With much attention focused on the UK’s rapidly rising public-sector debt, fiscal policy will have to be tightened once the economy is recovering. This will entail substantial cuts in government expenditure and possibly tax rises too, whoever wins the election next year. The danger, of course, is that if aggregate demand is cut, or its growth is severely curtailed, the economy could lurch back into recession. For this reason, it is likely that monetary policy will have to remain expansionary for some time to come. Interest rates will stay low and further quantitative easing could take place.
This was the conclusion of a report by the Centre for Economics and Business Research (see link below). The CEBR argued that Bank Rate will remain at 0.5% at least until 2011 and not reach 2% until 2014. “The forecasts show that the fiscal consolidation is likely to be matched with an unprecedented monetary relaxation. … Douglas McWilliams, one of the report’s authors and Chief Executive at CEBR, commented: ‘We are likely to see an exciting policy mix, with the fiscal policy lever pulled right back while the monetary lever is fast forward. Our analysis says that this ought to work. If it does so, we are likely to see a major rerating of equities and property which in turn should stimulate economic growth after a lag.’
The following articles look at the report and the implications of its predictions for economic growth and exchange rates.
Bank rate to ‘stay frozen’ for five years Times Online (11/10/09)
Mortgage rates to stay low until 2014 Telegraph (12/10/09)
Tax and spending squeeze to keep bank rate low David Smith’s EconomicsUK.com (11/10/09)
UK rates ‘to stay low for years’ BBC News (12/10/09)
Pound plunges as UK markets rally to year high Telegraph (11/10/09)
Tough times ahead as traders poised to offload their sterling Sunday Herald (11/10/09)
CEBR News Release (12/10/09)
Questions
- Under what conditions would a combination of a contractionary fiscal policy and an expansionary monetary policy be most effective in delivering economic growth?
- What would be the long-term effect on private-sector debt?
- How would such a policy mix affect the rate of exchange? Would this help to stimulate economic growth or dampen it?
- How will the size of these effects depend on the mobility of international financial capital?
- Explain the following: ‘Our analysis says that this ought to work. If it does so, we are likely to see a major rerating of equities and property which in turn should stimulate economic growth after a lag’.
In February 2009, the world’s largest concert ticket agency, Ticketmaster, and the world’s largest concert promoter, Live Nation, announced that they intended to merge. The deal would have been worth around £550 million. This immediately sparked concerns that the new company would have such power in the market that ticket prices would rise. On 10 June 2009, the Office of Fair Trading, in line with the 2002 Enterprise Act, referred the proposed merger to the Competition Commission.
On 8 October 2009, the Competition Commission published its preliminary findings that “the creation of that situation may be expected to result in a substantial lessening of competition (SLC) in the UK market for the primary retailing of tickets for live music events”. The following articles look at the findings and the competition issues. You will also find links below to the Competition Commission press release and the Provisional Findings Report.
Competition body opposes Ticketmaster and Live Nation merger Guardian (8/10/09)
Competition watchdog vetoes Ticketmaster deal Times Online (8/10/09)
The Competition Commission has ruled against the proposed Ticketmaster / Live Nation merger MusicWeek (8/10/09)
British Regulator Objects to Ticketmaster Merger New York Times (8/10/09)
See also the following documents from the Competition Commission:
Press Release
Provisional findings report
Questions
- How would the proposed merger benefit the two companies concerned?
- How would it affect CTS (the second largest ticket agent in the world)?
- From the consumer’s perspective, what would be the potential advantages and disadvantages of the merger?
- What additional evidence would the Competition Commission require to make its final judgment?
The following two clips look at John Maynard Keynes’s contribution to macroeconomics and whether his theories have been proved to be correct by the events of the past two years.
“What would John Maynard Keynes make of the financial crisis and the credit crunch?” In the first clip, “Author Peter Clarke, former professor of modern British history at Cambridge University, and the former Conservative chancellor Lord Lamont consider whether Keynes’s ideas were twisted by modern politicians to support their desires to run big spending deficits.”
What would Keynes make of the crisis? BBC Today Programme (25/9/09)
Is Keynes influencing today’s politics? (video) BBC News (2/10/09)
Questions
- How is the recent crisis and recession similar to and different from the Great Depression of the inter-war period?
- Can recent fiscal policies adopted around the world be described as Keynesian?
- How would a government of a Keynesian persuasion attempt to manage the move from recession to economic growth and deal with the problem of mounting public-sector debt?
According to Brad DeLong, professor of economics at the University of California at Berkeley, if we are to get a full understanding of the financial crisis and recession of the past two years, we need to take a historical perspective. In the following article from The Economic Times of India, he argues that modern macroeconomists need to learn from history if their assumptions and models are to be relevant and predictive.
