How do we get back to growth?

Should the British government change direction? And will the euro break up and inflation take off? UBS's George Magnus talks to Merryn Somerset Webb on what he sees in store for Britain.

Last week UBS held a conference in Edinburgh. They didn't invite me. I was as shocked as I imagine you are. So I went anyway and hung around until the girls handing out name badges agreed to go and get George Magnus for me.

I've been meaning to interview him for ages, and this seemed like a good way to do it without having to spend ages fiddling around with diaries. Luckily, Magnus said he wanted to talk to me too (what grace!) and that he didn't mind in the least being door-stopped at the Balmoral Hotel.

So we went to sit in a noisy corridor just down from the throng. What had he been talking about to his smartly dressed audience, I asked. His answer: the "intrusion of politics into business and economic outcomes".

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

Most of the people of "my generation have grown up thinking that politics doesn't matter" because there is a world apart from politics that is all about "the efficiency of markets and the primacy of markets in allocating resources efficiently and ensuring prosperity". As far as they could see, "all you needed was independent central banks to back the system up and everything would be fine". Then it "just kind of exploded". Now we have a "crisis of capitalism".

A crisis of capitalism or a crisis of statism? I ask. It seems to me that you could say that the huge credit bubble of the last decade wouldn't have happened in a purely capitalist environment. It happened thanks to state intervention ultra-low monetary policy and the like.

Magnus has a "certain sympathy" with that, but, as he notes at this point, the only question we need to ask is: how do we get back to growth? All the drivers of the last ten years have just gone "kaput". We can't create jobs and we can't create incomes and because of that "we can't consume all the products and services that our companies can provide". We hear a lot about how cash-rich companies are, but let's not forget that they are only cash-rich because they have "squeezed down on labour costs so much".

Underconsumption and growth

I ask if he is saying that the large corporations of the West are instruments of their own destruction (something I have been writing about). Does he agree, I ask, that as profit margins and compensation have gone up at big companies, and as incomes at the bottom have fallen in relative terms, we have created a situation in which spare cash sloshes around the place at the top, creating toxic bubble after toxic bubble, while the lack of spare cash at the bottom crimps demand?

He does "precisely", he says. Do I agree that what I have just said is Marxist? Come to think of it, I suppose I do. As Magnus says, it isn't much of a step from where he and I are to talk about underconsumption and overproduction "which is its mirror image" and how Marx and Engels described "the problem of what is endogenous to capitalism".

So given all this, how do we get growth? Perhaps, says Magnus, we just give in to statism. After all, we are competing with all sorts of countries that run various types of state capitalism, so perhaps what we need is something very politically contentious: "some kind of industrial policy that incorporates a much expanded role for government".

Might the state perhaps provide "strong incentives and the physical infrastructure for the successful sectors of tomorrow"? Let's not forget that, even in America, which is supposed to be a bastion of capitalism, key industries such as aerospace and autos are state-supported.

I wonder how we might pay for that what with the deficit and the rising national debt. Magnus is keen on the idea of the government backing infrastructure bonds, which could be subscribed to by pension funds. The average pension fund, he says, is "crying out for uncorrelated diversified assets", yet only has around 2.5% of its assets in infrastructure.

I ask if the only way out of our problems is "more state". Isn't there also a case for "less state"? Perhaps we are where we are not because of capitalism but because we have banished real capitalism with our endless rules and regulations. Take the big investment banks. They only make the super-profits they need to pay super-bonuses because regulation creates such high barriers to entry. Take those away and the problem profits and problem bonuses disappear.

Magnus could only subscribe to this "to a degree". Yes, the government can and should deregulate a bit and attempt to create the conditions for more competition. But we are operating in a pretty tricky environment. You just can't "deleverage the private and the public sectors simultaneously without causing a depression".

Those of a Tea Party disposition might like to "abandon government" and banish red tape. They might then think that "this is going to give rise to the spontaneous combustion of private activity". But it just isn't.

The private sector has to deleverage and this "takes time and is very painful". So the "transition to renewed sustainable growth over the next ten or 20 years" has to be managed. "I just don't think the private sector can do it on its own."

