Apparently, Mr Ferguson puts the West’s current supremacy over the rest down to six factors: greater competition in the economy than in, say, China; science – or is that Western scientists?; property – or the emergence of property ownership and rights in the West; modern science (not sure how that differs from the second factor, presumably the TV series will tell us); consumption; and the work ethic.

Well, the author of this article has not read Ferguson’s books yet, but he has read ‘Why the West rules for now’ by Ian Morris, and ‘Why the West has lost’ by Dambisa Moyo.

Morris is an archaeologist, Moyo an economist, so their perspectives are quite different.

Morris reckons the West’s supremacy lies with geography.

Before we go further, it is important to point out that until the Industrial Revolution, China had been the richest country in the world for a thousand years. But before that, says Morris, the West was more developed.

Now Morris has a curious definition of the West, although it is one yours truly agrees with. Morris defines the West as all civilizations that trace their legacy back to that area we call the Fertile Crescent in North Iraq, southern Turkey and the Levant. That, by the way, means Arab counties are defined as Western by Morris.

He says the West led China for thousands of years because of geography. He says agriculture started in the Fertile Crescent because there was more naturally growing plant matter there that could be farmed, for example wheat and grain, and because there were more large animals that could be tamed and used for their meat. If you are interested, his theory builds on the ideas of Jarod Diamond, in his book ‘Guns, Germs and Steel’; see this link to see a TV documentary based on this book .

Returning to Morris, he says the Mediterranean was more conducive to trade than China’s land-locked region, but that the West lost its lead with the fall of the Roman Empire.

Apparently the West peaked in the first century AD, and China one thousand years later under the Song dynasty. Neither East nor West passed that level again until the Industrial Revolution.

Morris says the key to the industrial revolution was the discovery of the New World, and the West discovered the New World for the simple fact she was closer to it. The sheer size of the Pacific versus the Atlantic meant it was inevitable that the West would be the first to tap the riches that the New World brought.

Morris also suggested that over history, power tends to move to periphery regions. It moved south to the area where farming was first used, to Sumeria. Greece, Rome, Britain and the US were all periphery regions. And today, so is China.

Morris’s book is a fascinating read, but not sure his theory completely aids us. Towards the end he even started to quote Isaac Asimov and his Foundation books which came up with the idea of predicting the future using a mathematical formula created by looking at the past. At that point the book got a tad silly.

Moyo’s book is more disturbing. She took a far more recent look at the history of the West. She looked at the obsession with house prices, suggesting that the housing boom detracted from investment into more productive areas – an idea this column has often advanced. She suggested that declining education standards relative to the rest of the world would hamper the West’s long-term prospects, and cited short-sighted Western politics which has created huge resentment. (This is illustrated perfectly well right now in North Africa as Gadafi turned Western-supplied arms on his people.)

She turned to demographics, and the cost of providing pension and health care for the baby boomers, and suggested that by 2065, the US healthcare budget will be 100 per cent of US GDP unless Uncle Sam starts making some painful decisions. She also looked at how the changing demographics in the US means that while the US will not see her population fall like it will in Europe, the US population that is growing is the bit that is badly educated, gets a small share of Uncle Sam’s cake and contributes little to GDP. In other words, to carry on growing the US has got to learn how to give more opportunities to the economically-deprived.

Ms Moyo predicted that the US will be a social country within half a century.
So there it is. The rise and fall of the West. It will be interesting to see what Mr Ferguson’s TV documentary has to say.

“The music industry,” he said, “hates X-Factor with a passion.”

His argument is this. The programme creates a log-jam, which in turn stops other artists from coming through. “People like Bob Dylan would struggle to get a break today,” he said.

But there is another point, too.

Innovation, be it in music, business or technology, can be a somewhat random process. No one can really say where the next good ideas will come from.

Did you know that when Alexander Fleming discovered penicillin, it was an accident. Sure, he was a scientist in the inventing game, but he just happened upon penicillin after he left a culture of staphylococcus on the side and noticed that a blue-green mould adjacent to the culture was dissolving bacteria.

The point here is that innovation really can jump, apparently out of the blue. The key to it lies in trying lots of ideas. Who knows what they will lead to.

The X-Factor, on the other hand, has ceded control of much of the music industry to one person. Sure, the shows uncover good talent. But variety is the price that is paid, as would-be rock stars and music are crowded out.

 And as variety suffers, the chances fall of stumbling across the next great music innovation.

It is like that in business, too. No one could have predicted the rise of Facebook, Twitter or Google. But for every big success, there were literally dozens of ideas, maybe hundreds, that failed. Among the failures were products developed by the giants of technology, including the likes of Microsoft.

