Maybe the cause is different, perhaps it would be more apt to quote Tennyson and say that it is not ours ‘to reason why’. Instead we just need to ‘do and die’ with the demands of the markets.

But here is the puzzle. Yes, there is evidence to back up the idea of selling in May, and yes, there is a very good reason to think that markets are pretty much in perfect condition for a spring time sale. Yet the bulls seem to be able to shrug off the worse that the economy can throw at them. They charge as if they were the Light Brigade itself, although one can’t help but feel that they ride into the valley of death.

Since the end of the last World War, the S&P 500 has fallen by an average of 1 per cent between 1 May and 31 October. But between 1 November  and 30 April  it has risen by an average of 6 per cent. But when companies are valued by the markets, the market capitalisation is supposed to be based on a best guess of all future dividends, discounted by a guess of what the average rate of interest will be from now onwards. The resulting number gives us a net current value. So if shares all go up in tandem, those who believe the markets are rational would say there is one of two explanations. Either there has been some kind of deep rooted reason to believe the future has changed, that past estimates of what companies would make for the rest of eternity need to be revised dramatically, or alternatively, there has been a change in the future course of interest rates.

Any significant change in an index that cannot be put down to one of the two above explanations would rather suggest markets are not rational after all, and instead are determined  by such things as herd instinct and desire to conform to the crowd.

And right now, there is an awful lot of herd instinct and crowd conformity going on.

Take austerity. Things are looking nasty. Austerity, if applied by one country in isolation, can be just what is needed. But when we see a call for global austerity, we risk forcing the global economy into a very deep hole, but what do the markets do? Why they punish all those who question the need for austerity. If a country elects a leader who has doubts about the need for cut backs, for enforcing an economic depression on the electorate who invited him, or her, into office, the markets vent their venom.

The markets are quite capable of self-defeating behaviour. That is clear. And we risk catastrophe as a result.

You may know that there are three pretty big ideas that economists like arguing about. There’s Keynesianism, Monetarism, and then there are the Austrians. During Mrs Thatcher’s era, the row seemed to be between the Keynesians and the Monetarists. And frankly, the Keynesian idea that governments can spend their way out of recession seemed pretty discredited. In fact, the backlash against Keynes had started before Downing Street saw its first ever woman Prime Minister. “We used to think that you could spend your way out of a recession and increase employment by cutting taxes and boosting government spending, “ said the then Labour Prime Minister James Callaghan in 1976. “I tell you in all candour,” he said, ”that that option no longer exists, and in so far as it ever did exist, it only worked on each occasion since the war by injecting a bigger dose of inflation into the economy, followed by a higher level of unemployment as the next step.”

Before he became disgraced, President Nixon once said: “We are all Keynesians now.”  A few years later, that belief was in disarray, the monetarists were in the ascendance as was their conviction that both the UK and US had allowed the money supply to rise too fast during the 1960s and early 1970s, causing all kinds of nasties.

Then there are the Austrians. If the markets were left alone, and governments left businesses and employers to their own devices, there wouldn’t be unemployment, they say – at least not for very long. Their rationale goes like this: if there was a rise in unemployment, wages would fall, until employers look at the cost of labour, see that it is very cheap, and start employing again. In other words, if wages were allowed to fall, markets would clear. Demand and supply of labour would always match, and in a world where there is no unemployment benefit, supply of labour would pretty much be infinitely flexible. The Keynesians respond by saying that if wages fell, total demand across the economy would fall, and actually that would make things worse.

These days the Austrians slate labour laws: how impossible it is to sack staff, of the huge overheads associated with employing people. And funnily enough, these days, the Monetarists and Keynesians have pretty much moved into alignment. The Keynesians look back on the Great Depression of the 1930s and say the mistake made then was that governments didn’t spend enough. It took World War 2 and the resulting massive levels of government spending, which was a kind of Keynesian stimulus by mistake, to end the depression. The Monetarists say the Great Depression occurred because banks were allowed to collapse, and the money supply was allowed to contract. They both argued for more stimulus; they just disagreed on how that stimulus is constructed.

The Austrians say “no”. They continue:  governments need to slash spending, debt needs to be cut, and then cut some more. They say that if governments can get rid of their debts, business will suddenly feel a lot more confident, start spending all their massive reserves of money, take on more staff, and the world will go back to being a happy and prosperous place.

In all the furore of the last few years, the Austrians have become associated with austerity. And that is why Krugman’s new word is so apt. The Austrians have become the Austerians and the focus of debate has shifted.

