne and ELO.

You took me, higher and higher
It’s a livin’ thing,
It’s a terrible thing to lose
It’s a given thing
What a terrible thing to lose.

Oh and this whole episode provides another critique to nominal GDP targeting.

The Bank of England’s road to a Bank Rate cut is paved with group think and a lack of diversity

The was indeed something in the air last night almost as if Steven Gerrard was in control of events and everybody had to listen to Phil Collins on repeat. It reinforced a theme of this blog which is the trend towards ever lower interest-rates and the arrival of negative interest-rates and yields. Benoit Coeure of the ECB gave an interview including this as he arrived in Sendai Japan for the G7 meeting.

It is in principle possible to cut this rate further, but there is currently no plan to do so.

There never is a plan to cut below the “lower bound” but that lower bound does keep getting lower. After all Monsieur Coeure is in the country where negative interest-rates arrived only 8 days after Bank of Japan Governor Kuroda denied any such plans. Still after flying from France to Japan presumably in at least business class we should be grateful perhaps he did not lecture us on the dangers of climate change.

The Bank of England

Bank of England policy maker Gertjan Vlieghe was much clearer about his intentions in a speech to the London Business School. firstly he confirmed that I have been anticipating his thoughts correctly.

Despite repeated forecasts of stabilisation, UK GDP growth has continued to slow, from around 3% in 2014, to around 2% in 2015, to less than 2% in 2016 so far…… Headline inflation is well below target at 0.3%……..Wage inflation at around 2% continues to be weak .

Accordingly we are well set up for this.

it adds up to a significant downward revision in growth and inflation, to which monetary policy has not responded so far.

Okay Jan how should monetary policy respond and the emphasis is mine?

Following a vote to remain, I would like to see convincing evidence of an improvement in the economic outlook, in line with the forecasts in the May Inflation Report. If such improvement is not apparent soon, this will reduce my confidence that inflation is likely to return to the target within an acceptable time horizon without additional monetary stimulus.

This immediately raises two thoughts. As the Bank of England regards us staying in the European Union as its central case then Jan is saying unless the UK economy improves he will cut Bank Rate and/or vote for more QE (Quantitative Easing). Also that the Brexit referendum is being seen as a convenient excuse for the Bank of England to drop its “all for one and one for all” promises of Bank Rate rises under the ill-fated Forward Guidance of Mark Carney.

Actually tucked away in the speech is quite a critique of the same Forward Guidance.

Instead, a significant downward move in the market path of interest rates over the past two years has provided the stimulus the economy needs to return inflation to the target over the forecast horizon.

If we skip back 2 years (actually 23 months) via the TARDIS of Dr.Who we would be able to hear Bank of England Governor Mark Carney’s Forward Guidance.

There’s already great speculation about the exact timing of the first rate hike and this decision is becoming more balanced. It could happen sooner than markets currently expect.

No it didn’t Mark! Even worse people and businesses who took out fixed-rate deals for mortgages and business loans have lost out. Indeed if anything this broad hint of a Bank Rate rise looks even further away than ever. Jan is probably safe from the Governor’s famous temper though as he is busy in Sendai Japan as presumably his published concerns about climate change do not apply to his own globe-trotting by aeroplane. There is a darker view which is that Jan is provided an excuse for yet another Carney U-Turn.

What about after a possible Brexit?

Jan has a view on this too.

If the vote is to leave, the MPC will be faced with an entirely different set of policy challenges. Given significant uncertainty about the future of the UK’s trading relationships, a meaningful drop in domestic demand and in the exchange rate is possible………… The UK is therefore likely to experience lower growth, and higher inflation for a period as a weaker exchange rate pushes up import prices.

It does not take too long to translate this. If we look back to 2011 we see the Bank of England looking through higher inflation ( CPI and RPI both rose above 5%) and concentrating on economic growth. So again we see that “additional monetary stimulus” seems set as the response to “lower growth” and a “meaningful drop in domestic demand”. In reality we know that this looking through of higher inflation weakened the economy via its impact on real wages of which more later but central bankers live in another world.

Long-Term Interest-Rates

This is an area in which I take quite an interest and some of the views expressed by Jan Vlieghe are rather extraordinary and other worldly. Let me illustrate.

Long-term interest rates play an important role in monetary policy. They are a key part of the transmission mechanism, via which monetary policy affects the wider economy

As they have fallen substantially then monetary policy has given the UK economy quite a boost. For example the 10 year Gilt yield which was 3.35% some 5 years ago is 1.46% as I type this. So if we have received a “key part” of monetary policy why are we near to needing another monetary stimulus Jan?

If we continue the Phil Collins theme then the Genesis of Jan Vlieghe’s ideas seem lost in a land of confusion. Let me start with something I agree with.

the most important factor behind the fall in long-term interest rates since the financial crisis has been a downward revision in the expected path of policy rates,

As I pointed out earlier the “lower bound” for interest-rates has got lower and lower but then Jan slips up.

with inflation expectations relatively stable,

Er no we had higher inflation expectations in the run-up to the 2011 inflationary episode and by UK standards they are very low now. Perhaps Jan thinks he has an escape clause with the word “relatively” after all they are relatively stable to my subject of yesterday Venezuela.

