Tuesday, 27 March 2012

Government debt - a story too big for the the nation's front pages

I had a quick look at the front page of the Times today. The top story was "Bankers and tycoons at Cameron’s top table". Could it be true? Was the chairman of the Conservative party selling access to the Prime Minister? Whatever. Maybe I have become too jaded, but I thought everyone knew that you had to pay to dine with the PM.

Other front page stories were:

"What do New York taxi drivers talk about all day?"
"Is it ever possible to look good in fishnet tights?"
"Albert Hall trustees sell charity tickets for profit"
"The bottom of the Earth is like an alien world"

The explosive growth of UK government debt didn't get a mention. Perhaps it is a story that is simply too big for the front page of the Times.Perhaps it is easier to think of alien worlds, ladies' intimates, and New York taxi drivers rather than confront our collective slide into bankruptcy.

The debt numbers are big. Back in 1976, the government owed £76 billion. Earlier this year, we crossed the trillion pound threshold. The Treasury thinks that this number will hit almost £1.8 trillion in just four more years.

Some of you might be thinking, isn't a large part of that extraordinary increase due to inflation. It is hard to explain away a 2000 percent increase in public indebtedness just by rising prices.

Conceptually, this problem isn't hard to understand. Government debt increases in much the same way as it does for households.If the government spends more than it receives in taxes, it makes up the difference by borrowing. This is more or less what we've been doing for over four decades. Government indebtedness has fallen in only six of the last 36 years.

It is a problem that few of us want to think about. We would rather be distracted by nonsense than soberly examine where our country is heading. That chart is plotting the future trajectory of the UK economy. There is only one destination, if we keep on borrowing like we have over the last five years. We're heading for Crashville.


Ralph Musgrave said...

Stop worrying.

First, the REAL rate of interest we pay on this debt (i.e. after adjusting for inflation) is around zero – arguably even negative.

Second, in the simple case of a closed economy, a country which issues its own currency can simply print money and buy back its debt any time (or cease rolling it over). And if that is too inflationary, it just needs to raise some of the money in a DEFLATIONARY manner: i.e. raise taxes. As long as the latter deflationary effect cancels out the above inflationary effect, the net effect is zero. Problem solved.

Third, if the private sector wants to hold a larger stock of debt (or monetary base) than normal, then let it. Where’s the problem? Moreover, if the private sector is NOT ALLOWED to hold these assets, it will attempt to save, which will result in paradox of thrift unemployment.

As to open economies, things are a little more complicated, but essentially the solution to the problem is as easy as outlined above. For more details, see:


Stevie b. said...

we've got a lifestyle to maintain, dammit!

westcoast2 said...

Stop Worrying! This is great.

We can all be rich. What the government needs to do is borrow lots of money and give it to everyone. Say £1m each that should be enough. (two million might be even better)

Government debt increases but hey all the Government needs to do is print some 'money' and pay off the debt. Brilliant.

Of course taxes would have to go up a bit but we would all be millyonairs and so could afford it.

Post Normal Economics the road to prosperity.

Ralph Musgrave said...

Westcoast2, I am not suggesting that debt should be expanded to the absurd extremes that you suggest (about thirty times the size of the existing debt, according to my back of the envelope calculations).

What I do think is that in a recession, government should spend more than they normally spend. Moreover, that money should be money that government has borrowed money or printed. Keynes and Milton Friedman, and ten thousand other economists think likewise. So I’m not saying anything controversial there.

The only slightly controversial point I’m making is that debt and money (or monetary base to be more exact) are very similar in nature. They are both (at least nominally) liabilities of the government / central bank machine. So replacing one with the other is no big deal. Indeed quantitative easing is nothing more than giving private sector entities cash in exchange for their holdings of government debt.

Before QE was implemented, half the world was foaming at the mount and chanting “Mugabwe” and “Weimar”. I predicted (as did a few others) that QE would turn out to be a damp squib. And that’s pretty much how it’s turned out.

westcoast2 said...

Ralph, I was a little flippant and extreme.

What has QE achieved? Where is that debt to be seen and does it need to be payed back?

Perhaps it has just debased the currency as all currencies seem to be on a race to the bottom.

Then again maybe it is just an accounting sleight of hand to move debt from one place to another, hence no real effect?

In the US they are now talking of QE3. Some suggest that once started QE will have to continue to infinity. Has QE1, 2 and Twist achieved anything? Has it exported inflation due to the $ having reserve status?

Didn't Keynes talk about timing? At what point in the cycle should money be introduced? Also Keynes didn't have a ZIRP world which allows misallocation of resources.

Does a Keynsian approach, at this time, just add to the problems. Debt on debt with no growth?

Friedman talked of increasing/ decreasing the money supply to 'manage' inflation as you seem to suggest. Yet again this was predicated on growth and management of interest rates wasn't it?

Perhaps these methods will work once we hit rock bottom. Do their methods actually work as you head towards that place or rather do they help you get there, so eventually a great unwinding has to occur?

Ralph Musgrave said...


Re your question, “What has QE achieved?”, it has resulted in a finite amount of stimulus, in my view, but not a dramatic amount.

