If you want to make a member of the government feel uncomfortable, ask him this: how can the economy grow if people are not spending any money?
This very question posed to a series of ministers last week reduced each to a jabbering wreck. The subject is so delicate that David Cameron was forced to drop his call to pay off credit card debts. Shopkeepers and tradesmen were up in arms! How can they sell if their customers won’t spend?
But this issue reveals a total ignorance of the way that real wealth is created. This is crucial not only for those running the country but for investors as well.
In fact, there is a story here, ignored by most investors, which is proving enormously rewarding for some penny share investors. Today I’ll explain how you can join them.
A country with decent food, beer and housing
That borrowing money and spending it is not the answer to the country’s problems should be evident. If this was the formula for success then, after a decade of borrowing and spending in ever increasing amounts, we should have one of the strongest economies in the world. The opposite is the case.
Now think of the economic success of China today, or of the UK in the late 19th century. Was this based upon governments and individuals running up debt and spending more than they can afford? Of course not. It was based on the production of goods and services that others wanted to buy.
In practice, how does this work? Let us take the simplest of examples. The population of our imaginary country consists of two people, John and Jane. They have nothing. But Jane can cook and John is a carpenter. So they agree that it would be a good idea for John to build a wooden shack, in exchange for which Jane will cook some nice meals. No money changes hands. It is a simple barter arrangement, which leaves both of them better off. John is no longer hungry and Jane has a roof over her head. They have created wealth and improved their standard of living. How? By finding out what each other needs and then working to satisfy this need.
Now two new people arrive on the scene, Mark and Mary. Mark knows how to brew beer, and Mary makes clothes. John and Jane want clothes and beer, and Mark and Mary want a home and good food. They could agree to barter their respective trades, but this gets a bit complicated.
John would rather have more beer and fewer clothes; Mary is eager for good food but does not like beer. So rather than simply swapping one thing for another, they introduce something called ‘money’. Money is received in exchange for goods and services and can then be spent as and when the recipient desires.
Now we have a country in which the population has a roof over their head, clothes to wear, food to eat and beer to drink. Compared with our starting point it is quite prosperous! How has this come about? Through work designed to deliver goods and services.
Britain’s new formula for economic success
It is through work that we generate wealth, and this raises the question of why the government does not simply employ all of the jobless and get them to do something productive. The theory is good, but there are three problems. First, the government has got to pay them and that means taxing everybody else. Next, the government has got to decide the jobs that these people should do. And finally, it has to motivate them to do their job well.
This experiment has of course been tried – and is called communism. It has failed because people do not feel motivated when they work for the state, and because the government is not very good at deciding the goods and services that people want.
This is where Adam Smith’s ‘invisible hand’ comes in. In the free market people seek out the goods and services that others are willing to pay for and then set about supplying them. This is what is happening in China today and is the only lasting formula for economic prosperity.
So what we need in this country today is an entrepreneurial spirit, with which to find out what others are willing to pay for and then supply it. This is the formula for economic success at a national level, and also the formula for success at a business level.
My favourite British innovators
In my search for great penny share investments, this is precisely what I look for – companies that are providing goods and services that others are willing to pay for. This is the foundation of a successful business.
And it’s also a story that many investors ignore in this country.
That’s a good thing. Because it means that we can pick up this country’s great innovators at a time when they are still going cheap. Who am I talking about exactly?
Well I’ve held a number of great British innovators in my Red Hot portfolio for some time. There’s the manufacturer of stents – used to clear arteries – that was recently bought at a very healthy premium. We also have a medical diagnostic company that is enjoying great success by selling its testing equipment to hospitals and laboratories. Then there’s the LED lighting specialist – I have high hopes for that too.
Each of these companies has been manufacturing goods that are in serious demand. And I believe that they stand a great chance of producing serious returns for investors – even as the British economy suffers in the year ahead.
• This article is taken from Tom Bulford’s free twice-weekly small-cap investment email The Penny Sleuth. Sign up to The Penny Sleuth here.
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