Austerity is improving the UK Public Finances

As we head towards the weekend we have the opportunity to not only look at an area  where there has been good news but also inject a little humour. The latter was unintentionally provided by the OBR or Office for Budget Responsibility earlier this week.

second, we look at the potential fiscal impact of future government activity, by making 50-year projections of all public spending, revenues and significant financial
transactions, such as government loans to students.

No your eyes do not deceive you it really has forecast our fiscal future out towards 2068. This is from an organisation that in its eight years of existence has shown amazing consistency in being wrong. Sometimes it has been wrong pretty much immediately and at other times we have has to wait but usually not for too long. If we look back to its early days then let me give you two examples of its forecasting arrows not only missing the target but soaring out of the stadium with the crowd ducking for cover. Wage growth was forecast to be around 4.5% now and that is being nice to them as you see they got unemployment wrong too and so if we apply their “output gap” style analysis they would have wage growth at 5% or more. Also they would have Gilt yields up towards 5% as well whereas all are below 2% and the ten-year yield is 1.24%.

For newer readers that is the road which led to this.

The first rule of OBR Club is that the OBR is always wrong.

Putting it another way here is how something which is very good what is called the Whole of Government Accounts which as you can see below is sadly converted into laughing-stock status.

The net present value of future public service pension payments arising from past employment was £1,835 billion or 92 per cent of GDP. This is £410 billion higher than a year earlier, with the rise more than explained by the use of a lower discount rate to convert the projected flow of future payments into a one-off net present value and by other changes to assumptions underpinning the value of the liabilities.

The saga starts really well as I regularly get asked for an estimate of the UK’s pension liabilities but as you can see an enormous change has happened due to “a lower discount rate” . So the interest-rate or more specifically yield has been changed by an establishment that has consistently got yields not only wrong but very wrong. This also happened in the insurance world where this sort of blundering in the dark caused a lot of changes and costs.

The NHS

The OBR weighed in on this subject earlier this week and as a reminder this is the issue as described by the BBC.

Last month, the Prime Minister announced that the NHS in England would get an extra £20bn a year by 2023.

The £114bn budget will rise by an average of 3.4% annually.

In itself this is simple as government’s plan to spend more all the time and actually the OBR feels it needs to do so as the demographics of an ageing population bites. Yet we ended up with more heat than light and I could write a whole post on the “Brexit Dividend” so let us instead look at the overall position. There are three ways this can be paid for.

The easiest is that the economy grows by enough to finance it via higher taxes and lower social spending. After all we live in an era of Black Swan events but even in these days they happen only from time to time so the other choices are higher taxes or borrowing more. As you are about to see the public finances data have been pretty good over the past 18 months or so ( something else the OBR got wrong as it predicted a pretty substantial rise for the fiscal year just gone). So as we stand we could borrow the money quite easily and as I explained earlier we can do so cheaply in fact extremely cheaply in historical terms. Just for clarity as these issues get heated I am not advocating such a move simply saying that as we stand we could and probably quite easily. That seems to have got lost as at least some of the media looks for examples of higher taxes in response to the extra spending.

This whole issue makes me look back over the last issue and something stands out so let me put it in italics.

Over the credit crunch era we have borrowed a lot when it has been (relatively) expensive and not it is cheaper we are borrowing much less.

Some of that was forced on us but not all of it.

Today’s data

This continues to be good.

Public sector net borrowing (excluding public sector banks) decreased by £0.8 billion to £5.4 billion in June 2018, compared with June 2017;

As is the picture with a little more perspective

Public sector net borrowing (excluding public sector banks) in the current financial year-to-date (April 2018 to June 2018) was £16.8 billion; that is, £5.4 billion less than in the same period in 2017; this is the lowest year-to-date (April to June) net borrowing since 2007.

So we are back to pre credit crunch levels in this regard and the trajectory is lower. If we look into the detail then we see this about revenues.

In the current financial year-to-date, central government received £169.4 billion in income, including £125.0 billion in taxes. This was around 3% more than in the same period in 2017.

Looked at like that we get a confirmation of the slowing of the housing market as Stamp Duty revenues have fallen by £300 million to £3.1 billion and the QE operations of the Bank of England contributed £600 million less.

But on the other side of the ledger we do for once see some outright austerity.

Over the same period, central government spent £184.2 billion, around 1% less than in the same period in 2017.

Before we get too excited debt interest fell by £2.2 billion which will be mostly if not entirely the impact of lower ( RPI ) inflation on index-linked Gilts. Also the numbers for local councils have swung too so allowing for that we do not have outright austerity but we do on the measure compared with inflation.

National Debt

There is good news here too at least in relative terms.

Public sector net debt (excluding public sector banks) was £1,792.3 billion at the end of June 2018, equivalent to 85.2% of gross domestic product (GDP), an increase of £33.0 billion (or a decrease of 1.0 percentage points as a ratio of GDP) on June 2017.

There are also numbers excluding the Bank of England but sadly the numbers published are inconsistent. This happened a few months ago as well, There are also wider numbers for what previously I would have said was something of a gold standard but after the pension revision we looked at above I will merely say they are worth a look.

