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Archives for April 2011

Ben and the Fed's excellent adventure

Stephanie Flanders | 23:16 UK time, Wednesday, 27 April 2011

The Federal Reserve chairman's first regular press conference in the US central bank's 98-year history was supposed to make more news when it was announced than when it actually took place. And so it proved. There was nothing much to rile the markets in Ben Bernanke's comments - on the dollar, interest rates or the US deficit.

The news, such as it was, had come earlier, in official confirmation that the second round of quantitative easing would be completed, on schedule, by June. Oh yes, and central bank has revised down its US growth forecast for 2011, from a midpoint of around 3.65% to 3.2%. (We should be so unlucky.)

Here were the few nuggets from the press conference that caught my ear.

First was the gloomy tone on inflation, in what seemed to be almost a throwaway comment from the Fed chairman. Officially, the Fed does not think that inflation poses a long-term risk to the economy, and it does not see any immediate reason to tighten policy to confront it. That was what the markets took from the official statement. But Bernanke had this to say, later on, when asked whether the Fed could, or should, be doing more to raise employment:

"... the trade-offs are getting less attractive at this point. Inflation is higher... inflation expectations are higher, and it's not clear we can get additional improvements in payrolls without extra inflation risk... in my view if we're going to have a sustainable recovery with healthy job growth, we need to keep inflation under control."

The UK's Monetary Policy Committee would surely agree. Though the Bank, unlike the Fed, doesn't have a dual mandate to achieve high employment as well as low inflation.
Mervyn King, Charlie Bean and the rest would also be pleased to hear Bernanke echo their "stock" view of quantitative easing, where the stimulative effect comes not from the speed of bond purchases, but the scale. The Fed chairman took the opportunity to spell this out, once again to journalists.

In line with market speculation, Bernanke suggested that the first and most likely step towards the exit would be to stop reinvesting in the market as the bonds mature, but he underlined that this step wouldn't be a mere formality, but a conscious step toward tightening, which would need to be based on the economic outlook in the same way that a rise in interest rates would.

Finally - and most interesting, perhaps, to a UK audience - the Fed chairman was asked about the risk that US spending cuts to tackle the deficit would hurt the recovery (the questioner did mention the UK as an example). Bernanke started by affirming that cutting the deficit was the "single greatest priority" facing the US, which he hoped the recent warning from the ratings agency Standard and Poor's would help underscore. But then he said this:

"My preference would be for taking a long-term perspective. If [Congress] can make credible commitments to cutting programmes over a long period of time, that seems to be the most constructive way to address what is a long-term problem. If [the cuts] are focused entirely on the short run, they might have consequences for growth" (which the Federal Reserve would take into account in setting its policy going forward).

I suspect even Ed Balls would hesitate to turn this into a full-fronted assault on coalition policy. The last time he tried to do that, after a similar comment by the US treasury secretary at Davos, Timothy Geithner miraculously (as it happens, directly after meeting Mr Osborne) decided to offer up a full endorsement of the coalition's strategy in an interview for the BBC. But it's an interesting comment for a fairly hawkish Fed chairman to make.

I don't think Mervyn King will be taking lessons in giving press conference from Mr Bernanke any time soon. But it was a decent performance - and an important step toward Fed transparency. Not so long ago, the Fed didn't even think it necessary to inform the public when its monetary policy had changed. The rest of us can think about what it would be like to live in an economy expecting "subpar" growth this year of 3.3%.

GDP: Slow but not stagnant

Stephanie Flanders | 11:56 UK time, Wednesday, 27 April 2011

For once, the first estimate for growth in the first quarter is in line with expectations - but it would be hard to argue that it's good news.

Not so long ago, many were hoping for a strong bounceback from the slowdown at the end of 2010. Instead, the figures suggest that the UK economy has barely grown at all since the summer. However, even more than usual, it's important to look behind the headline.

If you look at the performance of individual sectors you come away feeling more upbeat: important parts of the economy are doing quite well, even as others are struggling to move ahead. As I said on the Ten O'Clock news last night, the economy's not doing nearly as well as we would hope, this far into a 'normal' recovery. But very little about the last few years has been normal. When you look at the sectoral breakdown of today's figures the picture is one of modest growth, but not (yet) stagnation.