Today’s articles:

Are the austerians on the retreat? 

Hollande leads the backlash 

Is common sense wrong? 

Sterling rises on Hollande victory 

If they are right, the effect upon the global economy will be every bit as nasty as when Lehman went bust, maybe a lot worse. But before you panic, cheer up, help yourself to another jam sandwich, for there are good reasons to think it won’t happen.

First, here is a caveat. If you were to line-up every lady or gentleman of the press who has ever made some kind of prediction of doom, you would form a wall big enough to see from outer-space – or at least it feels that way. And most of these predictions are proven wrong. The forces of randomness mean that from time to time one’s forecast will get it pretty much spot on, but that does not necessarily mean you have to take all the words from this latter day Nostradamus as if they are gospel, and believe everything they state.

Before we drill down into this China question, here is a reason to swap the cakes and sandwiches that make up the picnic to fillet steak washed down with bolly. For while the legions of bears are indeed formidable, there is one very good reason why we should be gushing with optimism.

Articles in this series

China, another Lehman moment and the new industrial revolution

China’s bubble 

The dangers of unrest in China 

Time to celebrate, and welcome debt 

Take UK corporates. According to the Ernst and Young ITEM Club, no less than £754bn in cash is sitting on UK company balance sheets. Is that a lot of money? Well put it this way: it’s around half of the UK’s GDP. Okay, its only ten times or so more money than Apple has, but it’s still enough to just about bail out the Eurozone, or make Christine Lagarde’s day by fulfilling the IMF’s current fund raising requirements more than three times over.

The ITEM Club puts it pretty strongly: “British companies,” it says, “sucked a hefty £72bn out of the system in 2010, and a further £80bn last year. And most of this cash is being hoarded, not spent or invested.”

Sometimes working out what’s going on in the world is like peeling an onion. You peel off a layer, and there you see the problem, the one thing that is wrong in the world, only to find there is another layer underneath.

At face value, the problem in the world today is all that cash doing nothing. If it was invested it would boost the economy. If it was spent on mergers and acquisitions that would help, as would higher dividends, but the thing that would really help would be if companies used all that cash to pay workers more money, or take on extra staff.

That’s how it is supposed to work. Companies make a profit, enabling them to pay both staff and shareholders more money. Workers and shareholders go out and spend this money, leading to more demand, higher consumption and so profits rise further still, leading to another jump in wages and dividends.

When Henry Ford decided to pay workers at his factories $5 a day, which was more than double the going rate at that time, he hoped that by doing so other employers would increase wages, and as a result more workers would be able to afford his cars. Henry was a true visionary. Alas what we are seeing today is the opposite.

The ITEM Club puts it this way: “The national accountants estimate that wages and salaries fell from 46.6 per cent of GDP in 2009 to 45.3 per cent in 2010 and just 45 per cent last year. ITEM sees this share falling further to just 42.4 per cent by 2015. At the same time, the share of non-financial corporate profits, which reached 15.7 per cent of GDP last year, pushes up towards a staggering 20 per cent.”

Of course the UK is not unique, the problem in the US is similar, and if anything it’s more exaggerated. In China profits have been rising at the expense of wages for years. It’s a worldwide phenomenon. (Yet, ironically policy makers are saying that across indebted Europe wages need to fall much further.)

And that in part is why Krugman doesn’t think debt matters, or at least not as much as we are being told. There is all this money lying idle, and where does it finally end up? Why it finds its way into government bonds? In other worlds corporates want to lend their money to certain governments, so shouldn’t governments spend this money, thus stimulating the economy, creating more growth, less unemployment, less benefit payments, and more tax receipts?

Others say the opposite. They say that the reason why companies are not spending is because they are worried about government debt, and fear taxes will need to rise eventually, so they are sitting on their cash waiting for that sad day. If the governments can rein back spending, corporates will feel more relaxed about spending their money, or so they say.

Well maybe, but perhaps it is time to look at the next layer of the onion.

Other articles in this series

UK companies have been swimming in cash while consumers have been drowning in debt

Real wages fall again 

The problem with globalisation 

More or less austerity? 

But here is some shocking news straight in. Investment and Business News can exclusively reveal that the future is uncertain. And maybe the ones that allow for this – companies and civilizations that can cope with randomness – are those that survive in the long run. Maybe, the tyranny of so-called quarterly earnings reports are part of the problem.

