A great letter to the editor of the FT from Terry Smith:
Sir, I refer to the debate being conducted in the pages of the Financial Times between those who propose further Keynesian measures, such as Martin Wolf (“Struggling with a great contraction”, August 31), and those who do not accept that they will work, such as Wolfgang Schäuble (“Austerity is the only cure for the eurozone”, September 6).
Such so-called Keynesian measures as advocated by, among others, Ed Balls, Samuel Brittan, Paul Krugman, George Magnus and Barack Obama as well as Mr Wolf have not worked to date, and they will not work. Their advocates seem to assume that their repeated failure to solve our economic problems just means that the medicine must be repeated, which reminds me of Richard Nixon’s motto that “if two wrongs don’t make a right, try three”.
I say “so-called” Keynesians because these advocates seem not to realise that Keynes’ theories did not rescue us from the Great Depression. They are also asymmetric in their application of his theories – calling for ever larger deficit spending, having overlooked the bit about running a surplus in a boom. But above all, they do not seem to realise that they cannot work in a period of debt deflation in which a recession is preceded by the collapse of the banking system, as their current failure is demonstrating.
To the ordinary person in the street, the idea that we can rescue ourselves from a crisis caused by excessive borrowing by borrowing even more must seem mad. In this respect they are possessed of far more common sense than those who are currently advocating just such a course of action and purport to be our leaders.
The first step in rectifying this situation should be to make a clear and unambiguous statement about the actual debt the UK is carrying.
To give a lead to this, today we have circulated to every member of parliament a tin can emblazoned with the UK debt figure – £3,589bn including commitments for public sector pension commitments, private finance initiative and banking sector guarantees, so that they can see what it is they are metaphorically “kicking down the road” with their present policies. This, ahead of the party conference season, I hope might spur some considered and honest debate on this issue.
It is time for those who wish to lead us out of this crisis to tell people how bad the current situation really is and the painful remedies which will be needed to remedy it.
Terry Smith, Chief Executive, Tullett Prebon, London EC2, UK
Terry Smith gets all worked up about the allegedly large debt owed by the UK government and wants an “honest debate” on the issue. My contribution to this honest debate is to ask a question, namely: in what sense does the government owe anything to anyone?
The only thing the government is obliged to give Gilt holders in exchange for their Gilts is pounds sterling. I.e. all the government is obliged to do is swap one bit of government produced paper for another. As to what the government owes in respect of pounds sterling, the answer is quite simply “nothing”. That is, if you go along to the Bank of England as ask for anything of substance in return for your £20 notes, you’ll be told to shove off. So in what sense is the government “in debt”?
Debts owed by households or commercial entities, and in contrast, so called debts owed by governments are chalk and cheese. They are so totally different that is an affront to the English language to use the same word to describe the two.
Unfortunately most people are fooled by words. If the word “debt” was applied to dinosaurs, champagne, and jet engines, most people would conclude that dinosaurs, champagne and jet engines were one and the same thing.
Ralph,
Are you really suggesting that there are no adverse consequences to printing up more pounds to pay off the debt (to “swap one bit of government produced paper for another”)?
If so, why haven’t they done it a long time ago, to save themselves the interest payments?
Why don’t they do it every year, and keep the books nicely balanced?
Thinking about it a little more Ralph you are not only wrong you are demonstrably wrong. There is little difference between the UK government having borrowed in external funds and having borrowed in sterling.
The principal difference is certainty; and what price certainty?
If you borrow in external funds you know exactly how much you need to repay in external funds whereas if you borrow in sterling your need for foreign exchange to repay the debt (facilitate repatriation) is somewhere between 0 and 100 percent.
What is certain is that what you need to repay in external funds will be equal to the capital sum you have received in external funds at some time or another so,not a lot of benefit is to be gained from having only sterling debt.
Mrg, I fully accept that there are various potential problems relating to government debt. But they are very different to the problems facing an indebted household or firm.