The overall net liability in the WGA was £2,421 billion or 122 per cent of GDP at the end of March 2017, up £435 billion on the previous year’s restated results ( OBR)

Comment

We have been on quite a journey with the UK public finances and to some extent it has been this sort of Journey.

It goes on and on and on and on

We have also seen that

Some will win some will lose

Because until this phase a lot of the austerity has been from one group to another as for example comparing the Triple Lock for the Basic State Pension with its 2.5% minimum with the 1% per annum for other social benefits and pay rises. But with the better news can we say this?

Don’t stop believing
Hold on to that feeling

We can to some extent but that does not mean the sky is pure blue. The clouds come from all the efforts to manipulate the numbers which would take an article in their own right and also the way the national debt has risen. Which allows me one more example of OBR Club unless of course we find an alternative universe where the national debt peaked at below 70% of GDP and then fell primarily due to us being in surplus for the last couple of years……

 

 

 

 

 

 

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Can robots rescue the UK from its productivity problem?

This is an issue which bedevils economists especially those who project straight lines into the future and their forecasts were left at a dizzying altitude by the impact of the credit crunch. The Bank of England puts it like this.

From 2007, 10-year average productivity growth was negative for the first time in almost a century.  Overall, it was the worst decade since the late 18th century.

What it goes onto say is that for the first 3-4 years things were normal in terms of a recession but it was after this that the change happened in that it did not then recover and go forwards. There are a couple of times ( 1761 & 1781 ) where we did worse but as I have pointed out before if I had data telling me things were going badly in the industrial revolution I would keep rechecking the data. Such as we understand it here is the past.

10-year productivity growth averaged 0.7% in the 19th century and 1.4% in the 20th

That research was from April but earlier this month the Bank Underground blog returned to the subject again.

 In its latest Inflation Report, the Monetary Policy Committee forecasts productivity growth to be a little faster than its average in recent years, as increases in investment begin to feed through, but still only half the rate seen before the financial crisis.

That reads rather like the MPC ( Monetary Policy Committee) taking out a bit of an each way bet. Or maybe a response of sorts to the Labour party proposal to give it a target for productivity growth.

Bank’s Agents

For those unaware these are the employees of the Bank of England who do their best to keep it in touch with the state of play in the economy.

In total, about 30 Agents have discussions with around 9000 businesses per annum, including most of the UK’s largest companies, as well as thousands of SMEs, covering all sectors of the economy.

They may not realise the significance of their opening salvo.

companies chose recruitment over business investment.

Those familiar with my work will know that these leads into two themes of mine. One is that labour productivity was very likely to have been affected by the way that employment has performed so well in the credit crunch era and pretty much by definition in the period when it rose before output did. Second comes something inconvenient for the economics profession in that it wanted the UK to be more like Germany in maintaining employment in a recession which happened. The latter is rather awkward for the idea of the Bank of England Ivory Tower being tasked with improving productivity.

Along the way I note an implication for the immigration debate in this below.

Strong growth of labour availability was associated with low real wages growth. Many of our contacts recruited additional staff, sometimes to handle sales growth but often to improve non-price competitiveness – for example to raise levels of service and marketing. Low real wages growth made these actions affordable

There are other factors at play as well as the picture is complicated as for a start correlation does not prove causation but the Ivory Towers seem to reject any such thought out of hand. Whatever the cause this is one of the stories of the credit crunch.

 So we observed that the composition of the economy and workforce pivoted towards lower value-added services and jobs, resulting in downward pressure on average wages and productivity levels

What about investment?

In essence this was often put on the back burner but now things seem to be changing according to the Bank Agents.

The Bank’s Agents’ recent experience is that, increasingly, the focus of many companies is turning to investment in labour-saving plant and machinery to raise productivity and alleviate resource bottlenecks.

Why might this be?

Often the benefits from investment in new plant and machinery include a reduction in the need for labour.  Higher labour costs shorten the payback period and incentivise such investment.

I find this intriguing because if we look at the current situation we see that real wages have until recently been falling and are currently flat at least in broad terms. So what we are seeing here if the Agents are right is employers expecting higher wages in the future and therefore responding with what we might call labour-saving investment. This includes an area where up until now the UK has been regarded as weak.

 Robotic technologies in particular are being deployed in a mix of manufacturing and service industries, at relatively low-cost and often with payback periods of less than five years. Usually, the working life of the equipment being deployed is greater than five years, making the investment extremely attractive.

We are given many examples of the use of robotics although I think that self-service tills are stretching the point somewhat. Also what could go wrong with the example below?

Looking into the future, restaurant and bar staff may be gradually replaced through automation and self-service beer pumps.

But on other side of the coin some reviewing their investment and pension savings may be grateful for any signs of intelligence at play.

an example being the use of artificial intelligence to assist institutional investors.

Comment

It is nice to see a part of the Bank of England being upbeat about the UK economy especially as it is the part that has its nose to the ground as opposed to in the clouds.

 However, the frequency of cases where contacts are looking to address rising costs and poor productivity suggests to us that whole-economy productivity growth should soon start to recover.

Lets hope so although in my opinion things were not as bad as some claimed due to this.

