False Economies

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Transcript of the inaugural Alon Lecture: Farnia Albione, 15 March 2009

Ladies and Gentlemen, good evening, and may I say how honoured and humbled I am to speak before the Consiglio di Quercia on a subject of great, if not supreme, importance to us all. The economic stability of our many nations has been shaken in recent years, and through this the very fabric of civilisation and world order has been jeopardised.

It is not my place, nor the place of any individual, no matter how learned or powerful, to dictate the way forward. For the most part, those same nations of the world have undertaken to vest that authority in the collective choice of the people. Democracy will determine the path we follow, and my peers and betters in the field of economic science can serve merely to illuminate that path in some respects. This I will try to do tonight. Nothing I say in the course of the next few minutes is right or wrong. Nothing is inevitable save for the things that have already happened. Different paths will benefit different groups within our society, but it is for you, and not me, to decide which courses are just, and indeed which ones are sustainable. I do not even advise here. I only portray, and I shall try to do so as objectively as possible.

Sustainable. There, I said a word much in fashion and like so much of intellectual fashion, a term flexible in meaning. I mean by it here 'that which can endure indefinitely'. I do not mean things that should endure. I mean only the taking of a path that humanity could, if it chose to do so, follow for many generations without an implicit need to do something else at some time in the future. One obvious requirement of such a path is that it should replace the resources that it consumes. Another consequence, less obvious but central to what I have to say tonight, is that a sustainable path will reward those who follow it in some sort of proportion to their contribution to progress. If we want to stay on the path, and not fall prey to the perils that await us on either side, then we must expect to pay the navigators.

I have already promised to be prescriptive about nothing except history. To be properly circumspect, even history is always open to interpretation, but I am nonetheless going to assert, with little fear of contradiction, that the world economy has well-and-truly left its intended path in recent times. The hike back to the path is itself going to be protracted and dangerous. There are moreover well-reasoned fears that it was the wrong path in the first place, and that we didn't stray off it so much as come to the end of it. But rather than pursuing this metaphor any further, I think it's time to look at some practical reality. A good place to start, as always, is to remind ourselves of the basic elements of a sound economy.

Everyone present will be familiar with the widely-accepted idea that a successful macroeconomic policy at a national governmental level is founded on pursuing four distinct objectives, and moreover of doing so in a balanced way, so that no objective takes precedence over the others. The four objectives are, of course:

  • Full, or at least maximised, employment
  • Price stability, meaning well-controlled and generally low inflation
  • Steady and sustainable economic growth within the domestic economy
  • A steady and sustainable balance of payments with respect to external economies, ie those of other nations

Outside these four central principles, all of the other accoutrements of economic management are really only tools and accessories. I can take taxation as an example of one of these. Tax is important, and of course it's the first thing that most of us think of when government finances are being debated, but tax is not fundamental. Taxation is only a device for ensuring an appropriate spread of contribution to investment, and for funding the projects of general social benefit that self-interested private enterprises will either overlook or at best deliver in an inequitable form. In other words, tax is a redistributive tool. You cannot use tax to redirect money that was never earned in the first place. It is the fundamental objective of economic growth that generates the revenues needed by the national economy. Without growth, taxation becomes nothing more than a mechanism for ensuring that everybody starves at an ordained rate.

Now I would like to suggest three ways in which governments distort the balance of the four objectives. I am going to use Britain as my example, since it is the place and economic system I know best, but also because I think it's a good example. Britain is a mature, some would say decadent, system in both economic and political terms. Britain is both highly rational and minutely managed in both respects, in so far as such a potentially-oxymoronic assertion can be made about any nation. Once we have considered the three ways, I will proceed to demonstrate a model of the economy, and indeed the society, that will tend to result. I will leave it to you to draw your own conclusions as to the accuracy of the model as a description of your national circumstances. I will also leave it to you to judge whether the three factors are causal, either completely or partly, or whether some other explanation for economic tensions and incoherence must be posited.

Another oxymoronic assertion is of course the suggestion of a consensus among economists, but for the purposes of this thesis I am going to presume one. This is that the four objectives of macroeconomic policy are equal in terms of their significance in a balanced system. We have to get them all right at the same time, and when the system begins to drift, the government should expect to apply corrective measures to restore an equilibrium. But one thing that is not equal about the four objectives is their political desirability. The middle two tend to be cherished by governments of all colours – a record of low inflation and strong growth is a good foundation for re-election in any circumstances. The other two objectives are trickier, however.