Let me just flag up three points about today's figures.

The first, and most obvious, point to note is that the construction sector has - once again - made an out-sized contribution. I have discussed the role of construction in the output numbers before. The new GDP figures show a 4.7% drop in output in this sector in the first quarter - the largest quarterly fall since the first quarter of 2009, in the middle of the recession. Were it not for this sharp decline in a sector accounting for just 6% of national output, today's GDP figure would not be 0.5%, it would be 0.8%.

Is there anything fishy about these numbers? My conversations with construction companies and people involved in the construction products industry suggest there might be. It's not so much that the figures are wrong - but that they might be running 4-6 weeks out of date.

As I've noted, for just over a year the ONS has been using monthly figures for construction output, rather than quarterly ones. The statisticians believe that these are not just more timely but also, possibly more accurate, but the series didn't exist until January 2010, so no-one can say for sure what impact the change might have had.

The answer might be that it doesn't make any difference at all - in the long run. But as Dr Noble Francis, economics director at the Construction Products Association, points out, it's easy for contractors to know the value of new orders received in a given month - they just add up the value of the contracts. Estimating the value of their output in that same month is trickier; all they really know is what they've been paid for, which would usually be work done 4-6 weeks before. When the figures were quarterly, it's plausible that more of the difference between the two figures used to get ironed out in the figures presented to the ONS.

This tallies with the numbers we've seen in the past few months, which showed extremely sharp declines in construction output in January and February, even when the weather was fine and the PMI and other surveys suggested that business was fairly brisk. But the official numbers did then show a sharp bounce back in construction in March.

If Dr Francis is right - that strong March figure contains a lot of business carried out in January and February, and the pace of activity on the ground was stronger in the first quarter than the ONS suggests. But I should add that no-one in the construction business is expecting 2011 to be a banner year, with public investment falling off a cliff and private construction still looking subdued.

Second, the productive side of the economy is still doing well, with output now 2.6% higher than in the first quarter of 2011. That's the fastest growth in that part of the economy for quite a long time, though there are signs that the pace of the recovery is starting to slow.

Simon Ward, of Henderson Global Investors, has the most upbeat take on the figures.

"Combined services and industrial output, accounting for 93% of GDP, rose by 0.8% in the first quarter, more than recouping a 0.4% fourth-quarter loss. Monthly estimates, moreover, imply that March output was 0.3% above the first-quarter average, so the second quarter may record a 0.3% gain even if activity is static between March and June.
GDP graphic from Henderson investors

The notion that the economy has been growing at or slightly above trend is consistent with a steady rise in aggregate hours worked and an erosion of spare capacity reported in business surveys, including the Bank of England's agents' survey."

But, for all the silver linings, there's a still a sizeable cloud hanging over these figures, and it's called the UK consumer. We won't have a direct measure of household consumption in the first quarter for a while, but even before these figures came out, you could say the household sector was technically back in recession, with household consumption falling in both the third and fourth quarter of 2010. Indeed, some would say there had been no recovery for households in the first place: this measure of consumption barely grew at all in 2010.

Today's figures show services up 0.9% on the quarter, but only slightly up on the third quarter of 2010, and only 1.1% higher than a year ago compared with 1.8% growth for the economy as a whole.

Looking at the consumer confidence figures and the noises coming from the High Street it's difficult to see this part of the economy gaining a lot of momentum in the next few months, while most industrial surveys suggest that part of the economy might be starting to slow.

To repeat, the figures show a relatively slow moving economy, not a stagnant one. But they are a disappointment to anyone - like the Treasury and the Bank - who had hoped this second year of recovery would be stronger than the first. Interest rates are now much less likely to go up - and, rightly or wrongly, the sound you hear in the City these days is that of 2011 growth forecasts being revised down.

Swan song for a hawk

Post categories:

Stephanie Flanders | 15:36 UK time, Tuesday, 26 April 2011

Andrew Sentance has been voting for higher UK interest rates for nearly a year. Today, in what reads like his final speech as a member of the Monetary Policy Committee, he offers a cogent defence of his position.