And that’s why the key to innovation lies in innovation itself, and that is why the success of The X-Factor will ultimately mean less innovation. Either that, or the programme itself will lose popularity as the sheer weight of innovative music products makes the format of the programme look old and tired.

Before we delve into the guts of the McKinsey report, there are a couple of points you need to bear in mind.

Firstly, in a mature economy investment does not need to be that high. See it in terms of two farmers, a farmer that is well established and one that has only just set up. Our established farmer will probably have a decent combine harvester, all the necessary number of tractors, and lots of mod cons that help make the farm as productive as possible. Such a farm does not need much investment, normally requiring further input only to maintain equipment, or if a new wonder product comes out which will help improve productivity. This farm is analogous to a mature economy in which innovation, and not investment, leads to growth. The second farmer, on the other hand, has insufficient infrastructure, and every pound of investment leads to a significant rise in productivity.

It seems that when the Second World War ended, the developed areas of the world were all operating way below potential. All of the world’s economies had vast potential to increase productivity by investing in infrastructure, machinery and any other forms of capital you can think of. And so, for 25 years the global economy enjoyed a golden age. It was an age that ended in the mid 1970s.This column has argued before that inflation in the 1970s occurred because output growth slowed, but growth in demand didn’t. In Japan it was even worse, as she suffered from the triple blow of the bursting of a bubble in asset prices, an ageing population, and the ending of her period of technology catch up.

Secondly, economic theory says investment is funded by savings. So if saving is high and investment low, we get low interest rates. If investment is high and saving low, interest rates shoot up.

During the golden age of growth, disposable income per person in the developed world rose sharply. Your average household in the UK was much better off in 1973 than in 1950, and yet throughout this period, real interest rates were quite high. The fact that real rates were high was not a good thing per se, but the factor that caused them to be high was good. Or to put it another way, high real interest rates were a symptom of the fact we were becoming better off.

From the mid 1970s onwards, investment in the developed world slowed. McKinsey estimates that total global investment between 1980 and 2008 was round $20 trillion less than it would have been had total investment as a proportion of GDP stayed at the level seen during the 1950s and 1960s.

By the late 1990s and noughties, saving had risen too. Saving rates were high in Japan, and the money saved flooded into the US and Europe via the carry trade. And then as China started to save, in part as a reaction to the shoddy treatment handed out by the IMF to the Asian Tiger economies after their 1997 crisis, we saw the emergence of a global saving glut.

This saving glut fed the credit boom in the West.

It seems that during the period we also saw an increasingly uneven distribution of wealth, but the populace were placated largely because of the combination of cheap interest rates and ready supply of credit, which led to rising property prices and made people feel better off.

And then for the final act in this chapter came the credit crunch and the global economic crisis.

But maybe the global economic crisis was little more than the death-knell of that particular economic era.

And death-knell suggests a new era is beginning.

McKinsey Global put it this way: “Developing economies are embarking on one of the biggest building booms in history. Rapid urbanisation is increasing the demand for new roads, ports, water and power systems, schools, hospitals and other public infrastructures. Companies are building new plants and buying machinery, while workers are upgrading their housing. At the same time, ageing populations, and China’s efforts to boost domestic consumption, will constrain growth in global savings. The world may therefore be entering a new era in which the desire to invest exceeds the willingness to save, pushing real interest rates up.

Higher capital costs would benefit savers, and perhaps lead to more restrained borrowing than we saw during the bubble years. However, they would also constrain investment and ultimately slow global growth somewhat.”

In other words, investment across the world is set to explode. The report went on to say: “The world is now at the start of another potentially enormous wave of capital investment, this time driven primarily by emerging markets. We predict that 2020 global investment could reach levels not seen since the post-war rebuilding of Europe and Japan in the era of high growth in mature economies.”
McKinsey predicts that by 2030 global investment will be around $24 trillion, compared to $11 trillion today.

But as investment rises, suggests McKinsey, savings are set to fall.
Firstly they will fall as China’s consumers begin to save less and spend more. We have written about this many times, so we don’t need to go into more detail here today.

Secondly, suggests McKinsey, savings will fall as the ratio of retired to working population rises, meaning more money will be spent on healthcare, and less saved.

The result, says McKinsey, will be higher real interest rates, but at the same time the global economy may embark on another golden age of growth. One assumes that during this transition period, we will see default by a number of individuals, companies, banks and countries with high debts.

That leaves us with just one comment: the baby boomers.

