Hinkley Point C: worst deal ever, huge profits for ruthless China!

artist’s impression Hinkley Point C                                 source: Guardian

Yesterday we showed that the Hinkley Point C power station will guarantee the builders, a consortium of French and Chinese state owned companies a return of 11% on their £18bn investment. The UK will buy electricity at around £2bn for the next 35 years from the power station, resulting in that that profit.

So a £18bn investment will yield a total return of £70bn for the French and Chinese!

The government could have financed £18bn over 35 years for as little as 0.5%, resulting in a 60% saving to the electricity consumer, by increasing its debt. But instead, the UK government is guaranteeing a 11% return, which is about 3 times the average return which hedge-funds have managed over the last 5 years.

So economically it is nonsense. And these amateurs in the government are in charge of the UK economy.

But the political and economic dependency for one of our most strategic energy sources, electricity, to China is even worse.

This week the American magazine Harper has a lengthy article, The new China Syndrome, on how American corporates are in being bumped around by the totalitarian regime in China. It makes interesting reading in its entirety, but here are some highlights:

Here is how China dealt with Rio Tinto executives:

When American corporations succeed in China, the result is not a mutual sense of comfort and familiarity, such as Toyota now enjoys in the United States. Instead we see a tightening of control, and increasing efforts to bend these powerful commercial institutions to the will of the men who run the Chinese state.

Rio Tinto, the world’s number-two supplier of iron, was among the first targets of this approach. In 2010, global prices for metals were spiking, and China’s state-owned steel mills pressed the corporation for a discount rate on iron ore. Rio Tinto refused — and meanwhile began selling ore to a few privately owned mills in the country. In response, Beijing simply charged four executives in the company’s Shanghai office, including an Australian citizen, with capital crimes. The tactic seems to have worked. While the four sat petrified in a Shanghai courthouse that March, Rio Tinto CEO Tom Albanese was in Beijing to, as one journalist put it, pay “homage to China’s leaders.” A couple of weeks later, a deal was struck on the pricing of iron ore.

Or here, when a dispute with Walmart erupted:

Another early target was Walmart. In October 2011, authorities in Chongqing charged the corporation, which at that time controlled some 10 percent of China’s hypermarket sales, with mislabeling pork products. Let’s recall that Walmart was (and is) the world’s largest company in terms of revenue. This didn’t discourage the Chinese from jailing two of Walmart’s employees, putting seven more under house arrest, and closing all of its outlets in Chongqing for two weeks.

Here some actions against Glencore, InterDigital and Qualcomm:

Some observers believe that Chinese authorities target foreign corporations merely for mercenary ends. Their goal, this thinking holds, is to grab patents for Chinese companies, or to shake a little cash into national or personal coffers. These quiet aggressions often do result in measurable commercial advances. Beijing held up Glencore’s takeover of Xstrata, an Anglo-Swiss mining operation, until executives agreed to transfer control of a lucrative Peruvian copper mine to a Chinese company. A lawsuit against InterDigital, which manages a vast portfolio of wireless patents, led that corporation to grant special treatment to Chinese enterprises. Litigation against the chipmaker Qualcomm had a similar effect, and in that instance Beijing tacked on a $975 million fine.

How about some “Maoist practices” against GSK, GE, IBM, Intel, Microsoft, Siemens, and Samsung?

Last year, Beijing used anticorruption statutes to fine the pharmaceutical company GlaxoSmithKline nearly $500 million. The year before, the tool of choice was a new antimonopoly law, which Beijing wielded during a sort of mass shaming of foreign executives. Functionaries from the National Development and Reform Commission reportedly summoned in-house lawyers from some thirty companies, including GE, IBM, Intel, Microsoft, Siemens, and Samsung.

Once everyone was in the room, officials announced that half the companies present were already under investigation for monopoly crimes — but didn’t say which. According to the Reuters journalist who broke the story, the officials instructed the managers to write down public “self-criticisms,” a Maoist practice designed to coerce individuals into confessing wrongdoing in advance of any trial. A Chinese regulator made the consequences clear: if any company resisted, he might double or triple its fine.

So why the large corporations do it? The reasons are self-evident:

First is the fact that so many U.S. companies now depend on China for the products they sell.

and then

A second reason corporations are so willing to accede to Chinese diktats is the allure of Chinese markets.

So what happens if you do not comply? Here Google and the New York Times:

A handful of U.S. companies have avoided exposing themselves to Chinese control, sometimes at great cost. In March 2010, in response to growing censorship and a surprisingly sophisticated hack, Google redirected Chinese- and English-language searches from the mainland to servers in Hong Kong. Beijing responded by temporarily cutting off access to Google’s search engine and, more recently, to Gmail. The cost to Google? Access to the world’s largest market of Web users, 649 million strong and growing.

The story is much the same with the New York Times. In October 2012, the paper published an article detailing how the family of former premier Wen Jiabao had accumulated more than $2 billion in assets by taking advantage of the “intersection of government and business.” Chinese authorities responded by blocking domestic access to the paper’s Chinese-language website and refused to provide visas to its reporters. Despite being cut off from millions of potential readers and seeing a key bureau hobbled, the Times has not budged.

What about the usual suspects, the big investment banks, what do they do?

What we must now get our heads around is that Morgan Stanley and Goldman Sachs, though based in New York, are not all that different a case. These bankers have for years profited by serving as procurers for Chinese investors who long to get their hands on American technologies and other assets. Their real interest nowadays? To subject their companies even more directly to Chinese influence by, as Morgan Stanley bluntly put it, hiring the “sons and daughters” of China’s sitting rulers.