As Sentance says himself, this is not a question of tactics. The fact that he has been in the minority for so long on the committee reflects a substantial difference of view about the prospects for inflation and growth in the UK and - crucially - the role of UK monetary policy. Even the doves on the MPC would have to admit that his arguments have strengthened in the past year, if not in the past few weeks.

He thinks the doves are wrong on four big issues.

First, he thinks it is both wrong and inconsistent with past MPC policy to assume away "global price shocks" such as higher commodity prices when setting interest rates. I have looked at this issue, at length, in a previous post (see "A Case of Asymmetry?") Suffice to say that Sentance thinks the upward pressure on prices from this source is likely to carry on for a while, and ought to command a response from the Bank.

Second, and more controversially, he thinks the Bank should not have been so relaxed about the fall in the pound, which has added to inflationary pressures at a very inconvenient time and, by squeezing disposable incomes, actually "offset the boost to growth we might be seeing from improved trade performance."

His remarks here chime with recent gloomy comments about the loss of Britain's manufacturing base, with big firms complaining that they have no domestic component suppliers to turn to, to take advantage of the weaker pound. This is something the Bank recently investigated for itself, with depressing results. Here's Sentance again:

" is not clear that the export-based manufacturing activities which could benefit from a large depreciation have the capability to respond quickly by scaling up output - particularly when their demand is already being boosted by a recovery in global demand."

Put bluntly, he thinks the bank has allowed the pound to fall further than is "necessary or desirable to support the growth of manufacturing and exports." He says that allowing sterling to rise by about 10% from its current level against the euro (£1 = 1.13 euros) would still leave it at a relatively competitive level by historical standards.

You may disagree with him. I suspect Mervyn King does. But you'd be silly to dismiss out of hand the views of a man who has spent much of his professional life as an economist considering the strengths and weaknesses of UK industry.

The third big area of disagreement is more familiar: the amount of spare capacity in the economy, which he thinks the doves are over-estimating. Here he has one weak argument and one strong. The weak argument is that OECD estimates of the output gap since the mid-1990s have been consistently revised down - in other words, that the economy has consistently turned out to have less room to grow than we thought.

While factually accurate, I don't think it tells us about the underlying capacity of the UK economy so much as it tells us that forecasters have often mistaken the cycle for the trend and even more often turned out to be wrong on the question of how fast the economy could grow. That's why discussion of the output gap is usually so fruitless. Even years after the fact, you simply never know how much of the economy's growth was "structural" and how much due to short-term policies. Indeed, the closer you look at the distinction between the two, the more slippery it seems.

In the late 1990s we had less capacity than we thought - because domestic inflationary pressures were being offset by falling world prices. But arguably, we made the same mistake, in reverse, coming out of the recession in the early 1980s. And Adam Posen would argue that Japan's big mistake, coming out of its financial crisis, was to underestimate its potential.

The much stronger argument for any hawk - which I have banged on about in the past - is the simple fact that producers have been able to pass on all these price rises, and then some, without suffering much of a hit to sales (or at least, not until recently).

As Sentance points out, this is particularly evident in the service sector, which should have been less affected by global price pressures:

"If we look at the services component of the consumer prices index, this 3-4% level rate of inflation has been a fairly consistent feature in the decade prior to the recession. There is not much evidence here of spare capacity and weak demand pushing down on services inflation. And whereas relatively high services inflation in the late 1990s and early 2000s was offset by flat or falling goods prices, this is no longer the case. So if services prices continue to rise at a 3-4% rate, and goods prices continue to be pushed up by external factors and the weakness of the pound, it is very difficult to see how the MPC will be able to return inflation to the 2% target, even over a number of years."

You'll remember the counter-argument to all this - which is that the low level of pay growth will ultimately put a lid on price rises. We may have seen some of that at the retail level in recent months. But no-one can be sure, yet, that shrinking pay checks will ultimately do what the MPC has chosen not to do.

As I've said before, it's a matter of judgment whether you think inflation will adjust to pay - or the other way round. But even Mervyn King would have to admit that the jury is still very much out.

Which leads us to Sentance's final point, which is about the MPC's credibility. As he admits, inflation expectations may only be "flashing amber" right now. There's not much sign that the Bank's reputation for curbing inflation has been permanently hit. But underneath, he worries that the Bank's credibility has been eroded by the MPC's reluctance to take action, and that this will make things harder for the committee - not to mention the rest of us - when the Bank does finally raise rates.