Several times before, this column has argued that as the baby boomers approach retirement, saving rates will rise, creating deflationary pressure. Then, once the baby boomers have all retired, those savings will be eaten into, and inflationary pressures will be created.

The McKinsey report is fascinating indeed, and the report’s key assumption is surely right.

We suspect, however, that the baby boomer effect muddies the picture, and as yet it is not clear how the combination of ageing in the West will interact with an investment-led boom in the developing world.

For the McKinsey report, see:
Farewell to cheap capital? The implications of long-term shifts in global investment and saving

Naoto Kan, the Prime Minister in the land of the rising sun, has asked his finance minister to slash corporate tax by 5 percentage points.

The tax rate will be 35 per cent.

Hold on a second, we hear you ask. Did you say the new tax rate will be 35 per cent? Isn’t that a bit steep? Well, of course you are right. The UK corporate tax rate is 25 per cent, in China it is 28 per cent. In Ireland it is minus something per cent (or 12.5 per cent if you want to be pedantic).

Of course, Japan’s problem is well known. Its government is in debt because the country has suffered from around 20 years of economic malaise. Intriguingly, although Japan’s government is in it up to the eyes, its households are not especially indebted. In addition, the government’s debt is almost wholly funded internally. That is to say, it borrows money from its companies and households, and very little from abroad. So one may argue that although Japan’s government is insolvent, its economy is clearly not.

So what the government is trying to do is to borrow the money that its citizens and companies want to save, thus creating a shortfall in demand, and spending it on their behalf.

This may or may not be a wise course of action, but the snag is there is a limit to how much tax you charge companies. If corporate tax rises by too much, then many companies will simply move to another country.

But actually, Japan’s challenge is simply an exaggerated version of a global problem. The last few years, or is that last decade or so, have seen corporate profits rise, but wages have not kept pace. The snag is that wealth generated by globalisation and new technology is not trickling down sufficiently. This is a problem in the UK, Europe, US and China.

But this is bad not just for those who care about social justice, it is bad for the economy too. This lack of trickle down means the only way demand can keep pace with potential supply is by workers running up debts which ultimately become unsustainable, creating banking crises.

The logical response would be higher corporate tax. But no single country dares enact this.

The solution, and alas it is one that will almost certainly never be realised, would be some kind of global corporate tax, say, 10 per cent, in which the proceeds are redistributed to every man, woman and child on this planet in equal proportions.

See Analysis of OBR report: A household debt crisis or corporate savings crisis?, and Why the super rich should pay more tax, and the rest should pay a lot less , and Did globalisation cause the economic crisis?

Actually, trust and corruption may be the two most important characteristics for determining economic success.

“Would you say most people can be trusted”? Well, what’s your answer? Intriguingly, if you are Norwegian, you are far more likely to say Yes, than if you are from Trinidad and Tobago. In fact, Norway is the most trusting nation on Earth. Trinidad and Tobago the least trusting.
Sweden is number three on the trust index, followed by Denmark, and next comes China.
Fascinatingly, the most trusting state in the US is South Dakota, where the second largest ethnic group is made up of Norwegians, and the third largest group, Swedes.

The UK sits at 31 on the list, way behind Germany, the US and Japan. Russia sits in fortieth spot.
See Interpersonal Trust, by Jaime Díez Medrano, for more

One of the leading lights in this field is Robert Putnam, who carried out a survey in Italy and found that trust was much higher in the north. He said that the mercantile north, with its reliance on trade, learnt how to trust and to be trustworthy. Some argue that southern Italy’s trust problem relates to rule by the Spanish Habsburg, and the Bourbon rulers who controlled the area for over 100 years right up to 1861. Apparently the regime promoted distrust between the Neapolitans and the Sicilians; divide and rule was their mantra.

There is another explanation, of course, for lack of trust in the south of Italy, and it comes in the form of a five-letter word beginning with an M, and with an F in the middle.

For that reason, it is argued, trust is lower in Eastern Europe and the former Soviet Union where the days of the KGB and Soviet oppression encouraged people to spy on each other. According to Marek Kohn in his book, Trust, Polish immigrants in the UK trust their fellow Poles less than they trust the British people they now work with. Given the awful tabloid articles slamming Polish immigrants, if that is indeed true, then it shows that trust between the Polish people really must be poor; a legacy of their sad history after the Second World War.

Mr Putnam also penned a book entitled, Bowling Alone, and suggested that trust was declining within the US. He suggested that, among other observations, less ethnically diverse societies tend to have higher levels of trust.

