Is it China or the UK that is behaving like a command economy? And Greece needs a debt “haircut”

After a period where it has tried to increase bank reserve requirements to help control its overheating economy China raised her interest-rates yesterday for the second time in six weeks. The People’s Bank of China raised its one-year lending rate to 6.06% and its one-year deposit rate to 3%, so both rose by 0.25%. I have pointed out before that increasing reserve requirements was likely to have  patchy success at best in restraining China’s inflation problem, if past experience is any guide so in principle I welcome the new strategy. Also in a week where there is at least some debate whether the Bank of England should raise interest-rates let me point out that China is responding to consumer price inflation of 4.6% and UK Retail Price Inflation is 4.8%. Admittedly it is not the officially targeted measure which is CPI at 3.7% but in my opinion it is a more accurate measure of the situation. Over to you Monetary Policy Committee!

Which is the command economy and which is the capitalist?

You could argue that by raising interest-rates and letting the Yuan drift higher against other currencies that China is behaving more like a capitalist economy. What then do you make of this? Consider another economy which recently announced the following. It plans to try to set central targets for  bank lending to the business sector called Project Merlin and has a minister trying to set targets for mortgage lending. You could call these diktats. It has in effect nationalised two of its main banks and some more minor ones. It is imposing a bank levy on its banking sector as a type of punishment on “evil” bankers and wants to restrict bank bonuses. This sounds like an attempt to impose a type of command economy and it is being operated by the UK. So who is the command economy and who is the capitalist one? I would welcome readers thoughts on this. Before I move on I would just like to point out that the attempt to restrict bankers bonuses looks to be an utter failure which in fact makes it look even more like a command economy!

Commodity Prices

The rising trend in this area continued yesterday in spite of the Chinese move. As a big consumer of many metals and raw materials China’s economic expansion has been one of the driving forces behind the strong move in commodity prices that has occurred since late November 2010. But we did not see a fall and indeed the CRB spot index rose by 1.79 to 561.89 with the metals sub-index rising too by 3.17 to 1090.1. One of the main drivers of the unrest in North Africa and Arabia has been rising food prices and again we saw a rise yesterday as the foodstuffs component rose by 2.76 to 493.34. This means that the price of basic foodstuffs has risen by 23.3% since late November 2010.

The Peripheral Euro zone nations

Whilst the mainstream media has gone into reverse on this subject and bizarrely seems on occasion to be pointing out signs of “success” in fact last weekends meeting came up with no agreement at all and there are serious issues facing Greece, Ireland and Portugal.


There has been more honesty from the Bruegel think tank which has published a report pointing out the following. It feels that Greece is “clearly on the verge of insolvency” and that the swift restructuring of its debt, with creditors accepting a 30 percent “haircut,” should form part of a three-pronged strategy that would also include the strengthening of the euro zone banking system and policies to foster greater economic growth. It feels that at best Greece will soon have a debt burden equivalent to 150% of its economic output. Having run even very optimistic scenarios such as Greece maintaining an annual growth rate of 4% per year and her government bond interest rates falling by several percent the think tanks has concluded that it would take Greece around 20 years to get its national debt down to 60% of economic output as required by Euro zone rules. Accordingly it concludes this.

Our conclusion therefore, is that Greece has become insolvent and that further lending without a significant enough debt reduction is not a viable strategy.

Furthermore the think tank is critical of the current strategy which is to change the rules from 2013 and in effect allow debt haircuts from then. As it points out who will be silly enough to buy the new debt after 2013?


I hope that this report is a sign of a new more realistic view of what can be done to deal with Greece’s crisis. It remains to be seen whether Europe’s politicians are listening. However whilst it is an improvement I feel that the delay ( It is a year since I was suggesting debt haircuts for Greece) means that it is debatable whether one of 30% would be enough. It would need to be combined with a cut in the interest-rate that Greece is being charged for rescue funds to have a chance I think. If that route is blocked by fears of what the German Constitutional Court would rule on this then perhaps a haircut of more like 35/40% is required.

One area where I disagree with the report is where it says that to foster economic growth there should be a “temporary refocusing of structural funds”. Since the subsidy culture helped to put Greece in her current situation then more of them may in the long-term make things worse rather than better.Reform is needed first. Also in the current economic situation where would the funds be refocused from? Ireland? Portugal?

Portugal: her long-term problem

My attention was drawn by the Portuguese economist Pedro Martins to a paper written by Oliver Blanchard who is now at the International Monetary Fund.

