I was trawling the Blogesphere the other day when I came across an interesting comment from a fellow Geek. The Blog was discussing the fact that many so-called wealthy people had borrowed vast amounts of money far in excess of their assets. He/she commented that these people were not wealthy in the normal sense of the word and he/she suggested that they are "Virtually Wealthy" in that they have the use of a great deal of credit but could not settle their debts if asked to do so. In the UK, the working class people refer to this phenomenon as "Doing a Maxwell" in memory of Robert Maxwell, the newspaper tycoon, who borrowed millions of pounds irresponsibly with no tangible assets of his own and when his creditors demanded repayment he committed suicide by jumping into the sea off his luxury yacht. Many of the previously rich people in the UK are now in the situation of being "Virtually Wealthy" especially since the value of their assets has deteriorated by up to 50% since the start of the recession in August 2007. Even many ordinary home-owners are in negative equity as their mortgages exceed the current market value of their houses particularly those who bought at the top of the housing boom in 2004-2006. The "Virtually Wealthy" at the top end of the borrowing scale pose a significant threat to the UK economy because they are being kept in the style to which the have been accustomed by their "friends" in the banking sector who themselves are technically insolvent in a similar way to their favoured "Virtually Wealthy" customers. This situation is unsustainable in the longer term because as the recession grinds on and on the banks are also running out of credit and at some point in the not too distant future they will have to demand their money back from the "Virtually Wealthy" who will be unable to cover their debts by the sale of their non-existent assets and will have no alternative but to declare themselves bankrupt.
The story only starts with the "Virtually Wealthy" but it continues in a more frightening vein with the concept of "Zombie Companies" or the "Financially Un-dead Companies" reported by that reputable accountancy company Ernst &Young. "Zombie Companies" are uncompetitive or badly managed companies who are again technically insolvent and, guess what; they are being kept in business by loans authorised by their "friends" at the banks. There is no prospect of these "Zombie Companies" surviving an extended recession therefore these loans by the banks will be a total loss eventually as the "Zombie Companies" inevitably fail. It is estimated that at least 30% of UK companies can be defined as "Zombie Companies" who are simply depriving other efficient, well managed companies of vital market share but far more importantly they are consuming all the credit that could be made available to new, enthusiastic entrepreneurs who could offer the prospect of leading the UK out of recession with new ideas and inventions. Many in the high technology industries say we should "innovate" our way out of recession but this cannot happen if all the available money required for vital Research and Development into new products is being devoured by "Zombie Companies" who simply owe their very existence to the generosity of their "friends" at the banks.
It gets worse! The concept of "Zombie Companies" can be applied to at least 50% of the UK banking industry who are being kept alive by government (I should say taxpayer's) bailouts. These banks are nationalised in all but name. The bailouts have made no difference the these bank's solvency as they continue to report astronomical losses and there is no prospect of the government (i.e. the taxpayer) getting their money back in the foreseeable future. I firmly believe it would have been far better for capitalism take its course and let those "Zombie Banks" fail instead of engaging in socialist inspired bailouts which have wasted so much of taxpayers money around the world. According to some financial analysts most banks have huge losses that are not being reported on their balance sheets because of recent changes to banking accounting regulations. These losses are probably due to the banks realising that the money they have loaned to the "Zombie Companies" will probably never be recovered. In addition, we have Quantative Easing (QE) which is supposed to kick-start the economy but if Ernst & Young are correct then the banks simply throw away the benefits of QE by propping up their "friends" in "Zombie Companies" and this is why QE has no impact on the economy. QE is provided to the banks by the Bank of England "printing money" but this money only exists in Cyberspace as billions of pounds is being transferred between the banks electronically. It is "Virtual Money" that is not supported by assets it is merely a promise that the government will redeem the face value of this "Virtual Money". The days when the UK currency was backed by substantial gold reserves is long gone and in fact Gordon Brown, when he was Chancellor, sold 60% of the UK gold reserves at rock bottom prices and used the money to buy Euros. This does not seem a very clever move today but remember Gordon Brown once boasted in the House of Commons that he had ended "Boom and Bust". Need I say any more!