Once again, you don't have to agree with Andrew Sentance. Most of his MPC colleagues have disagreed with him for many months. But all should admit that he makes an important case, which should still get a hearing at the MPC, even after the person who first had the courage to make it has left.

Good news on jobs

Stephanie Flanders | 10:45 UK time, Wednesday, 13 April 2011

There's plenty of good news in today's labour market figures. We can all take cheer from the fact that the private sector has been creating more full-time jobs - for men and women - with ministers taking extra relief from the fact that this has outpaced the fall in employment in the public sector.

With inflation running at 4%, households will not welcome the fact that the annual growth in average earnings has actually dropped back a little. Given all that we're hearing about the pressure on the High Street, it's not good news for retailers either. On average, earnings (excluding bonuses, which are highly volatile at this time of year) are growing at an annual rate of 2.2%, slightly down on the previous month.

However, for the Bank of England, weak pay growth, during a period when the target measure jumped up to 4.4%, will provide welcome evidence that the inflation we're importing from the rest of the world is not becoming entrenched. Crucially, wage inflation in the private sector - which is obviously not subject to any government pay freeze - has been stable since September, when inflation was "only" 3.1%.

Nationwide, the wider, ILO measure of unemployment has fallen by 17,000, though there has been a small rise in Wales. The number of people in work has risen by an impressive 143,000 - and, for once, the rise has been driven by an increase in full-time work.

There are now 390,000 more people in work than there were a year ago, though still 331,000 fewer than before the crisis. That increase in total employment since the start of last year has been despite a 132,000 fall in the number working in the public sector.

It's not all good news. There has been a very small rise in the number claiming Jobseeker's Allowance, but that appears to be due to recent changes in the policy towards single parents, many of whom have been moved on to that form of support. The headline rate of youth unemployment has also risen slightly, though less than many had feared.

The puzzle, if there is one, would be how an economy that is supposed to have been broadly flat between December and February was able to produce 143,000 more jobs than in the previous three months. Yes, labour market figures do tend to lag behind the rest of the economy. It could be that the impact of the slowdown at the end of the year will only be seen in future months. But the experience of the past two years has been that the labour market has responded more quickly to changes in the economy than in the past. When you add this rate of job creation to the tax revenues taken in over those months, there still must be some room to hope that the fall in output at the end of the year will turn out to be a blip.

It's too soon to call the peak in either unemployment or inflation, but if you're not a retailer or a saver it's been a decent week.

Inflation: Consumers fight back?

Stephanie Flanders | 11:05 UK time, Tuesday, 12 April 2011

For once, a surprise in the opposite direction. City forecasters were expecting inflation to be broadly unchanged in March. Instead, the annual rate of inflation has fallen from 4.4% to 4% - thanks, in large part, to a 1.4% monthly fall in the price of food. There's also welcome news on the trade front: exports were 15% higher in the last three months than the same period last year.

With households so squeezed, it's been a puzzle how firms could pass on all these input price increases month after month. Taken alongside the bad news coming from retailers, today's figures might, just might, suggest that consumers are starting to say no.

However, the trend in inflation is still up: on the CPI measure, inflation averaged 3.4% in the last three months of 2010. The average for the first three months of 2011 has been 4.1%.

It's not just the Bank of England that's been taken by surprise by the level and persistence of inflation in the past few years - most City forecasters (and, as some of you delight in pointing out, Stephanomics) have been surprised as well. After all, inputs such as oil and other raw materials only represent a proportion of producers' costs. The cost of labour is usually much more important, and, until recently at least, wage costs were barely rising at all.

International food retail prices


To Danny Gabay, of Fathom Consulting, the forecasting errors suggest that companies have been doing more than pass on increases in costs - they have also been using the opportunity to increase their margins - especially food retailers.

Two charts make the point. The first shows international retail food prices and UK prices.

Food retailers' costs and prices


The gap between the UK and the rest of the world in 2008 and 2009 is easily explained by the fall in the exchange rate. But you can't pin the more recent price rise on the currency - sterling has been stable or rising in most of this period.

The second chart shows recent trends in food retail and wholesale prices, and wages.