In the second half of the 1990s, the prospect of entry into the Euro led to an output boom and large current account deficits in Portugal. Since then,the boom has turned into a slump. Current account deficits are still large, and so are budget deficits. This paper reviews the facts, the likely adjustment in the absence of major policy changes, and examines policy options.

The Portuguese economy is in serious trouble: Productivity growth is anemic. Growth is very low. The budget deficit is large. The current account deficit is very large.

The problem is that this was written in 2006. So credit goes to Mr.Blanchard for being on the case but little credit can be given to those in charge of Portugal because in essence her problems remain the same and it is now 2011. It continues my theme that Portugal’s problems are much longer in duration than the credit crunch and that it has made things worse but not changed the fundamental picture.


There is an irony here that Portugal has a current account or balance of payments problem and yet remains unrescued! Of course using the word rescue implies that Greece and Ireland have been so perhaps it is better to use the phrase recipient of a package called a rescue. My point is that current account problems are the remit of the International Monetary Fund.Where is it? These days it seems much happier intervening in another role, when a country has a fiscal crisis. Perhaps Dominique Strauss-Khan who heads the IMF really does have his eye on the French Presidency and is pursuing what he considers to be appropriate policies for this objective such as bailing out other politician’s.

If we look at Portugal’s balance of trade for 2010 then we can see the problem. Exports of goods were 36.8 billion Euros whilst imports were 56.8 billion Euros. It is true that export growth at 15.7% exceeded import growth at 10.2% but because of the size of the gap this differential would have to persist to even start to reduce the trade gap as even on such a growth rate the gap would widen very slightly in 2011.

Portuguese government bond yields continue to head higher. At today’s daily fixing the number of bonds yielding more than 7% is spreading and if we use the 5.8% interest-rate of the Euro zone funds then Portugal’s threshold for this is 3  years away in terms of how far ahead she can borrow more cheaply than this. Whisper it quietly but much of this and even Portugal’s economists and leaders may be forced to ask for help even though they have realised that there are plenty of problems in so-doing.

UK Trade Figures

Because they turn out to be usually very inaccurate I am not a fan of analysing monthly trade figures. However the figures for 2010 as a whole for the UK do not show much of a sign of improvement as might have been hoped from the 2007/08 devaluation of sterling. We seem to have returned to our old pattern of a persistent large trade deficit although even annual figures are unreliable. Younger readers may be shocked to learn that markets used to move substantially on trade figures as today they are mostly ignored! For example the UK’s 1967 devaluation of the pound was finally decided to have been unnecessary a decade or two later…

One matter keeps coming up is that we run a large and persistent trade gap with the Euro zone and yet we are told again and again by our political leaders that trade with it is vital for us.For many it is like a mantra. I have to confess that I wonder about this. Do not misunderstand me we are geographically close to Europe and have many ties to it economically, but my point is that more of our attention should go elsewhere and our policies should reflect that. As we go forwards then the countries in the world that are likely to have the highest economic growth rates are not in Europe.

US Government Bond Auction goes poorly

Yesterday the United States Treasury auctioned some US $32 billion of 3 year bonds and it did not go well. The follow-on effect of this is that the US long bond (30 year maturity) now yields 4.76% which,if sustained, will have plenty of economic impact both in the US and around the world. The story is not over as other bonds are auctioned this week and bond auctions are like game theory in some ways but yesterday’s events did exacerbate a recent trend.


20 thoughts on “Is it China or the UK that is behaving like a command economy? And Greece needs a debt “haircut”

  1. I am not a banker and it may be that I am missing something when it comes to bankers’ bonuses. However, it seems to me that as far as the Exchequer is concerned bankers’ bonuses are a good thing. Bankers themselves will pay tax of 50% and the banks themselves pay a further 12.8%, such that £1 billion of bonuses yields £556.7 m to HMRC. If instead the £1 bn is not paid as bonuses it will be taxed at Corporation Tax rates, with the yield to HMRC being only £280 m (falling this coming tax year to £270 m). I appreciate some non doms will escape the 50% rate, but notwithstanding the need to be seen to be reining in bankers’ excesses, it seems to me bonuses are actually a good thing for the Exchequer. In which case the basis for the bank levy seems a little cheeky.