A Minksy moment

We move on to talk about Hyman Minsky and his financial instability hypothesis (read his 1986 classic Stablizing An Unstable Economy for more on this). The last chapter of his cycle theory deals with the fact that, post-financial crisis, you pretty much always end up with "Big Government".

The challenge is then to "figure out how to contain the bigness of government so it doesn't frustrate natural animal spirits and private-sector enterprise, but make sure that it's big enough so it can continue to make employment the lodestone of future economic stability". The big issue and the one that we can never really deal with is that financial crises are inevitable because "leverage is endogenous to capitalism".

The only way we have to alleviate that is to ensure that government policy is targeted at "sustaining very, very high levels of employment and I don't think there was ever in my career a truer moment when that should be the case". So the British government needs a change of strategy? More of a bending, says Magnus.

The coalition has done a fine job of impressing on its creditors that it is really making progress in restraining spending. Now they just need to show that they also understand that, without growth and jobs, "this thing is going to fall flat on its face" and to take the lead in steering the private sector to a future that's "not based on housing, financial services and credit".

We are running out of time fast (no surprise given that we didn't have an allotted time slot in the first place). So I ask him about Europe. Will the European Central Bank (ECB) print its way out of trouble?

He isn't sure it will do it in the way people expect. There is an "inbuilt conservatism within the ECB" that makes it unlikely that it would print money to buy the debt solely of the sovereign states in trouble. He still hopes that the ECB will end up doing just enough to make it clear that it is the lender of last resort and to keep the core of the eurozone together, "although it's not 17 countries". However, the much-used argument that a euro break-up is so nightmarish that it can't happen holds no water: "nightmarish things happen".

Hmmm. I ask if he worries about inflation. "No." Not at all? Deleveraging puts up a "sufficiently strong barrier" against it: "the money supply figures are down in the dumps". But what about the issue of trust? If people lose faith as they clearly have in Greece in the value of their money, due to social unrest and quantitative easing, might the velocity of money suddenly rise and rapid inflation result? Magnus concedes that this is a "good point". So I ask him if he owns any gold, just in case things turn really nasty. He does.

Who is George Magnus?


George Magnus, 62, is senior economic adviser at UBS. Previously he worked at Lloyds Bank International (1974-1977), the British government's Central Office of Information (1972-1974), and he has taught at Westminster University and the University of Illinois.

Magnus received an MSc in economics from the School of Oriental and African Studies, and did postgraduate research at the University of Illinois.

He has long experience of analysing the global economy, specialising in themes such as demographic change, the creation and deployment of petrodollars and sovereign wealth funds, the re-emergence of a new Silk Road in Asia, and the credit cycle in the global economy.

In March 2007, Magnus predicted that the US sub-prime crisis would result in a "Minsky Moment" a full-blown credit crunch. His most recent book, The Age of Aging, a study of the economic and social implications of the world's shifting demographics, was published in October 2008. He is working on a new book, examining what impact the crisis may have on the role of emerging markets in the global economy. He is married, has four children, and lives in London.

This article was originally published in MoneyWeek magazine issue number 574 on 2 February 2012, and was available exclusively to magazine subscribers. To read all our subscriber-only articles right away, subscribe to MoneyWeek magazine.

Merryn Somerset Webb

Merryn Somerset Webb started her career in Tokyo at public broadcaster NHK before becoming a Japanese equity broker at what was then Warburgs. She went on to work at SBC and UBS without moving from her desk in Kamiyacho (it was the age of mergers).

After five years in Japan she returned to work in the UK at Paribas. This soon became BNP Paribas. Again, no desk move was required. On leaving the City, Merryn helped The Week magazine with its City pages before becoming the launch editor of MoneyWeek in 2000 and taking on columns first in the Sunday Times and then in 2009 in the Financial Times

Twenty years on, MoneyWeek is the best-selling financial magazine in the UK. Merryn was its Editor in Chief until 2022. She is now a senior columnist at Bloomberg and host of the Merryn Talks Money podcast -  but still writes for Moneyweek monthly. 

Merryn is also is a non executive director of two investment trusts – BlackRock Throgmorton, and the Murray Income Investment Trust.