Recovery or not, “funny money” is bad policy

In late 2009, the UK crawled out of recession – defined as at least two successive quarters in which the economy is contracting. Last October, though, we fell back into recession again. Official GDP numbers confirm that, since then, the British economy kept shrinking at least until June this year. So this country has endured not only the first “double-dip” recession since the 1970s, but also the longest on record.

An issue of very considerable economic and political significance is whether or not the UK has continued to contract between July and September, or whether the recession is now over. The answer is obviously hugely important in terms of the fate of thousands of British companies and millions of British livelihoods. What’s also at stake, though, is the economic policy-making trajectory of the UK and, by extension, much of the Western world.

A double-dip recession, with the second leg lasting a year or more, may be too much for the increasingly fragile Coalition to withstand. If the recession has indeed continued into the third quarter, then the Chancellor will come under enormous pressure to alter course. The Government’s commitment to “austerity” could falter, a development that would significantly undermine the resolve of governments elsewhere to borrow and spend less.

No wonder Downing Street is spreading the word, sotto voce, that “recovery is coming” – an outcome that would transform the political landscape in the Tories’ favour. But is this upcoming recovery real? Or will the preliminary third quarter GDP numbers, when they’re published by the Office of National Statistics on Oct 25, once again disappoint?

The latest unofficial commercial survey data, released last week, suggest that our July-September performance remained extremely downbeat. The All-Sector PMI index, a weighted average of separate surveys completed by business leaders in the manufacturing, construction and service sectors, fell from 52.2 in August to 51.1 in September, with any score above 50 indicating growth.

The average All-Sector PMI measure during the third quarter as a whole was 51.1 which, we are told, indicates that GDP expanded by 0.1-0.2pc during the third quarter. While this would still be a very weak outcome, it would at least allow George Osborne to proclaim that “Britain is now out of recession”.

The UK Services PMI fell to 52.2 in September, down from 53.7 the month before. The Manufacturing PMI dropped to 48.4, having been at 49.6 in August. The Construction Index improved slightly, from 49.0 to 49.5, while still signalling a sector contraction. So the broad picture painted by the PMI numbers is that the modest growth of the UK’s service sector is being mostly, but not quite entirely, offset by a still shrinking construction sector and a steeper decline in manufacturing output.

With the Government desperate for good economic news, numerous tame economists have been quick to oblige. I’ve lost count of the number of learned missives I’ve read in recent days arguing that a cross-sectoral PMI survey average of 51.1 between July and September points to actual GDP growth of 0.1-0.2pc.

I would like to believe this is true. After all, recessions are nasty – involving considerable human suffering, as companies fold and jobs are lost. It would also be disastrous if the intense political pressure resulting from a recession that extended to the third quarter of 2012 caused the Coalition to buckle and significantly increase borrowing, in a misguided attempt to “boost demand”.

That would lead to enormously damaging developments – a “meltdown” scenario – as international capital markets rebelled. The trouble is, though, that we saw PMI-based estimates suggesting that GDP grew by 0.1-0.2pc during the second quarter of this year too. Yet the actual outcome, when the GDP numbers were later published, was a disastrous 0.4pc contraction. Perhaps the most worrying part of last week’s PMI releases are the signs of significant pressure on the jobs market. The Service PMI Employment subindex plunged from 51.3 to 48.3, while its manufacturing equivalent dropped from 49.8 to 47.0.

Across all sectors, the PMI survey numbers pointed to a net fall in overall employment for the first time in 10 months. To prevent unemployment from rising, private sector employment needs to grow by 100,000 or 0.3pc a year to make up for planned cuts to state sector jobs.
In recent months, the private sector has managed to provide such job growth. If it fails to do so in the future, then the pressure on the Government to abandon even the pretence of fiscal prudence and “go for growth” can only intensify.

I suppose that is why the Bank of England is softening us up for yet more “money-printing”, perhaps as early as next month. The Bank is currently in the midst of implementing another £50bn of “asset purchases”, taking the overall total to £375bn, a process that won’t be completed until November.
But the minutes of the Monetary Policy Committee’s September meeting, published last week, described the demand outlook as “subdued and uncertain”, with some MPC members judging that more quantitative easing “was more likely than not to be needed in due course”.

My long-held view, as regular readers will know, is that QE is deeply counter-productive. A “backdoor bail-out” for politically connected banks, this ridiculous and historically unprecedented policy will ultimately bring only higher inflation and much steeper future borrowing costs.

Reducing what you owe your creditors via a combination of deliberately-created inflation and currency debasement seriously harms any sovereign borrowers’ long-term reputation. Yet we are continually told that QE is “positive” and “growth-boosting”, all of which is total nonsense.

Yes, money-printing pumps up asset prices for a while and fuels another round of banker bonuses. But for savers, non-financial businesses and the economy as a whole, it can only end in tears.
The reason we are implementing QE, despite its massive drawbacks, is that insolvent banks are using it as an oxygen mask. Politicians, meanwhile, want QE to continue to suppress gilt yields, so allowing them to keep talking tough about “austerity” while avoiding the really difficult fiscal decisions.

So, despite the massive damage it is doing to pensioner incomes and this country’s future reputation, QE has friends in high places. Many leading lights of the UK’s economics profession have also given the Bank of England’s “extraordinary measures” the thumbs-up.

Then again, sucking up to the powerful, and providing intellectual alibis for expedient policies that were going to happen anyway, is what most economists do. In addition, the wages of many leading pro-QE dismal scientists are paid, directly or indirectly, by the banks that are using this grotesque policy as a form of life support.

QE-supporters on the MPC and elsewhere who claim inflation is “subdued” should take a close look at these latest PMI numbers. In the manufacturing sector, the input price index rocketed in September from 48.8 to 57.5 – an almost unprecedented rate. Food prices, meanwhile, are elevated and commodity costs are stubbornly high. This month we’ll also see utility price rises and the impact of large increases in university tuition fees.

The UK is in the midst of the longest double-dip recession in history and inflation remains significantly above the Bank’s 2pc target – as it has been for no less than 52 of the last 58 months. And that’s while sterling remains firm and before fireworks in the Middle East cause an oil price spike.

So don’t let anyone tell you that UK inflation is “subdued”, certainly no one who works for an insolvent bank or with the power to implement more QE.

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