So Has Plan A Been Ditched?

The credit rating agencies are likely to fall for it – Fitch has warned that the UK may lose its triple A rating in the next two years – but does Goerge Osborne’s Budget make much sense, if he’s wedded, as he says he is, to his Plan A of stiff public spending cuts?

There are some substantial giveaways in the Budget – the top rate of tax cut from 50 percent to 45 percent, an increase in the personal tax allowance, and the raising of the income ceiling  on child benefit, etc. And, of course, there’s the cut in corporation tax.

The Chancellor says this is a Budget on the side of aspiration and enterprise. Certainly, to attract foreign business to the UK, and to encourage domestic firms to remain located in the country, the corporation tax reduction is a good idea. The cut in the top rate of tax is likely also to encourage the super-wealthy to remain.

But how is this to be paid for? The Chancellor talked vaguely about clawing back another 10 billion pounds in welfare benefit cuts annually but absolutely no details were provided.

One slice the of the population that doesn’t come out of this well is the elderly. The phasing out of the age related allowance for pensioners is going to hit them. I can’t quite see the sense of this.

The UK is facing already a pension time-bomb, as other developed countries are too. UK pensioners and those close to pension age have been hard hit by low interest and annuity rates since the financial crash and now they will lose out on the phasing out of the age related allowance. In short, the government is aggravating the problem that will come with the greying of the country.

So, is this Plan A-? I am not sure the Chancellor has done enough to encourage growth and enterprise with this Budget – a growth that can bring in more tax revenues to cover the giveaways. And neither am I sure this Budget will be as tax neutral over five years as the Chancellor claims it will.

Beware the Buyer

Private equity group Carlyle is pressing ahead with plans for a stock market float next month but analysts are divided over whether investors should approach with caution or confidence.

One of the world’s largest buyout firms, Carlyle has been working hard to convince Wall Street analysts that investors shouldn’t be wary of a firm that has been traditionally highly secretive even by the standards of the industry.

Suspicion of private equity firms has never been higher. Mitt Romney, former head of Bain Capital, a Boston-based private equity firm, has had a torrid time on the presidential election trail defending himself from ‘vulture capitalism’ charges by rivals for the Republican nomination.

Analysts point to what happened in the wake of Blackstone’s IPO, the first by a private equity firm, as a cautionary tale for anyone thinking of buying Carlyle shares.

Blackstone’s share price fell below its initial $31 within a week, never rebounded and is hovering around $14 a share. The offering though made a lot of money for Blackstone founders – in the case of Stephen Schwarzman, $684million in cash.

Read my full report on the Carlyle IPO in the Daily Mail.

 

One Job Vacancy for Every Four Unemployed Workers

The Republicans have turned their sights (again) on unemployment benefits, wanting now to cut up to 40 weeks from the existing available federal unemployment benefits, despite the fact that there are roughly four unemployed people currently for every job vacancy.

In an excellent post on the NYT’s Economix blog, Simon Johnson writes why this would be poor economics. “If you strip even this money from people who remain out of work through no fault of their own, you will push more individuals and families onto the streets and into shelters. The cost of providing those fallback services is very high — and much higher than providing unemployment benefits.”

He has interesting and disturbing numbers on the long-term unemployed. “Typically in the United States, most people are unemployed for relatively short periods of time, with a lot of movement in and out of unemployment. The fraction of long-term unemployed as a percentage of all unemployed is usually 10 to 15 percent. In the early 1980s, it briefly reached almost 25 percent. Again, however, our experience since 2008 has been strikingly different — the share of long-term unemployed in total unemployed is close to 45 percent. And it appears to be staying at or near that level for the foreseeable future.”

 

 

 

 

 

 

 

Whistling in the Dark

Bloomberg has a headline this morning that about says it all when it comes to the Eurozone’s political leadership – “Euro Leaders Aim to Buy Time to Save Currency.” More time?

For the past 18 months there has been dithering and inconclusive summits and failure at every turn to get out ahead of the crisis. Solutions promised and offered have failed to convince the markets and investors that a bottom has been put in to save the currency from collapse and the Eurozone from fracture.

With a new year we are where we were before: no viable political solution.