Some of you will remember I debated UK food prices in a post last month. This time I'll let Danny Gabay make the point:

"For the retail sector as a whole, labour costs account for around 50% of the total cost base.
"Consequently, for a period where margins are stable, one would normally expect the green line showing increases in the retail price of food, to lie somewhere between the blue line, showing increases in the wholesale price of food, and the pink line, showing wage inflation in the retail sector as a whole.
"The fact that the retail price of food has, since the middle of last year, risen almost as much as the wholesale price of food at a time when wage inflation in the retail sector has been subdued, suggests to us that food retailers have been widening their margins."

These charts were created before today's figures came out. The fall in food prices in March may have changed the picture a little. But Bank of England economists have also puzzled over companies' ability to pass on price rises in such a subdued consumer environment. And the forecast for the next few months is still that the headline rate of inflation will go up.

Some point to the incentives facing managers in big corporations these days, which might encourage them to protect argins more zealously than the volume of sales. If so, it could be bad news for the economy, because it would suggest that it will take longer for inflation to work its way back to target than it might have done in the past, even when there is a considerable amount of slack in the economy. The fear would then be that we would only be able to get inflation back to 2% target with a prolonged period of sub-trend growth, which would itself be bad news for our long-term potential because some of our idle capacity would be lost forever.

We shall see. For the moment, consumers can take some good cheer from the reminder that inflation, like share prices, can go down as well as up.

Beyond Vickers

Stephanie Flanders | 15:19 UK time, Monday, 11 April 2011

The interim thoughts of the Vickers Commission have been well-trailed - and generally well-received. Robert Peston has analysed the practical and political implications at length in today's post and many previous ones.

But we should be clear on one thing - even if the Vickers Commission does everything it is supposed to do, it will do very little directly to raise the long-term supply of finance for ordinary British companies.

As we know, the crisis has highlighted the enormous downside of having a financial system that 'punches above its weight'; when things go wrong, all of us had to make up the difference between the banks' punches and their underlying strength. It may or may not end up solving it, but the Vickers Commission addresses that issue directly.

It does not address the other potential downside of playing home to a "world-beating" financial centre - which is that the financing needs of the average domestic company start to look pretty uninteresting to UK bankers. Put it another way, the UK financial system seems to be much better at serving the needs of a global capital market than serving the needs of ordinary UK companies.

Of course there has been plenty of debate about the banks' unwillingness to lend to companies as the economy struggles out of recession. But it's easy to forget that the British banking system was doing a poor job of getting credit to companies in the growth years as well.

As Lord Turner, the head of the FSA, has pointed out, lending by the UK financial system roughly trebled in the decade before the crisis, but all of that new lending went to just one sector - commercial real estate. Total lending to manufacturing companies was actually slightly lower in 2007 - the peak of the credit boom - than it was in 1997.

Lord Turner and Mervyn King disagree on many aspects of this debate, but they agree on this point: in the years before the crisis, they both think the UK banking system became too cosmopolitan for its own good. Bankers were drawn to high risk, high return activities - and the only domestic sector which could come close, in sexiness terms, was property. Financial and human resources were diverted into real estate, and a handful of other highly lucrative, leveraged and global activities - at the expense of pretty much everything else. The average non-financial SME - and even supposedly sexy technology start-ups -often struggled to get funding from British sources, even in the mid-noughties.

It's a depressingly old problem - both the MacMillan Committee of 1931 and the Wilson Committee of 1976 were set up in response to more or less the same concerns. But it's a very important issue for our economic future, which recent trends in global banking seem to have exacerbated. The Vickers Report may do many good things for the UK banking system, but on this broader point it can only be one very small step in a better direction.

Economics vs politics in the eurozone

Stephanie Flanders | 16:30 UK time, Thursday, 7 April 2011

The basic laws of economics are threatening to pull the eurozone apart, just as politicians are trying to pull it together. As usual, the ECB is stuck in the middle of the mess, and it doesn't like it one bit.

For two and a half years, interest rates in the big industrial economies have only gone one way - down. Central banks slashed rates to historic lows in the wake of the financial crisis and then left them there. But not any more. Now the ECB has broken ranks, with today's long-anticipated quarter point rise.

