Cameron's indulgence of Tory fantasies is weakening his hand in Europe

The PM's Ukip-style positioning on immigration is viewed as weakness or blackmail by the rest of the EU.

The best part of a year has passed since David Cameron’s speech promising to renegotiate the terms of Britain’s European Union membership and to put the ensuing deal to the country in a referendum. Since then, there hasn’t been much clarity about the kind of reforms that would persuade the Prime Minister to campaign for the "in" side.

We have learned something about what he doesn’t like. Or rather, we know that he has located the feature of current EU membership that seems most to inflame public hostility – free movement of workers between member states – and wants to be seen to be doing something about it.

On 1 January 2014, transitional controls that have limited the rights of Romanians and Bulgarians to live and work in the UK will be lifted. Nigel Farage is terribly excited by this prospect since it effectively launches Ukip’s campaign for May’s European parliamentary elections without him having to lift a finger. The Tories are putting in all the groundwork, ramping up the issue, reinforcing the impression that a horde of welfare-snaffling foreigners is massing on the border. Voters who are most animated by fear of a migrant tsunami will not believe the Conservatives can hold back the tide.

And they can’t. Cameron understands that free movement is an integral part of the single market. He has given private assurances to the European Commission that Britain will do nothing unilaterally that would breach existing rules. What he hopes to do is persuade other member states that those rules can, in time, be amended. In all likelihood that would mean adjustments to the accession arrangements for any future candidates for EU membership. Retrospectively clawing back rights from existing members or rewriting the very basis on which workers move around the bloc would require treaty revision on a scale that no other country wants to consider.

In other words, when Cameron says he is getting tough over the arrival of Bulgarians and Romanians in two weeks time, what he actually means is that he intends to start a conversation about a possible negotiation about what might theoretically happen with some Croatians at an unspecified point in the future.

Making announcements that sound like Ukip propaganda but without the policy of EU exit to support them is ultimately just an incitement to vote Ukip. Meanwhile, briefings from the Home Office that something drastic will be done serve only to nurture in Tory eurosceptic hardliners the hope that, if they push hard enough, Conservative policy will merge with Farage’s. (The government’s Immigration Bill has already been blown off course by a Tory backbench amendment calling for Britain to renege on its treaty obligations to Romania and Bulgaria.)

This situation is a source of bafflement and rising alarm in other European capitals. Most EU leaders and Brussels officials are prepared to engage with Cameron’s renegotiation ambitions to some extent because, by and large, they want Britain to stay in and they recognise that institutional reform is needed. It helps that the Prime Minister now talks more about pan-European changes than about unilateral "repatriation" of powers. When Cameron goes to Brussels, the carving out of custom-made exceptions for the UK – enjoying all the trading perks of open borders without any of the accompanying social and employment protections – is not seriously on the agenda. Yet that is the only kind of deal that many Tory sceptics would consider acceptable.

When Cameron allows his party to dwell on fantasies of a bespoke British EU package, the rest of Europe starts to lose patience. It is seen as either weakness – a failure to confront the Tory party with a realistic account of what is available in "renegotiation" – or it is viewed as a cynical game, ramping up euroscepticism, making the threat of exit seem ever more likely in the (mistaken) belief that this strengthens Britain’s hand. "We don’t like to use the word blackmail, but sometimes it is the word that comes naturally to your lips," one Commission official tells me.

Perhaps the most surprising element in all this is the Tory party’s willingness to indulge the pretence that Cameron has even embarked on a process of giving them what they want. There is really no evidence that he has. There will be a referendum in 2017, if the Tories form a government after the next election – and that is far from certain. Meanwhile, it remains the Prime Minister’s stated policy to support continued EU membership in that vote. When does he suppose he will fit in the negotiations to secure a deal that doesn’t tear his party in half? He shows no intention of starting soon. Is such a deal even possible? The rest of Europe – led by Germany – is eager to find some accommodation, but they can’t help if they don’t really know what it is that Cameron wants. (And there are divergent views between the parties in Germany’s ruling coalition and within them of how far Berlin should go to accommodate Britain.)