The fact that examples are becoming more common across sectors suggests that the recent slowdown of labour supply growth may be followed by a sustained productivity recovery

I have argued plenty of times that the strong employment performance of the UK economy has affected productivity and further that in many areas I do not think you can measure it at all. But higher labour supply does look like it reduced both productivity growth and real wage growth as well as reducing investment.

Also there is a very powerful reply to the post which I can only echo 100%.

One comment I heard recently was “Why would you invest in business when housing returns 8%”. ( Ed Mackenzie )

This of course will be like red-hot cinders for the Bank of England as its modus operandi in the credit crunch era has been to get house prices rising again via a litany of policies. On this road to nowhere it has contributed to a fall in UK productivity.

The implication being that the high returns on assets were dwarfing returns from capital investment.

Whatever happens next there are considerable advances in robotics to be seen.

 

What is happening to house prices and rents in Ireland?

Yesterday brought us up to date with house price changes in the Euro area at least for the start of 2018. From Eurostat.

House prices, as measured by the House Price Index, rose by 4.5% in the euro area and by 4.7% in the EU in the
first quarter of 2018 compared with the same quarter of the previous year…….Compared with the fourth quarter of 2017, house prices rose by 0.6% in the euro area and by 0.7% in the EU in the first quarter of 2018.

As you might expect there are some swings from country to country but before we get there we see some interpretation of history.

House prices in the EU up 11 % since 2010

Actually they fell for a while due to the Euro area crisis and then responded to the “Whatever It Takes” measures.

Prices started growing again in 2014.

A particular disappointment to Mario Draghi must be that his home country Italy has ignored all his efforts to pump up house prices as they fell there by 0.4% over the last year and are down 15% since 2010. Meanwhile my attention was drawn to Ireland with its 12.3% rise in the latest year.

This is because the boom and then bust in Irish house prices took much of the banking system with it.  This meant via the usual privatisation of profits but socialisation of losses with respect to the banking system the Irish taxpayer found themselves in this situation described by its national debt agency NTMA.

That may bring Ireland’s high stock of debt – which at €213bn is more than four times its 2007 level – into sharp focus. Whilst our debt ratios are improving, our total nominal debt is still rising as we continue to borrow to pay interest.

This means that whilst the interest-rate or yield on Ireland’s bonds has fallen a lot mostly due to the bond buying or QE of the ECB (European Central Bank) there is a tidy bill to pay each year.

Almost irrespective of the external interest rate environment, we still expect Ireland’s annual interest bill to fall towards €5bn in the near term, from €6.1bn in 2017 and a peak of €7.5bn in 2014.

Ireland now only has an interest-rate of 0.81% on its ten-year benchmark bond so a fair bit lower than the UK which represents quite a change when we borrowed money to lend to theme to help them out.

House prices

The Irish statistics office or CSO brings us more up to date.

In the year to April, residential property prices at national level increased by 13.0%. This compares with an increase of 12.6% in the year to March and an increase of 9.5% in the twelve months to April 2017.

As you can see the pace has been picking up although it is no longer being quite so led by Dublin.

In Dublin, residential property prices increased by 12.5% in the year to April. Dublin house prices increased 11.7%. Apartments in Dublin increased 15.9% in the same period.

The reason why I raise the Dublin issue is that it has seen the widest swings as it had the biggest bubble then fell the most and then for a while picked back up more quickly. Or as it is put here.

From the trough in early 2013, prices nationally have increased by 76.0%. Dublin residential property prices have increased 90.1% from their February 2012 low, whilst residential property prices in the Rest of Ireland are 69.9% higher than the trough, which was in May 2013.

That is quite a surge is it not? Whilst the Dublin recovery started earlier nearly all of this fits with the “Whatever It Takes” policies and timing of the ECB, Of course it raises old fears as well although we are not back to where the bubble burst.

Overall, the national index is 21.1% lower than its highest level in 2007. Dublin residential property prices are 23.3% lower than their February 2007 peak, while residential property prices in the Rest of Ireland are 26.1% lower than their May 2007 peak.

Oh and maybe another issue is having an impact.

The Border region showed the least price growth, with house prices increasing 9.3%.

Rents

We can track these down via the consumer inflation numbers and we get a hint here.

Housing, Water, Electricity, Gas & Other Fuels rose mainly due to higher rents and an increase in the price of home heating oil and electricity.

Looking into the detail we see that rents have risen by 7.4% over the past year and by 0.5% in May. The larger private-sector market is currently seeing a faster rate of rise but there must have been quite a chunky rise in public-sector rents at some point in the last year as they are up by 10.6% over that period.

Mortgage Interest-Rates

I found these hard to track down as the Central Bank of Ireland changed its reporting system but the Irish Consumer Price Index gives us a guide. It must have been designed in a similar way to the UK RPI as it includes mortgage interest-rates. The index for this was 143 when Mario Draghi was giving his “Whatever It Takes” ( to reduce mortgage rates) speech whereas in May it was 99.1.

Although rather curiously the Irish Independent reports that many have not bothered to switch to lower mortgage-rates.

KBC Bank is due to tell the Oireachtas Finance Committee it has 36,000 residential customers paying variable rates, which are its most expensive home-loan option, when they could get a lower priced deal from a bank.