Jean-Claude Trichet says not to assume it's the first of many. Unlike Mervyn King, he seems to think that a single rate rise can improve your anti-inflationary credentials, without endangering the recovery. But, today of all days, you have to consider which eurozone recovery he's talking about.

Germany grew by 3.6% in 2010 - and the forecast for 2011 is 2.5%. We found out today that German industrial production in February was nearly 15% higher than a year ago. That is what you call a recovery. And crucially, Germany accounts for 28% of eurozone GDP. Spain, Portugal, Greece and the Republic of Ireland between them only account for 17% of eurozone GDP.

The single largest reason why Portugal is now requesting a European bail-out is that it's no longer enjoying any recovery at all. Independent forecasters now expect the Portuguese economy to shrink by over 1% in 2011, after growing by 1.4% in 2010. The consensus for Spain is for growth of 0.6% this year - the first positive annual growth since 2008. The forecast for the Irish Republic is for growth of 0.4%. Greece is expected to shrink again, by 2.9%.

As I've discussed before, the shoe was on the other foot in the first years of the eurozone - when the "one-size-fits-none" nature of eurozone monetary policy delivered an interest rate that was probably too low for Spain and the Irish Republic, and too high for Germany. And back then, inflation was also higher in the periphery, meaning that real rates were even higher in Germany, and even lower in Spain.

The sad thing for Portugal is that it did not even get the boom that other "Club Med" (or Celtic Tiger) countries got. Growth between 2001 and 2007 averaged only 1.1%, making it the slowest growing country in the entire Eurozone during this period. Growth in Portugal's GDP per head was even slower - only 0.6% a year.

But that was then and this is now. The problem for Portugal and the rest - in many ways the root cause of the entire crisis - is not that these countries are insignificant. It's that they're different.

The Netherlands only accounts for around 6% of eurozone GDP, but it does just fine. Why? Because, to all intents and purposes, it's just like Germany. Ditto Austria. Even, to some extent, France. That is why these economies have always been considered the Eurozone's "hard core".

The reason we still talk about the "periphery" is that Portugal, Spain and Ireland are still quite different. One difference we all know about is that they are less competitive. Another, which adds insult to the injury of the ECB's rate increase, is that their economies are much more dependent on variable rate debt.

It's a sad feature of the conflicting economics and politics of the Eurozone today that the countries which least need an interest rate rise are going to be most affected by it. The majority of mortgages in Spain, Portugal and Ireland have floating rates. Germany, as we know, has less debt to begin with, and most of it is fixed rate.

All of which might lead you to wonder why - oh why - the ECB feels it necessary to torture the periphery, if a rate rise will have so little impact on the countries where inflation is now picking up? But of course, that is precisely the point. It is because rate rises are likely to have relatively less impact that the ECB feels a greater need to start the tightening cycle early.

Ever since the ECB began, critics - especially American ones - have complained that it is too focussed on inflation and not focussed enough on growth. That debate, I'm sure, will continue in the months ahead. But there is academic research suggesting that a given interest rate change in the eurozone will have less impact on inflation than it would in the US. There is also - the MPC might be interested to hear - some evidence suggesting that inflation "shocks" like the oil and food price rises of the past year or two tend to stay in the system for longer in the eurozone, and have greater "second round" effects.

The ECB has had to do a lot of things that it didn't want to do in the past two years, providing vast amounts of financial support to banks and - indirectly - governments in trouble, in effect substituting for a fiscal union that does not exist. It is still providing that support today. But the lesson of today is that it is not going to put its entire monetary policy framework at the service of Europe's politicians. And rightly or wrongly, that framework says that rates have to go up.

The meaning of mean

Stephanie Flanders | 00:25 UK time, Wednesday, 6 April 2011

Ed Balls says today is Black Wednesday for British families: the day when tax and benefit changes will come into force which will cost the average household about £200 a year. But the Treasury says that for most households, today will actually be slightly brighter than yesterday, because, on average, the changes that are coming into force will leave households in the lower 80% of the income scale better off.

Who is right? Unfortunately, they both are. Fittingly enough, it all depends on the meaning of the word mean.