Now, you might argue with the next paragraph. Should corporations have the ability to regulate trade rules, (as they seem to do with TPP rules which is entirely written by corporate lobbyists, in my view) or should the government have more power to represent consumers, rather than corporations?

In the run-up to last summer’s vote on fast-track negotiating authority for the TPP, President Obama warned that what is now at stake is who gets to “write the rules for trade in the twenty-first century.” What America’s political class and security establishment have yet to realize is that in a world in which nations are intertwined by global corporations, there is something else at stake: who gets to write the rules for liberty here in America. The difference between traditional American hegemony and Chinese hegemony cannot be overstated. When the United States wielded power over corporations in the postwar era, our overarching goal was — with some notable exceptions — stability, peace, and prosperity. When China wields its power over foreign corporations, the ultimate goal is — always — command and control.

What does that mean in the long term?

It is impossible to tell how China will pull these strings. Perhaps one day soon Beijing will threaten to cut off basic supplies of drugs and electronics, in an attempt to sweep our ships and troops from the Pacific. (To understand this ploy, Chinese leaders would need only study the actions of President Eisenhower in 1956, when he drove the armies of Britain and France from the Suez by threatening to cut off supplies of money and oil.) The more likely scenario, however, is less dramatic. Given America’s almost moribund federal authority over trade, China is largely free to manipulate the greed and cowardice of our corporate leaders, in ways that every day concentrate more control in their own hands. The national interest? Only a cacophony of interests manipulated from afar, like France in the days just before Vichy.

Where the brilliant Harper’s analysis is completely wrong, though, is here. At least as far as the UK is concerned:

Is there any hope of reversing this sorry trend? Of course — if we move immediately to put country above company, and to restore the systems of checks and balances we used for two centuries to distribute power safely at home and abroad. But to do so, we must first understand that Beijing, however terrifying, is not our immediate enemy. To regain our liberty, we must first target the oligarchs in our midst. In tearing down the fences to gain more absolute liberty for themselves, it was they who let in the wolf.

Now, what we have just seen in the UK, with the signing of the Hinkley Point C nuclear power station contract, is that the UK has not put our country above the (in this case foreign state-owned) companies with whom we made the deal. Our checks and balances, which would normally ensure that we have vaguely competent politicians have failed. There is a case to be made for nuclear power, and for new investment. But not with the current contract.

However, in this case there were no oligarchs responsible that the deal was signed, and signed in such a way which would make it extortionately expensive for the taxpayer. If it costs only £670 million to repay a capital loan and run a power station a year, (as we have calculated before) and perhaps another £100 million to maintain the power station each year, why are we paying £2,000 million per year? We are paying three times the current rate?

George Osborne laughing

Not funny: Clueless George Osborne                                    Photo: politicalscrapbook.net

Can nobody add up in the government, or use a mortgage calculator?

So clearly no oligarchs to target here, in this particular instance, only incompetent politicians in the Tory party, which sign us up to a deal with China. Chinese authorities who have a national interest at heart, and will, as the quotes above show, use their power to get their way. The risk is that they will do so with the UK, too.

In the UK the Chinese have found an easy target, a completely clueless chancellor. A country which had one of the highest current account deficits (trade deficit) in the world last year, the UK, will give income away to the Chinese (and French) which will make the current account balance much worse in future. Guaranteed. All because the Tory government are deficit fetishists, which must come above all else in the UK’s policy considerations.

Labour should continue to fight this Hinkley Point C policy, which could, if rigorously attacked, become the poll tax moment for the Conservatives. More so than the Tax Credit disaster. And a test case on how public finance is more prudent than these huge PFI contracts as Hinkley Point C, tying the UK to ruthless autocratic regimes to which the UK is obligated to pay extortionate sums in the future.

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Kow-towing: politically risky and economically stupid

Today the UK government will sign declarations with the Chinese, asking them to build and finance our nuclear power stations, high-speed railway lines and other infrastructure. These are potential investments of up to £100 billion. The cost: we will have to become “best friends” with a totalitarian regime. A regime which only a few years ago froze us out completely for a couple of years, because David Cameron had the temerity to meet with the Dalai Lama, the leader of China occupied Tibet.

The aim of foreign policy is to stand up for our national interest.This kow-towing, also known as the Osborne doctrine is nothing of the sort.  We are having a country build our strategic electricity supplies, which a few years ago would not even speak to us? Have we gone completely bonkers?

Political risks

The political risk is the inability to take a stance against China, which is aggressively pursuing its military dominance in South East Asia, for example. This is clearly against the interest of the UK’s main ally, the USA.  We are restricting our ability to criticise China from now on, as the Chinese might turn around and stop building our power station, or stop it from running, once it is installed.

I will come back to the political risks in another post, but first let us try to make an economic case, and the alternatives.

The case for engineering expertise

Despite of the political risks, that is not to say that Chinese expertise and know-how in building nuclear power stations is not welcome. Chinese engineers, who built 28 plants in China in the 30 years in which the UK ran down its old plants, will the be world experts. Their help is needed, if the UK is to build its own nuclear power station.

The case against Chinese financial involvement

But to ask them to finance and build power stations by themselves here in the UK is really mad. Allegedly, the Chinese have a lot of money to finance our infrastructure. “A jolly huge amount of money”, as John Humphries of Radio 4’s Today programme said yesterday. I beg your pardon?

Do they? The Chinese are on average as wealthy as the Romanians. Their GDP per head is about the same. We would never think of Romania giving us the finance to build our infrastructure, but for the Chinese it is not supposed to be a problem? This is simply nonsense. But comments like this pass nowadays as thorough analysis in our broadcasting studios.