The first one concerning the totality of employment is the one that most pricks at conscience, both individual and national. There is a kind of digital iniquity about the two states of having a job and not having a job. If you belong in the former category of people in employment, and hence of those with a source of income and a means of self-sufficiency, then how do you feel about the other group? Do you feel some sense of guilt, and thus a commitment to provide for them? Or are you comfortable with the conclusion that they are not your responsibility?

The fourth objective is in some ways even more insidious. It's more abstract than the other objectives, and that means that the over-politicised government is prone to its neglect. It's surely true that you're less likely to lose an election over a balance of trade deficit than over raging unemployment, or spiralling inflation, or conspicuous economic stagnation. The long term consequences of a failure to address an adverse balance of trade are nonetheless devastating, and a case can be made that Britain, as well as other nations, is suffering today with just such a malaise. It's a matter of life experience, too, that the things that decline slowly when we neglect them are the self-same things that take longest to restore. A national economy is no different.

The first of the three ways in which governments tend to spoil the macroeconomic balance concerns an overemphasis on maximising employment. In order to illustrate this possibility, I would like you to consider a simple question. What is a school for? One answer, and in my opinion a very good answer, is that schools exist to impart skills to future economic participants, namely our children. A different answer, which is still valid but surely secondary, is that schools exist to provide employment for teachers. The fact that we do employ teachers is hugely important, because without them we can't fulfil the objective of educating children. Moreover, we want those teachers to be especially able and committed people, because such people will educate well. If we make the primary consideration in running a school the employment of teachers, however, then we will tend to employ more and more teachers. The amount we can afford to pay teachers is absolute, so that more teachers equates to lower individual earnings. Now that we are in this rut, we're also prone to viewing teaching as a relief occupation for those who don't find employment in the rest of the economy. We are no longer making a very good job of building the attributes of an aspirational profession, but such a profession is of course exactly what we need the education of our children to be.

Overemphasis of maximised employment is a morally permissible error, but it is an error nonetheless. The idea of sustainability is pertinent again. Most people can nowadays accept that the expending of more material resources than we need is wasteful and wrong. We are not yet comfortable with the idea that expending excessive human resource is wasteful too, but we are going to have to collectively learn this lesson. If you pay more people to do a job than are needed to do it, then you will be either uncompetitive, or you will underpay, or both. All of these outcomes are unsustainable. The second erroneous way lies in wait for the government that presumes that it can square this circle, because the final arbiter of economic sustainability is not the national electorate, but the international financial community.

The second way that things may go wrong lies in the temptation to defy balance of trade imperatives. Ultimately, all sustainable economies must maintain an equilibrium between export and import. The need for a strong export performance grows as national dependence on external resources heightens. Britain is a case in point, since our nation is now too populous to produce all of its own food, and its energy and raw materials requirements outstrip its natural resources. This is not a problem provided that we succeed in converting those raw materials into finished goods, and then in exporting a proportion of them commensurate with their added value. It isn't immediately apparent why the governance of this activity should prove difficult. The complication lies in individual reward and our perceptions as citizens of our social value. How is Her Majesty's Government supposed to tell hard-working people that their job is less important than someone else's, simply because that other person's job makes a greater contribution to the trade balance? Should we consider paying people more because their work makes such a contribution? No government has ever dared to advocate such a remuneration basis, but its economic logic is nonetheless inescapable.

The problem becomes a little more complex when the economic activity concerns the export of a service. In Britain's case, this complexity has made successive governments prone to the third erroneous way, that of focussing on and tolerating growth which is based on a narrow sector of the economy. Britain is not unique in this, of course. Much of the West made the same mistake in recent times, and it was led there by the world's master economy in the United States, and the effect was so catastrophic that even those countries that had resisted the practice of trading in subprime debt incurred the consequences. We are now talking of course about over-reliance on financial services, and the fundamental problem is not that this sector is too narrow or even that its economic outputs are too intangible. The real flaw in relying on global banking to drive national economies is that the activity is inherently ungovernable.