It comes after it emerged that more than 100,000 homeowners at Bank of Ireland and Permanent TSB are paying up to €3,000 more a year on their mortgages than they need to at the two banks.

Perhaps they do not realise they can get them as I recall Ireland having a situation where many could not switch due to the house price falls.

Comment

There is a fair bit to consider here and let me open by agreeing to some extent with Mario Draghi.

European Central Bank chief Mario Draghi has linked the current spike in Irish property prices to “the search for yield by international investors”.

Mr Draghi said the real estate market in the Republic and several other EU states was “overstretched” and vulnerable to “repricing”. ( Irish Times yesterday).

He cannot bring himself to say falls nor to acknowledge his own role in them being overstretched but he does have time to bring up the fall guy which is of course financial terrorists.

 being fuelled by cross-border financing and non-banks, and that it would be important to investigate whether new macro-prudential instruments should be introduced for non-banks, especially in relation to their commercial real estate exposures.

We can’t have banks losing profitable business can we? Speaking of macro-prudential so the 2015 measures did not work then which is not a surprise here but perhaps a suggestion from the UK might help.

Under such a target the Bank of England should aim to keep nominal house price inflation at (say)
zero per cent for an initial period – perhaps five years – to reset expectations, ( IPPR)

So the organisation which has pumped them up has the job of controlling them? Whilst the central planners would love this sadly it would not work and I say that as someone who thinks we badly need lower house prices and switching back to Ireland because of this sort of thing. From the Irish Examiner.

The scramble to find a home in the crisis-hit rental sector has led to people queuing to view a €900-a-month one-bedroom apartment on Cork’s Tuckey Street……..

Piet said last week they were the first people in a 50-person queue on MacCurtain Street and were refused the apartment because they did not have a reference letter with them.

Piet said the rental sector is a lot more expensive than it was a few years ago.

The average rental property in Cork has soared to above €1,210 a month — up almost 10% on last year.

“We pushed the boat out to €900 a month just to get somewhere nice. That is the very end of our budget,” said Piet.

Or to put it another way with both house prices and rents soaring the rentiers are quids ( Euros) in.

 

 

 

 

What is driving bond yields these days?

Yesterday brought us an example of how the military dictum of the best place to hide something is to put it in full view has seeped into economics. Let me show you what I mean with this from @LiveSquawk.

HSBC Cuts German 10-Year Bond Yield Forecast To 0.40% By End-2018 From 0.75% Previously, Cites Growth Worries, German Political Tensions Among Reasons – RTRS

Apart from the obvious humour element as these forecasts come and go like tumbleweed on a windy day there is the issue of how low this is. Actually if we move from fantasy forecasts to reality we find an even lower number as the ten-year yield is in fact 0.34% as I type this. This poses an issue to me on a basic level as we have gone through a period of extreme instability and yet this yield implies exactly the reverse.

Another way of looking at this is to apply the metrics that in my past have been used to measure such matters. For example you could look at economic growth.

Economic Growth

The German economy continued to grow also at the beginning of the year, though at a slower pace……. the gross domestic product (GDP) increased 0.3% – upon price, seasonal and calendar adjustment – in the first quarter of 2018 compared with the fourth quarter of 2017. This is the 15th quarter-on-quarter growth in a row, contributing to the longest upswing phase since 1991. Last year, GDP growth rates were higher (+0.7% in the third quarter and +0.6% in the fourth quarter of 2017). ( Destatis)

If we look at the situation we see that the economy is growing so that is not the issue and furthermore it has been growing for a sustained period so that drops out as a cause too. Yes economic growth has slowed but even if you assume that for the year you get ~1.2% and it has been 2.3% over the past year. Thus if you could you would invest any funds you had in an economic growth feature which no doubt the Ivory Towers are packed with! Of course it is not so easy in the real world.

So we move on with an uncomfortable feeling and not just be cause we are abandoning and old metric. There is the issue that we may be missing something. Was the credit crunch such a shock that we have yet to recover? Putting it another way if Forbin’s Rule is right and 2% recorded growth is in fact 0% for the ordinary person things fall back towards being in line.

Inflation

Another route is to use inflation to give us a real yield. This is much more difficult in practice than theory but let us set off.

 The inflation rate in Germany as measured by the consumer price index is expected to be 2.1% in June 2018. ( Destatis)

So on a basic look we have a negative real yield of the order of -1.7% which again implies an expectation of bad news and frankly more than just a recession. Much more awkward is trying to figure out what inflation will be for the next ten years.

This assessment is also broadly reflected in the June 2018 Eurosystem staff macroeconomic projections for the euro area, which foresee annual HICP inflation at 1.7% in 2018, 2019 and 2020.  ( ECB President Draghi)

That still leaves us quite a few years short and after its poor track record who has any faith that the ECB forecast above will be correct? The credit crunch era has been unpredictable in this area too with the exception of asset prices. But barring an oil price shock or the like real yields look set to be heavily negative for some time to come. This was sort of confirmed by Peter Praet of the ECB on Tuesday although central bankers always tell us this right up to and sometimes including the point at which it is obviously ridiculous.

well-anchored, longer-term inflation expectations,

 

The sum of short-term interest-rates

In many ways this seems too good to be true as an explanation as what will short-term interest-rates be in 2024 for example? But actually maybe it is the best answer of all. If like me you believe that President Draghi has no intention at all of raising interest-rates on his watch then we are looking at a -0.4% deposit rate until the autumn of 2019 as a minimum. Here we get a drag on bond yields for the forseeable future and what if there was a recession and another cut?