One thing is true, though. The Chinese run a current account surplus with the rest of the world, as they are exporting more than they are importing. So, yes, they have foreign currency earnings with which they might want to buy foreign assets. Traditionally they bought $ denominated government bonds. But increasingly the Chinese are looking to buy real assets, for example in Africa, in real estate, or in strategic industries.

But Germany has a current account surplus which is much larger (as a percentage of GDP) than the Chinese. Yet, the Germans are not queuing up to invest in UK infrastructure. So what is the obsession with the Chinese?

The financial costs of the £25bn Hinkley C nuclear power project

All these political considerations should perhaps not really be a problem, if we obtain cheap electricity through the contract, if everything “works out” politically. In other words, let us not worry too much about it, let us hope for the best, and enjoy the cheap electricity. Hinkley C is the first such nuclear power venture.

Currently the cost of the Hinkley C project to the electricity consumer is around £2bn a year, based on the agreed electricity buying price (twice the current market price) and the estimated amount of electricity for the Hinkley C power station. Hinkley C which will be 1/3 owned by the Chinese, with a further 2/3 being owned by the French state owned power companies.

Please look up any mortgage calculator, and try to estimate for yourself how much it would cost the UK if we were to build it ourselves and borrowed £25bn on a repayment basis over 35 years. Let us say the UK commissioned and ran, as the project manager, the building of Hinkley C, which would be delivered as a turn-key project.

Option 1: The UK asks the builders to build the nuclear plant, buys it for £25bn, and borrows for 35 years at 2.5%

Annual repayments over 35 years: £1,070 milion per year

Option 2: Same as Option 1 but government borrows at cheapest short term interest rate (currently 0.5%)

Annual repayments over 35 years: £780 million per year.

(Rationale for short-term borrowing: Although it is a 35 year project, it is sensible for the UK to issue cheaper short term debt, which it can always roll over. There is a risk that interest rates will rise, but they will only do so if there is inflation, which will reduce the real value of the debt. Short-term borrowing and roll-overs are therefore the most sensible way to finance ANY government borrowing. This would protect the project against deflation risks, too)

In addition to Option 1 and Option 2, the UK would have the cost of running Hinkley C (employees wages, mainly) which would add perhaps £10 million to the annual cost, (1,000 employees at £100,000 per year) plus the cost of the uranium fuel (£5 per MWh) (another £100 million per year). Plus the cost of plant maintenance.

Option 3:

In comparison, the all-in cost of Hinkley C is estimated to be about £2bn a year, based on a contract to buy electricity at £92.50 per MWh (2011 prices plus inflation) for the next 35 years. This is the contract currently on the table which will be signed.

So we have a cost of Hinkley C of either:

Option 1: £1,180 million per year (1,070m capital borrowing cost, 10m labour, 100m fuel)

Option 2: £890 million per year (780m capital borrowing cost, 10m labour, 100m fuel)

Option 3: £2,000 million per year (all in cost)

Not surprisingly, because the UK does not want to borrow £25bn construction cost, it will pay instead about twice the amount of money for its electricity at Hinkley C. The only option on the table is currently Option 3.

Going for Option 1 would result in a 40% saving, going for Option 2 would result in a 55% saving. (Although plant maintenance costs are not included in Options 1 and 2.)

Sadly,  Options 1 and 2 are not even being discussed.

Summary

Hinkley C is the most expensive power station ever being constructed anywhere in the world.

The UK could borrow the money cheaply, but will not, as that would increase the deficit.

The fact that it will be financed by the French/Chinese, who are guaranteed 11% return on equity, will make it extremely expensive.

The UK will become politically dependent on the Chinese, with whom, following the Osborne doctrine, it will have to stay “best friends” to ensure the UK’s strategically important electricity supply will be built.

The UK will become dependent on China during the time the nuclear power station will be run.

The Labour opposition, as well as the National Infrastructure Commission, and the National Audit Office should ask for a review of the Hinkley C contract. The aim should be to ask for contract amendments to ensure the public reduces its political risks of being dependent on the Chinese, and, just as importantly, the costs of Hinkley C are reduced.

UPDATE-UPDATE-UPDATE-UPDATE-UPDATE

News update following press conference on 21st October in afternoon:

The figures I have used, the cost of Hinkley C at £25bn (a figure in the news over the last weeks) has, now, that the deal has been signed, updated to £18bn. Here is the BBC news report.

“The mainly state-owned EDF said the final cost would be £18bn. State-owned CGN will pay £6bn for one third of it.”

That is surprising, a project which comes down in price by about 1/3? We never have had that before!

Now, what does that mean for the calculations above, £18bn, instead of £25bn?

It will make the figures:

Option 1: £880 million per year (770m capital borrowing cost, 10m labour, 100m fuel)

Option 2: £670 million per year (560m capital borrowing cost, 10m labour, 100m fuel)

Option 3: £2,000 million per year (all in cost)

So basically, if previously the British public was just being ripped off badly, the new costs  of only £18bn now make this deal absolutely ridiculous. The British public is “taken to the cleaners”. We could, had we financed Hinkley C by ourselves, through deficit financing, have had the electricity produce by Hinkley for about 1/3 of the cost what it will cost us now.

I am sure “taken to the cleaners” will be an idiom the Chinese will be keen to learn and repeat in future. Osborne should resign, of course.

Karl Marx, Henry George and China

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About 150 years ago, Karl Marx and Henry George wrote books which they would hope would greatly influence economics, and ultimately, the history of the world. Now if you had been a betting man at the end of the 19th century, who would you have thought, would have the most influence on world affairs?

