The debt delusion

Cameron's Conservatives are economic illiterates

I am sick and tired (tired!) of listening to Tory politicians, free-market economists and right-wing pundits go on and on about our national debt, pushing the ludicrous idea that we are going to default on it. These are the same close-minded ideologues who spent years promulgating the virtues of the neoliberal, deregulated, financial capitalist model that so utterly and miserably failed in the autumn of 2008. So you can imagine how my stomach churned this morning as I read the Guardian's front-page headline: "Cameron: UK could default on its debt".

I'm sorry, but this is nothing short of economic illiteracy and political posturing. The Conservative leader said:

You can get to a level of government debt where, not that it becomes certain that people will cease to lend you the money, but you start running risks of them demanding higher premia, higher interest rates. Or you run the risk of not being able to meet your obligations.

This is pure and utter nonsense. Suffice it to say that we are not going "bust" and David ("I have never predicted that it is going to happen") Cameron knows this. However, as I have neither the time nor the inclination to deconstruct the Tory position on debt in any detail, let me point you in the direction of others who are far more knowledgeable on this subject than the Tory leader and his ill-informed speechwriters.

1) The economist Paul Ormerod, writing in the New Statesman in May:

Why . . . have the media become fixated by the projected increase in debt? The figures are big, almost unimaginably so. But when the British experience is put into an international context, the hysteria does not appear to be justified. As I write these words, for instance, I read that the Italian government has revised upwards its forecasts for public-sector debt relative to GDP. In 2009, Italian debt will be 114 per cent of GDP, rising to 118 per cent in 2011. On a comparable basis, Britain's figures are 72 and 87 per cent, respectively. These Italians, we may shrug, they do things differently. But what about the prudent Germans? In the 1997-2006 decade, before the present problems started to materialise, German public-sector debt relative to the nation's economy averaged 64 per cent. In the United States, the average was 61 per cent, and in Japan (due to its own recession of the early 1990s) a huge 164 per cent. In the UK, it was just 46 per cent. And literally every government is projecting large increases in debt.

Again: should this worry us? Well, we can usefully think of the ratio of debt to GDP as being similar to the size of an individual's mortgage relative to his or her income. And just like a domestic mortgage, there are two separate components, the interest payments and the eventual repayment of the capital sum.

So, in the UK, for example, the government offers for sale what are known as gilts -- from the phrase "gilt-edged", meaning that if the British government and not Johnny Foreigner backs them, you are certain to get your money back. The gilt states the interest that will be paid, and the date the government will repay the holder (who may very well not be the original purchaser, as gilts can be traded just like shares). The repayment date could be in just a year, or two or three decades hence.

But unlike with a personal mortgage, repaying the capital sum isn't something governments, at least those in stable western democracies, have to worry about too much. When one tranche of gilts comes up for repayment, it isn't usually a problem for the government just to issue a new set if it wants to. Obviously, if all the £1.4trn debt came up for renewal at the same time, there might be problems in persuading investors to refinance the whole lot. But provided the Bank of England is reasonably professional and astute, the repayment dates can be spread out over time.

Since the Second World War, all governments have had an important ally in their programme of rolling over and refinancing their debts -- inflation. When a pension fund, say, buys part of a new issue of gilts, the amount that the government agrees to repay on the due date is fixed in money terms. But inflation means that when payback time comes round, this fixed amount is worth much less.

2) The Nobel Laureate and Princeton University economics professor Paul Krugman, writing on his New York Times blog in July:

Hmm. My attention has been on other things, so it's been a while since I looked at British bond rates and CDS spreads. But here's where they are right now: ten-year bond rates at 3.737, compared with 3.337 for Germany; CDS spread at 71 versus 35 for Germany. Really not so bad. But, but, wasn't Britain supposed to be hurtling toward bankruptcy?

3) The former director of the Institute for Fiscal Studies Andrew Dilnot, writing in the Times in December 2008:

It's a record! Debt here, debt there, all greater than ever -- and the recession scarcely begun. Well, yes, if you take cash figures, if you ignore the effect of inflation and ignore the size of the economy, as if a £10 debt meant the same to your granny in childhood as it would in 2008 to someone in their earning prime. Only then is the number of pounds of debt "a record". Play this game with the National Debt and we find that it has hit "a record" in about 50 of the past 60 years.

4) The chief executive of the government's Debt Management Office, Robert Stheeman, speaking to Channel 4 News's economics correspondent, Faisal Islam, in May:

It [the challenge of weekly auctions of government debt] is a major one, and the numbers are extraordinarily high, I wouldn't want to pretend otherwise. At the same time we do have one big advantage and that is that the major government bond markets have become extremely liquid and extremely efficient . . . and I'm often asked: can the market take this -- and the answer is, yes it can . . . I'm genuinely confident that it will be doable and that everything that makes our market work -- not just ourselves, but the banks who help us sell our debt and the whole investor community, domestic, internationally -- will support the programme.

5) The Financial Times's chief economics commentator, Martin Wolf, writing in the FT in April:

. . . why should such a temporary increase in the fiscal deficit be terrifying? UK net public debt -- forecast at 61 per cent of GDP this year -- remains well below the average of advanced country members of the G20. At the end of the Napoleonic and second world wars, UK public debt was close to 2.7 times GDP. Yet even this triggered none of the hyperinflationary consequences now widely feared. As the IMF also notes, even a 100 percentage point increase in the debt ratio should require an offsetting shift in the primary fiscal balance (with interest payments removed from spending) of no more than 1 per cent of GDP, provided fiscal credibility is maintained.