Just at the moment, yields on UK and US government debt are near zero, which means this debt is little different to cash. Thus there is plenty of scope for printing money and buying back such debt. That’s what QE is, and I don’t think QE has had much effect.
In contrast, if yields were much higher, the problems fall into two categories. First, there is debt held by UK natives who have no intention of taking the proceeds of a debt buy back abroad. They would tend to spend the proceeds, which would be inflationary. But that’s no problem: government can just raise taxes. It could even raise taxes specifically on the rich, which would more or less amount to confiscating the proceeds of a debt buy back (not something an indebted household or firm can do).
Second, there are internationally minded debt holders. If they remove the proceeds of a debt buy back from the country, the pound falls in value relative to other currencies, and that means a standard of living hit for UK residents. But there is no direct inflationary effect. The pound was devalued by 25% in 2008 and we didn’t experience hyperinflation as a result.
@ Ralph. Surely devaluation of the pound is not the only thing the government have to fear from foreign holders of sterling gilts.
Much of our foreign exchange reserves are made up of foreign funds brought in to purchase gilts. The governments answer to avoid this sort of (non?)debt might be to restrict or prevent the Bank of England from making available foreign exchange for their repatriation (a sort of non-default, I suppose). Then what would happen to the foreign funds brought into the UK to invest in other assets?
A can of worms might be emerging from the argument that sterling debt incured by the government is no debt at all.It all needs to be repaid in one form or another however you look at it.Unless that is you are a communist state
Ralph,
To date the vast bulk of QE has gone to banks.
The banks have principally used that extra money to build up their reserves with the bank of England. Little of it has escaped into the wider economy.
Hence the monetary base has expanded massively in recent years. The money supply has changed comparativley little. Hence no real asset price or even general price inflation. Reason? Uncertainty and low levels of confidence in the economy – banks and businesses – who are nervous after the crash in 2008 and govt meddling since then. Hence an increase in the demand for money.
Huge excess reserves provide an enormous temptation for banks to make a killing from extending their loans again.
So in my view the inflation forecast by many economists over the last few years was simply too early. Its an accident waiting to happen. But happen it will.
Final point: There is a cost to raising taxes. From a business point of they raise the cost of any venture and so increase the required rate of return to make any venture profitable thereby snuffing out recovery and sustainable economic growth.
On incomes, tax rises stifle savings and therefore the pool of funding required to provide the foundation for any medium to long term recovery. The rejoinder about being all dead in the long tem is fatuous at this point: We had the stimuli of the Blair/Brown and Bush/Obama govts for over ten years. (And yes Bush did stimulate the US economy – just look at the growth of Govt debt in that Country after Clinton left office, an increase due far more to govt spending than the overhyped tax cuts he introduced during his terms of office). If the stimulatory policies of these Govts didn’t kill us off then they have surely bought the economies of the Western nations to their knees.
Ralph. Inflation is still theft so the government can cheat first its creditors and second the population who have the worthless inflated paper foisted upon them by mandate.
I take it you would not be best pleased if I employed you and paid your monthly salary in cash and by the time you got around to spending it discovered the cash could buy 25% less than when I paid you?
I know the rebuttal is often that if you spent your devalued cash on these shores you would not notice, Wilsonian-like ‘Pound in your pocket’ buying less. But these days we dont grow or manufacture what we eat. Farmers are paid ‘set aside’ not to grow foodstuffs and therefore the purchasing power of the legal tender is vital to our economic freedom and liberty. A variation of anything else is Serfdom-creep.
If the monetary base has been greatly increased (by government QE) and yet bank credit (“broad money”) has not gone up much – it does indeed mean that banks have used the money to build up their reserves, i.e. that the gap (in recent years it was more like a vast gulf) between the monetary base, and bank credit has been reduced a bit.
Actually (although I detest QE – and think all sorts of unprintable things about the banking system) the bankers have been sensible in this.
You are overextended (debt, loans…) and someone offers you free (ish) money.
A sane person would not rush out to lend this money out to.
A sane person would indeed use the money to restore their reserves.