The main work of Karl Marx, Capital, was over 1,100 pages long and not very popular. Volume I , only sold 1,000 copies in a five year time-frame after its first publication in 1867. Marx would die 16 years later in 1883. “There were between 9 and 11 mourners at his funeral”. That is what it says in Wikipedia.

In contrast the work of the other author, Henry George, was a real best seller. It was published in 1879. Over 3 million copies of Progress and Poverty were sold in a very short time, and at almost 600 pages it was not a very easy read either, but a lot more digestible than Capital. In fact, after the Bible, Progress and Poverty out-sold all other English language books in the 1890s.

(These sales figures, if right, are pretty impressive, Capital in the 21st Century by Thomas Piketty has only sold 1.5 million copies so far.)

In 1897, fourteen years after Karl Marx’s death, Henry George died. He had tried to run for mayor of New York in that year, but suffered a stroke 4 days before the election. Wikipedia again:

An estimated 100,000 people visited Grand Central Palace during the day to see Henry George’s face, with countless more crowding outside, unable to enter, and held back by police. …

2,000 people accompanied his funeral procession:

The New York Times wrote, “Rarely has such an enormous crowd turned out in Brooklyn on any occasion,” but that nonetheless, “[t]he slow tolling of the City Hall bell and the regular beating of drums were the only sounds the broke the stillness. . . . Anything more impressive . . . could not be imagined.”

As a betting man, you might have thought the more popular book’s ideas by the more popular man would eventually be taken on and shape history. Progress and Poverty made the case for the taxation of land, which was seen by Henry George as the provider of all the resources from which eventually profits could be drawn. It was radical, especially as that tax would be the main source of all government revenue, making all other taxes less important or unnecessary. It would tax wealth, rather than productive capacity of capital and labour. But it was a lot less radical than Capital by Marx, which argued for land and all other means of production to be socialised and brought into public ownership, a main plank in his Communist Manifesto.

From 1917 onwards, with the Russian revolution, it was of course Marx’s view which was the more dominant, and land and factories were indeed expropriated and became part of the state, as he did suggest in his writings. Marx’s statues would stand for decades in communist countries, cities would be named after him. His books, published mainly with the help of Marx’s millionaire friend Friedrich Engels, running into thousands of pages, were studied in minute detail by students in Eastern Europe. But Marx’s ideas were of course influential in the West. When taking a Company Law course at university, I myself learned something about the Propensity of the Rate of Profits to Fall, which the left leaning lecturers thought necessary to include, inter alia, in the syllabus of the law course.

But I had never heard of Henry George, until a few years ago, although his thinking was very influential in the earlier part of the 20th century, when a Land Value Tax law was already part of the UK statue book, only to be repealed by Conservative Prime Minister Chamberlain. Of course, WW2 followed, Land Value Tax has not really been debated since, although the Labour party could well resurrect the idea, which the Green Party has already adopted.

So popular ideas do not necessarily shape history. Karl Marx’ ideas won and Henry George disappeared into relative obscurity.

Arguably, for the mainly feudal societies of Russia and China, the Georgian Land Value Tax would have been a more appropriate tool to empower the proletariat and peasants, rather than the forced colletivisation of agriculture, which in both the Soviet Union and China led to cruel deaths through hunger. And industry would have arguably been better served by entrepreneurship, rather than central planning. But that was never on offer, it was the revolutionary ideas of Marx which were more popular in revolutionary Russia, which in the end won out.

So the Soviet Union and the China were for a very long time the main communist countries, and Marx provided much of the intellectual justification for their communist states. China still is, surprisingly, communist. Whereas long leases of property (such as apartments and factories) are available, the ultimate owner of the land is still the state. Russia has, of course, after 1990 been “privatised”, and the money made from that by individuals now provides finance for UK football clubs, universities, the Conservative Party, and the up-market housing market in London, all of which are supported by Russian oligarchs.

As far as China and Marx is concerned, last week Naked Capitalism published a very good analysis, a lecture given to the School of Marxism, at Beijing University by Michael Hudson. It is worth a read and it picks up on the relationship between Karl Marx Capital Volume I, II and III; and Henry George.

China has largely solved the “Volume I” problem – that of expanding its internal market for labor, investing the economic surplus in capital formation and rising living standards. It is confronted by Western economies that have failed to solve this problem, and also have failed to solve the “Volumes II and III” problem: finance and land rent. Yet few Western Marxists have applied his theories to the present downturn and its rentier problem. Following Marx, they view the task of solving this problem to be solved by industrial capitalism, starting with the bourgeois revolutions of 1848.

Already in 1847, Marx’s Poverty of Philosophy described the hatred that capitalists felt for landlords, whose hereditary rents siphoned off income to an idle class. Upon being sent copies of Henry George’s Progress and Poverty a generation later, in 1881, he wrote to John Swinton that taxing land rent was “a last attempt to save the capitalist regime.” He dismissed the book as falling under his 1847 critique of Proudhon: “We understand such economists as Mill, Cherbuliez, Hilditch and others demanding that rent should be handed over to the state to serve in place of taxes. That is a frank expression of the hatred the industrial capitalist bears towards the landed proprietor, who seems to him a useless thing, an excrescence upon the general body of bourgeois production.”

As the program of industrial capital, the land tax movement stopped short of advocating labor’s rights and living standards. Marx criticized Proudhon and other critics of landlords by saying that once you get rid of rent (and usurious interest by banks), you will still have the problem of industrialists exploiting wage labor and trying to minimize their wages, drying up the market for the goods they produce. This is to be the “final” economic problem to be solved – presumably long after industrial capitalism has solved the rent and interest problems.

