Mr. Douglas Horne, MLA; Chairman, Select Standing Committee on Finance

Re: Pre-Budget Public Consultation

Part One

Dear Mr. Chairman and Fellow Committee Members,

It will be no surprise for you to read that crafting a tolerable budget for the operations of the Government of British Columbia for 2012/13 is probably one of the biggest challenges in your lives as MLAs.

When describing the qualities of good field commanders, the military use the term “situational awareness”. Because battlefield conditions are constantly changing, a successful commander must have the capacity to think laterally. The all-too-familiar linear thinking model only produces irrelevance in any dynamic situation.

Right now global economics and finances are anything but static or predictable. Members of this committee need to embrace the reality that they are working in an environment of great uncertainty and high risk.

Good field commanders are always well studied in history. There is little purpose in repeating the mistakes of those before us. Successful field commanders also know that good intelligence from active operations is an imperative if winning is the objective.

Now I am going to introduce you to relevant material of a historical and contemporary nature.

Credit cycles:

Formal economic literature frames the inevitable outcome of a period of unbridled credit expansion. For your purposes it is enough to know that during the expansion phase (known as the acceleration phase), consumer-goods consumption increases, prompting primary and secondary producers to increase production. Because final consumption values are partially fictional, in that volumes are driven by borrowings, not real current incomes, there is a massive exaggeration created in global production capacity.

Clearly this is not a sustainable condition and when the “chairs” have all been removed, we move into the contraction phase. This is when previously thought-to-be-valuable fixed assets turn into valueless assets. As “financial field commanders” you will need to understand there is absolutely nothing you will be able to do about this reality.

To help you appreciate this not-so-subtle point, please refer to the experiences of the Japanese over the past two decades. In a recent public address in Australia, the Deputy Governor of the Bank of Japan mentioned that over the past two decades their stock market index had lost about 80 per cent of its previous value, and property values about the same. It is certain that Japanese politicians were pressed by their citizens to “do something about it” and probably said they would, but to no avail. You surely would not be attracted to using their failed model.

Evidence of a global contraction/compression:

Considering the five year chart for the Baltic Dry Cargo Index. One can see the “credit bubble” effect is most dramatic. In May of 2008 the index stands at about 11,000. Six months later the index is at about 600, for a stomach churning decrease of 95 per cent.

The bottom fell out of the dry cargo shipping business in a six month period, and for the most part has not made any meaningful recovery four years later. This collapse was so devastating to the shipping industry, that many participants have disappeared, including one British shipping company with a history of nearly 100 years in business.

This index has been publicly available to those needing a global business activity “litmus” test for as long as I can remember. There is zero tolerance for not knowing about this index and its importance when crafting an operating budget, as you are now doing.

Consider also the S&P Case-Shiller Home Price Index. This index was created decades ago to show home affordability on a national basis; first for the US, and now there is one for Canada.

What you should take from this index, is that home un-affordability started becoming an issue at the end of the 1900s. Some economists believe that when the index is below 100 there will be citizen economic symmetry achieved. We are currently a long way from such a value.

Why should this be important? It is because you need to know how far we are away from personal economic symmetry/stability for the majority of citizens.

My third historical item is the S&P “Canadian Provinces Refocus On Fiscal Balance As Economy Recovers” report. You should characterise this report as a “shot across the bow” by a major credit rating agency, and an early warning that our fiscal house is not in good order.

The report authors refer to rising debt levels as not a good thing. Minister Flaherty has been saying much same thing for nearly two years.

The authors go on to advocate reductions in education and health spending and an increase in revenues (taxes). I find this inference from outside the province irritating. To arrive in a place where the credit rating agencies and lenders hold the whip-hand is an indication of very inadequate “commandership”.

Eric Andersen’s letter will conclude in the next Shingle.