Posts Tagged ‘mckinsey’

file9961251406222Oil has fallen again in recent weeks. This week, West Texas Intermediate oil has been hovering at just a dollar or two above the year low. Meanwhile, a report from the National Institute of Economics and Social Research (NIESR) has predicted that 2015 will be the worst year for the global economy since 2008. It shouldn’t be like that. With oil as cheap as it is, the economy should be booming.  So this all begs the question, “why?” Is there some rather worrying underlying reason for the weakness in the global economy?

At the time of writing (6 August 2015, 6.45 am) West Texas Intermediate oil is trading at $45.17. To put that in context, just over a year ago it was trading at $104. Brent crude oil is just shy of $50. One day, black gold will probably go back over $100. Maybe, one day it will even pass the 2008 peak, when it went close to $150, but this day is not likely to be any time soon.   The oil cycle moves slowly. Investment in oil has dropped drastically, new projects have been shelved. It will be several years before these developments show up in rising oil prices, though.

There are winners and losers from cheaper oil. Apologies if this sounds like a lesson from the University of the Bleeding Obvious, but cheaper oil benefits its consumers and hits its producers. So in theory the effect of falling oil prices on the global economy should be neutral. It is just that on the whole, oil consumers have a much lower savings ratio that oil producers. A fall in the oil price distributes income from high savers to high spenders. Given that we are in a time when there is a chronic shortage of demand worldwide, this should be good news.

As an aside, there is another not commonly understood potential side effect of cheaper oil. Ask yourself this question, why are interest rates so low? That is to say, what is the real reason? Forget central bankers, they move with the tide. The main reason why rates are so low is because worldwide there is a shortage of demand and a savings glut.  Back in the noughties this savings glut funded consumer spending in the West, creating a bubble which burst in 2008. Since then it has been funding surging government debt, and maybe sharp rises in debt in emerging markets.  McKinsey has said that global debt has risen by $57 trillion since 2007. The savings glut made this possible. There are many reason for this, and many of these reasons have not gone away. But at least one driver of low interest rates, the rise in savings coming out of oil producers, has gone into reverse.  

Returning to the global economy in 2015, earlier this week NIESR projected that “The world economy will grow by 3 per cent in 2015 – the slowest rate since the crisis – and 3.5 per cent in 2016.” So that is odd. The price of oil has fallen by a half, and the global economy is weak. Something is wrong.

There are two ways looking at this. You can look at individual countries, one at a time, or you can look for some deeper underlying cause.

The US has a bad start to the year because of an exceptionally cold winter in the north east of the country. This had a knock-on effect worldwide. The UK, it appears, got caught up in it all with falling exports to the US dragging down on growth.  

By its standards, the Eurozone had a good first half of this year, this despite Greek woe. But then again, this is the Eurozone, and the key phrase here is “by its standards.”  The only other region in the world that puts in such a continuously poor performance is Japan.

The world’s second largest economy, China, has slowed fast. There is more than one reason. For one thing, China sits on a mounting debt pile, with local government especially badly exposed.  This is beginning to hurt. For another thing, the Chinese government is trying to re-engineer the shape of the Chinese economy, shifting it from investment and savings led, to consumption led. This is a good thing, but the transformation is hurting

Russia’s problem are well documented. It is clear that it has lost out big time to the falling oil price. Brazil has suffered from a wider fall in commodity prices, but like Russia, there were deep structural problems with the economy anyway.

So pick it apart, there is a reason for the slow growth. Even so, I can’t help but feel that the overall performance of the global economy, given how weak oil and other commodity prices are, is very disappointing. You could respond by saying that I have mixed up cause and effect. You could say that oil has fallen in price because global demand is low. But I would respond to that by saying at least part of the reason for the fall in the oil price has been the revolution in fracking and previous surges in oil investment. The rise of renewables are taking a toll, too.  I don’t accept that I have got things the wrong way round.

So what are the possible underlying drivers at work? There are to theories to explain what is happening, there is the Robert Gordon ‘innovation is slowing’ theory, and the Larry Summers Secular Stagnation theory. I will look at these theories in more depth in a few days.

