Knowing and Making

Alistair Darling has announced £4bn in money from the European Investment Bank to help small firms access credit over the next four years. I wrote a few weeks ago about the economic justifications for this and those comments still stand. However, I'm surprised - and impressed - with how fast the government has moved. The money is apparently already available, through Barclays. Barclays of course is one of the banks which did not require public capital earlier this month and so, arguably, was not subject to the condition of making funds available at 2007 levels - though it has strengthened its balance sheet with additional private equity. Even before this announcement Barclays has certainly been making some credit available over the last couple of months without unusually onerous conditions. So if anything this could be a better than usual time for creditworthy businesses to raise funds. Not what you would expect given the headlines in the financial press. Could this be, paradoxic...

In two opposing ways, time is affecting global growth. The first is scary. So much of global growth is based on investment (50% of GDP in China!) that we are spending a huge proportion of our current efforts in hope of future return. The problem with future expectations is that they are incredibly volatile. Unlike ongoing present-day commitments or projects, our expectations of the future can easily change by 50% - in either direction - overnight. All it takes is a message in the media, spreading from one journalist or blogger to the next, and within a few days everyone thinks a disaster is coming. If a third of everything we do is based on working towards potential future returns, and our expectation of those returns falls by half, suddenly most of that investment no longer seems viable. This is the terrifying prospect - imagine a 20% fall in economic activity within a year with all the multiplier effects that would have. Enough to stop you wanting to get out of bed in the morning. Na...

Jonathan Amos at the BBC has an article about a car that's planned to achieve a speed of 1000 mph: "...at its maximum velocity, the pressure of air bearing down on its carbon fibre and titanium bodywork will exceed 12 tonnes per square metre." Wow, that sounds pretty heavy. But normal atmospheric pressure on a square metre of your ordinary Ford Fiesta, or indeed your skin (if you have a square metre of that) is about 10 tonnes! Careful in copying what the press releases say - it may not be as exciting as it sounds.

Ron Baker of Verasage asks in a posting this week "what the burning platform will be that will, ultimately, force firms to give up the Almighty Hour" - will it be the recession or something else? The recession - like any change in the economy - accelerates capitalism's process of creative destruction, putting more pressure on broken and unworkable models than on better ones. However I agree with him that, on its own, that will not be enough to trigger the change. A combination of factors will contribute to this - and their combined strength will determine when the tipping point is. A recession, by making buyers risk-averse, will encourage value pricing because it acknowledges and reduces the buyer's risk New information technology enables better measurement of the value generated for clients, and therefore allows prices to be based more directly on it Competition will operate - once a significant number of supplier firms start to offer structured or value-based prici...

The Barack Obama campaign had already let it be known that September was their best month so far... beating the $66 million raised in August. Some rumours said over $100 million - others thought that $80-85 million was a reasonable number based on the rate of growth from July to August. One clue was that in certain states Obama was outspending McCain by a 3-1 margin - which, considering the RNC's $80 million advantage over the DNC at the end of August, seemed surprising. Well, the answer has just come out in a video, emailed to Obama's mailing list . The total sum is over $150 million. I thought the leaks might be underplaying it a bit, but not by this much. This includes 632,000 new donors and the average contribution was $86. Amazing figures. This election gets more extreme every day - what a great spectacle American democracy is. The DNC also raised $49 million compared to the RNC's $77 million (no doubt including some money that might have gone to McCain had he not opte...

Saturday morning commentary: An amazing retirement letter from hedge fund founder Andrew Lahde How to get up early , and a nice (completely uneconomic) story of swimming in the Lake District , from Tim Harford A plan for the digital economy to help kickstart the economy (not yet much of a plan but interesting to see what comes of it), on top of bringing forward several billion of capital spending from 2010-11 to the current year. Gordon Brown's reservations about " the weaknesses of unbridled free markets ". For me, these can be summarised simply: the prisoner's dilemma, the agency problem, asymmetric information, transaction costs and a collection of problems related to unpredictability and risk. Hopefully the solutions will not be worse than the problems. Another post on this later today. You can access about four FT articles before you need to register for a trial subscription, so the links above should just about use your quota.

Imagine a simple financial system with just three institutions: A, B and C. Let's say that each has capital of $1bn, gross assets of $10bn and gross liabilities (excluding shareholder's funds) of $9bn. Half of each bank's assets are mortgages and half are interbank loans. Of the liabilities, $5bn are interbank loans and $4bn are depositors' accounts. Finally assume there's a regulatory minimum capital limit: 8% of total assets. Now imagine that A starts to offer credit insurance on the debts of B. C has lent some money to B, so it decides that it would be smart to insure it; and takes out a $5bn policy from A. As this is a competitive market, B and C soon start to offer insurance too. A buys a policy from B insuring A's lending to C, and B insures its debt to A with C. Now say there's a 10% decline in the housing market. A's gross assets are written down to $9.5bn, eliminating half of its capital base and breaching regulatory limits. This counts as a cre...

In 2000, the IMF added up the reported trade balances for every country in the world and discovered that total world imports were $172 billion greater than total exports. Discounting the prospect that aliens are using their unfair price advantage (presumably they are not subject to payroll taxes) to steal our jobs, the idea that the world as a whole could run a trade deficit is of course absurd. However, the idea is resurfacing in much recent comment about the world financial crisis. Even the excellent Martin Wolf is talking about "a growing crisis of insolvency" and this is becoming a common theme: we thought we had an illiquidity problem, but now we find it's an insolvency problem. Well, it's not. Insolvency is the inability to pay debts as they fall due. The total amount of debt in the world is zero - every debt is owed by one party to another party, in equal amounts. Just like the total trade balance of the world is zero, the world does not have any debt and there...

"Finance is the web of intermediation binding economic agents to one another, across both space and time." Martin Wolf in his FT column on 30th September . It's interesting to consider how bankruptcies or insolvency of financial players can cause a recession. After all, a debt has two sides - and if it is uncollectable, the money hasn't disappeared - it's just been transferred to one party at the expense of another. If Lehman Brothers goes bust because it can't collect $40bn of debts, then presumably the debtors (or their employees, or suppliers, or the people they bought their houses from) have gained $40bn; Lehman shareholders have lost $10bn and Lehman creditors have lost $30bn. At first glance, the economy is no worse off. Indeed even the creditors aren't as distraught as they appear, because some of them now have a claim to pursue against the lucky debtors. And that's true, insofar as money is an asset in itself. The total amount of money in the e...

There's a proposal today for a £12bn "small business fund" to help companies across Europe through the current crisis. As owner of a small business, I would naturally be grateful for access to such a fund - but is it economically sensible? Let's look at how it could be structured to make the most impact with the minimum of interference with market mechanisms. Access to credit . Probably the most obvious area where small companies may be suffering in the current environment. This has always been a constraint for small businesses, and the UK government already has a good system to address it - the Small Firms Loan Guarantee Scheme which guarantees loans by banks to small firms. It was expanded in the 2008 Budget and the criteria for accessing it were relaxed. The economic justification? First, that the external returns to the economy for supporting the foundation of new businesses exceed the risk-adjusted returns available to capital. So if the Government can help me ge...