One interesting theory has been developed by the economist Hernando De Soto. In his seminal book, The Mystery of Capital, De Soto argued that one of the key differences between rich and poor countries lies in property rights. In the slum towns of Brazil and Peru, property ownership is ambiguous. Many people have no legal document showing who owns the property they live in. By contrast here, for example, if we own our own home it is easier to obtain credit. In short, clearly defined and fair property rights promote trust.

So much for trust, what about corruption? The UK fares better regarding corruption, and according to Transparency International is the twentieth least corrupt country in the world. Denmark is number one, followed by New Zealand and Singapore.

Intriguingly, the country one place above Britain in the corruption index is Qatar, the host of the 2022 World Cup.

As for Russia, it sits at position 154.
See Transparency International, Corruption Perceptions Index 2010

PS
You may find this extract, from Microeconomics, Behaviour, Institutions and Evolution by Sam Bowles, quite enlightening:
“Like the overnight train that left me in an empty field some distance from the settlement, the process of economic development has for the most part bypassed the two hundred or so families that make up the village of Palanpur. They have remained poor, even by Indian standards: less than a third of the adults are literate, and most have endured the loss of a child to malnutrition or to illnesses that are long forgotten in other parts of the world. But for the occasional wristwatch, bicycle, or irrigation pump, Palanpur appears to be a timeless backwater, untouched by India’s cutting edge software industry and booming agricultural regions. Seeking to understand why, I approached a sharecropper and his three daughters weeding a small plot. The conversation eventually turned to the fact that Palanpur farmers sow their winter crops several weeks after the date at which yields would be maximized. The farmers do not doubt that earlier planting would give them larger harvests, but no one, the farmer explained, is willing to be the first to plant, as the seeds on any lone plot would be quickly eaten by birds. I asked if a large group of farmers, perhaps relatives, had ever agreed to sow earlier, all planting on the same day to minimize losses. ‘If we knew how to do that,’ he said, looking up from his hoe at me, ‘we would not be poor.”

But is DC right? Is it time economics ditched its dismal focus on money, and looked at the bigger picture? Is it time we focused on happiness instead?

It seems one of the prerequisites if you want to be an expert on happiness, is to be called Richard. Two of the more successful books on the economics of happiness are by Richard Easterlin, a prof at the University of Southern California, and Richard Layard at the LSE. Our Californian concludes that health and marriage are more important than wealth. The Brits see distribution of income as the key. It’s not how rich you are, it’s how rich you are relative to others.

Then again, a survey carried out by the University of Leicester, and produced by Adrian White, found that the four happiest countries in the world were all in the top ten in terms of GDP per capita ranking.

At the time, Mr White said: “… nation’s level of happiness was most closely associated with health levels (correlation of .62), followed by wealth (.52), and then provision of education (.51).” See: So wealth does matter: the world’s happiest countries.

But returning to the point about distribution of wealth being the key to happiness, this point is backed up by the fact that the Scandinavian countries, where income is distributed quite evenly, are among the world’s happiest. Denmark topped the University of Leicester poll.

But here are a couple of observations. It may be that status, rather than how rich we are relative to our peers, is the key. And it matters not how wealth is distributed, some people will always have more status that others.

Secondly, it’s not so much how rich we are relative to the rest of the country that counts, it’s how rich we are relative to our friends and neighbours. So, if we live in a flat in Chelsea, and drive around in a mid-range BMW, we may feel unhappy and a failure because we keep bumping into the person who lives in the penthouse upstairs and has a Ferrari parked outside.

It’s a tricky one measuring happiness. Mr Cameron once said we “need to move beyond a belief in the protestant work ethic alone.”

Maybe he is right, but, quite frankly, there does seem to be ever such a slight disconnect with his view on happiness, and the statements he and George make about the economy, and his views on a flexible labour force.

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Does it matter? If you have a social conscience, it may seem to matter. But how does this lack of trickle down affect the economy? Well, actually, we would argue this was disastrous for the economy. Maybe the single biggest cause of the 2008 financial crisis was the way the gap between the super rich and the rest grew. So it has got nothing to do with what is right or wrong. Rather, if you look at this from the point of view of wanting an efficient and growing economy, then the rich should pay more tax; tax on dividends should go up; inheritance tax should rise; we should see a property tax; and actually, corporate tax should go up, too.

Demand matters

Economic theory says that GDP is made up of consumption, investment, exports and government spending.

That might be true for an individual economy, and it might be true at a single point in time. But for the global economy, and over an extended timeframe, that is not true. For one thing, across the global economy, exports and imports cancel each other out. But, for another thing, in the long term, demand drives investment. Take as an example Moore’s Law. Computers double in speed every 18 months. This has happened because as computers fall in price, and their applications grow, demand goes up, and this in turn justifies higher investment and allows new economies of scale, so that computer chips either fall in price or become more powerful.