    • It’d be a good idea if bankers were paid bonuses in some form of contingent convertible bonds with long-term lock-ins: no cash outflow from the bank when paying the bonus, improved capital ratio for the bank, loss-absorbing capital to cushion the bank if it hit trouble, long-term incentive for the employees not to do anything which might result in forced conversion (and thus near-total wipeout of their bonus).

  2. Command economy, capitalist economy, aren’t the lines so blurred now as to be indefinable? With political classes espousing support for free market economics yet almost relishing interfering at almost every turn to validate their own existence little wonder lines of demarcation have disappeared. The obfuscation produced has meant any innovative response to the present crisis is stifled.

  3. Very interesting blog, Shaun. A couple of points:
    1. I think that you could almost substitute the word “Ireland” for the word “Greece” and it would all be true;
    2. The other point about the trade deficit with the EU is that it completely negates all the scaremongering about the jobs that would be lost if we left the EU. Why would other countries wish to damage this trade imbalance in their favour?

  4. Our trade imbalance with the EU is a matter of concern: but it does not follow that we would be better off leaving. The causes of the trade imbalance need to be considered: for example, the degree to which the UK has run down its manufacturing industries over the last 25 years relative to other EU Member States: for example, the extent to which the £:Euro exchange rate favour imports: for example, the purchased of UK companies by foreign mutinationals while reducing the relative cost to them of closing their UK operations.

    These are symptoms of policy decisions going back ot the 1980’s and based on an economic model in which the UK exports production and jobs to other countries and focuses on services (eg financial services and retail/import services) which benefit from a strong £.

    This model was sustained by asset price inflation and expanding levels of consumer debt: and it is clearly no longer sustainable. We must therefore move to a model in which we produce more stuff and sell more of it overseas. To leave the EU, where we have an open potential market of roughly 500 million people is hardly going to contribute to this effort.

    Equally, to close our market to competitors from elsewhere in the EU will certainly reduce the choice of goods available to UK consumers: and arguably people would begin to invest in UK production to meet the unsatisfied demand. But it a reasonably safe bet that this would result in higher prices while the new companies would be limited to providing for the UK market.

    We got it wrong – and to leave the EU now would compound the error.

    • Not necessarily, I think, Chris. Look at Switzerland as an example. There can be a trade relationship only, and this was the original stated concept of the EEC, without there being full political integration, and horrendous cost and waste to the UK for being owned by and dominated by the EU! In that way, like Switzerland we could avoid the tariff barriers but not have the excessive costs of being part of the EU? .

      • Anything is possible, given the goodwill. But two thoughts: first, the Swiss economy is built on a few key industries notably banks (but also pharmaceuticals). The original premise was that we want to move away from a reliance on financial services.

        Secondly, in our increasingly protectionist World, can you see our werstwhile EU partners negotiating amicably to allow us to reap the benefits of membership without contributing. Anyway, Shaun’s original observation was that our trade with the EU was in the red and so not beneficial.

        Finally, I suggest that “horrendous cost” and “owned and dominated by the EU” is hyperbolic. Anyone who joins a club pays a membership fee and abides by the rules – the club does not own them. Indeed, with the support of other members they own it!

  5. Hi Shaun: “So who is the command economy and who is the capitalist one? I would welcome readers thoughts on this.” I think the only rational conclusion must be that it is the UK which is now more the command economy, and it does not end there, since the UK also became a much more totalitarian police state under the last government and does not seem to be changing much under the coalition government. So the UK has become in many respects more like the old Soviet block used to be, whereas China has become generally more liberal, and a more capitalist economy.

    However, I find myself agreeing with Mac above, since the lines have become increasingly blurred, and are now difficult to define comprehensively in all respects.

  6. I wasn’t remotely suggesting that we close our market to the EU and my comment does not say anything about doing so. I was just commenting that it seems a gross exaggeration of those advocating participation in the EU project to link huge job losses with a pull-out, since the trade imbalance would imply that it would be very much in the interests of those remaining within the EU to keep all of the trading arrangements in place.

    I do agree with your other comments about rebalancing etc.

  7. Howdy,

    I’ve been waiting to find a topic about EU/Greece and have time to respond to it on the same day, and this day has come 🙂

    Lately, the following topics of discussion exist in both traditional media (newspapers, TV) as well as “next-gen” media (internet, either blogs or news portals):

    a) The debt: It has been widely discussed that the EU wants to put an end to Greece’s (and the Eurozone’s) woes, although the fact that most EU countries disagree, in principle or in parts of it, with the “Competitiveness Pact”, seems to go rather unnoticed.