QE

This has been a large player and with all the recent rumours or as they are called now “sauces” about a European Operation Twist it will continue. For newer readers this involves the ECB slowing and then stopping new purchases but maintaining the existing stock of bonds. As the stock of German Bunds is just under 492 billion Euros that is a tidy sum especially if we note that Germany has been running a fiscal surplus reducing the potential supply. But as Bunds mature the ECB will be along to roll its share of the maturity into new bonds. Whilst it is far from the only  player I do wonder if markets are happy to let it pay an inflated price for its purchases.

Exchange Rate

This is a factor that usually applies to foreign investors. They mostly buy foreign bonds because they think the exchange rate will rise and in the past the wheels were oiled by the yield from the bond. Of course the latter is a moot point in the German bond market as for quite a few years out you pay rather than receive and even ten-years out you get very little.

Another category is where investors pile into perceived safe havens and like London property the German bond market has been one of this. If you are running from a perceived calamity then security really matters and in this instance getting a piece of paper from the German Treasury can be seen as supplying that need. In an irony considering the security aspect this is rather unstable to say the least but in practice it has worked at least so far.

Comment

We find that expectations of short-term interest-rates seem to be the main and at times the only player in town. An example of this has been provided in my country the UK only 30 minutes or so ago.

Britain’s economic strength shows a need for higher interest rates, Mark Carney says. ( Bloomberg)

Mark Carney prepares ground for August interest rate hike from Bank of England with ‘confident’ economic view ( The Independent).

The problem for the unreliable boyfriend who cried wolf is that he was at this game as recently as May and has been consistently doing so since June 2014. Thus we find that with the UK Gilt future unchanged on the day that such jawboning is treated with a yawn and the ten-year yield is 1.28%. If you look at the UK inflation trajectory and performance than remains solidly in negative territory. So the view here is that even if he does do something which would be quite a change after 4 years of hot air he would be as likely to reverse it as do any more.

The theory has some success in the US as well. We have seen rises in the official interest-rate and more seem to be on the way. The intriguing part of the response is that US yields seem to be giving us a cap of around 3% for all of this. Even the reality of the Trump tax cuts and fiscal expansionism does not seem to have changed this.

Is everything based on the short-term now?

As to why this all matters well they are what drive the cost of fixed-rate mortgages and longer term business lending as well as what is costs governments to borrow.

 

 

Were PPI payments more of an impact on the UK economy than QE?

Yesterday brought news on a subject that has turned out to be rather like a vampire you cannot kill. This is the issue of compensation for miss selling of payment protection insurance or PPI. Yesterday it bounced back as this from the BBC explains.

People who were not mis-sold PPI policies may be able to claim billions of pounds more in compensation, following a court ruling in Manchester.

Christopher and Joanne Doran were awarded all the sales commission they paid plus interest for a policy, a total of £17,345.

They are the first people to have all of their commission payments refunded for a legitimately sold policy.

This made me think as a bit more than a decade or so ago I worked for the small business division of Lloyds Bank and recall one of the small business managers telling me that the commission on protection insurance for small business lending was 52%. So according to the BBC it now qualifies.

Under the Financial Conduct Authority’s existing guidelines, consumers who were sold their policies legitimately may still be entitled to claim back commission which is deemed excessive.

This means that policy-holders can reclaim any amount of commission that was in excess of 50% of the premium.

I am also reminded that loans could be cheaper with such insurance or to put it more realistically if you did not take it then your interest-rate was higher. As you can see the poor small business borrower was in quicksand pretty much anyway he or she moved.

As to the new development here is an estimate of the possible impact.

But the judge in Manchester ruled that the Dorans were entitled to receive the whole of the commission – in their case 76% of the premium – plus interest.

Paragon Personal Finance, which lost the case, is deciding whether to appeal against the ruling.

Lawyers have claimed the ruling is a new precedent that could mean that banks are liable for another £18bn in pay-outs.

That may or may not be true but does gain some extra credibility from this.

However, sources in the City were sceptical about that figure.

How much so far?

If we move to the total so far from PPI payments then the Financial Conduct Authority or FCA  tells us this.

A total of £389.6m was paid in March 2018 to customers who complained about the way they were sold payment protection insurance (PPI). This takes the amount paid since January 2011 to £30.7 bn.

Actually it is likely to be a little more than that as the FCA believes it only covers 95% of payments. If so the total is more like £32 billion which even in these inflated times is a tidy sum. We also learn something from the back data as whilst payments began in 2011 they really kicked into gear in 2012 and peaked at £735 million in May of that year. That sort of timing coincides very nearly with when the UK economy picked up as back then you may recall the fears of what was called a “triple-dip”.Moving forwards the boost from this source reduced but intriguingly so far in 2018 it has picked up again to just shy of £400 million a month on average.