First things first. The opposition are right that, on average, British households will lose over £200 a year as a result of the mass of changes that come into force today - or about 0.7% of household income. Among other things, there'll be a significant rise in the personal tax allowance which will benefit around 23 million basic rate taxpayers, a 1% increase in National Insurance contributions, the removal of child tax credits for better-off families, and a move to uprate benefits and credits in line with the CPI instead of the RPI.

The Treasury doesn't dispute the £200 a year figure. But they say the average does not do justice to the highly progressive nature of the changes. The losses are heavily concentrated in the top 20% of the income distribution - so concentrated, in fact, that on average, households in the other 80% of the income distribution actually gain from the changes - albeit very marginally.

Figures from the IFS back up the Treasury analysis, at least on that point. The IFS says households in the top 10% will see an average 2.7% cut in their net income from the changes coming in today, whereas a household in the middle, in the 5th or 6th decile, will see their income go up by about 0.3%. A household in the bottom 10% will get an average increase of just 0.1%, and the average boost for households in the 2nd and 3rd deciles is even smaller than that, However, it's enough to allow ministers to claim that the bottom 80%, on average, will gain.

But then it's the opposition's turn to point out that an average can hide a multitude of sins. In fact, many families within each of those segments will lose out - in some cases, quite significantly - from the changes, even if the net impact on households in their income group is positive.

That's no surprise: the benefit changes generally hit families with children, because that's who generally gets the benefits in the first place. Whereas basic rate taxpayers will gain from the increase in the personal allowance, whether they have children or not.

In the IFS example, a single earner household with 2 children starts losing money from today's changes the moment their income goes above £18,000. By and large, the "winning" examples that the Treasury point to involve households with two earners, with both able to benefit from a higher personal allowance.

By their nature, all of these estimates also leave out the much bigger hit to household incomes from the rise in VAT. When that tax change is added to the others for the new financial year, the average household will be losing about 1.9% of their income, with the top and bottom tenth of the population losing most.

And of course, that's on top of all the price rises and real wage cuts that are also hitting households, which are not due to the government but are hitting family budgets all the same.

Depending on what you mean by mean, it might not be such a "Black Wednesday" for British households. But it's shaping up to be a pretty dark year.

Update 1755:

It's no surprise that Ed Balls and Danny Alexander have been trading statistics all day on today's tax and benefit changes. To add further light to this murky topic, I've pulled together more numbers to clarify exactly what's happened to household incomes as a result of today's tax and benefit changes, and the VAT rise earlier this year.

It turns out the average loss to households from today's changes is just under £225 a year: that's the 0.7% hit to net incomes that I mentioned earlier.

Within that, the average loss for the top tenth of households will be in the region of £2,415 a year, while the average gain to households in the 5th and 6th deciles - in the middle - will be about £74 a year. The gain to households in the bottom tenth will be about £15 a year, on average, and households in the 2nd decile, one up from the bottom, will enjoy a princely gain of £1.42 a year. No wonder Labour has found it easy to find lower to middle income families who lose out.

As I described earlier, when you add in January's VAT changes, the numbers get much bigger, and they are all negative. The average loss for 2011 goes up to £600 per household.

Within that, the average total loss to households in the top 10% will be just over 3.6%: in cash terms, just over £3,200. The average total loss for households in the bottom 10% will be £190, but that's the equivalent of 1.8% of their net income, making them the second biggest losers, in percentage terms. On average, families in the 5th and 6th deciles will be about 1% worse off as a result of all these changes. That's the equivalent of about £272 a year.

So now you know. But all the same caveats apply. There'll be plenty of families in these income brackets who will lose more than the average figures suggest - and many others who will lose less. That's why they call it an average.

In the (very) long run, we are all equal

Stephanie Flanders | 15:42 UK time, Tuesday, 5 April 2011

Nick Clegg has just said the promotion of social mobility is the 'central objective' of the coalition's social policy. Yet some fascinating recent economic research suggests that he needn't bother. Apparently, England already has complete social mobility. It just takes a really, really long time.

The paper, by the US-based economic historian Gregory Clark, finds that, eventually, the descendants of today's England's elite families will stop having an in-built social advantage, and the descendants of poor families will lose their social handicap: there are no permanent social classes, and all groups are regressing to the social mean."

