Thursday, 30 April 2009

US 1st Quarter GDP - an unprecedented post-war investment fall

Media headlines regarding the publication of the first quarter 2009 US GDP figures concentrated on the 6.1% annualised decline in GDP itself. This was worse than average predictions - which had been for a 4.7% annualised decline. But the most serious development was an unprecedented post-war decline in US investment.

This investment decline is not only dragging the US economy into deeper recession but will have a particular impact in that it precludes any rapid US output recovery.

Analysing first the comparison of the change in US GDP in this business cycle compared to others since World War II, Figure 1 compares the percentage decline in GDP since the peak of the present business cycle, in the second quarter of 2008, with the previous major US post-war economic downturns in 1973 and 1980.

Figure 1

09 04 30 US GDP in Business Cycles

As may be seen, the downturn in US GDP since the second quarter of 2008 is both more rapid and deeper than in any previous post-war business cycle – confirming the by now well established fact that this is the worst US economic downturn since World War II.

However, the downturn in GDP has so far only lasted for three quarters and the total decline to date, of 3.3% is serious but of the same essential qualitative magnitude as the most serious previous post-war economic cycles. It is not, so far, comparable to more serious economic crises – for comparison in 1929-30 US GNP fell by 9.4%.

The conclusion regarding the US GDP itself, therefore, would be that the downturn is very serious but not yet out of the range of previous post-war business cycles. How serious the decline in US GDP will be, therefore, depends on how long the downturn continues and whether US GDP continues to drop.

But the downturn in US investment is of an entirely different and more serious magnitude. Figure 2 shows the downturn in US fixed investment (gross domestic fixed capital formation) in the current business cycle compared to those commencing in 1973 and 1979. As the investment cycle does not always coincide exactly in time with the GDP cycle, in these figures the peak has been taken as the peak of cyclical fixed investment not the peak of GDP.

US investment already started turn down after the first quarter of 2006. As may be seen the present decline in US investment far exceeds those seen in previous post-war business cycles. Furthermore rate of decline of investment was accelerating in the first quarter of 2009.

Figure 2

US Components of GDP 1Q 2006 09 04 30

The total decline in US fixed investment since its peak in this cycle is 23.8%. The year on year decline to the first quarter of 2009 is 18.0%. For comparison it may be noted that the decline in US private fixed investment in 1929-30 was 23.4%. In short if the fall in US GDP in this business cycle does not approach that of 1929 the current decline in US investment is of a qualitatively greater magnitude than any seen in previous post-war business cycles and does approach 1929 levels of decline.

In order to illustrate these trends more clearly Figure 3 shows the changes in the domestic components of US GDP since the first quarter of 2006 - the extremely severe decline in US exports has been analysed elsewhere.

Figure 3

09 04 30 Components of US GDP

As may be seen while the dimensions of the decline in US GDP and private consumption in this business cycle is relatively moderate, while government consumption overall has not fallen at all, the decline of investment is of extremely severe dimensions.

The result, as may be seen in Figure 4, is not only that US investment has fallen rapidly but its percentage of even a shrinking US economy is declining. US investment has fallen outside its normal postwar range as a percentage of GDP - this US level already being very low in terms of international comparisons.

Comparison to annual figures shows that the proportion of US GDP allocated to fixed investment has now fallen to its lowest level since the immediate post-war reorganisation of the US economy in 1946.

Figure 4

09 04 30 US GDFCF

These figures have major implications. In the short term, the decline in investment is dragging the US deeper into recession. But in the medium and longer term such a low level of investment makes it hard to relaunch economic growth.

Furthermore such a level of investment is so low compared to US competitors - China and India both have rates of investment of well over 30% of GDP, that it will lead to further decline in the international competitivity of the US economy.

The implications which flow from the first quarter United States GDP figures are therefore that the US economic downturn is likely to be protracted – which has major implications not only for the United States but for the world economy, and the US economy will continue to fall behind the growth rate of both China and India.

* * *

This article originally appeared Key Trends in Globalisation.

