Credibility and the confidence fairies

Low interest rates have nothing to do with "our hard-won credibility"

In 1994, the Conservative Government proposed a rise in fuel VAT from 8 per cent to 17.5 per cent. It was defeated by a Labour-backed motion and Shadow Chancellor Gordon Brown looked to have won a major economic battle. But Chancellor Ken Clarke made a stirring speech defending the economic fundamentals of the policy and accusing Labour of recklessly undermining the nation’s prosperity, culminating by calling Brown a "silly billy".

Today, David Cameron made his own stirring speech, laying out his plan for how Britain could finally begin a recovery. But like Clarke before him, he wanted to defend his economic fundamentals from the Labour line, saying:

Those who argue we should spend more want us to borrow more, driving up our deficit and our debt and putting our hard-won credibility and low interest rates at risk.

The argument behind all this is, of course, whether the government is right to make deficit reduction "line one, clause one, part one" or whether a slower approach would make the economy grow faster, which would increase the size of the pie, allowing more debt to be paid off.

Despite losing public backing for their tackling of the economy as well as outspoken criticism from the economics profession – for example, Nobel Prize-winner Paul Krugman here – the government will not be fazed.

And it all rests on one argument:

Government bond yields are at an all-time low, which means the UK is seen as a safe place of investment and therefore the government’s plan is the right one. Economics professors across the Golden Triangle must squirm every time they hear another one of their protégés pull this one out on Question Time.

And that is because the low-bond-yield argument is a choreographed hoodwinking of the British public. To say that our rates are 1.85 per cent, compared to 6 per cent in Ireland, 12 per cent in Portugal and 28 per cent in Greece, is like saying that the PM picks up a tan quicker than an inmate of Her Majesty’s Prison Service. Yields reflect risk, and in those countries, there is real risk that the Governments will default on their debts. The same has never been said of the UK.

Instead the "risk premium" paid on gilts is based on the fact that we are a safe haven in a turbulent financial world and investors are willing to accept lower returns than normal because their risk in the UK is relatively lower than in the Eurozone. But this is not normal. Look up any economics textbook, it will tell you that the more global investors buy Government bonds, the more they are at risk (of losing money if the pound depreciates), therefore the higher the risk and the rate will be; in normal times bond yields are high the more of them are supplied to the private sector.

Indeed, as Jonathon Portes highlights here, confidence has grown in the UK at the start of 2012 (as measured by the rise in share prices of FTSE250 companies) and the bond-yield has risen alongside it. His graph is below:

More worryingly, a recent paper has shown empirically that current ten-year bond yields are a good benchmark of growth rates in ten years’ time. That would mean 1.85 per cent growth by 2022- the OBR expect 3 per cent growth by 2015.

But what about the interest rates that the PM is so keen to keep down for the sake of struggling homeowners?

As an economy grows in confidence and bond yields rise, yes, eventually interest rates should rise too, so mortgage and loan repayments will increase. But surely this is to be expected in a healthy, growing economy, with increasing incomes?

A Manchester United fan, for example, must accept that the price of supporting Manchester United is that you will pay higher ticket prices than you would as a Wigan fan.

Low interest rates are a symptom of the problem, not the solution.

This can be seen quite clearly in a country whose interest rates and bond yields have been rock bottom for over a decade: Japan. The charts below compare GDP (only up to 2007, to focus more clearly on growth trends before the recession), 10-year government bond yields and interest rates for the UK and Japan since 1992, when the Japanese economy sank into a recession from which it has never fully recovered.

Click for big

Indeed, Japanese homeowners are now accustomed to close-to-zero interest rates following a “lost decade”. Is that the ultimate aim of the UK Government’s austerity plan? If not, they might be forced before long to accept that Labour had it right all along. Silly billies.

Pictured: Confidence fairies. Maybe. Photograph: Getty Images

Dom Boyle is a British economist.

Photo: Getty
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The campaign to keep Britain in Europe must be based on hope, not fear

Together we can show the world a generous, outward-facing Britain we can all be proud of.

Today the Liberal Democrats launched our national campaign to keep Britain in Europe. With the polls showing the outcome of this referendum is on a knife-edge, our party is determined to play a decisive role in this once in a generation fight. This will not be an easy campaign. But it is one we will relish as the UK's most outward-looking and internationalist party. Together in Europe the UK has delivered peace, created the world’s largest free trade area and given the British people the opportunity to live, work and travel freely across the continent. Now is the time to build on these achievements, not throw them all away.

Already we are hearing fear-mongering from both sides in this heated debate. On the one hand, Ukip and the feuding Leave campaigns have shamelessly seized on the events in Cologne at New Year to claim that British women will be at risk if the UK stays in Europe. On the other, David Cameron claims that the refugees he derides as a "bunch of migrants" in Calais will all descend on the other side of the Channel the minute Britain leaves the EU. The British public deserve better than this. Rather than constant mud-slinging and politicising of the world's biggest humanitarian crisis since the Second World War, we need a frank and honest debate about what is really at stake. Most importantly this should be a positive campaign, one that is fought on hope and not on fear. As we have a seen in Scotland, a referendum won through scare tactics alone risks winning the battle but losing the war.

The voice of business and civil society, from scientists and the police to environmental charities, have a crucial role to play in explaining how being in the EU benefits the British economy and enhances people's everyday lives. All those who believe in Britain's EU membership must not be afraid to speak out and make the positive case why being in Europe makes us more prosperous, stable and secure. Because at its heart this debate is not just about facts and figures, it is about what kind of country we want to be.

The Leave campaigns cannot agree what they believe in. Some want the UK to be an offshore, deregulated tax haven, others advocate a protectionist, mean-hearted country that shuts it doors to the world. As with so many populist movements, from Putin to Trump, they are defined not by what they are for but what they are against. Their failure to come up with a credible vision for our country's future is not patriotic, it is irresponsible.

This leaves the field open to put forward a united vision of Britain's place in Europe and the world. Liberal Democrats are clear what we believe in: an open, inclusive and tolerant nation that stands tall in the world and doesn't hide from it. We are not uncritical of the EU's institutions. Indeed as Liberals, we fiercely believe that power must be devolved to the lowest possible level, empowering communities and individuals wherever possible to make decisions for themselves. But we recognise that staying in Europe is the best way to find the solutions to the problems that don't stop at borders, rather than leaving them to our children and grandchildren. We believe Britain must put itself at the heart of our continent's future and shape a more effective and more accountable Europe, focused on responding to major global challenges we face.

Together in Europe we can build a strong and prosperous future, from pioneering research into life-saving new medicines to tackling climate change and fighting international crime. Together we can provide hope for the desperate and spread the peace we now take for granted to the rest of the world. And together we can show the world a generous, outward-facing Britain we can all be proud of. So if you agree then join the Liberal Democrat campaign today, to remain in together, and to stand up for the type of Britain you think we should be.