That is the good news. The bad news is that it's likely to take about 350 years, and there's not much the government can do to speed the process up.

"The huge social resources spent on publicly provided education and health have seemingly created no gains in the rate of social mobility," argues Prof Clarke.

"The modern meritocracy is no better at achieving social mobility than the medieval oligarchy. Instead, that rate seems to be a constant of social physics, beyond the control of social engineering."

In fact, the research implies that the only reliable way to increase social mobility in this country would be for the government to force people to marry people from a different social class - ideally someone from a different ethnic group. Presumably, that is not part of Mr Clegg's plan.

Prof Clark uses rare surnames to trace families in England back to the Domesday book in 1086, some starting out "rich", others "poor". In the long run, he finds that "elites are unable to protect their position, and with enough time fall to average status. For the English class is, and always was, an illusion".

Most "Smiths", for example, are descended from the village blacksmiths of the 14th century. By 1650, the author finds as many "Smiths" in the top 1% of wealth holders as in the general population. They are completely absorbed into the elite. But as the example shows, the long run is pretty long.

Depressingly, perhaps, the rate of mobility does not seem to have been any higher in the 20th century than it was in the 1300s. Indeed, by some measures, children from poor backgrounds had a better chance of advancing in society in Medieval England than they do now (though their life expectancy now is obviously a lot higher, whichever class they are in).

Prof Clark finds that people with "rich" surnames from 1858 are still more than four times wealthier, on average, in 2011 than people who descend from the "poor" families of that era. At the current rate of mobility, it will take at least another 100, maybe 200, years for the descendants of these 19th century "rich" and "poor" families to revert to the average. He thinks it could take even longer for today's disadvantaged groups to get ahead, because so many are from immigrant groups who may find it harder to become accepted in the social mainstream.

There are several intriguing conclusions for Mr Clegg - and anyone else who hopes to raise social mobility in the UK. One is that it's going to be very difficult to make progress in our lifetimes, let alone the lifetime of the parliament.

The deputy prime minister seems to be very well aware of this; indeed, he said as much in today's parliamentary debate.

But there's an even more inconvenient truth highlighted by this study - in a modern society, social mobility and "fairness" are not necessarily the same thing.
In the debate, Mr Clegg said that "in a fair society, ability trumps privilege". That is what we like to think. But when you step back to look at social mobility across the generations, you see that ability and privilege are quite often the same thing.

According to Prof Clark: "Most of the strong correlation of wealth across generations does not come from direct transfers of assets from parents to children... Rich fathers have rich sons mainly because the sons are inheriting other characteristics of the fathers, such as their genetics, which are transmitted independently of how many surviving children father's have at death".

The link between ability and privilege is only likely to increase as intelligent, successful men have children with intelligent, successful women. Indeed, if you believe that intelligence is strongly genetic, the only hope for a "fair" society, by Mr Clegg's definition, is for rich intelligent people consistently to marry comparative thickos. Indeed, the fact that significant numbers of them do precisely that is the main reason why privileged families do, eventually, revert to the mean:

"If the main determinants of economic and social success were wealth, education and connections then there would be no explanation of the consistent tendency of the rich to regress to the society mean. Only if genetics is the main element in determining economic success, only if nature trumps nurture, is there a built-in mechanism that ensures the observed regression. That mechanism is the intermarriage of the rich with those from the lower classes. Even though there is strong assortative mating [people marrying people who are similar to themselves], since this is based on the phenotype created in part by chance and luck, those of higher than average innate talent tend to systematically mate with those of lesser ability and regress to the mean."

It's not a new problem. But it is a large one for a government that has made increasing social mobility the "central objective of [its] social policy".

We might, just might, be able to create a socially mobile society, in which poorer children have just as good a chance of rising to the top as people from richer families. But for more of the bottom to rise, the children of people like Nick Clegg need to be able to fall. And places like Oxford and Cambridge would have to be given very tough limits on the number of young Cleggs and Harmans they could admit, even if they were very brainy indeed.

Or, the government could try to create a society in which "ability" trumps everything else. So the cleverest people go to the best colleges, regardless of background or wealth.

Successive governments have tried - and failed - to achieve both of these worthy objectives. But it's not clear that they are mutually compatible. It's even less obvious which is more "fair".

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