TRUSSONOMICS, PART II

4 October 2022

Anyway to return to this Trussonomics dash for growth Gambit. (See previous post.)

It is very surprising indeed that no one bothered to alert those two to the last time this trick was played 

The last time, The Barber Boom of 1972/3, the idea was that by dropping taxes, the money released into the pockets of business and people would create a demand, which would create a following investment boom and supply to match.

But unfortunately, what they overlooked was that although there was indeed a boom, it was quickly overtaken by inflation. For reasons all Economics101 students could explain, if asked.

Do you think we need more inflation at this point? And yes the energy price subsidy will lower inflation, but in just a few months time when that runs out - year on year - we will see the true inflation again for what it really is. And anyone banking on energy prices going down is unlucky.

It is written that the Yom Kippur war in 73 didn't help as it quadrupled the price of energy, but OPEC+ has just decided to reduce supply by a million barrel a day.... they (OPEC+) say it's to maintain the price of oil, but I reckon they know their history... and it tells us which side those countries are batting on. From the evidence of this war, America and its allies have made themselves a heap more enemies from formerly neutral or helpful friends.

And anyway the Barber Boom was killed off by a good old-fashioned UK currency crisis which saw Rolls-Royce nationalised and then privatised and my dear old mum - god bless her - bought those shares with her inheritance and subsequently made a lot of money ...good for her!!! well done Mum!!!

Then I borrowed her new wealth as a deposit on a house and that worked out very nicely and I repaid her with interest.

In 71, Barber passed some legislation which freed banks to lend more money, which they did and naturally it didn't get invested into productive assets, it went into a property market boom, that contributed to that banking crisis and NatWest Bank almost went down, I read.

What a bummer!... but that's only half the story... some sort of a currency crisis is another unintended consequence.

As remarked previously, it is well weird that we have BoE monetary policy tightening and raising interest rates at the same time as we have Government fiscal policy dropping taxes ...how can this in any way be logical and coherent?

We all remember or have read of Nixon taking America off the gold standard on August 15th, 1971. Before that, it was necessary to defend your currency as it was fixed against the dollar. These days, and with independent central banks, perhaps the value of the currency is not so important... you might think.

Perhaps the pound can fall below parity and the only consequence would be Truss would lose her job. Yes, there are benefits to a cheaper pound, but alas it is mainly costs.

When it comes to debt, it is the corporate sector and governments that borrow, and it is households and foreign lenders who lend.

Corporates are going to have really big problems rolling over their debts at the new interest rates, those with the biggest debt or the smallest credibility will have the biggest trouble and so one would imagine corporate borrowing will drop.

Households as lenders have spent all their v foolishly given covid loot, they have maxed out their credit cards and now they are facing huge inflation, so they won't be lending.

This leaves Truss, who has dropped taxes, wanting to borrow very substantially against a government lacking credibility... and how do you think foreign lenders will respond if it isn't by jacking up their prices (so raising market interest rates)?

Hence that recent crisis which caused market rates to spike sharply and left the backers of LDI insurers facing margin calls that forced them to flog their assets - notably Legal and General. And another £65 billion of QE goes in to pump up gilts. (It seems to have been successful for the exchange rate; but not for L&G share price; and the markets continue to slide so evidently they don't believe a word of it.)

So along comes Truss with an idea, no thought, no plan, “without even a semblance of an effort to make the public-finance numbers add up” in the caustic assessment of the Institute for Fiscal Studies (IFS), knowing nothing of economics and Consulting no-one not heard visors not even the office of Budget Responsibility.

The next year's public borrowing requirement will double from £100 billion and how do you think foreign lenders will respond? Well of course they will Jack up their rates - what? Another bummer? 

That is how this recent sterling crisis occurred; that is how the price of 10-year gilts has dropped by 40% in the last month; that is how the purchasing power of Sterling has dropped by 8% in the last month.

And finally, how will the Bank of England respond to all this? 

Of course they will talk tough and say they'll give it what it takes and will raise rates and buy up the gilts they just sold to keep up the value of the currency, but we know very well that the currency will slide, that when push comes to shove the bond vigilantes will cause a capitulation and we will slide into even higher inflation and another recession or some sort of repeat sterling / banking crisis.