According to Bloomberg, European leaders are “seeking to buy time for the Spanish and Italian governments to wrest control over their debt.” But that isn’t something that is going to happen overnight or even in a few weeks or months. And getting control of their debt is linked to how the markets feel about the Eurozone generally and the level of confidence investors have in it and not just in Italy and Spain.

Neither country has a solvency crisis – or rather they didn’t. Their initial challenge was over liquidity – and that has been allowed to turn into pending insolvency.

In her end-of-the-year comments, German Chancellor Angela Merkel said her government will do “everything” to bring the euro out of the slump. The only way that can happen is if the Germans agree financial transfers to their poorer neighbors. That has to be done quickly now and speed means Berlin accepting Euro-wide debt consolidation and the issuing of Eurobonds backed by all.

The details of closer financial integration with stricter rules on individual government’s public expenditure can come later.

In the next three months some 157 billion euros ($203 billion) in debt will mature in the 17-member Euro area. And something solid needs to emerge from the scheduled Jan. 9 meeting between Merkel and French President Nicolas Sarkozy or those three months could be even more torrid that what we witnessed last year.

Shape Up

World Bank’s Robert Zoellick talks on a theme dear to this blogger’s heart – namely, that the political leaders on both sides of the Atlantic just are not performing and collectively are one of the main causes for the loss of confidence and market turmoil and economic malaise.

“What’s happened in the past couple of weeks is there is a convergence of some events in Europe and the United States that has led many market participants to lose confidence in economic leadership of some of the key countries,” he said.

So let’s see what happens at the summit between French president Nicolas Sarkozy and German chancellor Angela Merkel and whether they are able to lead and forge a way out of the Eurozone crisis. There is only one realistic alternative now: closer fiscal integration and a serious Eurobond system to bail out the weaker members. If that doesn’t happen, then the markets are going to starting testing with the targets again being Italy and Spain.

 

We Are Trapped

Charles Krauthammer offers some hard cautions to the “conservative counter-revolutionaries” determined to continue “their containment of the Obama experiment.” While applauding their efforts to contain Obama, saluting them as “remarkable”, and sympathizing with their goal to rollback government, he argues that it “is simply not achievable until conservatives receive a mandate to govern from the White House.”

“Under our constitutional system, you cannot govern from one house alone. Today’s resurgent conservatism, with its fidelity to constitutionalism, should be particularly attuned to this constraint, imposed as it is by a system of deliberately separated — and mutually limiting — powers.”

Back off, then, is his counsel. And take this to electorate in November 2012.

Sound advice. But Krauthammer like too many American conservatives likes to place this battle as the latest in the long-running struggle between “social-democratic versus limited-government” visions. And that is their mistake and also the drawback to left Democrats who fall into the same line of thinking.

Despite what ideologues on either side of this increasingly stark and distorting confrontation like to make out, it is possible to blend both visions. It is what most American voters would like to see. It comes through loud and clear in opinion polls the past few years. When majorities say that they think government is too big on the one hand but don’t want to see massive entitlement reform on the other, they are trying to communicate their belief in a “third way” to a deaf political class locked in ideological prisons and tribal caucuses.

That is why the pendulum swings back and forth between the parties in elections with such regularity. It is the electorate’s way – or at least independents and non-tribal Republicans and Democrats – of showing dissatisfaction with either competing vision. And they don’t believe they are being contradictory by wanting a blend of social democracy and limited government.

And there is nothing wrong with the blend – either in practical terms or intellectual ones. For most classical liberals – as distinct from liberals – it makes perfect sense. Read John Stuart Mill, for example, or even Adam Smith, who despite being hijacked by libertarians, saw a large role for government. Those conservatives who like to cite FA Hayek should remember, if they ever knew in the first place, that he accepted that there are legitimate grounds for government to supply health care without people having to shriek “Marxism.”

And in practical terms combining social democratic and limited government visions has not proven impossible for, say, the likes of Margaret Thatcher, another classical liberal.

But you won’t hear from the left of the Democratic Party or the right of the GOP anything like this. Mention social democracy and the Glenn Becks and Rush Limbaughs of this world morph it all into “socialism.” Mutter the words “limited government” and MoveOn.org and Rachel Maddow react with equal intellectual-distorting horror.