Cameron’s European strategy as it currently stands is to ramp up domestic expectations of a deal that fundamentally changes the basic principles on which the EU operates, while doing none of the diplomacy abroad to make such an outcome even remotely plausible. It is the approach a Prime Minister would take if he didn’t really care one way or the other if Britain stayed in the EU or drifted towards the exit. It is the course that might be expected from a Prime Minister who would rather not engage with the arguments if doing so conflicts with the task of appeasing habitually disloyal backbenchers and fomenting Ukip-friendly, anti-EU hysteria in the process. As a plan for leading the Conservative party that is short-sighted enough. As a way to lead the country it is desperately irresponsible.

David Cameron speaks during a press conference at an EU Council meeting on October 25, 2013. Photograph: Getty Images.

Rafael Behr is political columnist at the Guardian and former political editor of the New Statesman

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We're racing towards another private debt crisis - so why did no one see it coming?

The Office for Budget Responsibility failed to foresee the rise in household debt. 

This is a call for a public inquiry on the current situation regarding private debt.

For almost a decade now, since 2007, we have been living a lie. And that lie is preparing to wreak havoc on our economy. If we do not create some kind of impartial forum to discuss what is actually happening, the results might well prove disastrous. 

The lie I am referring to is the idea that the financial crisis of 2008, and subsequent “Great Recession,” were caused by profligate government spending and subsequent public debt. The exact opposite is in fact the case. The crash happened because of dangerously high levels of private debt (a mortgage crisis specifically). And - this is the part we are not supposed to talk about—there is an inverse relation between public and private debt levels.

If the public sector reduces its debt, overall private sector debt goes up. That's what happened in the years leading up to 2008. Now austerity is making it happening again. And if we don't do something about it, the results will, inevitably, be another catastrophe.

The winners and losers of debt

These graphs show the relationship between public and private debt. They are both forecasts from the Office for Budget Responsibility, produced in 2015 and 2017. 

This is what the OBR was projecting what would happen around now back in 2015:

This year the OBR completely changed its forecast. This is how it now projects things are likely to turn out:

First, notice how both diagrams are symmetrical. What happens on top (that part of the economy that is in surplus) precisely mirrors what happens in the bottom (that part of the economy that is in deficit). This is called an “accounting identity.”

As in any ledger sheet, credits and debits have to match. The easiest way to understand this is to imagine there are just two actors, government, and the private sector. If the government borrows £100, and spends it, then the government has a debt of £100. But by spending, it has injected £100 more pounds into the private economy. In other words, -£100 for the government, +£100 for everyone else in the diagram. 

Similarly, if the government taxes someone for £100 , then the government is £100 richer but there’s £100 subtracted from the private economy (+£100 for government, -£100 for everybody else on the diagram).

So what implications does this kind of bookkeeping have for the overall economy? It means that if the government goes into surplus, then everyone else has to go into debt.

We tend to think of money as if it is a bunch of poker chips already lying around, but that’s not how it really works. Money has to be created. And money is created when banks make loans. Either the government borrows money and injects it into the economy, or private citizens borrow money from banks. Those banks don’t take the money from people’s savings or anywhere else, they just make it up. Anyone can write an IOU. But only banks are allowed to issue IOUs that the government will accept in payment for taxes. (In other words, there actually is a magic money tree. But only banks are allowed to use it.)

There are other factors. The UK has a huge trade deficit (blue), and that means the government (yellow) also has to run a deficit (print money, or more accurately, get banks to do it) to inject into the economy to pay for all those Chinese trainers, American iPads, and German cars. The total amount of money can also fluctuate. But the real point here is, the less the government is in debt, the more everyone else must be. Austerity measures will necessarily lead to rising levels of private debt. And this is exactly what has happened.

Now, if this seems to have very little to do with the way politicians talk about such matters, there's a simple reason: most politicians don’t actually know any of this. A recent survey showed 90 per cent of MPs don't even understand where money comes from (they think it's issued by the Royal Mint). In reality, debt is money. If no one owed anyone anything at all there would be no money and the economy would grind to a halt.