Economic impact

This is in many respects straight forwards. As the money is the modern version of cold hard dirty cash as it pings into the recipients accounts. A bit perhaps like last night when I heard several RAF Chinooks over Battersea no doubt instructed by Bank of England Governor Carney to be ready to do a Helicopter Money drop should England lose to Colombia. Fortunately his crystal ball was as accurate as ever.The principle being that you get such money and immediately spend it and in the UK that does coincide with our enthusiasm for what might be called a spot of retail therapy.

Another route may well have been the way that car sales responded. Of course there is a mis-match these days between getting a lump sum and paying a monthly lease as so many now do but that does not seem a big deal. Actually measuring this is not far off impossible though. Back in January 2014 Robert Peston who was at the BBC back then had a go.

Over 18 months or so, banks have paid out around £12bn to those mis-sold the credit insurance, out of a total that they currently expect to pay of £16bn.

It represents an economic boost equivalent to circa 1% of GDP – which is big. It is a bigger direct fiscal stimulus than anything either government has attempted since the crisis of 2008, involving more money for example than the temporary VAT cut of 2009.

Perhaps he had been reading some of my output as he also pointed out this.

 the UK’s car market last year returned to the kind of buoyant conditions not seen since before the 2007-8 crash.

There was a rise in motor sales of almost 11% to 2.26 million vehicles, according to the Society of Motor Manufacturers and Traders.

Another potential impact could have been on the housing market as whilst in London the effect may be limited because of the level of house prices elsewhere a PPI payment may well be a solid help in deposit terms.

The reverse ferret here is something perhaps unique in the credit crunch era in that it hurts the banks or more specifically the shareholders. I do sometimes wonder if bank boards are not bothered because lets face it lower share prices may be good for their share options assuming they eventually rise. Also of course they have been on a drip feed of liquidity assistance from the Funding for Lending Scheme and then the Term Funding Scheme.

QE Impact

This is much more intangible. In theory there is a boost from asset reallocation and higher asset prices but that is somewhat intangible and is very different from the “money printing” theory of people getting cash and then spending it. That and the associated impact on inflation has mostly been redacted from the Bank of England website. There was a Working Paper in October 2016 which apart from demonstrating that the authors made a good career choice in not trading financial markets gave us these thoughts.

Bank of England estimates suggest that the initial £200bn of QE may have pushed up on the level of
GDP by a peak of 1½-2% and on inflation by ¾-1½% (Joyce, Tong and Woods (2011)).

And also this.

For example, consistent with Weale and Wieladek (2016), evidence in the US (Figure B1.7 in Appendix B) suggests that a 10% of GDP central bank balance sheet expansion has a peak impact on output of around 6% after three years and a peak impact on CPI of around 6% after around seven quarters.

Perhaps they shift to the US because if you look at Appendix B you see that the UK impact is about a third of that and the Euro area impact even less.

Comment

There is a clear moral hazard with the majority of estimates of the economic impact of QE in that they are done by the central banks responsible for it. For example the research above is from the Bank of England and it quotes a paper from Martin Weale who is in effect presented as judge and jury on policies he voted for. So we are much thinner on evidence for its impact than you might think. You may also not be surprised to read that Martin Weale has been an opponent of my campaign to get asset prices represented in the inflation measures.

On the other side the impact of PPI is much more easy to see. The catch here is that of course we have seen a lot of things happen at the same time and it is clearly impossible to be exactly certain about which bit was at play at any one time. We are often more irrational than we like to think so who really knows why person A goes and buys X on day Y? But I think we can be clear that PPI compensation played a solid role in the UK economy recovering and seems set to continue to do so.

Good news for UK GDP and maybe even productivity trends

Rather aptly on GDP ( Gross Domestic Product ) day the UK received some good economic news as from a land down under the clock ticked past midnight.

Prime Minister Malcolm Turnbull will on Friday confirm that — as reported last week by Fairfax Media — Britain’s BAE Systems has won a hard-fought contest to help Australia with the $35 billion program to build nine new frigates to be named the Hunter class. ( Sydney Morning Herald)

According to Save the Royal Navy around a third of the contract is up for grabs with the rest being in Australia mostly Adelaide.

BAES will now have to conduct an extensive round of negotiations with many potential suppliers in Australia and globally. The exact break down of benefits to UK manufacturers is obviously not yet available but the Rolls Royce prime movers and the David Brown gearboxes will be UK-made. Overall economies of scale across the supply chain will help reduce both construction and through-life costs for both nations.

The success puts the UK and BAES in good position to compete for an even larger order from Canada and there are some suggestions that if we win we should call it the Commonwealth class. Still let us not get too carried away but it has been decades since we had success in terms of naval exports on this scale.

Still whilst we are looking at good news for GDP let us take in this morning’s data as well.

UK gross domestic product (GDP) in volume terms was estimated to have increased by 0.2% between Quarter 4 (Oct to Dec) 2017 and Quarter 1 (Jan to Mar) 2018; the 0.1 percentage points upward revision since the second estimate reflects improvements to the measurement of construction output.