Hudson goes onto say and finishes his lecture:

China has solved the “Volume I” problem. But it still must deal with the West’s unsolved “Volume II and III” problem of privatized finance, land rent and natural resource rent. Western economies seek to extend these neoliberal practices to use finance as a lever to pry away the economic surplus, to finance the transfer of property at interest, and to turn profits, rent, wages and other income into interest.

The failure to socialize banking (or even to complete its industrialization) has become the most glaring economic tragedy of Western industrial capitalism. It became the tragedy of post-Soviet Russia after 1991, letting its natural resources and industrial economy be financialized while failing to tax land and natural resource rent. The commanding heights were sold to domestic oligarchs and Western investors buying on credit with their own banks or in association with Western banks. This bank credit was simply created on computer keyboards. Such credit creation should be a public utility, but it has broken free from public regulation in the West. That credit is now reaching out to China and the post-Soviet economies as a means of appropriating their resources.

The eurozone seems incapable of saving itself from debt deflation, and the United States and Britain likewise are limping along as they de-industrialize. That is what leads them to hope that perhaps socialist China can save them – as long as it remains free of the financial disease. asset stripping and debt deflation. Western neoliberal economists claim that this financialization of erstwhile industrial capitalism is “progress,” and even the end of history. Yet having watched China grow while their economies have remained stagnant since 2008 (except for the One Percent), their hope is that socialist China’s market can save their financialized economies driven too deeply into debt to recover on their own.

Michael Hudson, is, of course right.

Now, on the day China’s President starts his state visit to the UK, it is indeed rather ironic that we are not only to a large extent turning to China to save our “financialized economies”, but also our electricity crisis, by asking them to build nuclear power stations..

In fact, it is worse than that, our “financialized economy” in the UK seems to be unable to provide finance to the build Hinkley C power station, unless the UK gives state indemnities to the finance providers.

So we have no engineers with expertise to build a nuclear power station by ourselves, we have no government which wants to borrow at preferential financial rates, we have no private finance sector which is willing to shoulder the risk, and no commercial construction company capable of such projects by themselves.

So we are turning to a country which has 1/5th of the UK’s GDP per person, China, to do all this for us, borrow the money for us, and build the power stations.

In turn we are offering China the chance to intensify trading its currency in London or to co-operate with the Shanghai stock exchange, as if that was a remedy for our inability to provide our energy ourselves. And as if China was vaguely interested in that stuff.

If anybody needed any further proof that this current Consevative Government only follows the thinking of the finance sector, that is surely it. We are entangling ourselves in an expensive project (Hinkley C) which could be a quarter cheaper (if government financed) or indeed be completely free (if PQE financed). But these options are not discussed.

We are getting further into debt, with Hinkley C being the most expensive PFI contract ever, twice as expensive as the one which delivered scores of new or refurbished hospitals under the PFI initiative from Labour. Jounalists were surely talking the Micky when they called this running to the Chinese with our begging bowl the “Osborne doctrine” this morning on Radio 4. There is a case to be made for a nuclear power station, but the financing of it under the “Osborne doctrine” should be subject to immediate scrutiny by Labour as the opposition party, and the National Audit Office. Labour and the NAO should state whether the proposed financing is adequate, or if any other financing options would indeed provide better value for money.

Both Karl Marx and Henry George would be flabbergasted. What President Xi might think of the competence of British government politicians, who act as if puppets to the private finance sector, rather than looking after the interest of their people would be interesting.

China is at a juncture, is it to follow the West’s capitalist model, with its over-dependence on finance, as Michael Hudson seems to fear, or will it concentrate on improving the wealth of all its citizens? Hopefully the Chinese will see sense, and continue to put finance into second place, well behind real infrastructure projects such as railways and power stations.

If it ignores finance, and keep it largely state-owned, China will be able to afford to build more of its own power-stations and high-speed railway lines without going with a begging bowl to another country. The highly financialised economy of the UK cannot. Despite being 5 times richer.

It is the UK which should put finance in its proper place, and use it to serve all of us, rather than just the privileged few and the Conservative Party. Time for a change. Roll on 2020.

Inflation up to 8.5% for rent! Who owns the land?

The increase of the average rent in Britain over the last year: between 6.3% and 8.5%,  according to an article today in the Guardian.

Rent is now between over £1,301 (+11.6%) a month in London, and £519 (-0.4%)  in the North East. For new lets, the average rent for Greater London is £1,555.

So as prices in goods and services decline (CPI inflation rate: -0.1%) rents go up, in the London borough of Westminster by a record 28%over the last year.

This is obviously great news for buy-to-let landlords, who can now make more than 9% a year on average on their properties. They only have to find the money for a 25% deposit, and then can finance their borrowing at a much lower rate (say, 4%), given the current low interest rates.

A market, which allows these price rises from one year to the next, when general inflation is non-existent, must be inefficient. The market for housing, of course, is superficially kept low, by the government refusing councils permission to build council housing for rent. So people who could normally only afford social housing now have to rent from the private sector. The bill, of course, is paid for by the state.

Also, council planning laws and restricted spaces for house-building (especially in London) make it difficult for supply to keep track with demand. This is an issue of land allocation to housing. Either by owners not making it available for development and hoarding it, or, alternatively, local planning authorities not giving enough planning consents. A classic supply problem.

Funnily enough, though, for a Tory government, which is keen on supply side solutions to, say employment markets, (by introducing a trade union bill, to make it difficult to strike), it does not tackle the housing market supply.  Restricting supply puts value on houses through house (and rent) price inflation, and will make property owning families feel richer, and more likely to vote Tory.

But apart from the politics, it is also an issue of ownership.

Who owns the land, and who keeps hold of it, hoping to make a killing in land price appreciation, before selling it?