    The consensus is to “see what happens in the major conferences of March”.

    However, the IMF is again in Athens these days to supervise the route of the country towards the 4th loan installment, and of course they find several deficiencies left right and center.

    It has been noted that the government has done remarkably well in taxing more, and pressing, the “honest tax base” it has, such as private employees and pensioners, but the vast majority of the populace still does not nearly pay their taxes in an honest or organized manner.

    It has been discussed that the cost of employment must definitely fall, although from a legislative POV, it won’t do much to enforce pay cuts to private sector businesses…

    …although the private sector has acquired many tools to offer employment with rather brutal terms, such as the provision that under-25 year olds are able to be hired for 80% of the monthly wage of an unskilled worker, for a year, and receive no redundancy / severance package if they are fired earlier on.

    The fact that a starting monthly salary can be 592 EUR for a university graduate, isn’t that positive for the average cost of living in Greece. Suffice it to say that a small 1-room house can cost 250-300 EUR in rent only, and this excludes all bills. You get the picture.

    Lately, it has been rumoured that the IMF / Troika requests measures of over 15 bn. EUR to be taken until 2015, while the “official” MoU ends on 2013. It appears the first steps are taken for a “de facto” MoU until the end of time.

    Finally, several businesses face liquidity problems, and by “several” I mean “many thousands”. In many parts of Greece (less so in Greater Athens / Attica, more so in more “rural” districts), employees are promised to be paid later on, but certainly not on time, with average delay being at least 1 month.

    b) The “I’m not paying” movement:

    Citizens seem to become more enraged as time goes by considering certain aspects of their everyday lives, as evidenced by the growing popularity of the “I’m not paying” movements.

    In a bid to reduce the state grants paid to Athens Transport Authorities (yes, plural, sadly they are 5-6 companies with 5-6 times the bureaucratic personnel they’d need, if they were 1. One for buses, one for trolleys, one for tram, one for metro, one for light-rail metro, and one for suburban railway. Phew! Counted them all!), to below 50% of their yearly budget, so that they won’t show up on the State Budget as losses, the government raised ticket and monthly cards prices per 40%.

    A ticket now costs 1,40 EUR, up from 1 EUR, for instance.

    In response to that, several campaigns stating “Our income did not get raised by 40%, stop the price markups” etc, have been created and operate frequently by encouraging the general populace NOT to validate their tickets, refusing to pay for the increases.

    The situation has worsened in December and January mainly, when there were several 24-hour strikes in Athens public transport, and dozens of 4-5 hour strikes in different days, making a day when all public transport works for the entire day, a day to be reckoned!

    Even today, there were new 5-hour strikes in buses, trolleys, and metro. The employees resist to having their pay cut, in accordance with the “restructuring of Athens Transport” law that is bound to be passed soon.

    Another aspect of the “I’m not paying” movement is road tolls. Something rather surreal has happened with road tolls:

    5 major motorways in Greece, covering large parts of the country when combined, are all “under modernization / reconstruction”. The contractors, as it seems, have signed an agreement with the Greek state that allows them to install toll booths on these motorways, and receive revenues from tolls for 20-30 years. In return, the Greek state does finance a % of the projects (I think that’s 30%), another part comes from the EU (10 or 20%), and the remainder comes from banks.

    The actual capital expenditure of these companies is less than 10%, according to the data they themselves have published. The rest is either subsidized, or borrowed.

    The aforementioned companies, came up with the brilliant idea of charging passing drivers using toll booths, before the work on the motorways is completed, or even in a satisfactory level.

    As such, while certain parts (and large ones, at that) have either no alternative / toll-free routes, or are completely untouched / underdeveloped, and do not conform to the notion of a “national motorway”, but rather to “death trap roads”, they are filled to the brim with toll booths.

    The aforementioned toll-booths have raised the toll ticket value several times in 2009-2010, making a “simple” trip quite unaffordable, even for citizens of local towns / areas, who are not exempt from tolls, and may have to pay many times per day just to head home or go to work.

    Since from a legal POV these companies are not considered “the state”, many thousands of drivers refuse to pay tolls, and when they reach a toll checkpoint, they raise the bar, and leave.

    The government has decided to take a hard stance to “freeloaders”, as it likes to call the members of this movement, and prepares to make not paying tolls to a private company a fine-inducing penalty act, as well as make not paying a ticket on a public transportation company, a “misdemeanor”, punishable with a fine and up to 3 months imprisonment, up from an “infraction” it is now.