So, actually, for the global economy, demand really is vital.

Keynes once came up with the idea of the paradox of thrift. In an economic depression, such as the 1930s, argued Keynes, consumers tend to save more, because they are worried about the future. But as the rate of saving rises, aggregate demand across the economy falls, and the depression gets even worse. Keynes advocated channelling wealth into the poorer households, because poorer families tend to save less. So, Keynes argued that in times of a depression, money should be taken from the rich and given to the poor. He said this not because he was a socialist, in fact he was no such thing, but because, under certain circumstances, he saw this as the best thing for the economy.

Paradox of toil and paradox of flexibility

Post-credit crunch and two new theories have emerged, building on the Keynes idea of the paradox of thrift.

The paradox of toil was suggested by Gauti Eggertsson, an economist who works at the Fed in New York. He argued that under certain circumstances, if workers start to work harder, then the result can be a rise in unemployment and falls in wages. The theory is based on certain conditions: that the economy is suffering from deflation, there’s declining output, and interest rates are zero.
See: The Economist, Double, double, toil and trouble

Of course, such circumstances would be especially worrisome if consumers, or indeed the government, are highly indebted, because falling wages would be rather bad news for individuals in debt.

You don’t need to be a genius to see the parallels between the conditions that apply to this theory, and conditions today.

Another theory is the paradox of flexibility. This one, from Lynne Gouliquer, a sociologist, draws similar conclusions, but from a scenario in which labour market flexibility leads to falling wages. See: Pandora’s Box: The Paradox of Flexibility in Today’s Workplace

The point about these theories is that they hinge on the idea that demand drives corporate profits, and demand is determined by wages. So if the cost of labour falls, companies may make more money in the short run, but in the long run aggregate demand falls, and profits then decline.

The globalisation of labour

But then there’s globalisation. This column is pro-globalisation, but just because you are in favour of something, it doesn’t mean you can’t recognise its disadvantages.

This is what Ernst & Young had to say on the matter earlier this year: “The household sector’s share of national income is counter-cyclical and last year this shot up from 70.3 to 73 per cent. However, comparing this with the two previous low cycle values of 77 per cent in 1991 and 76 per cent in 2001 reveals a clear deterioration. Similar downward trends in the labour force’s share of national income are evident in all western countries. This seems to reflect what IMF economists have dubbed the ‘globalisation of labour’. Immigration, import competition and off-shoring affect the provision of services as well as goods and the demand for skilled as well as unskilled labour, and these effects have clearly been at work in the UK. These adverse trends help to explain why the recent ‘consumer boom’ was so modest compared to the Lawson boom and other historical episodes – and why households had to borrow so much to sustain this.” See: Did globalisation cause the economic crisis?

The paradox of innovation

Here is a theory, made up here. Maybe, paradoxically, innovation can also create problems for the economy. Innovation can lead to a fall in prices, and innovation may lead to a requirement for less labour, driving down wages. Innovation can lead to higher profits, without necessarily leading to higher wages. Meaning, innovation can create a scenario in which demand lags behind capacity.

Or to put it another way, under certain circumstances the Luddites were right.

This does not mean innovation is bad, of course not. But it must be recognised that sometimes even good things can carry a sting in their tail.

This column has argued before that a possible underlying cause of the Great Depression was that all the innovation that had occurred during the previous fifty years (a period, by the way, that may have seen more innovation than in any other period in history), may have created an environment in which potential capacity was greater than aggregate demand. Then the economic boom of the 25-year period after the Second World occurred, as we finally found a way of turning that innovation into wealth and distributing the proceeds efficiently .

Economists under-estimate the importance of the Internet. Why the Internet is so important has also been covered here before. See: What is the Internet really worth to UK economy?

On more than on occasion it has been said here that for feeding innovation, there have been four great advances: the evolution of language, the development of writing, the invention of the printing press, and now the emergence of the Internet. Interestingly, Chris Anderson, author of ‘Free’ and ‘The Long Tail’, and former editor of Wired, has said something similar. He has coined the phrase ‘Crowd-accelerated innovation’, and has argued that the development of online video has done for face-to-face communication what Guttenberg’s printing press did for the written word. See this excellent video: Chris Anderson: How web video powers global innovation

Steven Johnson, author of ‘Emergence’, one of the most interesting books published in the last few years, has penned a new book entitled ‘Where Do Good Ideas Come From?’ His hypothesis overlaps with Anderson’s idea in that, actually, the great breakthroughs don’t come when inventors sit on their own, beavering away at an idea, but, rather, they come via communicating with others. And since there has been no greater medium in history than the Internet for enabling communication with others, you can see why an awful lot of good ideas are likely to emerge over the next few years.

