Tuesday, April 28, 2009

Public debt means stealing from future generations

Does it matter that our public debt to GDP ratio is projected to rise to 90 percent? Other countries have even higher ratios, for example, Italy and Japan. After the war, the UK had a ratio in excess of 250 percent, but somehow managed to avoid economic ruin. These cross country and historical comparisons suggest that given time, our current debt problem will sort itself out. So what is wrong with high levels of public debt?

Let's deal with the cross-country issue first. Before the crisis started, the UK had a comparatively low level of public-sector debt, which meant that the government interest rate bill was also comparatively low.

Now, with borrowing exploding, the government will have to find more money to service its debts. This means less money for everything else. For example, if the government today decides to borrow more to spend on schools, it will have less in the future. Schoolchildren today will take resources away from future generations of schoolchildren.

This debt servicing squeeze on public expenditure is something at all heavily indebted countries understand. High levels of public sector debt redistributes income across generations and from taxpayers to bond holders and recipients of public sector extravagance.

The experience of Italy and Japan teaches another lesson. Both countries expanded government borrowing to maintain economic growth. It was a strategy that failed. Japan's sorry experience with Keynesian policies is particularly instructive. Back in the mid-80s, Japan had a very low debt to GDP ratio. It had a banking crisis, the economy crashed, and despite repeated attempts to kick start the economy with government spending, growth remained disappointing, leaving Japan with frightening levels of public indebtedness.

What about our own historical experience? After the war, the UK government had a major problem with debt. By 1970, it had largely resolved the problem. The methods, however, were not pleasant. In order to ensure low interest rates, the financial system was heavily regulated. Banks operated a cartel, keeping rates low. Household credit was difficult to obtain, and mortgages rationed. Exchange controls prevented people from investing their money abroad.

With inflation running higher than the interest rate, the real value of post-war debt was gradually eroded. This strategy of financial repression ensured that bondholders and savers ended up paying for the war.

The UK's post-war debt reduction strategy would not appeal to people today. However, the government and the Bank of England are putting together a very similar approach. One of the explicit objectives of the Bank of England's quantitative easing strategy is to reduce the yield on long term government paper. The monetary policy committee's bank rate is almost zero. The Bank of England and the government are working hard to increase inflation. The results so far have been encouraging. Despite the slowdown in economic growth, inflation remains very much alive.

After the war, most savers, watching their investments evaporate, shrugged their shoulders philosophically and weighed their loss against the greater good. Savers today are unlikely to take such a publicly minded approach. Why should people, who prudently saved and avoided debt, be forced to pay for reckless property speculators? You can be sure that if the government runs a debt to GDP ratio of 90 percent, it will only be reduced by expropriating savers through inflation and negative interest rates.


  1. A good article.

    What do you think those savers are going to do then, or the bondholders?

    Elect a new government without this strategy (both parties are going to do this)?

    Force a default that wipes out the currency of their holdings in the hope of getting a litle back?

    The only real answer is to emigrate, which millions are and will do. This is the hidden story of new labour. Wealthy indigenous people flee to aus/spain/canada with their money and are replaced by poor immigrants who work for little pay. in fact you need more immigrants becuase they are not paid enough - the Government has clearly worked this out a while ago.

  2. Given that the previous decade's GDP rise in the UK has been discovered to be largely fictitious, our public debt ratio is MUCH worse than is being reported.

  3. You don't need to emigrate, just move your money to other currencies. There are no exchange controls now, so if things look bad the money will flow out of the country faster than a rat down a drain pipe.

    With modern technology and trading platforms you can even hedge you savings against other currencies without moving them. This is what will stop Labour (or any other govt) ruining the country completely.

  4. Dear Alice,

    Good article.

    My last comment here was under the influence of about ten pints of Betty Stogg's. I kept bumping into people who owed me favours all night long - it would have been rude of me to refuse their hospitality. The half hour preceding had been spent standing on top of a table in my favourite pub playing air guitar to my favourite AC/DC tribute band - being a quiet character I figured it was time I should go.

    Sadly my computer is on the way to my bedroom and I didn't quite make it back without making an arse of myself.

    I'm truly sorry.(Not least for saying something supportive of Nu Lab)


  5. Very good; sober, balanced tone. If I may say so.

  6. At least money was spent rebuilding the nation's infrastructure after the war, this money is not going to be used for investment it will just be squandered on the wages of a bunch of useless, unproductive civil servants. We will never be in a position to pay down the debt.

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  8. It is worth remembering the difference between debt to fight a major world war and preserve the country's freedoms and independence, and ten years of debt racked up to keep a load of white-wine swilling slappers in 110% mortgages and cheap high-street fashion. There is a real moral difference there and it is why I am not prepared to pay to bail this lot out.

  9. The difference between the 2nd WW and now is that bureaucracy started all over after the War from scratch, having been mobilised for the war effort. It was then remobilised for peace time. Now you have a bureaucracy that will go on increasing until there is a debt default by the British Government.
    That is on the cards because lenders are not going to stand for low interest rates with current risk. If there are no lenders, and the govt wants to keep interest rates low, the Bank of England will have to absorb the whole of the Bond Market, because every seller of bonds is going to throw their bonds in the BOE's direction. If the BOE fails to underwrite the market, well up go interest rates ! That leads to default.
    I believe the BOE is fully aware of this, and the way round it is for central banks to do currency swaps and buy each others' countries' bonds. This might explain the current (counter-intuitive) strength in the Pound.
    This leads to a decline or even a collapse in all fiat currencies.
    Gold is the thermometer to measure this, but has been suppressed for 15 years. For information on the policy by the Fed to "manage" or suppress the gold price, go to www.gata.org. The gold price suppression scheme is shortly doomed to failure. That is quite apart from the fact that China has announced it is in the market. The central banks' reserves are running critically low.
    Got gold ?
    Britain is heading in the direction of Iceland

  10. I think we are on the Iceland iceberg. I have taken measures now to hedge for this. I don't trust the pound holding its strength in the second half of the year.

  11. It just goes to show that all the talk about 'the environment' is a load of b*ll*ocks. 'We must think of our grandchildren' goes the cry when some mad-ass scheme to 'stop climate change' is proposed.

    Not much consideration is being given to the grandchildren's future debt bills tho, is it? They might prefer a few more degrees on the temperature, and a few less trillions in debt round their necks.

    At least it shows up the Greens and their Nu-Labour hangers-on as the hypocrites they really are. The real reasons for 'green' laws are control and taxation. Nothing more.

  12. Sobers,

    That's why they're called melons.

    Thin Green Skin, but Red to the core

  13. The UK should just default now and save the future generations the bother - It's for the sake of The Children.