The Credit Crunch: An Update Professor Joe Nellis February, 2009 SM This is the latest update on the Credit Crunch. Since we last spoke to Professor Joe Nellis there are lots of things that have been happening in the economy‐
mostly, I have to say, not very favourable. Perhaps the one that sticks in my mind most is the recent IMF Report, which rated Britain’s chances of recovery bottom of the league. Now, for me, that was certainly a shock and I suspect to most people. So Joe, what were your reactions when you heard that? JN To be honest, not surprised. The UK, let’s remember, has had sixteen years of positive growth. In some ways you could argue that we have had it too good for too long. The consequence of that long period of growth, the longest on record, has meant that personal borrowing and corporate borrowing have all increased significantly because there was a belief that things would always continue to be good. And so the bubble has burst. And the scale of debt that is overhanging the economy now means that we are going to come out of this, in my opinion, very slowly. Certainly it is a downturn for 2009, bottoming out I hope in 2010, but still in 2011 growth will not be at trend. It will be below trend even in 2011. So it’s two to three years of pretty tough times. SM So the trough is going to get deeper still – is that your thought, really? How long are we going to go down? JN Well it is my view that it is going to get deeper and it’s also the consensus view. The latest forecasts which have come out in the last few weeks from the major forecasting organisations, not just the IMF, but in the UK as well, suggest that from peak to trough we are looking at perhaps a 3% fall in total across the economy – the whole economy. Now that would make it the deepest trough for many, many years, going back probably thirty, forty, maybe even fifty years. In the last recession of the early 90s peak to trough was about 2.5%. This one is going to be deeper. SM Now one of the things as a layman that strikes me is that 2% doesn’t sound very much, and yet everybody is saying that this is a catastrophe. Can you explain that? JN I think you are right of course. A lot of this is about confidence, but you know if you are running a business and you are used to positive growth in your sales, when they stop rising, that probably feels like a crisis as well. It is not just no longer rising, it’s actually falling and so it’s really a shrinkage of the economy at a time when we tend to expect more. But of course, we are taking an average across the whole economy. It’s the particular sectors that are the biggest concern. Sectors like manufacturing are very hard hit and of course, at the same time, what is keeping the economy afloat will be government spending and government borrowing. So in a sense we are remortgaging the future to keep us afloat today. That is the real issue. SM If we just stick with manufacturing, one of the most noticeable things is car companies going on sabbaticals, short time working and so on and really pressing the panic button, and even the most successful companies saying we are really in the most dire trouble here. Is it as bad as that? JN It is as bad as that. There are a couple of things that are happening. I mentioned confidence, people are losing confidence in terms of job security, for example. Interest rates are very low, but will people have their job next week to pay back their debt and this is really hitting very hard the big ticket items. But there is another dimension – we are in an era where there is a danger of deflation. Now deflation means literally prices falling. If you expect prices to fall next week or next month or next year, then why would you buy today? Of course for the big ticket items, like cars and like housing, it’s delaying those purchases. Now in the car industry, if they stop selling enough cars their stock levels build up and as their stocks build up they have got to keep maintaining the factories, they have got to keep those jobs going and they can’t afford it – they are not selling any cars. Of course you can imagine if they don’t sell that stock for more than one year, they become old models. So that is why many car firms have stopped production for a short time – two or three or four months – to try and clear those levels of inventories to then start the process moving again. This is serious. SM You mentioned housing. The British are often being accused of being obsessed with house prices, do you see prices continuing to fall? I saw one report this morning that said they could go down as much as 40% on 2007 prices. JN Look, it’s possible. We are in a whole new ball park where nobody can be really confident of what is going to happen because we have no benchmarks in the UK for this scale of downturn. I would just remind you of one fact, that during the depths of the Japanese recession/depression of the 1990s, house prices in Tokyo fell by 75% from peak to trough. Therefore it is possible it could happen here. Their crisis originated in the banking sector: so has ours. I am not going to say there are green shoots of recovery, but it is encouraging nevertheless to notice that in January the scale of mortgage lending was double the previous month, but still way, way down on the previous month a year ago. So I don’t expect house prices to suddenly reverse, I think we are going to see them fall for many, more months to come. Of course, at some point when they do reach bottom and if interest rates remain as low as they are today, then there are all the signs that there will be a recovery. But that will take some time. SM One of the most worrying things that I have seen that has recently emerged is wildcat strikes – “British jobs for British workers” – have you any thoughts on that? JN Well first of all it is understandable why people should become concerned about the use of foreign workers in certain situations where the British workers are excluded from being part of the workforce. But I think the bigger issue is the use of protectionism, that if we start to talk in a language and take actions that are seen to be anti‐foreign in terms of not just workers, by the way, but in terms of trade, remember this can lead to retaliation and that would be a disaster. We are a trading nation, we do rely on exports and imports. We are part of the European Union and the fact is that over the last fifty years since the Second World War, the percentage of our economy that relies on international trade has grown significantly – not just in the goods area, but of course in the service sector, in areas such as insurance and banking. So this is vital for the UK and protectionism is not good for long term growth. In fact it is very bad. SM Joe, thank you very much for this latest update. We will come back in a month’s time and see where things are then. JN Thank you, Steve.