It often seems that views on the economy fall into two camps. There are those who say we are doomed; that the Earth’s finite resources are just about all used up. You could say this is the Malthusian view of the world. Furthermore, they say, the growth we have enjoyed over the last 200 years or so was based on unsustainable credit – we borrowed from Mother Earth and from future generations by doing something called ‘burning fossil fuels’, and in the process built-up debt that can never be paid back.

Then there are the optimists – those who believe in technology. It is a shame the debate is often so polarised, because the truth is that both sides have legitimate points. In today’s piece, the focus is on technology, and something rather miraculous that is appearing in our midst, and which – by the way – is largely being ignored by economists, and those who like to debate economics.

The truth is that progress – if you want to call it progress – is accelerating. And it has been accelerating for several billion years at that. For the majority of time that life has existed on this planet it was simple, very simple, and indeed for much of the history of the world, life consisted of single celled organisms. Then half a billion years or so ago, the Cambrian revolution occurred and a blink in the eye – evolutionally speaking that is – things changed incredibly quickly.

From the evolution of dinosaurs, mammals, primates, bipedal primates and early humans, the pace of change just got quicker. And once Homo Sapiens discovered agriculture we saw another acceleration in change, and an acceleration again upon the invention of writing, and then again with the printing press and the industrial revolution.

In the 20th century too, we have witnessed it. It used to take decades for new technology to gain mass market acceptance, but now it can take a mere hand full of years.

With the Internet this process has accelerated again and now – thanks to digital technology – it is no longer true to say that technological progress is merely accelerating. Rather, it is accelerating at an accelerating rate.

Now McKinsey has highlighted what it sees as 12 disruptive technologies that it estimates will collectively have an economic impact in the year 2025 of between $15 and $25 trillion. Note that the report is talking about that one year: 2025. Presumably the impact of disruptive technologies will grow from there. Just bear in mind, by the way, that global GDP in 2012 was around $72 trillion. US GDP is around $15 trillion, so by 2025 these new technologies, based on McKinsey’s analysis, will have an impact on the world either equal to or greater than the entire GDP of the United States.

The technologies and their estimated economic impact in 2025 are:

Mobile Internet. Impact: between £3.7 and $10.8 trillion. McKinsey says it estimates: “10 to 20 per cent cost saving on the treatment of chronic diseases via the ability to remotely monitor health.”

Automation of knowledge work. Impact: 5.2 to $6.7 trillion. The report says: “Advances in additional labour productivity would be equal to the output of 110 to 140 million workers.”

Internet of things. This means billions of devices, such as sensors, some very small, and which are connected. Impact: $2.7 to $6.2 trillion.

Cloud computing. Impact: $1.7 to $6.2 trillion.

Advanced robotics. Impact: $1.7 to $4.5 trillion.

Autonomous or near autonomous vehicles. Impact: $0.2 to $1.9 trillion.

Next generation genomics. Impact: $0.7 to $1.6 trillion.

Energy storage. Impact: $0.1 to $0.6 trillion.

3D printing. Impact: $0.2 to $0.6 trillion.

Advanced materials (such as Graphene, carbon nanotubes and nanoparticles). Impact: $0.2 to $0.5 trillion.

Advanced oil and gas exploitation. Impact: $0.1 to $0.5 trillion.

Renewable electricity from wind and solar. Impact: $0.2 to $0.3 trillion.

Okay, McKinsey does not really know. Is it estimating or guessing? Its guesstimate for 3D printing seems on the low side, and why aren’t vertical farms in the top 12? But it’s an interesting list and one worth keeping a record of.

But what are the implications for the economy, for unemployment, distribution of income, education, and indeed for business and investors?

These disruptive technologies could have the effect of greatly increasing GDP, so why is there a preoccupation with austerity? Debt does not really matter if your percentage growth in income is greater than the interest on your debt. We should either be preparing for, or at least discussing these great changes?

The real point, however, is that the disruptive technologies in the pipeline are stunning and, for better or worse, they will change our way of life and drastically alter the economy very soon. This is exciting and also frightening. How often do you hear this topic discussed? We are simply ill prepared.