Take smart phones. Cast your mind back a few years ago, and did you predict that the future of mobile phone would lie with a device boasting a touch screen? And did you predict that lap tops may be replaced by touch screen tablets. If you did, congratulations; may we call you Apollo? But most of us really didn’t know. Back during the early days of the World Wide Web, Bill Gates didn’t know either. Microsoft knew some form of online communication was set to emerge, but his company bet against the Internet.

Such uncertainty may be a fact of life, but we don’t like it.

Have you noticed how inaccurate the weather forecast is? Here is some advice if you want to know what the weather will be like in a few days’ time. Write down a list of temperatures that were actually recorded over the past ten years for the specific date for which you want a prediction. Now, grab a pin, don a blindfold and stick the pin in the paper.

Sony has problems, as has Nokia. The two companies were once so mighty that you would have been forgiven for thinking they would last forever. Sony once had the second most recognised brand name in the world after Coco-Cola. Nokia dominated the market for mobile phones so much that it sometimes felt as if the opposition was about to disappear altogether. Then RIM came along with the Blackberry. And while the Finnish company was still number one, some felt that in the future the fight for domination of the mobile phone would be fought by Nokia with its Symbian system and RIM.

Sony has just revealed its biggest annual loss ever – it is no less than $6.4 billion in the red. It is hard to see what the company can do about it. Of late, the one industry where it has continued to excel has been in video games hardware. But even in that business it has been looking like second best, as Microsoft with its brilliant Kinect product, has been outthinking Sony, even if its hardware is technically inferior.

Nokia had said it expected to break even, but now it is forecasting a loss in the first half of 2012. But what can it do? Not so long ago it was mooting the idea of uprooting some of its departments all the way from Finland to Silicon Valley, in the hope that its executives would suddenly start dancing to the Californian beat. Instead, it has decided to team up with Microsoft.

RIM could see it was losing some time ago. So its then chief executive, Jim Balsillie had this cunning plan to focus on data services. The idea was for the company to take on Apple and the Android by letting lots of companies produce and sell phones that worked across its network. In other words, to create a standard and let an army of consumer electronics companies fight its cause. Then the RIM network had that outage, and Blackberry users were locked out of accessing their phone for a few days, and the plan looked like pie in the sky. And now Mr Balsillie has gone off to pastures new. RIM is in retreat, ditching consumer products. Maybe its retreat will work, more likely in a few years’ time the only kind of blackberry we will be familiar with will be the one that grows on a bush.

These days, it’s Apple, and a handful of Android devices. There’s Samsung, the South Korean company blazing a trail that its Japanese rivals can only envy; Amazon with its Kindle Fire – a product that is reportedly outselling the iPad in the US; Google with its host of products, and that other little company that is determined to never be known as a fruit that goes with blackberries to make a pie.

Other articles in this series

The mystery of business

Google slams tyranny of quarterly earnings 

Nothing lasts forever 

Tesco’s woe 

So put all that together and what do you get? Well, around 15 million spare workers. Capital Economics reckons we could be just three years away from running out of workers to migrate into the towns.

 And that means China could be close to what is known as the Lewis Turning Point. This is a state in economic development, named after former Nobel Memorial Prize in Economics winner Ken Lewis, when industrial wages begin to rise quite rapidly as the surplus labour from the countryside tapers off.

 So what are the implications of that? Well, quite a bit, actually.

 There are some other points, too. First there is the spoilt brat syndrome, or is that a generation who are unwilling to work for little more than slave labour wages. Call it what you will, but it seems that younger Chinese are less enthusiastic about living six months of the year away in dormitory-type accommodation.

Secondly, in any case the Chinese population is ageing. The Chinese baby boomers – typically born in the 1960s and early 1970s – are not getting any younger. The one-child-per-family policy was introduced in 1978, meaning the first of this generation are now 32. In fact, the number of Chinese workers between 15 and 34 is now declining quite rapidly.

 So what will happen?

In part, it seems that some companies will relocate so that they are closer to the supply of labour. This in turn will help make income distribution across China a little more evenly spread.

 But what is clear is that Chinese wages will rise. The process has already begun, and one assumes that for the next few years Chinese wage growth will be faster than the growth in China’s GDP.

 This change is a good thing. It is good for the Chinese themselves, of course, but it is also good for the global economy.

As wages rise, consumer demand will go up, imports will increase, global imbalances will, theoretically at least, start to ease.

 But does this mean inflation, not only in China, but across the world?

Well, if cheap Chinese labour over the last decade or so led to cheaper products in the West, then the obvious answer to that question is that higher Chinese labour will indeed lead to more expensive products, and that globally prices will go up.