So a case of entente cordiale as we move to the same rate of growth as France albeit by a different route as we have revised up they have revised down. Also this brings into play three themes of which as we note the first quarter of 2017 was revised up as well the issue of (under) measuring the first quarter remains. That is something we share with the US. Next comes my theme that the UK GDP growth trajectory is of the order of 0.3% per quarter. Finally the one sad aspect here is yet more trouble with the construction series which is what “improvement” is defined as in my financial lexicon for these times.

Construction output was estimated to have decreased by 0.8% in Quarter 1 2018, revised upwards from negative 2.7% in the second estimate of GDP.

Seeing as the construction numbers were originally estimated at -3.3% there is quite a problem here. I have discussed this many times as we have seen a large company transferred in from services as a “quick fix” and meddling with the deflator too but we remain in a type of groundhog day. Now as we cannot produce reliable quarterly estimates what could go wrong with switching to a monthly series for GDP as we are about to do?

Productivity

Regular readers will be aware that I think that a fair bit of the UK’s so-called productivity crisis is down to miss measurement. This is to some extent confirmed by a speech by the Bank of England’s Chief Economist Andy Haldane yesterday. After stumbling in the dark he has realised this.

The first and most important point to make is that the UK does not lack for innovative, high-productivity companies…..Their productivity is world-leading,
their technology world-beating, their managers and workers world-renowned. They are inspirational.

However in the UK they are forming their own type of island.

Fact three is that the productivity gap between the top- and bottom-performing companies is materially larger
in the UK than in France, Germany or the US. In the services sector, the gap between the top- and
bottom-performing 10% of companies is 80% larger in the UK than in our international competitors .
This productivity gap has also widened by far more since the crisis – around 2-3 times more – in
the UK than elsewhere.

Looked at in this way we are doing well.

There are more UK companies in the upper tail than in
Germany, with its much-vaunted industrial reputation, and France. The top 10% of UK companies have
levels of productivity at least 100% above the median.

Returning to my view I think that the concept of productivity only applies to certain sector of the economy as how do you measure it in say a haircut? Sometimes when service is involved faster is not necessarily better it is worse.

Along the way we discover why Andy Haldane has changed his economic views.

The short answer appears to be because the UK is, on many dimensions, a global innovation hub……..The UK is the largest magnet for tech talent in Europe.

This is really rather awkward for the man who brought us “Sledgehammer QE” and wanted a 0.1% Bank Rate. Of that more later as with his usual forecasting skill Andy chose yesterday to emphasis the success of England on the football field.

And then, of course, there is the World Cup. Without wishing to tempt fate, England’s recent sporting
success on the football field (and cricket pitch) has probably added to that feel-good factor among
England-supporting consumers.

Once I read this I should have immediately bet on England losing to Belgium! Anyway returning to this theme Andy was keen to do some ( let’s face it badly needed) cheerleading for himself and by default his ongoing campaign to be the next Governor of the Bank of England,

The MPC has also undertaken asset purchases amounting to almost £½ trillion since 2009. This has
provided additional monetary stimulus to the UK economy, at its peak equivalent to a further reduction in
interest rates of up to around 2.5 percentage points.

I do not know if he stopped for an expected round of applause at this point or after this attempt to present himself and his colleagues as a set of economic super heroes.

Without these measures, we estimate the economy would have been around 8% smaller and unemployment 4 percentage points higher.

A more accurate response would have been to laugh after all Andy would have thought it was with him as opposed to the reality of it being at him.

Comment

The last day or so has seen some better economic news for the UK and this continued in this morning’s money supply data.

The total amount of money held by UK households, businesses and non-intermediary other financial corporations (NIOFCs) (Broad money or M4ex) increased by £19.6 billion in May

This balanced out April’s dip.

 Smoothing through the recent volatility by taking a two-month average suggests money has increased broadly in line with its recent average.

The annual rate of growth of 4% means that should we achieve our inflation target of 2% then we can expect economic growth of 2% towards the end of this year and early next. The flaw in this is the oil price and of course the impact of the Unreliable Boyfriend on the UK Pound £.

The less satisfactory situation is something that Chief Economist Haldane is less keen to emphasis which is that if you apply a “Sledgehammer” to the monetary system then the UK’s history tells you to expect this.

Annual growth of consumer borrowing, excluding mortgages, slowed a little in May to 8.5%

Remember that is on top of double-digit annual growth rates.

Meanwhile those who have followed my critiques of imputed rent and its impact on the inflation numbers and GDP since 2012 or so may like to note this. From the economics editor of the Financial Times for whom it is apparently good enough for the former factors but not for measuring productivity.

Only if you include owner occupied imputed rents, which anyone sensible who does this sort of thing excludes.

Still if you apply that much more widely he and I agree for once.

UK house price growth continues to slow

Yesterday we looked at a house price bubble which is still being inflated whereas today we have a chance to look at one where much of the air has been taken out of the ball. Can a market return to some sort of stability or will it be a slower version of the rise and fall in one football match demonstrated by Maradona last night? Here is the view from the Nationwide Building Society.

Annual house price growth fell to its slowest pace for five
years in June. However, at 2% this was only modestly below the 2.4% recorded the previous month.

As you can see the air continues to seep out of the ball as we see another measure decline to around 2% reaching one of out thresholds on here. Or to put it another way finally house price growth is below wage growth. Of course that means that there is a long way to go to regain the lost ground but at least we are no longer losing it.

