Wednesday, December 17, 2008

Unemployment has risen sharply, with the government's favoured (ILO) measure rising by 137000 this month. The claimant count measure has now risen above a million. These figures indicate that the recession is already hitting the labour market with some force. With the closure of large employers (such as Woolworths) anticipated over the next month, things are set to get worse before they get better.

On the preferred measure, unemployment remains below 2 million. But there is little doubt that it will rise towards 3 million over the coming year. And the rise in unemployment will not end once the recession is over - typically we need growth of about 2.5% per year in order to keep unemployment stable. This means that unemployment is set to rise well into 2010, and possibly beyond.

There are some bits of good news, though these are few and far apart. Both monetary and fiscal policy is going in the right direction, and the fall in the value of sterling makes our exports more competitive. Yet demand from overseas is weakening as the rest of the world faces recession too, so even the little good news that we have has to be qualified.
The US Federal Reserve has cut its interest rate target to virtually zero. This exhausts its ability to use this instrument as a means of kick-starting the economy. Policy makers will need to think outside the box if they are to find a way of providing further monetary stimulus.

Meanwhile rates of interest that banks are offering savers, and charging borrowers, remain relatively high. Savers in the US can, with not much shopping around, still get 2.5% or more. Borrowing is relatively costly still, and it is hard to find rates much less than 7%. If banks will not themselves bring these rates down, perhaps there is scope for government to tax interest on savings in order to subsidise borrowing.
The European parliament has voted to end the UK's opt-out on the 48 hour limit to the working week. The new regulations, limiting the length of the work week, are set to come into force by the end of 2011.

A widely held misconception is that limiting the length of the working week will ensure that work can be spread around more evenly, and so will result in a reduction in unemployment. Economists refer to this as the 'lump of labour fallacy' - the idea is that there is only a fixed amount of work to be done by however many people. In truth it is not the case that there is only so much work to go around. Attempts to reduce unemployment by limiting working hours have typically been ill-fated - the experience of France between 2000 and 2005 is a recent example. There, the working week was limited to 35 hours. Popular in some quarters, the policy was scrapped because it had no impact at all on unemployment.

A positive aspect of the limit to the working week is that it can prevent employers from demanding more hours from their workers than the latter would ideally wish to supply. This is likely to be a problem in areas where alternative employment opportunities are limited. On a crowded island with good communications and a culture of commuting, it is unlikely that many people are affected by this. But those that are are likely to be disproportionately drawn from the disadvantaged groups.

Sunday, December 07, 2008

Barack Obama has promised help for the US auto industry. The banks, of course, have already received substantial sums of money from the taxpayer. They have come close to collapse because of misjudgements made in connection with bundled packages of debts. They are a special case in that the rest of the economy cannot operate without them.

The case of the car manufacturers is somewhat different. Their predicament comes from a different source - healthy competition from abroad. And the predicament itself suggests that the rest of the economy is choosing to live, and live very comfortably, with cars supplied by other producers.

While the US car industry employs large numbers of people and certain areas would be hit hard if the industry were to vanish, supporting the industry would likely only prolong the inevitable. It has, ultimately, to face up to what the UK faced up to in the 1980s - it's a tough medicine, but it's one that has to be swallowed. Obama is vague about strings that would be attached to any rescue package, and so it is difficult to come to a definitive judgement at this stage - but it looks as though it could be his first bad call.

Friday, December 05, 2008

The London Inter-Bank Offered Rate (LIBOR) of interest on 3 month loans has fallen following yesterday's cut in the Bank of England's interest rate. But while the Bank's interest rate was cut by a full percentage point, the LIBOR has only fallen from 3.72% to 3.38%. This is important because the premium of LIBOR over the Bank's rate is seen as a measure of the risk that banks perceive in lending to one another - and hence of the general inertia in the banking system.

Following the November cut in the Bank's interest rate, LIBOR fell. This fall was gradual, and it took two weeks for the premium of LIBOR over the Bank rate to come down to the level it had been at before the cut. Some commentators have suggested that the relatively modest fall in LIBOR today suggests that it will not fall much further until the new year. They argue that, over the festive period, banks will prefer to hold on to their cash reserves rather than lend. But that simply has not been the experience of the past.

I would expect to see the time path for LIBOR following the most recent cut in the Bank's rate to be quite similar to that which we saw in November. If it does not fall in this way, then we should worry - after all, a cut in the Bank's rate of interest does not, of itself, indicate any increase in the risk attached to interbank lending.

Thursday, December 04, 2008

The Bank of England's Monetary Policy Committee (MPC) has reduced its interest rate by a further 1 percentage point. The rate now stands at just 2 per cent. The cut has been widely welcomed, though many commentators are suggesting that there should be a further 0.5 percentage point cut in January. One wonders: why wait?

Lags in the system mean that interest rate changes take several months to impact on the economy. We know that the patient needs treatment now and will still be desperately sick half way through next year. But the longer further interest rate cuts are delayed, the more we run the risk that they will impact on the economy at just the wrong time - after inflation has bottomed out.

The MPC (well, most members) appeared to be desperately slow in coming to an appreciation of the seriousness of the economic situation. Hopefully, over the year that is to come, the committee will do somewhat better than in the past when it comes to reading the writing on the wall.

Monday, December 01, 2008

I usually find it hard to disagree with the BBC business correspondent, Robert Peston. But there's always a first time.

The Royal Bank of Scotland (RBS) has announced that it will delay taking action to repossess the houses of people whose mortgages fall into arrears. Instead of repossessing at 3 months, they will repossess at 6 months. This is, I think, good news, and is a sensible response by a bank that is keen to look after its own investments. The fact that people fall into arrears now does not mean that they will not be able to repay in, say, a year's time. Recessions hit people hard, but are typically short lived.

Yet Mr Peston deems this to be bad news. And why? Because if there are fewer repossessions, there will be less downward pressure on house prices, and so a recovery in house prices will take longer. He misses the fact that such a recovery would be from a lower base. And he misses the fact that it would have been bought by the unnecessary suffering of people thrown out of their homes.

The move by RBS is welcome, and it is very much to be hoped that other banks will quickly follow suit.