 But you need to bear in mind that much of the pressure on commodity prices, especially oil and metals, has come from Chinese investment. If consumption takes over from investment as the driver of Chinese growth, then some commodity prices may well fall.

The Chinese are already great meat eaters, so rises in wages are not likely to lead to a significant increase in demand for meat.

So maybe we will see a reversal of the patterns seen in recent years: manufactured goods will increase in price, and commodities fall.

But two other factors may help to stop global inflation from getting out of control.

First of all, just because China is running out of labour, it does not mean she is running out of capacity to increase productivity. In fact, Chinese productivity per head is still very low relative to the West, meaning there is lots of potential to improve productivity. So, for as long as the increase in wages per hour does not rise faster than the increase in productivity per hour, inflationary pressures will be minimal.

But secondly, we forget China is not the only developing country in the world. There are plenty of workers across the developed world who could yet migrate from their countryside into towns, from farms into factories. The truth is, the global economy has lots of surplus labour.

It does seem, however, that the underlying factors that created the credit boom and then the crunch in the West are unwinding. Chinese consumption is set to rise, investment growth will slow down, meaning China’s trade surpluses with the US and Europe will surely fall.

But put these changes in China in the context of a shift in the global economy away from the great savings glut that built up over the last 30 years: see yesterday’s piece: Interest rates set to rise as economic tectonic plates shift – is this good or bad news?

Right now there are four major factors at work. There’s the shift in China. There’s the global shift towards investment and away from savings as the developed world beyond China starts to catch up with the West. There’s the retirement of the baby boomers. And finally there’s technology, as growing computing power and the Internet in turn lead to remarkable advances elsewhere, such as in genetic science.

The next decade or so will probably see more changes in the global economy than any other decade for a very long time indeed.

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

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 all, the Russian government is hoping to raise US$59 billion from next year through to 2015, selling off stakes in around 900 companies.

It is not the first privatisation programme, of course. It also sold off state assets during the Yeltsin era, but it seems on that occasion utterly failed to take a leaf out of Mrs Thatcher’s book. If you are of a certain age, you may remember the famous advertising campaign, “Tell Sid,” for British Gas. See this clip if if you want to see the ad again, or, if you are a younger reader, to see what we are on about. The snag of course with the first privatisation programme is that the Russian government told Roman, Mikhail, Oleg and a few other would-be oligarchs, but forgot to tell everyone else.

Actually, there is an interesting power struggle developing in Russia. When he first became President, Dmitry Medvedev was seen as a puppet, moving and dancing to the strings pulled by Vladimir Putin. But since then, things have changed. Vlad pulls the strings, but Dmitry doesn’t necessarily respond. The president talks about Russia as a backward economy, and wants to accelerate the pace of change. Mr Putin is in favour of the more gradual approach.

Mr Putin recently revealed plans to re-stand for president in 2012, but this begs the question, will we see a contest between the two men?

Right now, the tide is with the tiger shooting, judo expert former president. And there are powerful lobbies in Russia who don’t want to see rapid change. They rather like the status quo, represented by the more conservative Putin. When Yeltsin came to power his policies led to a bubble and the Russian crisis of 1998. At one point in 1998, the entire market capitalisation of the Russian stock market was lower than the value of Sainsbury’s.

But sometimes the relationship between cause and effect can be quite elongated. The Russian economy boomed between 2000 and 2008, and the foundations may have been laid during that period of rapid reform.

Mr Medvedev is far more popular in the West; Putin seems to arouse memories of the older style Soviet premier, flexing his muscles, and doing down the West at every opportunity. A couple of years ago he offered to teach Nicholas Sarkozy judo; can you imagine that?

But the privatisation programme, one assumes, is very much Mr Medvedev’s baby.

Capital Economics reckons Russia has the potential to be Europe’s biggest economy by 2035, but Neil Shearing, Senior Emerging Markets Economist at the economic forecasting group, says: “But with economic progress ultimately dependent on political progress, it seems that the next twenty years will mirror the past twenty and that Russia will remain a story of unfulfilled potential. In the absence of policy reform, while growth will fluctuate with the price of oil, we doubt it will average much more than 2-3% per annum over the next twenty years or so.”

But maybe, just maybe, if the privatisation programme can start paying dividends in time, things will be different. And Mr M will find he is able to remove himself from under the shadow of Vlad the Impaler that is old style Russian mismanagement.

PS: Russia may be embracing the ideas of Thatcher, but the bear is not alone. Even Cuba recently revealed plans to adopt market practice. See: Capitalism sees new birth in Cuba

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