But, with innovation comes greater capacity, and unless demand grows in tandem with greater capacity, the result could be mass unemployment.

When doctors become too expensive

When equal pay for women was advanced, education may have deteriorated. The argument here is not, repeat not, saying women should not have equal pay. Rather, that there can always be unpleasant side effects of good developments. Before equal pay, one of the best careers a women could pursue was teaching, and so the teaching profession attracted the crème de la crème of women graduates. Today, instead, the women who may have become teachers head for that place where the roads are seemingly paved with gold, the City.

When you have a sector of the UK economy in which financial rewards are simply huge, it becomes harder, or perhaps more expensive, to attract top people to other professions. And so, doctors and dentists become more expensive. And since the rich and poor alike need doctors and dentists, and since these health professionals are increasingly demanding salaries that are competitive with City salaries, it means that unless the super rich pay more tax, quite a bit more, it will be simply impossible to fund decent provision of medical support for the majority of people.

Increase inheritance tax

If you believe in capitalism, and believe pay should reflect ability and effort, then you should believe in 100 per cent inheritance tax. This point was covered here almost three years ago: see: Inheritance tax – there’s votes in changing it, but is there prosperity?

The paradox of success

It seems there are times when we can become victims of our own success.

This column is in favour of encouraging innovation, so how can the problems above be fixed?

It is tempting to suggest charging more tax on the income enjoyed by the super rich, and less on the rest of the income scale. Although, unfortunately, it seems that higher income tax is not likely to achieve much. Even if the super rich paid 90 per cent income tax, the money raised would not be significant enough to make a huge difference.

Besides, such a tax would be counter-productive, and a 50 per cent income tax rate for the super rich is probably about as high as is desirable.

The income distribution problem could possibly be solved by encouraging more people to take part in the innovation process, perhaps by encouraging more entrepreneurs.

But maybe a tax on property, especially at the point of inheritance, may be the key. And if you believe that booms in property prices lie behind most economic bubbles, such a move would have the added bonus of restricting future bubbles. See: Property tax: dynamite fuse is lit by Bank of England man

It seems there are two theories on oil. One theory says that oil goes up and down in price following a regular cycle. This theory looks at what economists call elasticity of demand, and the idea goes like this. In the short run, oil is something we just must have. So, as price goes up, demand is barely affected – or, if you will, we have inelastic demand. But, the theory continues, in the long run, demand is actually quite elastic. If oil stays high in price, we change our habits. We buy more fuel-efficient cars, for example, or insulate our lofts.

And this is how the theory pans out. Oil goes up in price – the reason does not matter, just take this one as a given. To begin with, we all suffer, and recession may even be the result. But over time we learn to adjust, and bit by bit demand starts to fall. But oil companies, being run by people who have no understanding of economic cycles, don’t realise this. They can see price is high, then their finance directors enjoy something of a high from counting all the profits, and so they engage in an orgy of exploration.

A few years pass. Thanks to the oil exploration splurge, supply of oil is up. Thanks to the way we changed our habits and learnt how to be more economical with our use of oil, demand was lower. And all of a sudden price crashes. By the late 1990s, oil was around $10 a barrel, having fallen dramatically from its price of a few years earlier.

At this point we enter the next stage in the cycle. Oil is cheap, and bit by bit we become more careless in the way we consume it. Fuel efficiency goes out of fashion. We yearn for Ferraris, or other fuel-guzzling beasts. Meanwhile, oil companies suffer from cheap oil and they slash their exploration budgets.
And so the cycle turns again, and oil shoots up in price like it did during the second half of the noughties.

Those who sign up to this theory tend to laugh off the idea of peak oil. It is not that they don’t believe a permanent decline in the supply of oil would be dangerous, they just don’t see it as very likely.

The peak-oilers, on the other hand, reckon we are running out. And some then go on to argue that black gold, or oil as some people call it, is the lynchpin of the modern economy. Within a few years of peak oil, we will see an irreversible descent into a new Stone Age.

Their critics see this as ridiculous. They point towards the tar sands of Alberta, Canada, for example, and say there is plenty of oil out there, just begging to be drilled into.

Two other developments make the issue more complex.

