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The Change in Corporate Behaviour

Andrew Smithers - October 2012

Deficit finance is needed to offset ex-ante savings’ surpluses and provides an adequate solution, provided that the surpluses are cyclical. Today additional policies are needed because the surplus in the business sector has become structural. Corporate behaviour has changed in both the UK and the US in recent years. The published profits of companies in the US have become dramatically more volatile than those in the national accounts, corporate investment has weakened and profit margins widened on secular basis. These changes in corporate behaviour follow naturally from the change in the way management is remunerated. Waiting for sustained recovery before cutting back on the fiscal deficit may have been successful in the past, but will not be today. New policies are required. In order to bring down the fiscal deficit without pushing the UK economy into deep recession, the new policies must address the fiscal deficit’s twin causes, rather than simply assuming that the problems will disappear of their own accord with time. The two sectors whose savings’ surpluses need to be offset by large fiscal deficits are those in the corporate and foreign sectors. The surplus in the foreign sector is the easier of the two problems to tackle and simply involves intervention in the foreign exchange market to depress sterling. This will also contribute to reducing the business sector’s cash surplus, as exports have much higher produced capital/output ratios than output for domestic demand. A more fundamental approach to reducing the corporate sector’s structural savings’ surplus is more difficult. A major improvement requires a large change in the way management is remunerated and I suggest ways in which this might be approached.

New problems require new solutions. Economic policy today in Japan, the UK and the US is failing to produce a recovery. This is not, as is often claimed, because old solutions are being only half-heartedly employed, but because the existence of the new key problem is being ignored. The ex-ante savings’ surplus in the business sector has become structural. The implicit though seldom stated assumption of most Keynesians is that such surpluses are cyclical and will disappear as the animal spirits of entrepreneurs return.


A typical example of this assumption is found in a recent article by Jonathan Portes and John Van Reenen[1] which claims that “...the textbook prescription – followed successfully by the 1992-1997 government – (is) that the deficit cutting should follow, not precede, sustained recovery.” But the assumption that sustained recovery will duly arrive in reasonable time depends on the current savings’ surplus of the corporate sector being a cyclical problem. However, as the evidence clearly shows, corporate behaviour in the UK and US has changed so that the cash surplus of the business sector has become a structural phenomenon. Attempts to offset the surplus in the business sector by fiscal means alone would therefore require large semi-permanent deficits and thus provide no prospect of national debt ratios being brought under control within a...

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