US perspective on UK fiscal outlook

I spent the first five days of the New Year in Atlanta, Georgia, attending the annual meetings of the American Economic Association. The town was overwhelmed with more than 7,000 freezing economists – the temperature never rose above zero and the hotel heating systems in that southern state could not cope.
As you might expect, there was plenty of discussion of the economic crisis, why economists had failed to forecast its onset and/or severity, and what to do next. Whilst much of the discussion was very US focused, some points raised were of relevance to current UK controversies.

First, the deficit: There was much discussion of the impact of President Obama’s financial stimulus both on economic activity and on government finances. In general US economists seemed to be concerned (though not overly concerned) about the growth of the US deficit, and, in stark contrast to the debate in the UK, rather envious of the fact that the debt of the UK government is “so low”! This view, rather surprising from a British point of view, was based on the IMF’s recent analysis of government debt in the major industrial countries, summarised in Chart 1.

The chart shows that in 2009/10 the UK had the lowest debt to GDP ratio. Even in 2014 when current high deficit rates have piled up the debt, the IMF predicts that only Canada will have a significantly lower debt ratio. So what’s the problem? It would seem that in a general election year we are in danger of talking ourselves into a crisis.

Public Bailout

Second, bankers’ pay: There seems to be as much controversy about bankers’ bonuses in the US as there is here. It was pointed out by several speakers at the conference that even banks that appeared robust had in fact been sustained indirectly by the public bailout. For example, Goldman Sachs would have collapsed without the bailout of AIG.
But of rather more interest was a long run analysis of the relationship between financial sector pay, pay in other sectors, and the regulation of the financial sector. In the period from the 1930s up to 1980, when US financial markets were tightly regulated, bankers’ pay was broadly the same as pay in other sectors. The deregulation of the early 1980s doubled the ratio to that enjoyed in the rip-roaring ‘twenties – and more!

Imbalanced Economy

Finally, re-balancing the economy: In the US as in the UK there is growing concern about an imbalanced economy, with the erosion of the world-wide competitiveness of US manufacturing, and perhaps an “over-reliance” on financial services. Chart 2 suggests that as far as over-reliance on financial services is concerned the US does not seem to have a problem, but the UK does.
Whilst in most countries that ratio of bank assets to GDP has not changed much in the past decade, there have been dramatic changes in Switzerland, Iceland, Ireland, and the UK. We all know what happened to Iceland and Ireland. Switzerland relied heavily on assistance from the US to deal with difficulties at UBS. The UK has managed so far, but at considerable cost to jobs and the public sector. Food for thought.

Lord Eatwell is Professor of Financial Policy at Cambridge University. The latest CMI Economic Outlook report by Lord Eatwell will be published next month.
For further information about the report or to comment on this month’s column, please e-mail professional.manager@managers.org.uk

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