Re where are the debts, they are held by the Bank of England. In other words the government / central bank machine is holding its own debt, which is a farce. Those Gilts might as well be torn up as I pointed out in a letter in the Financial Times about two weeks ago.

Re at what point in the recession should government start increasing its spending, the answer is as soon as the recession appears (ideally).

Re Keynes and interest rates, see item No. 13 here:

Re your final para, I think that when government spends extra money (borrowed or printed) that does produce stimulus. As to whether that needs to be unwound, that might be necessary. But that is no problem in principle: government can confiscate any amount of spending power from the private sector it wants anytime via extra tax, raised interest rates, etc. There might be political problems here, but there aren’t any technical problems.

dearieme said...

I'm fascinated that the chart even shows how Brown started off with the Tory spending plans for his first few years before he let rip. I'm struggling, though, to see where Osborne abandoned Labour's spending plans. Or would they have been even madder than his?

Sobers said...

@Ralph Musgrave: your MMT theory is a very nice theory. I'm sure on paper it works fine. Rather like Communism in fact. Great on paper, its just that annoying bit in reality where it turns everything to ratsh!t.

What would happen when politicians got the idea they could promise anything they wanted, with no bills to pay (ie no extra taxes to pay for it, or borrowings to finance)? And what would happen when inflation did start to rise? Would they actually stop printing money and giving it away, and raise the taxes necessary to reduce inflation? There's lots of votes in extra spending, no so many in extra taxes. Or would they lose control of the entire thing like they did in the 1970s?

There's also the little matter of the fact that raising taxes would hit many of the same people who are hit by rising inflation - those on fixed incomes and who live on interest from savings. Why should they pay more tax for the privilege of having their incomes and savings decimated by inflation?

Electro-Kevin said...

Ralph - Should I take out the large mortgage and upsize my house, as I was offered last week ?

Alice Cook said...

Ralph, Dearieme,Sobers, Electro-Kevin, and WestCoast 2

I congratulate you on a nice exchange of comments. I enjoyed your collective contributions immensely.

Thanks again,


Ralph Musgrave said...


Your suggestion that politicians go mad when they get their hands on the printing press is hardly original. Everyone is aware of that potential problem, which why we have independent central banks. That way CBs can and do negate any excessive stimulatory fiscal policy that politicians implement.

So that problem is ALREADY TAKEN CARE OF, and would be taken care of under my proposals.

Personally I’d take it even further, and stop politicians even being able to implement fiscal stimulus. In fact many Western countries are moving in this direction already. For more on this, see here:


Re your last para and raising taxes, this is always a politically difficult problem: witness the contrived indignation around the 45p/50p maximum rate of income tax. I say “contrived” because the actual effect on total tax paid by high earners will be around zero because of the Laffer curve and all that.

Re your claim that the additional tax makes anyone worse off, there would be no effect whatever on average earnings because as I’ve already pointed out, the stimulatory effect of buying back debt is (at least in principle) cancelled out by the deflationary effect of extra taxes.

However, actually re-arranging taxes and social security so that no group is better off or worse off by so much as £1 a week is difficult.
But I’m sticking to my basic point, which is that there are no economic problems or problems in principle in paying off the national debt. The problems are entirely political.

Electro Kelvin,

No don't buy that house. I have a far better investment suggestion. Buy first class stamps: they jump in value on 30th April by about 30%. I've bought a barrow load..:-)

Electro-Kevin said...

Thanks Ralph.

In not buying that house I've saved a fortune in - wait for it - stamp duty.

Seriously: I pulled out of the purchase owing to the fact that the mortgage was likely to take me up to retirement - I have twins to get through university in five years time when the present mortgage ends.

dearieme said...

Dear Lady,



Jim said...

@Ralph: We live in democracy. Politicians will always (rightly) have the ultimate say as to what happens with regard to taxes and spending. So called 'Independent' Central Banks are only as independent as the democratically elected politicians let them be. The power lies with the people (and the politicians they elect).

If you think it is right to set up a body that has the power to set spending and taxation levels that can do so in perpetuity without democratic oversight, then I don't want to live in such a country. It would in fact be a tyranny.

And if such a body has democratic oversight, then the obvious temptation is to continue printing money when there is an election in view, when taxes should (by the needs of the economy) be rising. That is a temptation that no politician in search of votes can resist.

Then there is the issue of the spending ratchet. Once an item is put into the State spending list (higher pensions, or benefits, or more spending on the NHS or whatever) thats it. It can pretty much never be reduced (as we are seeing right now, where small cuts in spending in some areas is causing massive upset). Its politically unacceptable to give something one year, and take it away the next. So as the politicians make more and more promises with their printed money, those promises last forever. So the taxes will have to rise in step to make sure that inflation doesn't take hold.

So we are pretty much back to where we started - you can have extra services and benefits, if you (as a nation) are prepared to pay the extra taxes for them. Which, by and large , we aren't.

MMT is a con. It matters not whether you regard taxes as a way of raising revenue to then spend, or whether you regard taxes as just withdrawing money out of the economy, being replaced by printed money elsewhere. At the end of the day the two will in the long run have to be equal, otherwise you get runaway inflation. There is no magic wand that makes everyone wealthy.