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The Actuary The magazine of the Institute & Faculty of Actuaries

History: Rebalancing the global economic boat

The banks are bust. The economies of many nations are depressed. Whole industries are shrinking. Many once profitable companies are losing money. The queues of the unemployed are lengthening and many governments are stepping in claiming that they can fix their economies. In a slip of the tongue, Gordon Brown famously went so far as to claim he had ‘saved the world’.

Many questions remain. The common man hopes that his or her job will be secure and that the governments will be able to rescue economies from depression, but at the same time he recognises that something very significant has occurred and fears that maybe things will never be quite the same as they were before.

In the west, many an economist has propounded the theory that in so far as economic growth is concerned ‘less government is better’ and maybe ‘no government would be best’!

However, the freedom of action that currently exists appears to have resulted in economic pandemonium. Bankers around the world appear to have rushed like lemmings into the abyss of their own herd’s making. Then probably, over-reacting to the errors of their recent past, they no longer seem prepared to provide the capital so necessary to fund future economic growth. Only a few seem to have totally escaped the negative impacts.

The question that has to be asked is: what are the chances that, by becoming significant players, governments are going to be successful in re-energising their economies?

In an address to the Institute of Actuaries in 1972, Frank Redington described the UK economy of long ago as a boat inhabited by fifty million mice. As they were all free ‘to make their own independent decisions in their own self-interest’ the net ‘outcome will be natural and stable balance’ ... ’not the rigid balance of a man-made structure but the ecological balance of a hedgerow’. This balance depended of course on the facts that each decision had a small impact on the whole and they were truly independent of one another.

Even then, Redington commented that “the number of units of decision on matters of prices and incomes is only a fraction of what it was. Worse than that, with the great increase in the quantity and speed of information, these few large units tend to think alike and at the same time.”

His two historical examples in the UK
“When the Western economies heeled over into depression in about 1930 they should have righted themselves in due course. They did not: they stayed heeled over. It was easy enough to blame the elephants next to the bulwarks. It was perfectly true that employers, by retrenching in their own individual interest, were collectively cutting their own throats - and everybody else’s at the same time. This was true but irrelevant. The relevant question, which nobody asked, was how employers were to behave, if not in self-interest? Altruistic bankruptcy is no answer.”

“I suppose it was about 1945 that I concluded that the true diagnosis of the Great Depression was that the economy had lost its self balancing power but this hypothesis was mixed up in my mind with the wrong idea that the lack of balance was necessarily deflationary. It was not until about 1960 and we were, on the contrary, clearly stuck with inflation that it suddenly occurred to me that the original diagnosis was right after all. It was a secondary detail that this time the elephants were to port whereas last time they had been to starboard. The basic point was the same: that, once there, they were too heavy for the boat to right itself. As in the 1930s it is all too easy to blame those elephants who happen to be next to the bulwarks - this time the trade unions. It is obvious that by pressing their individual wage demands they are cutting their collective throat and the country’s. But again it is shallow to stop there. Again the relevant question is, if unions are not to behave with the self-interest which is the principle of our system, how are they to behave?”

He claimed that the self-balancing capacity of the economy had been forever altered. The boat of mice had been invaded by herds of elephants.

Developments since then
The past three decades have once again demonstrated the resilience of a free enterprise economy, as illustrated by the fact that labour and business have managed to find some kind of balance even though their battles continue from time to time - but all is clearly not well.

Today we have an economy that is truly global.
>> There are therefore now several billion mice on essentially the same boat. With the radically expanded sharing of data, information and comment, even the mice are much less able to make truly independent decisions.
>> Consider the growth of the elephant herds. Competing companies in industries as diverse as oil, producing other raw materials, manufacturing (for example, computers and motor cars), software and financial services behave more and more in very similar ways and at the same time. They are a global elephant herd.
>> Add to this the new information age where more and more people are exposed to the same thinking over and over again.
>> Finally, governments seem to believe that they can “save their economies” by massive special interventions, that is, over and above all their already voluminous existing legislation and regulation.

Consider for a minute the global impact of the sub-prime disaster in the banks of the world. Too many elephants in this herd have failed due to a blind-spot shared by the herd. Almost every country in the world has been affected. The women in the street (mice) are being seriously disadvantaged. The impact is ever broadening as so many banks have only now, too late, become ‘over careful’ in extending credit to the businesses that the economy needs to provide work and growth.

Redington’s ship of 50 million UK mice and a few UK elephants has developed into a closely interlinked armada occupied by billions of mice, as well as by several extremely large and influential elephants. The really tough questions that we all face now are: will the addition of yet another herd of very large animals (the governments) be capable of righting the tilting boat? And what does this say about our economic future?

I return again to Redington so long ago: ‘as in the 1930s it is all too easy to blame those elephants who happen to be next to the bulwarks.’ Listening to the endless TV debates about bankers’ bonuses it appears that this is precisely what everyone (including governments) is doing this time around. ‘But never does anybody look the problem straight between the eyes and say in a loud voice, we have permanently destroyed the self-balancing property of our society.’

The latest herd (governments; would dinosaurs be an appropriate large animal?) is seriously jumping on board as players rather than infrastructure builders. Can the economic boat be rebalanced? How many mice will have to be sacrificed? Some may think that governments acting together will be able to ‘rescue’ the global economy. Their involvement suggests that rather than restoring the self-balancing properties, the economies of the world are likely to resemble seesaws as over time the dinosaurs seek to balance the disasters of the various elephant herds much like employers (1930s) and trade unions (1940s) took turns to tilt the UK economy before them.

Can the economic boat be righted and stabilised? Will a Bretton Woods II be able to redesign the world’s economic systems in a manner that ensures the sustainable growth of individual wealth that everyone desires?

By exonerating employers or trade unions (this time in 2009 it is the banks and bankers who are being blamed) I am used, of course, to accusations of bias from those who prefer to enjoy their prejudices. But I beg you to be worthy of your detached intelligences. There is only one person to blame for our economic peril. ME! It is I who wants affluence, who wants good food, cheap cars, central heating, fridges and TV. It is the flood of my desires that is sweeping industry and the unions into this untenable position. The fault lies squarely with me. And you! Of course the elephants have to be shackled. But not because they have been naughty: because we are incurably greedy.

Reg Munro is a retired actuary


NOTE: All quotations from Words & Numbers by Frank Redington http://www.actuaries.org.uk/__data/assets/pdf_file/0009/25938/0172-0185.pdf