The Nationwide at first suggests it is expecting more of the same.

Indeed, annual house price growth has been confined to a
fairly narrow range of c2-3% over the past 12 months,
suggesting little change in the balance between demand and supply in the market over that period.
“There are few signs of an imminent change. Surveyors
continue to report subdued levels of new buyer enquiries,
while the supply of properties on the market remains more of a trickle than a torrent.

Although I note that later 1% is the new 2%

Overall, we continue to expect house prices to rise by
around 1% over the course of 2018.

Every measure of house prices has its strengths and weaknesses and the Nationwide one is limited to its customers and tends to have a bias towards the south but it is reasonably timely. Also there is always the issue of how you calculate an average price which varies considerably so really the best we can hope for is that the methodology is consistent. According to the Nationwide it was £215,444 in June.

The Land Registry is much more complete but is much further behind the times as what is put as April was probably from the turn of the year..

As of April 2018 the average house price in the UK is £226,906, and the index stands at 119.01. Property prices have risen by 1.2% compared to the previous month, and risen by 3.9% compared to the previous year.

As you can see the average price is rather different too.

Bank of England

It will be mulling this bit this morning.

Annual house price growth slows to a five-year low in June

This is because that covers the period in which its Funding for Lending Scheme ( replaced by the even more friendly Term Funding Scheme) was fully operative. When it started it reduced mortgage rates by around 1% and according to the Bank of England some mortgage rates fell by 2%. I think you can all figure out what impact that had on UK house prices!

Or to put it another way the house price falls of 2012 and early 2013 were quickly replaced by an annual rate of house price growth of 11.8% in June 2014 according to the Nationwide. So panic at the Bank of England changed to singing along with Jeff Lynne and ELO.

Sun is shinin’ in the sky
There ain’t a cloud in sight
It’s stopped rainin’ everybody’s in a play
And don’t you know
It’s a beautiful new day, hey hey

Some of them even stopped voting for more QE as it has mostly been forgotten that nearly a quorum wanted more of it as the economy was kicking through the gears.

Although some at the Bank of England will no doubt have their minds on other matters.

Simon Clarke MP said the figures had “disturbing echoes” of the MPs’ expenses scandal. “One of the most important aspects of the culture of any public institution is of course that it provides value for money to the taxpayer,” he added.

“In the last two-and-a-half years two members of the FPC, Mr Kohn and Mr Kashyap, have incurred £390,000 in travel expenses, which is simply a staggering sum.”  ( The Guardian).

Regular readers will recall I did question a similar situation regarding Kristin Forbes on the Monetary Policy Committee who commuted back and forth from the US. I do not know if she benefitted from the sort of largesse and excess demonstrated below though.

The pair are based in the US and Clarke said the £11,084.89 flight for Kashyap from Chicago to London would leave his constituents “gobsmacked”.

Kohn spent £8,000 on a flight from Washington to London and £469 on taxis as part of expenses for a single meeting.

As ever a sort of Sir Frank ( h/t Yes Prime Minister ) was brought forward to play a forward defensive stroke.

“Having seen these committees in action, and seen the contributions they’ve made, as high as their expenses have been, also staggering has been their contribution,”

I was hoping for some enlightenment as the their “staggering contribution” as I do not recall ever hearing of them. The man who thinks this also submitted this about his role as a bank CEO so I guess he might also believe in fairies and the earth being flat.

The key, I always found, was to begin the process by
considering life from the customer’s perspective and then to build products and services that responded to real needs – whilst taking utmost care to build the TCF principles into every operational step in the firm’s business model.

Oh and I have promoted Bradley Fried the chair of the Court to a knighthood although of course those of you reading this in a couple of years or so are likely to be observing his K.

Looking ahead

Yesterday’s mortgage data from UK Finance had a two-way swing. Let us start with the positive.

Estimated gross mortgage lending for the total market in May is £22.2bn, 8.8 per cent higher than a year earlier. The number of mortgage approvals by the main high street banks in May has also risen, increasing by 3 per cent compared to the same month a year earlier.

Except that the latter sentence was not so positive when broken down.

 As in April, increased approval numbers were driven by remortgaging, some 18 per cent more than a year earlier.  In contrast, approvals for house purchase were 3.8 per cent lower than the same period a year earlier.

In case you are wondering about who or what UK Finance represents it is the new name for the BBA. The title of British Bankers Association became so toxic that they decided to move on.

Comment

So the winds of change are blowing and not only at the O2 where the Scorpions played the weekend before last. The era of Bank of England policy moves to push asset price higher is over at least for now although of course the stock as opposed to the flow remains. If it stays like that we could see house prices for once grow at a similar rate to rents and wages but I doubt it because the Bank of England is a serial offender on this front.

And when the electricity
Starts to flow
The fuse that’s on my sanity
Got to blow
System addict
I never can get enough
System addict
Never can give it up ( Five Star and I mean the pop combo not Beppe Grillo)
In the shorter-term will Mark Carney fire things up again or spend his last year here thinking about his legacy and some Queen?
Because I’m easy come, easy go
A little high, little low
Anyway the wind blows, doesn’t really matter to me, to me