Learning from the Credit Crunch in the UK

Following in from my response to Brown Tries to Sugar the Medicine on Iain Dale’s Diary on 11th December.

 

The PM evades understanding the issues, as he is to some extent responsible. However, that responsibility is shared by many, including myself, who cheered on the cuts in interest rates in 2000 and 2001 to avoid a recession.

The independance of the Bank of England was irrelevent to the issue. The vast majority believed that after the dot.com bubble burst and then after 9/11 it was necessary to reduce interest rates significantly to avoid a recession. This worked, but only at the expense of creating a credit bubble, shown in this country both by the housing market boom, and being able to borrow on credit cards at 0% interest. In the US housing market, there was a similar event, with fixed rate mortgages being granted at very low interest rates.

To blame the financial intermediaries so

The only one of the commentators who comes close (in my view) to getting things right is “not an economist”

The PM not only followed public opinion as Chancellor, but also the most respected minds in the business, lead by Alan Greenspan at the Fed.

To blame the is financial intermediaries is nonsense. The structure in which they operated by created by the Central Banks, the oversupply of the cheap money is due to the Central Banks. They followed a consensus view, climbing a roller-coaster theat  was never going to slide.

 

THE LESSON TO BE LEARNT.

 

  Central banks must be dogmatically conservative and deaf to public opinion.

 

In so far as we know how the economy operates, it is always going to be tainted by the need to please public opinion and their elected representatives. Further, a can-do approach is more popular than one that says we are not sure, or maybe it could cause trouble. But collectively, we did not see this one coming. Therefore, we need to learn some humilty. A rule will not do, as they can be circumvented. Instead need to learn the conservatism of the former Bundesbank.

 

 

THE GORDON BROWN EFFECT

 

The impact of the Brown high-spend era was to run a budget defecit when the government should have been running surpluses. Whilst talking about prudence, Gordon Brown assumed that we had done away with recessions for ever. The most important change that he instigated was changing the rule

 

FROM :-

  “Balance the budget over the business cycle”

 

TO :-

  “A deficit only for investment”

 

The “GORDON BROWN EFFECT” in public finance, is the changing of the rules to suit the moment, whilst maintaining the perception of continuity.

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