Recession

While it might seem inopportune to discuss recession all free economies undergo cycles of performance. The reason is perfectly obvious with a little thought. When things are going well incomes rise, spending rises and investment to meet that spending rises and there is a positive feedback loop. On the other hand if incomes fall, spending falls and investment falls and a negative feedback loop is established. The cycle changes direction as spending peaks and the negative loop starts.

This simple argument takes no account of imports and exports. This trade balance is affected by the economic cycle such that a growing economy imports more and vice versa if falling. In practice the trade balance is very much affected by currency levels. A strong ( high) currency generally causes more imports and again vice versa for a weak currency which tends to reduce imports and increase exports.

Generally since WW11 the cycle has operated against a background of overall growth so that a recession is growth below trend and boom time is above trend growth.

Economists talk a lot about productivity, ie, the ability of the same level of effort to produce more. Productivity is usually positive and is commonly thought to be a function of investment such that higher investment improves productivity. A big problem is that productivity growth has fallen recently and nobody is sure why.

The tools to reduce cyclic behaviour are fairly well known since the work of Keynes in the 1930’s. Essentially the counter cyclical behaviour is to maintain spending in a slowing economy. Keynes famously remarked it was worth paying people to dig holes and pay others to fill them in. In fact a big stabilising factor is the welfare system. If workers become unemployed in a downturn then unemployment pay enables them to retain at least some spending. Welfare isn’t just good for a the individual but helps stabilise a cyclic economy.

A larger factor in post war economic management has been interest rates. Essentially lowering interest rates makes investment cheaper helping to maintain it above the level to which  it might otherwise fall.

And it is this latter control mechanism which is a problem at the present. The recession of 2008-9 was severe. Rather than growth rates falling they turned very negative. Central banks responded by reducing interest rates from ( in the UK ) 5% to 0.25%. In principle interest rates can’t become negative otherwise if it costs to have money on deposit then you simply have cash which retains its nominal value. If you have followed the news then you will know that this is grossly oversimplified and small negative interest rates have occurred. To return to the main issue since the 2008-9 recession interest rates have not returned to former levels. In the UK rates are still below 1% and similarly for most nations. This means that if a  recession occurs,  as it is bound to, then interest rates cannot be reduced much if at all.

To try and get around this central banks have resorted to quantitative easing. This is effectively a sort of confidence trick to put more spending into the economy. The central bank declares it has money and it buys corporate bonds with that money. The folk who sell the bonds to the bank then spend that money elsewhere. The con trick works because by convention decently run countries can always raise the money by borrowing or taxation. I say decently run countries where people expect the debt to be repaid. In some countries like Zimbabwe or Venezuela this won’t work because it becomes an obvious sham. Quantitative easing is controversial and it is disputed what real effect it has on the economy.

There are even more outlandish ideas which might be used. One arousing some interest among economists is for “helicopter money”. The idea is that everyone is given money in the expectation they will spend it and keep the economy moving. It’s called helicopter money after the economist who said it would be worthwhile just showering money down from a helicopter.

To conclude- a recession sooner or later is inevitable. The conventional tool of lowering interest rates is unavailable because they are already low. Some unconventional thinking will be necessary. Are politicians up to the task?.

Lawyers are people who can write a ten thousand word document and call it a brief.