EC-111 British EconomyRecent UK Macroeconomic

TrendsDr Catherine Robinson

F26, Richard Price BuildingOffice Hours: Mondays 10.30-11.30 and Thursdays 9.30-10.30

Appointments: c.robinson@swansea.ac.uk

NOTE: I’M AVAILABLE FOR SPECIAL

OFFICE HOURS ON MONDAY NEXT WEEK: 10.00 TO 12.00

Week 5:1 2

So, the UK policy response•To emphasise international co-operation and co-ordinated fiscal and monetary policy responses to help move the UK and world economies out of recession

•a number of levers during the recession:Bank base rate reduced to 0.5 per centBailing out of some banks and finance to support the balance sheets of the banksValue Added Tax temporarily reduced from 17.5% to 15%Quantitative easing of £200billion – Asset Purchase Facility by which the Bank of England can buy corporate bondsCar scrappage scheme

Week 5:1 3

Into 2009…heading into double dip…

But the market is still jittery (Flash crash of the NYSE in May 2010)

International organisations meeting to define standards in banking (BASEL I – 1980s and non-binding) To raise capital ratios, to improve stability in international

banking and to reduce regulatory differences globally BASEL III (September 2010)

Increased the capital ratio requirements Insisted on new capital buffers

Banks argued that there was a risk of a double dip as a result Banks consolidated and tried to diversify – also M&A

Week 5:1 4

And the currency markets??

Contagion means that currencies are sufferingEuro problems in Ireland, Greece and now Portugal

and Italy…Cyprus problems in the news recently

A country that was developing via two sectors – tourism and off shore banking

Week 5:1 5

How can we ensure this mistake doesn’t happen again?

Regulate the financial sector more effectively Commission a report – the Independent Commission on

BankingSir John VickersReport published in September 2011recommendations on ring-fencing domestic retail banking, 1/6 th

to 1/3rd of banking assets to be within the ring-fenceCompetition in banking sector needs to be improved

“Future of Finance”, 2010Report by LSE stars – Adair Turner, Andy Haldane and lots of

othersHighlights that central banks and governments should shoulder

some of the responsibility for the failure – argue as yet, this hasn’t happened

Week 5:1 6

Financial Services Act 2012

Came into effect on 1st April, 2013

Brings Bank, FSA and treasury under the same umbrella

Criticised in the past for little coordination between the institutions

Week 5:1 7

Management of the financial system

Increasingly understood that the financial system had changed beyond recognition from the 1980s

Many banking investments were obscured, bordering on illegal (Barclays fined £500m by the UK treasury)

Libor scandal extended beyond Barclays in the end

Week 5:1 8

Why are banks regulated in the first place?

Goodhart (2010)Market failures:

Monopoly controlAsymmetric information Externalities (social costs to bankruptcies)

Week 5:1 9

What has happened to our macro variables?

Source: Gregg and Wadsworth (2010)

Week 5:1 10

International variations• Gregg and Wadsworth (2010) group countries into 5 categories on the basis of changes in the GDP and unemployment over the recession:

Those with small falls in employment relative to GDP (UK and Sweden) Those with small falls in employment relative to GDP, having introduced employment subsides (Italy, Germany, Netherlands and Japan) Those with similar employment and GDP falls (France) Those with larger employment falls than GDP (US, Spain and Ireland) Those with little fall in GDP (Australia)

Week 5:1 11

Why did the UK labour market hold up?

Employers entered the recession in fairly good financial shape Able to absorb some of the downturn without shedding jobs

Total hours worked have fallen sharply and the share of part-timers risen

Workers accepted nominal wage moderation early on in the recession

increased chances of finding work if they are made redundant

• The impact on productivity (and international competitiveness) and public finances has been large; hence the cuts

Week 5:1 12

Cost of crisisThe level of debt in most Western Economies is

a direct result of bank bailouts

Severe recessionBank of England policy of “quantitative easing”

Exchange rate system in Europe under threatGreece most obviously Irish IMF loan and the austerity measures Italy, Spain and Portugal also under pressure

Budgetary issues (% of GDP)Slide 30.13

Griffiths and Wall, Applied Economics 12th Edition © Pearson Education Limited 2012

Country National Debt 2009

National Debt 2014

Budget deficit 2009

Budget surplus

required* in 2014

US 88.8 121.0 -12.3 4.3

Japan 217.4 239.2 -9.0 9.8

Germany 79.8 91.4 -2.3 2.8

France 77.4 95.5 -5.3 3.1

Britain 68.6 99.7 -10.0 3.4

G20 100.6 119.7 -8.6 4.5

*To bring respective national debts back to a maximum of 60% of GDP by 2014

Source: IMF, World Economic Outlook (various)

Week 5:1 14

And now the Euro…Weaker countries within the Eurozone have

suffered – especially GreeceNo longer considered to be a good debtor Agreed to a range of austerity measures for the

foreseeable future in exchange for Euro bailout to prevent national bankruptcy

A wider EU problem The ECB issued €530bn of cheap loans for Banks

to ease liquidity concerns

Week 5:1 15

Failures of macro models?How come no one saw this coming?

Well, some did (but not as many as now claim they did)

Housing market had been overvalued for years in the UK

Savings far too low

Did our macroeconomic models let us down?Over-reliance on inflation targeting?

Argued that MONEY is a glaring omission from existing new Keynesian macro models

Week 5:1 16

There will be other mistakes…

Macroeconomic models will not cover all eventualitiesAbstractions from the real worldSimplificationsBUT still powerful tools

A new focus on risk?The role of credit ratings are also under scrutiny

Week 5:1 17

Road to recoveryOsborne:

Treat the recessionTighten the fiscal belt – balance the budgetReduce government spending – rebalance the UK economyEncourage growth through private sector enterprise and growing

exports Regulatory reform of the financial sector

Balancing the need for reform against the footloose nature of financial intermediaries

Balls: Treat the depression

Looser fiscal policy to encourage growthShort term increase in government spending to get the economy

back on track Tougher stance on financial sector reform

Is the second policy approach viable?

Week 5:1 18

References Griffiths and Wall (2012) Applied Economics, Chapter 21 for UK financial

institutions, Chapter 30 for the basics

Crafts and Fearon (2010) ‘Lessons from the 1930s Great Depression’, Oxford Review of Economic Policy, 26(3), 285-317

Drinkwater, Blackaby and Murphy (2011) ‘The Welsh Labour Market Following the Great Recession’, WISERD Policy Brief

A play by Julian Gough: goat futures explains the housing bubble

For up to date information, have a look at the Economist blog: http://www.economist.com/blogs/blighty

Deeper understanding in the current debates going on: Finance for the Future, LSE Report of 2010, available at

http://www.financeforthefuture.org.uk. This is really tough stuff though, so just read the summary!

Week 5:1 19

ReviewWe have covered a lot

70 years in about 10 hours!

What have we looked at? A bit of theory

Macroeconomic variablesTinbergen’s model Flexible targets

Keynesinan versus monetarism

Inherent tradeoff between macro variables Post war macroeconomic performance in Britain

was not bad, but could perhaps have been betterWhat did post war Britain look like? Capital, labour,

intermediates, employment, output, balance of payments