Note from the editor-in-chief:
Everyone with financial assets in the UK should read the article by Bernard Connolly we are posting below. Bernard is the legendary economist who resisted the creation of the euro while he was working at the European Commission in the 1990s.
His critique in his book The Rotten Heart of Europe – and especially his prediction that the euro would lead to a credit bubble followed by a sovereign default in the eurozone periphery – saw him fired from his job.
Later, in 2008, Mark Carney – then governor of the Bank of Canada, now governor of the Bank of England – cited Bernard alongside Nouriel Roubini and Ken Rogoff as one of the few economists who correctly foresaw the global financial crisis. His thesis in today’s article is as chilling for the UK as those two previous highly contrarian predictions
Merryn Somerset Webb.
George Soros has at times been a very successful speculator. But in his article in yesterday’s Guardian he asserted that Brexit would bring a sharp fall in sterling that would be very damaging to Britain. That suggests that he is confused about the underlying needs of the British economy – as is the Bank of England.
Soros says that unlike the obviously beneficial depreciation of sterling after “White” Wednesday in September 1992, when sterling left the ERM, a post-Brexit depreciation would cause a recession, because the Bank of England has virtually no room to cut interest rates and because Britain has a large current–account deficit.
But the reality is that Britain, in the EU or out of it, has a severely unbalanced economy in which, because of abnormally low interest rates, far too much spending has been brought forward from the future. Britain is not alone in that – it is a problem faced by many economies. But the huge current-account deficit (7% of GDP – an all-time record) is an indication that the problem is significantly worse in Britain than elsewhere.
That deficit cannot run on forever. It is not financed by “the kindness of strangers”, as Mark Carney notoriously claimed, but by the greed and folly of markets. It is quite simply inevitable that at some point markets will realise that Britain’s external position is unsustainable.
Britain is living beyond its means, in part because of the wholly illusory perception of “wealth” created by inflated house prices – in turn the result of aberrantly-low interest rates which are distorting the economy and creating a looming crisis for pension funds and life insurers.
The increase in British “living standards”, relative to underlying productivity growth, simply has to decline for a time. Britain needs higher interest rates, lower house prices and a weaker currency. That truth is undoubtedly unpalatable. But burying our heads in the sand, as Soros – and, irresponsibly, the Bank of England – seems to want to do, would only make things worse.
The longer it takes for that recognition to take hold, the more disruptive will be an eventual “sudden stop” in the financing of the deficit, the bigger will be the sterling depreciation required to support output and employment in the face of reduced domestic demand (in the economics jargon, this comes mainly from switching demand from internationally-traded goods, mainly produced abroad, to non-traded goods, produced and sold only at home – a mechanism Soros seems not to have grasped) and the greater will be the risk of financial crisis.
The most serious risk of all for the British economy is that if the opportunity for political escape and economic re-balancing afforded by Brexit is not taken, market recognition of unsustainability will come in the context of the inevitable next phase of the euro crisis, or of a global financial crisis.
There are only three things the EU does not like about British financial markets: they are British; they are to do with finance; and they are markets. EU officials at all levels have made it clear that in a crisis, London, the biggest financial centre and the hub of trading in the euro, would be the focus of their concern and that the British economy and the British financial sector would be sacrificed to protect the euro area. It is even likely that the EU, relying on Article 140 of the treaty, would seek to force the British government to resist a sterling depreciation which would “distort the Single Market”.
In such circumstances, Britain would be forced to choose between a Greek-style depression (and ruining bank depositors via the EU bail–in rules) and emergency exit from the EU in far more contentious and recriminatory circumstances than in the present.
This is not a happy message. We might wish we were not starting from here. But if the opportunity of Brexit is not taken, Britain will suffer far more pain in the future – probably a near future.
All this is about economics. The argument for lancing the economic boil is compelling enough. But the political and constitutional arguments for Brexit are even more compelling.
It is perplexing that Soros, whose family survived the house-to-house destruction in the Battle of Budapest between the tank armies of two totalitarian powers, should be so enamoured of the new totalitarianism incarnated in the European Union, with its European Gendarmerie Force and its plans for a multinational army – as JS Mill described such armies, “the executioners of liberty throughout modern history”.