In practical terms, too, both militant sides are blind to their lack of consistency with their visions.

On the right, we have all of this talk about “limited government” and how we can’t afford things but conservatives continue with massive corporate welfare. Cut Social Security and Medicare – those programs Americans have contributed to and are relying on – we can’t afford those, but let’s not cut tax loopholes for the rich or stem the flow of taxpayers’ money to successful agri-business or other corporations. The GOP likes to see itself as the friend of small business but has turned its back on serious health care reform. Health-care costs cripple small business.

On the left, we have lip service paid to enterprise, small business and the American entrepreneur. But little restraint when it comes to over-regulation. And where is the recognition that corporate tax does need to come down for America to be globally competitive?

We are trapped.

 

Dollar or Pound?

A relative wrote me to ask whether she should change pounds for dollars on the grounds that the dollar has weakened during the debt ceiling showdown and would likely increase in value once a compromise had been struck in Washington DC. This is what I replied:

“I am glad you are so confident that a last-minute deal will avert a technical default. I think a lot could go wrong before then. And if a deal is struck, it will be the two-part Reid-Boehner compromise that in effect will kick the can down the road and will merely delay the reckoning. In other words, this failure of mature government is to be repeated in a few months time.

On the macro-level, I agree with Mohamed el-Erian (PIMCO’s CEO) that long-term damage has already been caused to the U.S. and that international investor confidence has been shaken by what has been taking place in the past few weeks. It is quite likely that the rating agencies will downgrade the U.S., even if the Reid-Boehner compromise is agreed. That will knock the value of the dollar.

Despite the awfully slow economic growth in the UK the last quarter, I still believe that the Coalition is basically on the right track – UK debt reduction is essential and more necessary than debt reduction in the U.S.. For example, the U.S. deficit could disappear with an increase in government revenue, i.e. tax increases. That is off-the-table, alas, at present because of the economic illiterates in the GOP House caucus, who believe incorrectly that any tax increase will restrain economic growth.

In other words, I think the pound is a better bet than the dollar in the medium term. Could you make a small profit by buying dollars now and maybe in a few days time, if a deal is struck, see a dollar value rise and be able to exchange back to pounds beneficially? Maybe you could, but it is a risk and I am not sure that you should be risking your capital.”

And what happens if a deal is not done, even the Reid-Boehner plan? I know there is a temptation to risk but I myself would avoid it.”

 

Obama Can Buck The Trend

Journalists can be as slavish to precedent as judges. Most media round-ups of the U.S. presidential election stakes begin or devote much space to the fact that unemployment is running high and that no incumbent since FDR has secured re-election with it higher than 7.2 percent.

Binyamin Applebaum provides the perfect example of conventional wisdom with his piece for the New York Times on June 1, in which he asserts: “Seventeen months before the next election, it is increasingly clear that President Obama must defy that trend to keep his job.”

Precedents are there to be broken, though, and elections are littered with examples of campaigns that have bucked trends. Obviously, persistently high unemployment is something that’s likely to hurt Obama – I’m sure he’d prefer it below the magic 7.2 percent number – but it may well be that it isn’t the defining factor this time.

With incumbency and no primary challenger, Obama is already enjoying a couple of distinct advantages.

And he has another major advantage going into the election season that will, I suspect, assist him to buck the trend – namely, the weakness of the opposition. The GOP’s current candidates are about as inspiring as Bob Dole was in 1996, an election that saw Bill Clinton coast to victory on much lower approval ratings than Obama now enjoys.

Clearly, Obama is vulnerable because of the agonizingly sluggish recovery and high unemployment. Twice as many Americans think the country is on the wrong track as the right one and anger is high in key battleground states such as Michigan, Ohio and Florida. Obama will focus no doubt on continuing to try to persuade voters that without the stimulus and the takeover of GM and Chrysler, the economy and unemployment rate would be much worse.

I happen to think he’s right but that, though, is a tough sell and comes down to defending a record rather than pitching forward and presenting new ideas. President Herbert Walker Bush was caught in that trap when he sought reelection in 1992 – in fact the economy was pulling out of recession then but people were not feeling the benefits of recovery and he got blamed for the economic pain.