Where do governments get their money from to fund their deficit budgets and the bailout of their "friends" in the banking sector? All western governments sell bonds that they promise to pay back when the bonds mature which allows them to borrow money from other governments and financial institutions around the world. If the government has a good credit rating then the interest it pays on these bonds is low and as the credit rating deteriorates the interest rate increases. An interest rate of about 7% is deemed unsustainable and at that point there has to be a bailout of the technically insolvent government. Many governments have borrowed far in excess of their annual GDP (Gross Domestic Product) and therefore we can apply them the term "Zombie Governments" who are technically insolvent but are merely being kept going by bailouts from other other governments, the IMF (International Monetary Fund) or in the case of Europe, the ECB (European Central Bank). Greece is a perfect example of a "Zombie Government". All this money is "Virtual Money" whirling about in Cyberspace and is not supported by any asset such as gold. Even the once mighty dollar is not backed by reserves that even covers a fraction of the $14.5 trillion dollars borrowed by the US government. The idea that you have to have assets that secure the money you are borrowing is a dead concept and the mere promise that you repay the loan at some unspecified time in the future seems to be adequate. However, this concept of unsecured loans on a vast international scale can only work while the world-wide economy is in a constant state of growth. When we have a recession with no end in sight then the "Zombie Governments" are bound to default and could drag the world economy over the edge of the precipice. Former US President, Bill Clinton, famously said "It's the economy, stupid" when asked what was the most important aspect of policy to the electorate. He is the only President in recent times to present a balanced budget and, for all his faults, he does know about economic matters. He is on record as saying that it will take 10 years to get back to where we were before the recession which many believe started in about August 2007. I am firmly of the view that it will take a generation to get back to the kind of prosperity we had in the year 2000 and by this calculation I make it 2032 before we are back to prosperity and full employment but Bill Clinton believes it can be done by 2017. However, I am taking into account the burden to the taxpayer of paying back all this national debt plus interest that has been accumulated by governments of the left and the right on both sides of the Atlantic and its debilitating effect on their economies. Even if we started paying back UK government borrowing today down to manageable levels of 30-40% of GDP then it will be about 2032 before prosperity returns to "Joe Public".
It goes without saying that the "Virtually Wealthy" will be insulated from all this austerity for the present but for how long is this sustainable? The mere mention of a second bank bailout will be political suicide for any UK government and if the rumours in the Blogesphere are correct then the "Zombie Banks" cannot sustain the "Virtually Wealthy" or "Zombie Companies" much longer and the outcome of this catastrophic financial event cannot be predicted. All we can do is look back to the previous, once in 100 years, long term recession of the 1920s and 1930s as a guide and we will recall that financiers on Wall Street were jumping out of windows as they lost everything. Hence we have a discussion between left and right politicians on both sides of the Atlantic about what will our grandchildren inherit. Do we give them a legacy of massive debt or do we leave them with an economy that has returned to prosperity? I am with Angela Merkel, the German Chancellor, on this issue in that we should set about repaying our borrowing and plan to leave our grandchildren debt-free. She has been vindicated by the German economy showing signs of emerging from the recession long before any other country in Europe or even the USA and with the bonus of German personal savings being at an all-time high. Meanwhile the rest of Europe, including the UK, is still borrowing in an irresponsible manner which has all the hallmarks of socialism and its well known lack of respect for OPM (Other People's Money). I cannot predict the economic future, no one can, but what I do know is that it will not be pretty with political turmoil following the financial meltdown such as we have witnessed in Greece last year. There is a "common thread" throughout this whole economic crisis as the Labour leader, Ed Miliband, so delicately explained last year and I will leave it the reader to work out what is the "common thread".
0430 17/03/2013 Update: The UK's AAA credit rating has been downgraded to AA1 and we are all told by Vince Cable that the effect is largely cosmetic. But he is being "economical with the truth". As someone who has suffered at the hands of the credit rating agencies with their out of date databases I know exactly what a credit rating downgrade means. For the UK, every time its credit rating is downgraded then the cost of its borrowing interest rates increase. Doing the simple math, if you borrow billions then millions more will be due in higher interest charges. This is money that will not be spent by the government to reinvigorate the UK economy. Thus the the recession is prolonged and the UK economy continues its downward spiral. In a worst case scenario, the UK economy can never recover from the recession because of its out of control borrowing costs. However, we need not worry we have the towering intellect of Vince Cable at the helm guiding us through these stormy economic waters. But, I will concede, he has been proved to be right on the money with his comments about Rupert Murdoch which cost him his role in News Corporation's attempt to buy the rest of BSkyB that it does not already own. The government role of Vince Cable in the BSkyB takeover was passed to Jeremy Hunt who was much more user-friendly towards the Murdoch Empire.
By the way, the total UK debt busted the £1 trillion barrier recently putting the UK in the company of all those much admired leaders who like to borrow big. I leave it as an exercise for the reader to ascertain "How many zeros in £1 trillion." I cannot even begin to imagine that enormous amount of money, sorry, borrowed money. I think you would need several long trains to move it to Scotland for example.
If you needed any confirmation of Vince Cable's intellect and good judgement then look no further than his admiration for Professor Les Hebdon whom he believes to be a top academic. Tempora mutantur, nos et mutamur in illis.
Interestingly, even Rupert Murdoch and all his family only own about 40% of News Corporation shares but they retain control through preference shares. This is an odd mode of Corporate Governance for such a vast international media empire, but who am I to comment being just a "pleb".