Thursday, 23 April 2009

The political consequences of the UK budget

Naturally the increase in the top rate of income tax to 50p is to be welcomed. It is something the left have advocated for years. It should have been introduced a long time ago.

One of the most regressive features of the tax regime introduced by Thatcher was the shift of the burden of taxation from progressive graduated direct taxation tax to indirect taxes such as VAT. It was one of the failures of this government not to have reversed this. However, definitely better late than never. The changes in taxation on the higher paid ‘only’ bring in £2 billion a year but that is £2 billion that will not have to be paid by the worse off.

But unfortunately one swallow is very far from making a summer. The overall wrong character of the policies pursued since the bank bailouts of last autumn has now come home to roost in the gigantic government borrowing requirement. This year alone the shortfall of government revenue compared to expenditure is projected at £172 billion – around one eighth of GDP. Public sector borrowing is projected to run at over £100 billion a year for the next four years. Furthermore the projection of major economic recovery next year has no serious basis in fact so the actual result may well be worse.

Socialist Economic Bulletin repeatedly warned that huge quantities of taxpayers’ money would be wasted in propping up private bank shareholders when their institutions were clearly bankrupt. Furthermore this huge losses in wasted money has not even halted the decline in bank lending and tightened credit conditions have helped strangle the productive economy .

The estimate of the International Monetary Fund that losses by international financial institutions will exceed $4.1 trillion is actually a statement that, taken as a whole, the private banking system of the world is now insolvent and sustained only by taxpayers.

This is why the likely cost to taxpayers of the UK bank bailout package is likely to be at least £60 billion. That loss will devastate public spending for very many years to come. In other words the social protection of ordinary people in Britain, who were not responsible for the financial crisis, has been sacrificed to the protection of bankers who created the mess in the first place. Such policies are bound to be deeply unpopular.

And that unpopularity will increase. As the Financial Times rightly put it: ‘all the chancellor has done is to pencil-in slower public spending growth without saying what services will be cut, which hospitals will not be built, what schools will be closed.’

Instead of these gigantic financial losses what should have occurred in Britain is that the failed banks should have been nationalised, as was done to Northern Rock, and the money that has been wasted on propping up bank shareholders should instead have been used to finance lending to consumers and consumers and public investment.

The political consequences of this mistake are clear. Years of battle lie ahead over public spending and taxation. Cameron is preparing to attempt to dig the Thatcherite bankers out of the hole they have dug by a massive assault on the poorest members of society – that is the real meaning of his call for huge public spending cuts. Meanwhile, unless there is a reversal of the policies that have been pursued since last autumn, which was to transfer funds from ordinary voters to the bankers who created the problem, Labour’s popularity will not recover sufficiently to win an election.

The left has now urgently to agree its policies to engage in the huge struggle over public spending that is to come. It is literally madness, as well as electoral suicide, that confronted with the biggest squeeze on public expenditure since the 1930s the country is wasting its money on multi-billion programmes such as Trident and attempting to sustain a level of military expenditure in GDP far higher than its competitors.

It is also clear that the projections for relatively rapid economic recovery next year, after the severe fall in output this year, are pie in the sky. There is motor force for spontaneous recovery exists – consumer expenditure will be depressed by unemployment, investment will decline against such an economic background, and a squeeze will take place on public expenditure. As with every other economic forecast made by the Treasury in the financial crisis its projections for next year will be too optimistic.

It is clear that in such a situation the public sector will be required to kick start the economy. The construction industry is in such a state of collapse that only a huge public house building programme together with nationalisation of major sections of the industry can revive it. This is in complete contradiction to the misguided attempt to cut back the role of the public sector that is explicitly projected by the Tories and is implicit in the budget.

Privatisation and deregulation was tried and its consequences are clear in the economic disaster which has unfolded in the last year. Strengthening the role of the state in the economy, not weakening it, is what is required to overcome the consequences of the debacle of Thatcherism.

The political consequences of the budget, and of the financial crisis, have only just begun to work themselves out.