Also one has to speculate on what Jan was smoking before he wrote this bit.

nor is there any evidence that government bond yields are “distorted” by central banks’ asset purchases

After all the ECB can save 80 billon Euros a month is that is true and the Bank of Japan trillions of Yen. Oh and if we look at the Euro area then the “key transmission” of long-term interest-rate must have saved it surely if we look at how many bond yields are negative. But how did they get there as they have not been “distorted” by all the QE? And how did it happen at the same time?

My Rebuttal

I do not wish to only be critical of central bankers as it is easy to be pigeonholed so let me present another way. Regular readers will be aware that rather than aiming for higher inflation as Jan Vlieghe has done here I argue that lower inflation is a good thing as it boosts real wages. Yesterday’s UK Retail Sales numbers provided yet more evidence of that.

The volume of retail sales in April 2016 is estimated to have increased by 4.3% compared with April 2015.

Back in January 2015 I pointed out that I expected lower inflation to boost retail sales so how is that going?

Average store prices (including petrol stations) fell by 2.8% in April 2016 compared with April 2015.

So many economists claim higher inflation as an economic cure. Yet lower inflation has plainly boosted UK Retail Sales!


A criticism of the Bank of England these days is the lack of diversity on it. I do not mean in terms of sex bias although of course after appointing two female members that issue seems to have been put on the back burner as the fashion for it faded.  I mean that we have as the last two appointees to the Monetary Policy Committee a hedge fund manager ( Vlieghe) and an investment banker (Saunders). The clear and present danger which to my mind is being displayed is of what is called group think which is particularly poor when these two individuals are supposed to be external members. I have also pointed out before the danger of “Carney’s Cronies” being appointed. Nobody will question how we got to Forward Guidance Mark 19 in such an atmosphere.

Such a view needs confirmation from an official denial of it so here is Andy Haldane the Chief Economist.

The good news on this front is that, with the arrival of new staff with new and different skills at the Bank over the past few years, its personality has already become more diverse, perhaps significantly so.

So who argues that lower inflation is an economic benefit then?

Imputed Rent

There have been some developments on this issue this morning as the Office for National Statistics updates some datasets.

the improvement to imputed rental is one such change where, because the main impact is on the prices being used, the current price revisions are larger than the real GDP revisions.

I was ahead of the game and posted on the Royal Statistical Society website on how unsatisfactory all this is. Frankly it looks as if they do not know what they are doing…..


Here are my thoughts from Share Radio earlier.



Venezuela plumbs the economic depths of hyper-inflation and depression

Over the lifespan of this website there has been an extremely sad story as I have detailed the economic depression in  Greece and the way that those supposedly helping have in many ways made it worse. Yet even it is being thrust aside as the worst economic case right now by the crisis which is enveloping Venezuela. No doubt you have read about the various shortages of which the lack of toilet rolls was the most publicised. Well according to France 24 the state of emergency which has been imposed has now led to shortages in an even more basic commodity food.

Lopez described herself as a former partisan of the socialist “revolution” started by late leader Hugo Chavez and continued by Maduro.

“Here in Guarenas there were revolutionary supporters. But now the people no longer want revolution — what they want is food,” she said.

“The people are going hungry. We are tired of lining up, of killing ourselves for just a carton of eggs or some bread,” she said.

The BBC reports that this situation has come about because of this.

With subsidised goods becoming increasingly scarce, many Venezuelans have been forced to queue for hours to get the essentials.

When a sought-after staple such as cornflour arrives at a supermarket, the word will spread quickly over social media and hundreds of people will queue to get it.

Apart from the hunger issue no economy can function if its citizens are having to spend so much time queuing for basic necessities. So what has gone wrong?


The IMF reported on inflation in central America last week and opened with one of the drivers of it.

Falling global commodity prices and the normalization of monetary policy in the United States have contributed to widespread currency depreciations in Latin America…….Indeed, prices are on the rise in Latin America while they stagnate in the rest of the world.

Then it notes this.

two of the region’s largest economies—Venezuela and Argentina—have the highest inflation rates in the world

Actually whilst Argentina has a serious problem of its own Venezuela is on a different scale although for some reason the IMF does not show it on the chart below.

So how does inflation averaging some 122% in 2015 grab you? That is hyper-inflation in anybody’s language and it comes at a time when inflation is supposed to be dead. The IMF gives us a strong hint as to a major cause of it.

exchange rate pass-through remains larger than warranted.

The IMF cannot resist the central banking mantra of these times in spite of the calamity taking place in Venezuela.

rightly tolerating a temporary period of higher inflation that was outside their control.

Others have estimated the inflation rate to be even higher than the IMF calculations. Professor Steve Henke suggested it was 700% last August. Actually in January the IMF suggested it such a level had not happened it was on its way.

