Opinion: England hammered

By Neville Bennett The UK is in deep trouble. It reminds me of Kipling who wrote "England's on the anvil - hear the hammers ring - England's being hammered, hammered, hammered into line!". Its recent second banking crisis has stripped investors of hope: its currency is collapsing, its high streets are dead and it is confronted with the vicious reality that is has little to sell anymore. This story has all the ingredients of a Shakespearian tragedy. Until last year, England had enjoyed almost a generation of unbroken prosperity with very high per capita income of US$46,100 in 2007 (IMF). The only countries that were richer were small Europeans (Luxembourg, Switzerland, Scandinavia, etc). New Zealand by comparison rated US$30,400 per capita in those IMF estimates. Australia came in at US$43,150. Brits were apparently half as rich again than Kiwis. They were richer than Americans, Aussies, Canadians, Belgians, Germans, and Japanese. This was partly due to the strength of the pound, but the pound was strong because the fundamentals were good. London was a very expensive, exciting city; the world's banking capital, and the next host of the Olympic Games. It ruling government claimed, effusively and prematurely, that "boom and bust" had gone forever. Alas! Prosperity has wilted. Perhaps the UK will not enjoy such a high standard of living again for many years. The passage of "The Age of Moderation" will have severe effects. The credit crunch has invalidated the UK's growth model. It will take many years to find a new model of sustainable growth. This is because the UK's economy has become over-dependant structurally upon financial services and household consumption. This bias is deeply rooted, but is vulnerable to change. Britain was in 2007 by far the most successful provider of financial services in the world. In what now looks like a halcyon age, in 2006 UK Financial sector net exports were ₤24.4 billion. Banks were the biggest contributors at ₤12.2 billion, followed by insurance, securities dealers, fund managers and shipbrokers. The UK had more than half of the world's trade in financial services; dwarfing rivals like Luxembourg, and Switzerland. The UK was also a great provider of other services. It had massive educational service earnings (second to the USA) tourism (sixth in world) and huge professional services. Professional services earned a net ₤5.4 bn in 2006 mostly from business management and management consultancy, but also legal and accounting services. Exports of goods fell every year since 2000, and the UK has a large current account deficit. Britain"˜s biggest activity, financial services is in jeopardy because there may be only two London-listed banks left by the end on 2009, and because sterling is weak, and depreciating (no one wants to hold assets in a depreciating currency, especially when the yield on interest rates is extremely low). Because successive governments have supported the vocal City of London's demand for a strong pound, there has been a bias against Britain's manufacturing industry, and that will delay replacement export sources. Although manufactured exports are declining, Britain remains the world's sixth largest manufacturing power. Britain put too many of its eggs into the financial services bucket. The credit crunch has shot holes through that strategy, leaving the future uncertain. Needless to say, the second great prop of the British economy - household consumption - has been decimated by falling incomes and a mortifying collapse in house prices. PricewaterhouseCoopers reports Britain is in danger of creating "grey malls", mirroring the wasteland of closing malls in the USA. Many anchor tenants have closed like the 500 store Woolworth chain. Others have cut back sharply, like Marks & Spencer, Sainsbury, Homebase and many others. The retail sector woes are alarming because GDP fell by 1.5% in the last three months, its sharpest decline in three decades. Many analysts fear that contracting economic growth, slumping house values, and growing unemployment will bring a collapse in demand, further aggravating the fall in GDP. The European Commission predicts UK growth rate in 2009 will be its worst since national accounts were first compiled - negative 2.8%. Britain is in recession after experiencing two successive quarters of negative output. The news sent the pound sliding to its lowest level since 1985 because investors anticipate Bank of England rates cuts, eventually to zero, to combat the recession. The severity of the economic contraction is similar to 1921, 1931 and 1980. Many experts believe the UK is headed for a depression which I define as a peak-to-trough economic contraction of 10%. There are exquisitely painful situations. Like in the 1930's, the value of many assets - from shares to property - are falling at an unprecedented pace. Many have been bought on credit, and the debt remains unchanged. This is "debt deflation", a terrible state for households and business alike, for the debt grows at compound rates, even if the investor borrows no more. There are already two million unemployed, and some analysts expect it to surpass three million by years end. Public finances are deteriorating with another ₤300 billion in a second banking crisis last week. The deficit is 50% of national income, which is below EU average. Credit rating agencies have re-affirmed the countries triple-A status. The markets agree as bond yields are at historic lows. Nevertheless, the market remains worried about toxic assets in the banks in which the Government has a shareholding- HBOS, Royal Bank of Scotland, Lloyds etc, raising the possibility that the UK could be another Iceland in the event of a run by foreign investors. Government guarantees help to guard against a run, but there is concern about weak assets  incurring losses equivalent to 8% of national income. Some defaulting asset classes were not around in any quantity in previous recessions: credit cards, swaps, innovative mortgages, collateralized debt, private equity debt. These could easily destroy all of the new bank capital raised in 2008. Only the state can make good the shortage of capital, forcing the pace of nationalization. Britain is the first major economy racing towards depression. The capitulation of sterling is causing deep concern. Newspapers are openly talking about the UK going cap-in-hand to the IMF, and even the Financial Times saying Britain is "all washed up".  As legendary investor Jim Rodgers, a former partner of George Soros, told the Financial Times: "It's simple; the UK has nothing to sell". ------------------- *Neville Bennett was a long-time Senior Lecturer in History at the University of Canterbury, where he taught since 1971. His focus is economic history and markets. He is also a columnist for the NBR where a version of this item first appeared.