First there’s the credit crunch. It seems this may have had a twofold effect. As recession descended upon the world, demand for oil fell, and therefore so did its price, with a barrel of oil falling from around $145 in the summer of 2008, to less than $40 six months or so later. So the credit crunch pushed down on demand. But maybe the lack of credit also meant less money was available to fund further oil exploration. So in the short run, the effect of the global economic crisis was less demand for oil. But in the longer term, the effect may be less supply. So the anti peak-oilers can argue that the fall and rise in oil can still be explained by their economic cycle theory.

The second development relates to a certain Deepwater Horizon oil rig. The peak-oilers see this disaster as evidence of how oil is becoming harder to reach. Most people probably agree by now that BP has applied quite breathtaking technology in dealing with this disaster, but the fact remains that despite this, oil is becoming so hard to get at that disasters such as this increasingly are inevitable.
Those who dismiss peak oil simply argue that the BP oil spillage is a blip. And furthermore, a blip that is being compounded by the US. They argue that our expertise in learning how to tap into oil lurking in the deep places of this planet is improving. And that if we see an oil drilling ban in the Gulf of Mexico leading to a fall in supply, then this is not evidence of peak oil, merely evidence to show the US is a fickle beast.

It seems that the UK Industry Taskforce on Peak Oil and Energy Security (ITPOES) falls into the peak oil camp. Well, frankly, judging by its name, you would expect that. It warns of the “increasing importance of deepwater drilling to global oil supply,” which it says is “expected to constitute 29 per cent of new capacity by 2015, up from only 5 per cent today.” And argues that “the result is that any future delays or problems associated with deepwater drilling will have much greater impact on supply than is the case today.”

The taskforce has been set up by various businesses, and counts Sir Richard Branson, among others, as a patron.

In a report out earlier this year it said: “Having assessed the systemic changes caused by the global economic recession, coupled with the projected growth from non-OECD countries, ITPOES predicts Peak Oil will occur within the next decade, potentially by 2015 … The study finds that the recession has delayed the oil crunch by two years.”

The taskforce reckons peak oil will occur at around 95 million barrels per day, against production levels of 85 million barrels per day in 2008. In other words, demand only needs to increase by just over 10 per cent, and wham, oil goes shooting up.

The report’s authors may or may not be right, but there is one respect in which we agree with them.

Peak oil does not have to be the disaster some say it will be. The problem with oil is that trillions of dollars have been invested into it. But there are alternatives out there. Critics of wind and solar say they are nowhere near as efficient as means for generating our energy needs as oil, but can we really say that. If wind and solar power had a fraction of the money spent on them that has been thrown at oil, it seems pretty reasonable to argue they would become far more efficient.

In some ways peak oil may prove to be a good thing. If we turned out attention to other, renewable, forms of energy, or maybe heaped resources on genetics research, so that the maverick geneticist Craig Venter faced competition in his efforts to turn algae into a cheap form of energy, then in the long term we may end up with a source of energy that is much cheaper than oil is at the present, and which would not be subject to the vagaries of the economic cycles based around the folly of human nature.

The taskforce says that more urgent action is needed from government to address the threat of peak oil following the Gulf of Mexico oil spill. It urges the UK coalition government to take action to reduce the impact of the oil crunch by 2015.

See Peak Oil – Implications of the Gulf of Mexico oil spill, for the ITPOES report and see click here  for Investment and Business News articles on the alternatives to oil

In fairness to Doctor Weale, he did put plenty of caveats in his speech. For example, he said: “Successful rebalancing of the UK economy away from public spending and towards private sector manufacturing production could help offset the reduction in potential supply, and improve its growth rate looking ahead.” But nevertheless, the gist of his comments is that as a result of the recession, the UK has seen a permanent loss in production.
It is a view commonly held by economists. Potential for growth is 2½ to 3 per cent, and therefore every time an economy expands at less than this rate, we see a loss of potential, gone forever.

That’s why Gordon Brown was so keen to end boom and bust. That’s why Alan Greenspan won such rich plaudits for his time at the Fed, managing to steer the US economy forward, apparently evening out the swings and roundabouts of the economic cycle.

The problem with that is that sometimes in order to move forward, you have to move back. If you are producing a complicated spreadsheet, which you just can’t make work, sometimes you need to throw your work out, and start again. Sometimes a business needs to enforce severe cost cutting and retrench for a while, before it can start expanding.

Sometimes you need a major shock to a system, before it can start working properly.

The price we paid for ending boom and bust under Brown, was an economy that became over reliant on credit and house prices. Maybe if the recession had come sooner, perhaps in the year 2000, when dotcoms crashed, there would have been no credit bubble.