But of course debt has to be owed to someone. These charts show who owes what to whom.

The crisis in private debt

Bearing all this in mind, let's look at those diagrams again - keeping our eye particularly on the dark blue that represents household debt. In the first, 2015 version, the OBR duly noted that there was a substantial build-up of household debt in the years leading up to the crash of 2008. This is significant because it was the first time in British history that total household debts were higher than total household savings, and therefore the household sector itself was in deficit territory. (Corporations, at the same time, were raking in enormous profits.) But it also predicted this wouldn't happen again.

True, the OBR observed, austerity and the reduction of government deficits meant private debt levels would have to go up. However, the OBR economists insisted this wouldn't be a problem because the burden would fall not on households but on corporations. Business-friendly Tory policies would, they insisted, inspire a boom in corporate expansion, which would mean frenzied corporate borrowing (that huge red bulge below the line in the first diagram, which was supposed to eventually replace government deficits entirely). Ordinary households would have little or nothing to worry about.

This was total fantasy. No such frenzied boom took place.

In the second diagram, two years later, the OBR is forced to acknowledge this. Corporations are just raking in the profits and sitting on them. The household sector, on the other hand, is a rolling catastrophe. Austerity has meant falling wages, less government spending on social services (or anything else), and higher de facto taxes. This puts the squeeze on household budgets and people are forced to borrow. As a result, not only are households in overall deficit for the second time in British history, the situation is actually worse than it was in the years leading up to 2008.

And remember: it was a mortgage crisis that set off the 2008 crash, which almost destroyed the world economy and plunged millions into penury. Not a crisis in public debt. A crisis in private debt.

An inquiry

In 2015, around the time the original OBR predictions came out, I wrote an essay in the Guardian predicting that austerity and budget-balancing would create a disastrous crisis in private debt. Now it's so clearly, unmistakably, happening that even the OBR cannot deny it.

I believe the time has come for there be a public investigation - a formal public inquiry, in fact - into how this could be allowed to happen. After the 2008 crash, at least the economists in Treasury and the Bank of England could plausibly claim they hadn't completely understood the relation between private debt and financial instability. Now they simply have no excuse.

What on earth is an institution called the “Office for Budget Responsibility” credulously imagining corporate borrowing binges in order to suggest the government will balance the budget to no ill effects? How responsible is that? Even the second chart is extremely odd. Up to 2017, the top and bottom of the diagram are exact mirrors of one another, as they ought to be. However, in the projected future after 2017, the section below the line is much smaller than the section above, apparently seriously understating the amount both of future government, and future private, debt. In other words, the numbers don't add up.

The OBR told the New Statesman ​that it was not aware of any errors in its 2015 forecast for corporate sector net lending, and that the forecast was based on the available data. It said the forecast for business investment has been revised down because of the uncertainty created by Brexit. 

Still, if the “Office of Budget Responsibility” was true to its name, it should be sounding off the alarm bells right about now. So far all we've got is one mention of private debt and a mild warning about the rise of personal debt from the Bank of England, which did not however connect the problem to austerity, and one fairly strong statement from a maverick columnist in the Daily Mail. Otherwise, silence. 

The only plausible explanation is that institutions like the Treasury, OBR, and to a degree as well the Bank of England can't, by definition, warn against the dangers of austerity, however alarming the situation, because they have been set up the way they have in order to justify austerity. It's important to emphasise that most professional economists have never supported Conservative policies in this regard. The policy was adopted because it was convenient to politicians; institutions were set up in order to support it; economists were hired in order to come up with arguments for austerity, rather than to judge whether it would be a good idea. At present, this situation has led us to the brink of disaster.

The last time there was a financial crash, the Queen famously asked: why was no one able to foresee this? We now have the tools. Perhaps the most important task for a public inquiry will be to finally ask: what is the real purpose of the institutions that are supposed to foresee such matters, to what degree have they been politicised, and what would it take to turn them back into institutions that can at least inform us if we're staring into the lights of an oncoming train?