For the McKinsey report, see: Disruptive technologies: Advances that will transform life, business, and the global economy 

© Investment & Business News 2013

A lot of economists don’t get it. Why oh why, oh why? The UK economy has been contracting of late, but employment rising. In Q1 of this year UK labour productivity, measured as output per hour, fell by 1.3 per cent, and UK unit labour costs increased by 1.4 per cent. According to stats out last week, labour productivity in the UK was no less than 15 per cent below the G7 average.

The poor level of UK productivity is not news.  It has been a permanent problem for the UK for decades.

Since the start of the recession in 2007, growth of UK output per hour has trailed that of the US, and the UK’s  productivity has been lagging behind Germany, France and Italy for decades. Since the recession the gap has not grown, but it is still there.

If you give UK productivity per hour a score of 100, then US productivity is 127, French productivity is 125, German 122, Italy’s only marginally higher, Canada’s is the same, and Japan’s is less.

Then there is the riddle of how the UK’s employment rises while GDP falls. Some of the explanation lies in the rise in numbers of part-time workers, but on its own this explanation is insufficient.

Another theory, put forward by the Bank of England’s Ben Broadbent, is that financial markets are broken, and capital is being allocated inefficiently, and therefore business, starved of the necessary funding, is putting cash flow before investment. So rather than investing in new equipment that requires a big up front outlay, businesses are employing more staff. Extending that argument, maybe business lacks confidence. Its lack of certainty means it is reluctant to invest, and therefore hires more staff to meet outputs targets.

Martin Wolf took a look at these problems in the ‘FT’ a few days ago. He also speculated that falling wages may encourage businesses to take on staff, even when the extra productivity generated is not that great.

But then the issue of why the UK lags behind the other major economies has been troubling economists and politicians alike for years. Take this article in the ‘Economist’, from 1998:  The British disease revisited

You may recall that solving the UK’s poor productivity was considered to be something of a priority for the Blair government. One theory doing the rounds at the time when Tony Blair moved into number 10 was that the UK’s poor productivity was down to low investment, and that was down to the erratic nature of the UK economy, drifting from boom to bust. It is quite interesting to look back at Gordon Brown’s claim that he had put an end to boom and bust; it now seems daft. Indeed, his preoccupation with steady growth may have hidden underlying problems. It is just that in 1998, the idea made an awful lot of sense.

Here are some theories.

Part of the reason why labour productivity has fallen in recent years is down to the smaller slice given over to the City in the UK economic cake. You may argue that much of the City’s productivity was illusionary, but the fact is that, on paper at least, it is highly productive. As it cuts jobs, overall productivity falls.

As for why the UK lags behind most of the G7, maybe we need to rewind the clock back to 1997, and ask what the problems were then.

To an extent the comparison with France and Italy was clouded by the fact that employment is much lower in these two countries. Labour laws are so tough, that employers only take on more staff if the productivity gains that result are very significant. There is also anecdotal evidence that workers, and in particular management, work longer hours than they are declaring. So they have certain targets they wish to meet, but there is a limit to how many hours they are allowed to work, so they work longer to meet those targets and lie on their time sheets.

But that does not explain Germany and the US. German unemployment is lower than in the UK. Output per worker is higher. It doesn’t explain higher productivity in the US, where labour laws are of course much looser.

Well, in 1998 McKinsey came up with a theory. So, quoting the ‘Economist’ quoting McKinsey, ”[the problem partly] lies in the effect of regulations governing product markets and land use on competitive behaviour, investment and pricing.” The ‘Economist’ piece continued: “Although British food retailers are world leaders, says McKinsey, they would do better still if planning restrictions did not stop the building of stores on the scale of America and France. Hoteliers are hobbled, say the consultants, because not only are almost half of the country’s hotels more than 100 years old, compared with 3 per cent in America and 14 per cent in France, but they are constrained by planning restrictions. And until recently telecoms regulators kept call charges too high relative to line rentals, discouraging greater use of telecoms.”

And if that sounds like déjà vu, maybe there is a good reason. After all, David Cameron’s call for less dither, and to make it easier to build, is very much targeting this same issue.

It just goes to show that 15 years later, we have completed the longest ever run of economic growth, but we are in the midst of the worse downturn ever, and yet peek beneath the surface and some of the challenges haven’t changed at all.

©2012 Investment and Business News.

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