The New Statesman back in 2011 had a good summary of who owns the UK. The whole of the article is well worth a look. Here are ten highlights from this article. Just for reference, an acre is just about half a football pitch.

Ten things to know about UK land ownership

  1. About 150 years ago, only 4.5% of the UK population owned some land, now it is 70%.
  2. Around 5%  — 3 million acres out of total of 60 million acres in UK — is urban land where we live, another 3 million acres is where we work
  3. 42 million acres are agricultural land. Whereas the owners of agricultural land paid almost all of the UK’s taxes in 1873, they now receive a subsidy of around £83 per acre  – at least £3.5bn.
  4. Urban dwellers pay £35bn in land related taxes, an average of £1,800 per dwelling, or £18,000 per acre.
  5. Ultimately the Crown owns all the land in the UK, whether it is Freehold, or Leasehold.
  6. 9 out of 10 acres in England are not urban land, so there is plenty of land for development.
  7. At the current rate of urbanization, of 14,400 acres per year, Britain will not be “concreted over” for another 2,000 years.
  8. Behind the scare stories of scared land is a very simple financial fact: an acre of rural land worth £5,000 becomes an acre of development land worth between £500,000 and £1m once planning permission is obtained.
  9. The current Land Registry for England and Wales is at least 35 per cent short of recording all owners of all property after 86 years of trying. It does not record how many acres each owner holds. So who owns the remaining 35% (the bulk of the land) is unknown.
  10. In the UK, the average “farmer” receives between £18,260 and £23,000 every year from the taxpayer for an average farm of 220-plus acres, whether or not he or she grows or herds anything. During the ten years from 2000 to 2009, the top 50 recipients of agricultural subsidy received £168m – an average of over £3.3m per farmer.

So the main points to keep in mind, the Crown owns ultimately all the land, who is the actual freehold or leasehold owner of the land is unknown, and the biggest landowners receive massive subsidies, when the the average urban owner pays around £1,800 in property related taxes. This makes the system highly inequitable. And let us not forget, that many properties, which are registered and commercially held, are actually registered in tax havens.

That, coupled with the massive development gains once land receives planning permission (the value increases 100-fold or 200-fold) makes the UK land sector a prime candidate for a tax overhaul.

It will not happen under the Tories, who are happy to artificially restrict supply to the housing market by refusing to let councils build much needed social housing for rent.

So this should make the land and property market one of the main targets for a reform, and to increase the supply, once a new government comes in. Rents would come down, I am sure.

Africa (and Britain) needs development, but it does not need capital!

I worry about a world in which the rich get to write the rules which the rest of us have to obey

These are the wise words of Angus Deaton, an economist who received a “Nobel” Prize earlier this week. He was awarded his prize for measuring things, mainly how to allocate our money for consumption, how consumption is affected by income, and how we measure poverty

Measuring poverty is, of course, not eliminating poverty, which, if anybody finds the solution, should really have won the Nobel prize.

Ever since classical economics began with Adam Smith and David Ricardo, there have been three main factors of production. Land, labour and capital. Whereas Africa has plenty of the first two, the third, capital is lacking. So, hence the debates about whether to give aid to Africa, This would enable it to build up capital.  Or should we give loans to African countries, through the World bank, for example, to purchase or build the necessary capital, for example, transport infrastructure to bring goods to markets.

If we think that both aid and loans are a bad idea, what else is there? Here is the suggestion of my lecturer at the School of Economiic Science, where I currently study for the Economics with Justice course. Use MOT1.

Now, as all lecturers at the School of Economic Science, my lecturer is a a volunteer. And an architect. He therefore knows something about building. His suggestion is to use MOT1 to build roads. Apparently, if you do not know what MOT1 is, it is an aggregate mix of stones of various sizes, which is the underpinning for roads. Although normally it would be the base layer for tarmac, it can be used as a road by itself, once compacted.

MOT1 is just a collection of stones and rocks of appropriate sizes, it should be available in all countries in Africa. In addition, man-power is available to build the roads. The only problem is the organisation to get the people to build them. So the actual building can be done by hand. hence no capital is needed, the MOT 1 aggregate compacted by hand-held rams, if need be.

The point of our lecturer was this, if Africa wanted to improve its infrastructure, like roads, it could, without the need for outside capital, if it could organize its workforce to build roads.  Yes, it would be quicker by machines, but it would be entirely possible without any capital, if a particular African country wanted to do so.

Better infrastructure should increase GDP growth in Africa by 2% per year, argued the Economist back in February.

So if that is true, and my lecturer is right, that it only needs MOT1 to build roads, maybe my lecturer should have had the Nobel prize for economics?

Clearly, any African country using only MOT1 could only build rudimentary roads, and not railways, or pipelines, or motorways, which Africa could also use. And is currently building.

But, it would be able to build up its own resources to build its infrastructure in time.

Other countries have done it. China was probably just as poor 30 years ago. But China has managed over time to build up infrastructure which is the envy of the world. Britain has difficulty coming to terms with building a new nuclear power station, or high speed railway lines, as the costs seem to be enormous. China, however, a country with only 1/5th of the GDP per person, has built 28 nuclear power stations and close to 10,000 of new high speed railway lines. All built in the last 30 years.
Much of the spending on infrastructure in China is only possible if it has the engineers to build and maintain power stations and high-speed railway lines. Again, that expertise is part of the infrastructure in a country. To gain that expertise, one needs good education systems. None of that needs foreign finance. It is a matter of organising and paying for it internally in the country, whether it is Britain, China, or a country in Africa.