Obama has another major weakness: he has failed to present a credible plan to cope with the budget deficit, currently running at almost 10 percent of GDP. His suggestion is that higher taxes on the wealthy will sort that out. It won’t.

But where is the Republican that can take Obama’s weaknesses and turn them into GOP strengths? Do they have credible plans for reducing the budget deficit while at the same time coaxing quicker growth and providing the circumstances for more Americans to get jobs?

The governors in the race – Jon Huntsman, Tim Pawlenty and Mitt Romney – have to be considered the serious candidates. (Sarah Palin, if she runs, and Michele Bachmann are the circus acts.)  But all they do is trot out the line that pleases the Tea Party consisting of slashing public spending and cutting taxes.

Pawlenty has gone off into never-never land in terms of the scale of public spending and tax cuts he wants to see – his plan has prompted groans of disbelief from the Economist magazine, hardly a publication that is in favor of Big Government or high taxes. Aside from ideologues, few respected economists see much to recommend in the bleak solutions being thrown up by the GOP candidates.

They sound like Bush the Younger when it comes to the magic of tax cuts. He claimed that “tax relief will create new jobs. Tax relief will generate new wealth. And tax relief will open new opportunities.” And how did job growth fare? Well, between pre-recessionary 2001 and 2007 America enjoyed the slowest job growth since World War II. Very impressive. And now we have the Republican candidates coming out with the same old, same old unsophisticated supply-side solutions.

Of course, taxes can be too high and in certain economic circumstances and at some points in business cycles tax cuts can be essential. The IMF is recommending them for the UK currently – and that on top of the spending reductions being planned by the coalition government in London. But for America now tax cuts would be unhelpful for economic or job growth.

Bruce Bartlett, a senior policy analyst in the Reagan White House; and deputy assistant secretary for economic policy at the Treasury Department during the George H.W. Bush administration, has been trying to explain to his erstwhile colleagues on the right about why that is the case. His latest column in The Fiscal Times scorns Republicans for tending to talk as if there is only one factor that affects growth – namely, tax rates.

As Bartlett points out corporate investment is key when it comes to economic growth. It is worth quoting him in full:  “There’s no evidence that the 2003 tax cut did anything to stimulate corporate investment. Indeed, according to the Federal Reserve, nonfinancial corporations have increased their holdings of liquid assets to $1.8 trillion from $1.2 trillion since 2003. Thus it’s implausible that a further reduction in the corporate rate, as Pawlenty and other Republicans favor, would do much to raise investment.

“The bottom line is that neither taxes nor spending by themselves are the most important government contribution to the investment climate; it’s the budget deficit. Consequently, a reduction in tax revenue which raises the deficit is unlikely to stimulate domestic investment because more money will have to be borrowed from abroad. Conversely, a tax increase dedicated to deficit reduction could well be stimulative, as was the case with the 1982 and 1993 tax increases. Contrary to Republican dogma, rapid growth followed on both occasions.”

Ordinary voters may not think in such terms. Polls suggest that the budget deficit scares the blazes out of them — as it should. But are they going to be convinced that drastically cutting public spending pell-mell is the answer or that making America’s wealthiest people even wealthier is the way forward?

One thing, I suspect, Republicans still don’t get is that they scare the majority of voters far more with their talk of radically changing Medicare, Medicaid and Social Security. And their lack of a plan to overcome the clear and present danger of structural unemployment save a shrug of the shoulders and claiming tax cuts will solve everything by magically promoting economic growth just isn’t going to cut it on the stump either.

An approach that talks about public investment in infrastructure, science, technology and education, structural reforms to boost jobs and growth, the importance of savings, cutting public spending over time and not so rapidly that it will derail recovery, retraining, government in partnership with the private sector is much more likely to resonate with voters.

As the Economist has pointed out recently, the Republican “failure on the deficit” is serious. “The deficit is simply too large to close through spending cuts alone. The overall tax take – at its lowest, as a share of GDP, in decades – must eventually rise.”

Realism is something that Americans are likely to appreciate this time round more than ever. They understand that a crossroads has been reached. So far there isn’t a candidate on the GOP side who is offering honesty to counter Obama’s half-honesty.