6) The Financial Times columnist Samuel Brittan, writing in the FT in March:

Nothing I have said will convert people who have an instinctive fear of governments getting into debt. Let me therefore cite the distinguished English historian Lord Macaulay: "At every stage in the growth of that [national] debt the nation has sent up the same cry of anguish and despair. At every stage in the growth of that debt it has been seriously asserted by wise men that bankruptcy and ruin were at hand. Yet still the debt kept on growing; and still bankruptcy and ruin were as remote as ever." Harold Macmillan, as chancellor of the exchequer, quoted Macaulay in his 1956 Budget speech and remarked how the national debt had risen from £6bn in 1914 to £27bn in 1956, representing 27 and 146 per cent of gross domestic product respectively -- about twice what is now in prospect. Yet these percentages were reduced in the postwar phase without any heroic reserve or 'sinking' funds, through the simple forces of economic growth and inflation creeping at a rate not much above current inflation targets.

Of one thing I am sure. If we had the misfortune to engage in a major war, we would have far higher deficits and debts than anything now in prospect and few except some pacifists would worry. The second world war was financed in the UK with a 0.5 per cent bank rate. Why should it be more alarming for governments to get into debt to put people into useful work satisfying human needs than to borrow for guns and tanks whose only aim is to kill other human beings?

So Cameron and Osborne would do well to brush up on their Macaulay, if not their Keynes.

On a side note, much of the media coverage of this story has focused on how the leading credit rating agency Standard & Poor's lowered its outlook on Britain from "stable" to "negative" on 21 May and said the nation faced a one-in-three chance of losing its AAA rating. However, far fewer papers devoted column inches to the fact that, on the same day as the S&P warning, the other two major credit rating agencies, Moody's and Fitch, affirmed the UK economy's "stable" outlook and said they had no plans to review that outlook. But even if they did, and they joined S&P in issuing gloomy warnings about potential downgrades, the man in charge of raising money for the government by selling debt, Robert Stheeman, seems remarkably unperturbed:

A credit rating is a significant factor, looked at by international investors in particular. At the same time, a credit rating is ultimately just that: it's an opinion by the credit rating agency. I don't think it would fundamentally change the way international investors view our debt. It could mean they might demand fractionally more in terms of yields, [but the difference] could easily be imperceptible.

Then there is the issue of the agencies themselves - when will they be downgraded? Their failure to predict defaults on mortgage-backed securities, and their doling out of triple-A ratings to what turned out to be junk assets, helped cause the global financial crisis in the first place. As Professor Kevin Gallagher of Boston University pointed out last month:

The rating agencies have serious conflicts of interest, face little-to-no competition, constantly fail to predict defaults and accentuate the financial crises they've played a big role in creating. These issues need to be addressed to put this crisis behind us and prevent the next one.

Mehdi Hasan is a contributing writer for the New Statesman and the co-author of Ed: The Milibands and the Making of a Labour Leader. He was the New Statesman's senior editor (politics) from 2009-12.

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Cabinet audit: what does the appointment of Andrea Leadsom as Environment Secretary mean for policy?

The political and policy-based implications of the new Secretary of State for Environment, Food and Rural Affairs.

A little over a week into Andrea Leadsom’s new role as Secretary of State for Environment, Food and Rural Affairs (Defra), and senior industry figures are already questioning her credentials. A growing list of campaigners have called for her resignation, and even the Cabinet Office implied that her department's responsibilities will be downgraded.

So far, so bad.

The appointment would appear to be something of a consolation prize, coming just days after Leadsom pulled out of the Conservative leadership race and allowed Theresa May to enter No 10 unopposed.

Yet while Leadsom may have been able to twist the truth on her CV in the City, no amount of tampering will improve the agriculture-related side to her record: one barely exists. In fact, recent statements made on the subject have only added to her reputation for vacuous opinion: “It would make so much more sense if those with the big fields do the sheep, and those with the hill farms do the butterflies,” she told an audience assembled for a referendum debate. No matter the livelihoods of thousands of the UK’s hilltop sheep farmers, then? No need for butterflies outside of national parks?

Normally such a lack of experience is unsurprising. The department has gained a reputation as something of a ministerial backwater; a useful place to send problematic colleagues for some sobering time-out.

But these are not normal times.

As Brexit negotiations unfold, Defra will be central to establishing new, domestic policies for UK food and farming; sectors worth around £108bn to the economy and responsible for employing one in eight of the population.

In this context, Leadsom’s appointment seems, at best, a misguided attempt to make the architects of Brexit either live up to their promises or be seen to fail in the attempt.

At worst, May might actually think she is a good fit for the job. Leadsom’s one, water-tight credential – her commitment to opposing restraints on industry – certainly has its upsides for a Prime Minister in need of an alternative to the EU’s Common Agricultural Policy (CAP); a policy responsible for around 40 per cent the entire EU budget.

Why not leave such a daunting task in the hands of someone with an instinct for “abolishing” subsidies  thus freeing up money to spend elsewhere?

As with most things to do with the EU, CAP has some major cons and some equally compelling pros. Take the fact that 80 per cent of CAP aid is paid out to the richest 25 per cent of farmers (most of whom are either landed gentry or vast, industrialised, mega-farmers). But then offset this against the provision of vital lifelines for some of the UK’s most conscientious, local and insecure of food producers.

The NFU told the New Statesman that there are many issues in need of urgent attention; from an improved Basic Payment Scheme, to guarantees for agri-environment funding, and a commitment to the 25-year TB eradication strategy. But that they also hope, above all, “that Mrs Leadsom will champion British food and farming. Our industry has a great story to tell”.

The construction of a new domestic agricultural policy is a once-in-a-generation opportunity for Britain to truly decide where its priorities for food and environment lie, as well as to which kind of farmers (as well as which countries) it wants to delegate their delivery.

In the context of so much uncertainty and such great opportunity, Leadsom has a tough job ahead of her. And no amount of “speaking as a mother” will change that.

India Bourke is the New Statesman's editorial assistant.