The point is this, foreign development in terms of capital projects will get wasted, if the country does not have the internal structures to use it wisely, a point which the Nobel prize winner Deaton makes. Sometimes it does not need any capital at all to bring more wealth, as my lecturer argues, when proposing that Africa should build a lot of roads itself, by getting organised, and use the MOT1 aggregates.

So is money for the establishment of capital not necessary? The UK could not build power stations or new railway lines without the necessary money. But why does it not do as China has done, and make sure internal cheap finance is available? In China it is state-run banks lending to the state railway companies. We have made some suggestions for the UK before, to borrow at 0.5% per year or finance infrastructure through PQE. As a trading economy, the UK or any African country should make sure, its currency is not under potential pressure from excessive current account deficits. But then it can afford to buy what it needs.

The real constraint, is not capital, as China has demonstrated. The real constraint of development, and increasing wealth is the organisation of resources, mainly manpower to build the infrastructure it needs. Whether that is bags of MOT1 to build roads, or high speed train techonology imported from the West, the money for capital should always be available.

The organisation of resources and manpower is something else. Nations have to  organise their state in such a way, as to be able to pay for capital through taxes, or government finances. And keep their external trade in balance, to have a balanced current account. Then, organised, well educated man-power will always be the main driver of development. The constraints are therefore good government, and good government institutions allowing for education, taxes, and government infrastructure development.

If you read this Economist article, it will talk about the way new infrastructure it is financed in Africa, It will not talk about the fact that good governance is necessary to ensure that infrastructure is maintained and developed. Which is not automatic. Neither in Africa nor in Britain.

The money to buy capital is secondary and should be able to be organised as we want it. It is the rich which have given us the rules, we should remember, and for them it seems capital is paramount. The rich are wrong.

Economics of the Bullingdon boys – wealth funds

Yesterday, Boris Johnson picked up on a topic which was announced by George Osborne the day before at the Conservative Party conference. Local authority pension funds were to be amalgamated into “wealth funds” to allow them to invest in the UK’s infrastructure. That is what the Bullingdon boys are now proposing.

Now, this seems a bit peculiar. As at the moment any infrastructure I know of (roads, railway lines, schools, hospitals) does not make any money. Pension funds, however, invest in things which give them a return. For example, investing in one of the biggest 100 companies on the London Stock Exchange would give them, on average, a 4% dividend payout. In addition to that, many companies buy back their shares and inflate their prices, thereby allowing companies to pay out 60-70% of their profits to shareholders, according to Andy Haldane, the Bank of England’s Chief Economist.

That then gives the pension funds the income it will need to pay pensions, either by selling the assets (shares) it has, or just using the income from dividends.

However, roads, railways, schools and hospitals, the infrastructure which Britain needs, does not produce any income. Neither are we planning to sell the existing infrastructure, which would produce sales receipts to pay pensions. The current railway network in the UK  is subsidised to the tune of £4bn a year, it costs us money, it does not provide a return. So these assets are unsuitable to be included in pension funds.

But new infrastructure will need to be build. The most urgent need is a replacement of our power stations, which will need to be replaced by new nuclear power stations, if we want reliable electricity production and get away from carbon emitting coal and gas power stations. The private sector is not able to provide new nuclear power, such as Hinkley Point C, at the current electricity price. So it will only be build if the state sector guarantees prices (at 2.5 times current electricity prices) and indemnifies the finance providers with government guarantees. The contractors are firms owned by the French and Chinese government. The private sector is almost completely invisible here, other than to provide the finance.

boris johnsonBoris Johnson, the Mayor of London, trying to keep the lights on.

Photo: getwestlondon.co.uk

The bill for the new Hinkley Point C power station is currently £25bn. Where would the wealth fund come in? Arguably, the wealth fund could provide all the finance for the power station. And in turn it would look for a 4% return on its investments, as it would get from the other investments it currently holds.

That would mean that the power station would need to pay out £1.0 billion to the investors just in interest (which is 4% of 25bn). However, unlike companies’ shares, the power station is a wasting asset, after about 50 years it will need to be scrapped. So in addition to the 4% interest income the £25bn will have to be paid back, just like a repayment mortgage over 50 years. That would make the annual financing costs about £1.2bn. We have previously estimated that the electricity from Hinkley C would cost the electricity users about £2bn a year. So 60% (£1.2bn of £2.0bn a year) from the sales of the electricity will have to go straight to the pension funds! For financing costs. Electricity users will pay for the public sector pension funds.

So let us be quite clear what happens here. There is virtually no private sector, no market involved. Everything is decided by the government, the builders are government owned, the pension funds are government owned, the price of the electricity is determined by the government, as is the return of the investment for the pension fund. Because unless the return to the pension fund is guaranteed, it has to invest in other assets which have a higher return and more liquidity.

The only private sector involvement would come in from the management fees of the 6 bid pension funds. A concentration of power to the biggest investment funds. (Will Blackrock be involved? Almost certainly, as one of Osborne’s Chief of Staff left the Treasury to join them in the summer!)

Now, would it make sense for the pension funds to invest in Hinkley C? Possibly, if the government could guarantee the £1.2bn per year income for the next 50 years. Because the total of the local authority pensions funds assets at the moment only amount £180bn. So one seventh of the pension investments of all local authority public sector workers would now be invested in Hinkley Point C! Quite risky, without a government guarantee.

Now, what does Boris Johnson think of the Hinkley Point C power station, is it a good investment, and be suitable for inclusion in the wealth fund? Here is what he said a few weeks ago:

We have just done this absolutely crazy deal with the French, EDF Energy, to produce nuclear energy which shows no sign of working and looks like being unbelievably expensive at approximately £93 a kilowatt hour. It is a huge amount of money we are spending on nuclear energy. Hinkley Point B (sic) [nuclear power station] does not seem to coming down the track.