In parallel with excessive reliance on financial services, British governments have compounded the error by undervaluing the productive economy. This sector is the one that produces things that the general populace is willing to pay for. It includes skilled technicians and craftsmen, but also lower-technology worthies such as farmers. It generates wealth and also contributes to the balance of trade, since its products are suitable for export. Both left-wing and right-wing governments have made this same mistake, because the manufacturing economy has historically been a difficult one to control. Left-leaning politicians traditionally mistrust hierarchical organisations in which the many toil for the disproportionate luxury of the few. Right-leaning ones dislike the consequences of this inequality, in adversarial industrial relations and inflexible working practices.

As a consequence of these three fallacies, Britain is blighted by the existence of false economies. Since the chime of the trinity is eternally appealing, I will cite three of these too, though in reality there are many more. These three aberrations are the most significant ones, however. The first of Britain's false economies is the public sector. There is of course nothing wrong with the concept of a public sector. Someone must do the jobs that private enterprise will not properly deliver, and these jobs are very numerous, in healthcare, education, the maintenance of public order and administration, in the military and the judiciary and even in the conduct of politics. This work will not in general be funded by private capital since it affords low return to the investor, or else tends to become corrupted through the extraction of satisfactory return. We therefore maintain it through our taxes. All of these things, so far, are good things from which we draw collective benefit.

What happens, however, if we go too far in assuring the job security of public sector workers, or in ensuring that their salaries are equitable compared with those in the productive economy, or in maintaining their guaranteed pensions under terms that the private sector has withdrawn since they have become unaffordable in changed economic circumstances? We create a situation whereby people would rather work in the public sector than the private sector. Such a situation is unsustainable, because the public sector is incapable of delivering economic growth, and so it eventually proves that the perceived comforts of the public sector were illusory after all. The response invariably comes late in the economic cycle, since all governments cling on to populism as long as they dare. Only when the international banking threatens to foreclose do we see swingeing cuts, and consequent social discord. Of course, no economy can be run efficiently if its policy shifts are always late and violent.

I have previously advocated the creation of a personal allowance in respect of the allocation of a share of tax funds to individuals. This should include a provision, enjoyed by everybody equally, for public sector employment, but the allowance could also be spent in other ways, such as paying fees for higher education. If we could all work for, say, ten years in the public sector at a private-sector equivalent salary level, but were then obliged to revert to a lower scale, then the reality of relative economic contribution could be reflected without imposing personal hardships. Ideally, the same terms would apply to high court judges and army generals as to classroom assistants and hospital porters. Some might argue that the investment in training of some particular public sector employees should guarantee the longevity of their employment, but I would rather tolerate some inefficiency in this respect in order to ensure that the rules are the same for everyone.

The second false economy is a very different one, and it's one we've already mentioned, the financial services sector. In particular, we are talking about investment banking here. Since banks have become too big to fail, and since the British government and indeed other national governments blinked when the stand-off reached its critical point in 2008, we are now stuck with a situation whereby banks lavish their profits on small numbers of stakeholders. The scale of their profits is not the issue. The narrowness of the resultant benefit is the problem, and banks have taken to pleading an excuse founded in their global influence. If we don't pay exorbitant bonuses, they claim, our best staff will go elsewhere, and so the potential for national benefit will be lost. At the same time, banks characterise their contribution to the wider society in terms of the tax they pay, and often solely in those terms. The next step after that is inevitably a highly organised program of tax avoidance. Banks have indeed adopted an "Everybody hates us. We don't care" attitude, a stance more appropriate to certain football clubs than to organisations that are critical to global economies.

The excessive power of the banks cannot be quickly redressed. It will have to be curtailed instead by a general re-balancing of the economy, so that the productive sector rises in influence, allowing the politicians to take a stronger line with the recalcitrant City. As if to resist the possibility, the banks are committing further grave sins by resisting the lending of money to rising entrepreneurs. There might ultimately be no better answer to this than the reproach of the general public, which might take the form of the emergence of alternative and more sociable organisations for savings and investment, or might even give rise to public sanctions of the kind memorably proposed by Dr Michael Stanbra in his various manifestos.

We shall indeed soon see Dr Stanbra's contribution to the model that I mentioned earlier, but before we do so, there is one further false economy to consider. This one is a consequence of the fact that a closed economy can exist within a wider open one. The closed economy need not embrace all of the objectives of the wider macroeconomic entity of which it is part, because the wider entity may compensate for the closed economy's deficiencies. Britain has a parasitic economy that escapes the need to make a balance of trade contribution in just this way. It prospers purely on the basis of circulating capital within its confines, and manages in doing so to enjoy a higher standard of living than do the participants in the host economy whose blood it sucks. I am talking about the Home Counties of England, and the appalling hordes of Daily Mail-reading, blue-rinsed non-entities who populate them, and who delude themselves that their contribution to the nation is somehow positive.