The anti-history boys The Economic Times (India) (1/10/09)
A fuller version of the above article, along with comments from readers, can be found on Brad deLong’s blog site, a Semi-Daily Journal of an Economist at:
Economic History and Modern Macro: What Happened? (30/9/09)
Questions
- According to Narayana Kocherlakota, most macroeconomic models “rely on some form of large quarterly movements in the technological frontier. Some have collective shocks to the marginal utility of leisure. Other models have large quarterly shocks to the depreciation rate in the capital stock (in order to generate high asset price volatilities)…”. How could these models explain business cycles? Would you classify them as ‘real business cycle theories’: i.e. as ‘supply-side’ explanations?
- How does Brad deLong explain recessions?
- Why does a change in the velocity of circulation of money contribute to a crash?
- What are the strengths and limitation of using economic history to understand the current crisis?
Adair Turner, chairman of the Financial Services Authority, the UK’s financial sector regulator, has proposed the possible use of Tobin taxes to curb destabilising financial transactions. The late James Tobin, winner of the 1981 Nobel prize in Economics, argued that a very small tax (between 0.1 and 1 per cent) should be imposed on foreign exchange transactions to dampen destabilising foreign currency speculation and thereby reduce exchange rate fluctuations. Lord Turner’s proposal would apply to a whole range of financial transactions, putting some friction in these very volatile and often highly leveraged markets. Such a tax would discourage some of the riskier and more exotic transactions on which many of the bonuses of bankers have been based.
Not surprisingly, his proposals have been met with derision by many in the banking sector. Many politicians too have been critical, arguing that the taxes will divert financial business away from London to other financial centres around the world. And yet, at the G20 summit in Pittsburgh on 24/25 September, both the German chancellor, Angela Merkel, and the French president, Nicolas Sarkozy, argued in favour of such taxes. The result was that the IMF was asked to investigate the practicality of using Tobin taxes on financial transactions as a way of reining in more risky behaviour. A week later the IMF, while ruling out a simple Tobin tax, came out in favour of taxes on the global financial sector designed to reduce speculation.
So who is right? The following articles look at the issues.
FSA chairman Lord Turner says City too big Times Online (27/8/09)
Financial Services Authority chairman backs tax on ‘socially useless’ banks Guardian (27/8/09)
Cutting finance back down to size Financial Times (27/8/09)
Support for tax to curb bonuses BBC News (27/8/09)
FSA boss gets tough on bonuses (video 1) (Video 2) (Video 3) BBC News (27/8/09)
City tells FSA to stick to day job Reuters (27/8/09)
Charities applaud FSA’s support for new bank tax Guardian (27/8/09)
The time is ripe for a Tobin tax Guardian (27/8/09)
Ça fait malus: France gets tough on bankers’ pay The Economist (27/8/09)
Sarkozy chides bankers for bonuses, calls for tougher regulation (video) France 24 (18/8/09)
Politicians Clamp Down on Bankers’ Bonuses BusinessWeek (26/8/09)
Treasury would be crazy not to listen to Turner Guardian (27/8/09)
Three cheers for Turner and tax on easy money Guardian (27/8/09)
What is the City good for, again? Guardian (27/8/09)
Will Transaction Taxes Reduce Leverage? The Atlantic (27/8/09)
FSA backs global tax on transactions Financial Times (27/8/09)
The Tobin tax explained Financial Times (27/8/09)
Could ‘Tobin tax’ reshape financial sector DNA? Financial Times (27/8/09)
Postscript
Turner defends bank tax comments BBC News (30/8/09)
Turner stands firm after Tobin tax backlash Financial Times (1/9/09)
Brown calls for bank bonus reform BBC News (1/9/09)
Brown pledges bonus clampdown Financial Times (1/9/09)
Cut the banks (and bonuses) down to size Financial Times (31/8/09)
Postscript 2
Sarkozy to press for ‘Tobin Tax’ BBC News (19/9/09)
The wrong tool for the job The Economist (17/9/09)
Dani Rodrik: The Tobin tax lives again Business Standard (19/9/09)
Postscript 3
IMF presses for tax on banks’ risky behaviour Guardian (3/10/09)
IMF’s Strauss-Kahn puts bank tax on the agenda Times Online (3/10/09)
Banks and traders threatened by new international tax plan drawn up by IMF Telegraph (3/10/09)
Questions
- Explain how a Tobin tax could be used to reduce destabilising speculation without preventing markets movement to longer-term equilibria.
- How might the use of a Tobin tax on financial transactions help to curb some of the ‘excessive rewards’ made from financial dealing.
- How do Lord Turner’s proposals differ from those of President Sarkozy?
- Examine the advantages and disadvantages of using a Tobin tax on financial transactions. How might the disadvantages be reduced?
- Explain what Lord Turner means by “the financial services industry can grow to be larger than is socially optimal”. How would you define ‘socially optimal’ in this context?