    And this concludes the update from the wonderland that is Greece 🙂

    Have a great night, everyone!

    With friendly regards,


    • Great post Ioannis, much better to hear what is actually happening on the ground. Again no innovative thinking by the powers that be, only a reliance on squeezing the very last drop of blood out of a corrupt system.

  8. The problem with “haircuts” is that much of this debt is guaranteed by Credit Default Swaps. If 1/3rd of Greece’s bonds go belly up, it then triggers probably an equal amount of losses thru CDS’s, much of which is written by big banks the world over. Between outright losses and CDS losses, there is a risk that a major financial institution could bite the dust.

    • The very fact that this CDS situation is a problem just goes to show that the whole system is badly thought and not fit for purpose, in need of a real shock as the only way to bring about lasting change.

    • Hi Mr.K
      Your comment highlights a fundamental question going forwards. Do we operate on behalf of the world economy or do we operate on behalf of the interests of the banking/finance sector? So far in the credit crunch era official policy has favoured the banks whereas I would favour the economy which in this instance is represented by Greece and her people.

      It is also another reason for a Volcker Rules type policy which is not perfect but could be combined with the taxpayer being responsible for some losses (commercial banking) but not others. But so much time has been wasted in this regard as in my opinion you have to announce what you will and will not cover ahead of events to give investors a chance to modify their behaviour… So we remain very vulnerable to what no doubt would be presented as a “surprise.”

  9. Have we become a less captialist economy? Hmmm, well i’ve just invented a soap that washes, wrinces and drys. the active nanotechnology is of course my invention and i take full credit, almost to the point of arogance, the soap on the otherhand was developed a few 1000 years ago.

    Anyway, this soap is made for combat situations (134,000 troops in afghanistan, and millions of troops around the world), personally i estimate the RRP will be Ca.£3, total production costs Ca. 0.5-£1 (there’s a large difference because i haven’t as yet fully costed the manufacturing costs), so the yields are worthy of investment.

    I am looking for an invester for this product only. 5K to show you’re not pi**ing about, and then Ca.30K to take product to market. 50:50 share.

    Anyway, your question Shun. Have we become less capitialisic? answer, No. Do we over value banks? Yes, in that i have 3 products going to market and i didn’t need to ask the bank for money, i simply take my innovations to UK (ONLY) SME’s who, unlike large companies, can compete with the communist people’s republic of china.

    Oh and any commie thinking about hacking my computer for information, i keep all of my lab data on a computer that isn’t wired to the inter-net!

    • So a bit of old fashioned industrial espionage called for……hmm…. have we still got the skilled operatives? Maybe we could redeploy job centre investigators, family court investigators, covert police infiltrators etc. etc. etc.

    • Hello Mr/Ms Inventor,
      If your per unit production cost is truly reflective of “cost of goods sold”, then then based upon a smidgen of digging into SME cleaning product manufacturers, you’d have significantly better gross margins (~67-83%) than is average (~43%).
      Have you successfully brought to market products such as this one before, or would this be a step into the unknown?

      • November 2010 I told Stefano Pessina that my company plans to be the largest developer and supplier to the European medical defence sector, and that I have a couple of products in which Boots with its expertise could help me take these products to market. Stefano’s company managers tried to shoo me away at that point, however he could see past my ruff working-class exterior, and gave me some advice. A about a month ago I saw that Boots is requesting innovators to pitch their ideas, related? I don’t know.

        But in answer to your question “Have you successfully brought to market products such as this one before, or would this be a step into the unknown?” Yes and No. In that I developed nanovacuums laced into a polymer membrane and was going to sell the material as a innovational medical emergence blanket (6 times more thermal efficiency that the cheap Chinese sliver import), after networking the buyers from the relevant market, I withdrew the product as it became clear that the technology would be copied before its full potential, and hence exploitation could be reached by my small company. So for now this material is sitting on the bench until i find a better polymer in which to imbed it—depending on its use of course—and this i’ll not be able to do until my company finishes off the short term goals that has been set for it.

        This is why i don’t fear the economic down turn, in that there are loads of people like me, “inventors” who can develop products at the drop of a hat. But it does get up my nose seeing British jobs being shipped off to China; i love this country, what can i say?

  10. By the way, i’ll not be taking up Boot’s offer, i have my own contacts and can take the product to market myself

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