These words may seem a little extreme, but believe me, I'm only just getting started. Those repulsive Southern Jessies don't even allow the building of necessary facilities such as power stations on their precious greensward. They have the temerity to demand that everything remotely unsightly, or with the slightest propensity to prejudice the market value of their ill-gotten real estate, should be built somewhere else. They proclaim themselves the defenders of moral decency, and of the very essence of Englishness, but never once do they stop to consider that they are absolutely bl**dy useless and an economic deadweight in every way imaginable.

Professor Derek Henderson there in the front row, I see you are looking a little surprised by these observations. I invite you then to contribute to the building of an illustrative model, by which I will prove the general correctness of my thesis. That is your beer glass, am I right? Unless I am mistaken, this glass recently contained bitter. I'll set it down on this slightly dog-eared beermat. This glass looks reasonably wholesome, with a light encrusted ring-pattern left by the descent of a persistent head and with a clean brown ring encircling the base, pretty much like a used pint glass ought to look. This glass is going to represent the productive economy that I described earlier.

Now I call upon your colleague, Dr David Hardcastle, to add his glass to the model. This one formerly contained lager, as we can see. I will rest it directly on the bartop to accentuate its peculiarly featureless quality. It seems almost clean, except for traces of urine-like dregs in the bottom. This glass stands for the public sector. It provides vital services, as well as a large measure of cloying administration. It generates no wealth, however. Everything it delivers is ultimately paid for by the economic activity represented by other glasses. The people in the public sector do not understand this, and delude themselves that they have equivalent value to those in the proper economy. Their ignorance is so widespread and so forceful that it distorts democracy and subdues government. Accordingly, the British economy treats has traditionally treated its overhead better than its productive contributors, leading to a national condition termed by adherents of the Alon School as 'completely kn*ck*red'.

The contact area between these two glasses represents the service economy of the private sector. It generates wealth but in a constrained way, with limited export potential, for example. The most lucrative parts of this sector are the least useful, owing to an annoying inverse correlation between societal need for a service and the rate of return on investment in providing it. Large parts of this sector exist to absorb public sector outsourcing, stepping up once public sector delivery incompetence has been thoroughly demonstrated.

Now we need a third beer glass, because once again a triangle of ideas is fundamental to my proposition. Dr Stanbra must be the contributor, and the glass is accordingly very disturbing. It will stand on, or more properly it will be embedded in, the mangled remains of a bag of pork scratchings. Its former liquid contents have been rendered unrecognisable by a mixture of what appears to be mucus and the remains of products no longer allowed in public houses owing to the smoking ban. This glass, as you will all no doubt have realised, represents the financial services-based economy. When conjured into existence by Margaret Thatcher, this sector was benign but fictitious. The latter attribute remains debatable, but the sector is now profoundly toxic, and destroys all wealth with which it comes into contact. The institutions closest to this sector, namely the banks, have now all become zombified, undead travesties of their original merely unwholesome selves, and go around sucking the blood out of small and medium enterprises.

This blood-sucking activity takes place in the contact zone between Mickey's glass and Decko's. On the other side, where Dave's touches Mickey's, we find former nationalised industries that have been privatised. These are the most treasonable organisations on the planet, since their executives have adopted the commitment to society of the finance sector while retaining the functional competencies of the public sector.

In this persuasive and highly symbolic model, the global economic recession is represented by Denise the Barmaid. She clears the glasses away, but realising that Mickey's is absolutely disgusting, she drops it at arm's length into the swing-bin under the bar-top. The other two glasses she places in the glass-washer. The next cycle of economic activity will thus proceed without the participation of the modern financial services sector. There will be a few subdued banks, behaving a bit like Dr Jekyll with a really disturbing hangover, and that's about your lot. The likelihood of Dave's pension ever being paid will be nil, unless or until a lot more people get into Decko's glass and start actually making things. There will probably be a General Strike, only the people striking won't be the ones we actually need, and so nobody will notice.

And with that, I thank the Council for hearing me out, and I invite your questions which I will do my best to answer. Before all that though, Dave, you'd better get the next round in.

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