Thursday, December 06, 2007

Can migrants bail us out if the economy goes pear-shaped? It is often argued, and rightly so, that migration has been a big benefit to the British economy in recent years. The influx of workers from eastern Europe has allowed the economy to grow, while keeping inflation at low levels.

With the possibility of a recession on the horizon - or a serious downturn at least - the question needs to be asked: can this process work in reverse? One possible outcome would be for migrant workers to respond to the downturn by moving away from the country. If they are made unemployed, perhaps they will do so in their search for work elsewhere. This would mean that the downturn need not be accompanied by a surge in unemployment. That would be good news indeed.

There is, however, another possibility. Almost 40 years ago, John Harris and Michael Todaro wrote about the response of migrants to unemployment in the context of rural to urban migration in developing economies. They argued that migrants might stay in the cities even in the face of unemployment, because they are compensated for the higher probability of unemployment by higher wages when in work. A Harris-Todaro mechanism could reduce the amount of return migration during a recession in the UK, and could scupper hopes for an unemployment-free downturn.

How things will pan out is really a matter of speculation. We don't know that there will be a serious downturn - although that looks increasingly likely. And we don't know what decisions migrant workers would make if a downturn came to pass. One thing we do know - there is something here for policy makers to chew over.
Mercifully, the Bank of England's Monetary Policy Committee has decided to cut interest rates this month, from 5.75% to 5.5%. The question is: is a quarter point cut enough?

Some commentators have suggested that, with the recent increase in fuel prices, inflation remains a problem. This will have acted as a restraining influence on the MPC in making its decision to cut interest rates. I remain of the view, however, that fuel prices are blipping - indeed the price of oil has already fallen well over 10% from its peak, although this has yet to feed through into reduced prices at the petrol pump. The threat of wage inflation that briefly appeared earlier in the year went as fast as it came - and in any event it seems to have been driven by a small number of settlements in atypical firms.

As I have mentioned earlier on this blog, the real issue for the macroeconomy now is how resilient the US economy will prove to be to the threat of recession. The leading indicators strongly suggest that a downturn is on the way. This being so, the MPC has clearly moved interest rates in the right direction. Has it cut them enough? I don't think so. Expect more cuts early in the new year.

Sunday, December 02, 2007

Will there be an interest rate cut in December? The economy is faltering, with retail sales and manufacturing output both sluggish - yet the interest rate hikes from earlier in the year have yet to take full effect in slowing things down. Meanwhile, the slump in housing starts in the US is little short of catastrophic, and downturns in this series traditionally herald recession; and we all know that when the US sneezes it takes little time for the the UK to catch a cold.

On the other side, there are concerns that escalating oil prices fuel inflation. But the currently high price of oil is, as I have argued earlier on this blog, likely to be a blip.

The Monetary Policy Committee should not wait longer before cutting rates, and arguably should do so by more than a quarter of a point this month.