Inflation will surge to 720 percent in 2016 from 275 percent last year, according to a note published by the IMF’s Western Hemisphere Director, Alejandro Werner.

However you calculate it and indeed define it we are clearly seeing a case of hyper-inflation in Venezuela. I believe it is still illegal there to calculate inflation so if I was there I would be in jail. Oh and this from the Guardian in February indicates that even the falling oil price is not helping to reduce inflation.

Prices at the pump in Venezuela will jump as much as 6,086% for 95 octane gasoline, from 0.097 bolivars to 6 bolivars, or 1,300% for 91 octane as of Friday.

Economic Output

We fear the worst once we read things like this from the IMF.

Further declines in commodity prices have added to the marked downturn that began in global metals markets during 2011 and in oil markets during 2014………Foregone income varies according to the relative importance of commodities in the economy, being very large for Venezuela (about 17 percent of GDP),

So already we are describing a combination of hyper-inflation and an economic depression on a very severe scale. The current situation is described below.

Real GDP fell by about 6 percent in 2015, according to the central bank, and is expected to fall by an additional 8 percent in 2016.

Actually with inflation at such a high level such calculations must be very difficult to say the least. Some of this is due to an inability to invest and buy the equipment required.

Available foreign exchange has been mostly used to finance imports of basic goods, at the expense of intermediate and capital goods.

There is a correlation between the economic output decline and rises in unemployment which we can glean from this.

In Brazil and Venezuela, a one percentage point increase in growth lowers the unemployment rate by 0.2 percentage points; in Argentina the impact is about half as strong.

The detail for Venezuela is a -0.27 coefficient or last year and this are expected to increase the unemployment rate by a grim 3.8%. Employment peaked above 13 million and is expected to lose a million of that. Oh and if only the IMF had applied this line of thought to its activities in Greece.

But what matters more to the person on the street is how growth translates into jobs.

The Exchange-Rate

This is always a sign of trouble,trouble,trouble.

an increase in the parallel market exchange rate

We have seen in Ukraine for example how lack of confidence in the national currency can be described by one of Britney’s hits.

Don’t you know that you’re toxic

Not so long ago the disarray was highlighted by the fact that there were as many as four official exchange-rates! But in March there was a drop to two, except as the quote from Bloomberg below details there is an obvious problem.

The Dicom exchange rate will begin at 206 bolivars to the dollar and then “float” to meet market needs, Perez Abad told reporters Wednesday at the central bank. The primary exchange rate of 10 to the dollar will apply to essential imports, such as medicines.

There is, ahem, quite a gap between 10 and 206 don’t you think? That seems unlikely to be it as we note the need to “float” afterwards. Those of a nervous disposition might like to think of the calming hit by the Floaters before I reveal reality.

Float, float on (Come on, come on,
(Come on, baby, yeah, yeah)
Float on, float on (Ooh, ooh, baby)
Float, float, float on
Float on (Float with me), float on

According to a single US Dollar will buy you some 1075.47 Bolivars. This no doubt makes the situation described by Forbes even worse.

The economic policies of Presidents Chavez and Maduro have combined to make the country’s banknotes worth less than they paper they’re printed on. Of course, this has been true for some time of the small notes: but reasonable calculations tell us that this is either true now or about to be true of the country’s largest bank note, the 100 Bolivar.

You may have read that this web is so tangled that Venezuela cannot afford to buy new bank notes as it imports them and the exchange rate has fallen so far. No sensible printer will be accepting an official exchange-rate a hundred times worse than the real one!

This is steps on a mantra for central bankers. You see they clean up from a concept called seignorage where they issue for example a £20 note which costs say 10 pence to prodice and hey presto! They have a £19.90 profit. Well not in Venezuela unless they produce larger denomination notes which of course takes us back to today’s theme of hyper-inflation. I guess if there is a lateral thinker there they could print some US Dollars like Zimbabwe has.


We are seeing the consequences of a hyper-inflationary shock in Venezuela. Back in the early days of this website I was regularly asked about hyper-inflation risks as QE style policies were fired up and I replied it required quite a list of policy errors to go wrong. Well Venezuela has had some bad luck with the oil price but it has made policy mistake after mistake including this one.

Fueled by the monetization of the large
fiscal deficit

Meanwhile next week in unrelated news Lord “talentless ascent” Turner will be granted the honour of a speech at the Bank of England on amongst other things his favourite topic of Helicopter Money. You will not have to look far online to find plenty of “experts” assuring you that it cannot go wrong. On a lighter note here is the “expert” Mark Weisbrot in the Guardian in 2013.

Sorry, Venezuela haters: this economy is not the Greece of Latin America

It is a feature of modern times how if you disagree with someone you become a “hater” is it not? I guess Taylor Swift has to take some responsibility here. But I am rather sad that a country with the largest reserves of crude oil is rewriting the text books on both hyper-inflation and Dutch-Disease.