An economy made up of banks that are reluctant to lend to small businesses, but will lend to employees to fund a holiday, is an economy heading for trouble. But if that economy is not allowed to suffer the full consequences of the errors that created its crisis, then it does not learn and evolve.

At the recent G20 summit, world leaders completely failed to come up with a fix to the deeper-rooted problems in the global economy. It seems unlikely they will do so until that point when crisis is staring them in the face.

Sometimes it is better to get all the bad news out of the way as quickly as possible. Let bad businesses fail, let bad ideas be seen for what they are, and let new businesses and ideas evolve in the vacuum left by the failed companies.

It has taken a recession and a public debt crisis before a government is in place which is willing to cede more influence to the private sector.
The dream of steady growth is a false dream. Not only is it not possible, it may be undesirable, too.

Investment and Business News is a succinct, erudite and informative roundup of today’s top news stories on business and the economy, with analysis thrown in. Sometimes amusing, frequently contrarian, often thought provoking, and always informative, Investment and Business News is free. To subscribe, click on the subscribe function at the top right hand corner of this page. By the way, did we say it’s free?

Cast your mind back to the dotcom crash. In the wake of the collapse in the share prices of tech companies, the Internet was about as popular with investors as hula hoops. It was seen as yesterday’s idea, and worse than that, a big con trick. Chips and mortar investment died, bricks and mortar took over, and boy was that a mistake.

The real irony is that the dream that lay behind the astronomical valuation of dotcoms in the late 1990s has now been realised. The snag is that most of the pre-dotcom businesses have gone by the wayside. The Internet dream has become reality, but very few of the early dotcom starts are still with us.

The Google report, which was actually put together by Boston Consulting Group reckons that the Internet’s contribution to the UK will grow by 10 per cent a year between now and 2015, when it will be worth 10 per cent of UK PLC.

Cynics say the Internet is just a load of old ether. You can’t eat it, you can’t drink it , or even wear it. It is nothing, and its contribution to the UK is an illusion; all it has done is to swap one method of buying and selling for another.

Question a cynic further and he or she may concede that the Internet has made the process of buying and selling more efficient, so in that sense it is a good thing.

Actually, there is so much more to the Net than that.

For one thing, the Internet may have been one of the key factors that has created such low inflation over the last decade or so. Back in the 1970s, when shoppers noticed a good had gone up in price, they shrugged their shoulders and bought it. Today, some shoppers go on the Internet and shop around. This has created a ripple effect, and retailers are forced to lower prices in order to compete with stores that compete with other stores that compete with online retailers.

But maybe the Internet has also created a cultural change. These days, perhaps we shop around more. We shop around more for our car insurance, for our holidays and for our cans of beans.

But the Internet is also important for two other reasons.

First off, it promotes specialisation. Specialisation is the glue that holds economic growth together. Without specialisation we would still be living in the Stone Age. Indeed, it has even been argued that specialisation is what gave Homo sapiens victory over Neanderthals – See Mrs Adam Smith.

Specialisation is the force that lies behind Moore’s Law, which has seen computers double in speed every 18 months. But use Moore’s Law as a metaphor for any form of rapid technological advance, then you can see how specialisation, underpinned by the Internet, is also charging incredible advances in genetic science, energy and food production. The Internet makes it easier for companies to find the perfect supplier, for example. For more on this, see: The two words economists forget Second off, the Internet promotes communication between researchers, academics and inventors.

Take as an example, InnoCentive, which is a kind of dating site. On one side there are 90,000 scientists from 175 companies, and on the other side there’s around 35 Fortune 500 companies. A company may seek a solution to a particular problem, so by advertising its problem on the site, inventors can submit suggestions for a solution, and any ideas that are used result in a payment to the scientist. It is open to cheating, but in an Internet world, trust is vital. If anyone breaks the bond of trust, the tat response to their tit can be crushing.

As Eric Schmidt, CEO of Google, once put it: “The new promise of collaboration is that with peer production we will harness human skill, ingenuity, and intelligence more efficiently and effectively than anything we have witnessed previously.”

Is the Internet important? Well, put it this way. We would say that for promoting specialisation there have been four great innovations: speech, writing, the printing press and the Internet. So, yes, it is a tad important.

Investment and Business News is a succinct, erudite and informative roundup of today’s top news stories on business and the economy, with analysis thrown in. Sometimes amusing, frequently contrarian, often thought provoking, and always informative, Investment and Business News is free. To subscribe, click on the subscribe function at the top right hand corner of this page. By the way, did we say it’s free?