A WEEK IN ECONOMICS (28/01/13 – 03/02/13) FORGETTING PERSPECTIVES

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Week-in-Economics

It is perhaps forgotten by the Islamic ideologue eulogizing the potential of Islamic economic principles in improving the state of the global economy just how incredibly complex the economy is. Paradoxes confront the economist and the policy maker at every turn, and using fiscal or monetary instruments to mend one aspect of the economy has ramifications on the other. Take for instance the recent job reports released by the US Department of Labour. Payroll employment excluding farms rose by 157,000 in January from December but unemployment also increase from 7.8% to 7.9%. With labour force participation rates being the same, analysts believe that the unemployed are not rushing to be job seekers; perhaps a lack of information or the created job itself is not sufficient. In the UK, jobs have been created but according to latest figures there are 633,000 16-24 year olds out of work in the UK (excluding those in full-time education) producing an unemployment rate of 18%. Approximately, 28% of these people have been looking for work for over a year. The problem is that by being out of work for so long, it may have an effect on their long term earnings potential

Discrepancies such as these provide analysts much fodder to ponder over, deliberate and determine the best course available. Ostensibly, the aim is to increase the employment rates. The US and UK governments have attempted quantitative easing to stimulate economic production and reduce unemployment, yet this has external effects. Printing more money has the potential of increasing inflation and lowering the value of the currency. Inflation rates appear to be low in the UK and the US, yet price indexes are an agglomeration of several factors. The average consumer has witnessed food prices and oil prices increase over the last few years, even though housing prices have decreased.Moreover, quantitative easing can artificially inflate asset prices and suppress real bond yields, while debasing and devaluing the size of the debts owed to the rest of the world. This can have an effect on middle income savers as the value of home currency weakens. Japan has especially felt the effects, as their exports have become more expensive to the US and the UK. The government and the Bank of Japan have reacted by reducing the value of the yen in order to kickstart their lumbering economy. The rest of the world have accused Japan of igniting a ‘currency war’ – lowering the value of a nation’s currency so exports are cheaper and imports more expensive. That helps domestic growth but countries such as the USA and UK that are relying on increasing their exports will be aggrieved.

As the preceding discussion has highlighted, there is an interconnection of a number of factors: employment affects economic growth which is effected by monetary policy that in turn is dependent on a country’s trade. For a beginner economist this is obvious but he or she may be startled by the confusion that abounds. The economist Jean-Pisani Ferry points out with regards to the European Union crisis, “there is limited consensus in Europe on what, exactly, is needed to make the monetary union resilient and prosperous again. Banking union is a positive development, but there is no agreement on additional reforms, such as the creation of a common fiscal capacity or a common treasury.”

With such uncertainty, providing solutions can be incredibly difficult, and no one can know for sure the consequences of policy decisions. There are a myriad of factors operating in together or against each other that will have their own respective effects. Very few economists predicted the credit crisis, but now talk, with 20/20 hindsight, that the flaws were obvious. Post-event self righteousness is hardly a cure.

However, a question that does need to be asked is the perspective from which policy makers are working from.  Seemingly, high GDP and a robust growth rate is the desire. However, nations are predisposed to considering the interests of their own nation; the interests of others are secondary (though still valued). Unfortunately, the more myopic the interest, the greater the potential of systematic failures within an economy: no greater an example can be given than the Credit Crisis of 2007-2008. Here, governments enabled an open and less regulated economy allowing bankers to create structures with inherent weaknesses. The perspectives of both bankers and the government was to increase profits and GDP but at the expense of those less powerful and wealthy. In doing so, they forget an important point, eloquently articulated by Niklas Blanchard, “the economics profession has simply ignored the fact that the mechanics of the money we use shape our relationships with the world around us. People are uncomfortable bringing money into their cooperative relationships not because they are displaying irrational behavior, but because it is a tool that has no place in that particular sphere.” Economists forget that a country looking to increase money through GDP and through increased employment will often pay less attention to the long term impact of focusing on economic growth. There is a wider, esoteric societal impact.

Islamic ideologues need to remember that the economy is made up of many different parts, working together and against each other while western economists have to change their perspective. There has been much soul searching amongst western macro economists as to how they failed to anticipate the crisis with several lamenting weakness of understanding of basic economics. One criticism has been that economists failed to consider the role of banks in their models thereby ignoring the potential impact of systematic flaws. The foundation of Islamic economics and finance is the prohibition of interest, and hence the role of banks has always played an integral role in its theoretical models. Islamic economists have even argued the negative impact of interest on human behaviour. The problem, however, is that those extolling the virtues of Islamic economic theory cannot forget the multiple factors involved in determining the health of the economy. It is not enough to create slogans exhorting that Islam has the key to economic problems. Where is the analysis, the strategy, the plan? Words are cheap; actions are not.

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