We need to be looking at building many more gas-fired power stations. At the moment, I am afraid, it is taking too long.

So, Boris Johnson presumably thinks this “crazy deal” should not form part of the wealth fund?

Well, fair enough, what else then? The gas-fired power stations he is talking about are being financed by the current electricity generators, and do not need a wealth fund.

I am not going to look at the other major infrastructure investment plan, the HS2 high-speed railway line between London and Birmingham. The estimated cost is at least twice as much as the Hinkley C power station. Whereas all of the UK will benefit from the power station, as we are all electricity users, it will only be a very small portion of users who will benefit from HS2. New passengers will clearly not pay for the cost of the new line, as it would make the cost of a ticket prohibitively expensive. HS2 is therefore another state investment which is run at an economic cost (i.e., loss) to the government, will subsidise rail travel, and not suitable for investment by a wealth fund.

So what will go into these wealth funds? I cannot see any public wealth which would be suitable for inclusion in a pension wealth fund, as it never generates the income or provide the liquidity which a pension fund will need. If Hinkley C goes ahead, it should be financed differently, with the help of very low government finance, or PQE. Thereby making sure that UK electricity users do not provide extortionate interest income to either the financial sector (the current model) or local authority pensioners (if the wealth fund idea was to go ahead).

In summary, the idea of a wealth fund just another stupid idea by the Bullingdon boys, and will go the same way as the pasty tax, and should get reversed. Let us all hope so.

I would think it is high time to change the economic management of this country from the catastrophic Bullingdon Boys to capable managers of the economy. Roll on 2020.

Embedded image permalink

George Osborne, the Chancellor of the Exchequer, relaxing, before becoming chancellor

Credit: @George_Osborne twitter feed

PQE a good idea, but keep it away from Labour!

About three weeks ago I attended the Making Money Work event organised by Positive Money. Three economists were present, Adair Turner (former chairman of the Financial Services Authority), Chris Giles (economics editor of the Financial Times) and Steve Keen (Professor of Economics at Kingston University).

panel

Steve Keen, Chris Giles, Fran Boait (Positive Money) and Adair Turner.

Picture: Positive Money

Now, the benefit of seeing economists all together, it is often very surprising how much they agree with each other. For example, a question from the audience came up, suggesting that inflation rates should reflect the increase in property values. I am sure I saw all economists nodding in agreement at that suggestion, which is a good one.

However, this gets never discussed, including property prices in the measure of inflation; and hence the official inflation rate only reflects consumer prices, leaving property markets to its cycle of boom and subsequent crash. So even though economists agree, it does not become policy.

So, I was equally surprised how much all economists seemed to be in agreement with the main topic of the evening, Overt Monetary Financing.

The main presentation was by Adair Turner on how Britain was stuck with either increasing its already excessive private debts, or use overt monetary financing to get back into a sustainable growth cycle or, more likely, help in a recession. Turner did not see any technical difficulties with overt monetary financing, if done to a very limited amount, say £10bn a year, and the others agreed. However, Chris Giles said he had reservations about Corbyn’s People’s Quantitative Easing, and I am sure he was very critical of PQE in the Financial Times.

Now, here we come to the crux of the matter. I have previously mentioned that Ambrose Evans Pritchard in the Daily Telegraph supports the idea. However, in the same article you will find Jacobins, and Proudhonists mentioned, the implication being that revolutionaries or anarchists (Labour) should not be trusted with PQE. In fact, he suggests that the Conservatives are best placed to use these tools responsibly.

The same with Adair Turner again, who was interviewed by the IPPR about his ideas. a couple of days ago That is what he said.

JG: One proposal for fiat money that’s received a lot of recent attention among UK commentators is new Labour leader Jeremy Corbyn’s ‘People’s QE’. Do you support his proposal?

AT: I have to admit I haven’t looked at it in great detail. But the challenge facing Jeremy Corbyn in proposing any form of monetary finance is clear: whether he can credibly address the hugely important political economy risks.

As I said earlier, the technical case for treating overt money finance as an available tool to stimulate nominal demand – if and when the conditions make such stimulus appropriate – is incontrovertible. But the politicalrisks of its misuse are huge.

So the legitimate concern is that if monetary finance is proposed by people who come from a strongly socialist tradition – a tradition which has tended to reject the idea of any disciplines on public expenditure – there is a danger in practice that it would be used to excess. That is the concern which Corbyn would have to address.

Paradoxically, the governments best placed to use overt money finance without generating legitimate concerns about its misuse, and without therefore generating harmful market reactions, would be those whose overall commitment to a capitalist market economy is unquestioned. This mirrors the interesting reality that some of the most compelling arguments for using overt money finance of fiscal deficits were put forward by economists – such as Milton Friedman – whose commitment to sound money and low inflation were undoubted.

And, here again, the messages is clear: give Overt Monetary Financing to Tories, which have an “unquestioned commitment to a capitalist market economy”. Keep it away from socialists.

Now, these are clearly political points, which have no reflection in reality. As Prime Economics (the think-tank which Ann Pettifor works for, one of the new Magnificent Seven Economists to advice Labour) has pointed out, Labour has shown more financial rectitude than the Conservatives in the last 25 years. Here is Prime Economics Jeremy Smith’s analysis, showing that the deficit under the Tories was much worse over the last 25 years, than it was under Labour:

Source: Prime Economics

So this is only spin, that Labour cannot be trusted.  Based on the Prime Economics’ analysis the Labour government borrows less. If that is the measure of responsibility, Labour should be trusted with PQE, not the Conservatives.