Nobel Laureate economist Paul Krugman speaks about zombie economics – beliefs that he thought were dead, but rise like the monster from the Black Lagoon, undead, near the end of the film. I’ve written about a couple of them myself in this blog – the idea that if the government cuts tax rates, it will increase its receipts as people work harder and earn more money (Laffing All The Way), or the notion that we solve our skills shortages by making students do what ministers want, not what they want (The Right Course). Now, we have the King and Queen of zombie economics, the assurance that we (or our children) will have to pay off the current excessive level of National Debt, and so we must raise taxes and cut government expenditure. I even heard it at a recent adult education class, from a sensible and bright fellow student, which is what motivated me to write this.
It’s a popular belief, of course, because on the surface it seems straightforward. You can despair at the idiocy of conspiracy theorists, sigh at Brexiteers, curl a lip at climate deniers. But not so much National Debt worriers. Some call the theory “Mrs Thatcher’s Handbag”, as it stretches a comparison with domestic spending which appears to be, well, just common sense. Laura Kuenssberg of the BBC speaks of the national credit card being ‘maxed out’. There are still prudent, civic minded people who leave a legacy to the government to reduce the national debt. And, while few are as public spirited, many share the ambition to cut the debt. During the 2015 UK General Election, an audience member on “Question Time” was keen to reveal his unique understanding of economics to an MP critical of austerity. The audience clapped as the gentleman confided that he virtuously stops spending and leaves his local pub when he has no more money to buy beer. As I noted at the time – my blog of May 2015 – people nodded wisely, without asking
- “do you have an impeccable credit record going back to 1694 ?”
- “can you issue money whenever required ?”
- “is your alcoholic spending so high that when you reduce it, it causes unemployment ?”
- “Is your extra pint important to society ? Will your decision mean we have fewer nurses in hospitals, fewer police officers on the streets, worse public transport, reduced flood defences, inadequate vehicles for the army and cuts in welfare benefits ?”
Taking these objections one by one.
Credit record: the National Debt is the sum of government borrowing over the years, minus whatever has been repaid. It does not have to be paid back. We have had one for more than three hundred years, and we have never had to pay it back. There are, of course, interest payments to pay, and allowing those to rise too high would be unwise, taking tax money that might be better spent on improving public services. But at the moment, that isn’t the case: in fact, interest rates are low, and have been for a decade. Jonathan Portes, Professor of Economics at Kings College London and by no means a wild man, said the cost of the extra borrowing was small enough to be considered ‘a rounding error’ (Prospect magazine, October 2020). Rates are being slashed right now, to the extent that a recent call for funds by government actually led to negative interest rates. Indeed, Simon Nixon of the Times revealed that UK government interest payments fell by £25 billion this year (24th December 2020) even as the National Debt “soared” (good old austeritarian word, that) to 100% of GNP.
Remember, too, that the National Debt is the total owed to those who lend to the government. The public perception is that it’s money we owe to foreigners, who will send around heavily built bruisers to get the money back (as in some loathsome C5 documentary, where debtors sob as their washer and TV are carried out of the door). In fact, three-quarters of those holding the National Debt are UK citizens and companies: sometimes it’s actually the Bank Of England itself. It’s in the form of bonds and bills held by savers. If you own Premium Bonds, contribute to or receive money from a pension fund, you own a bit of the National Debt. If it’s a government debit, it must logically be a private credit: if we are passing on a debt to our children, we are also passing on a lot of valuable assets – not just bonds and certificates, but roads, schools, hospitals, houses. And currently many savers are looking for somewhere to put their savings. The fact is that savings have ‘soared’ in the pandemic: if anything, we have an excess of savings, and are happy to dump them with the government. The idea that this is somehow ‘crowding out’ private investment (a beloved fallacy of the Thatcher years) simply isn’t true. Firms don’t want to expand in a slump, and when they do, with profitable opportunities, they have no problem finding lenders. There are multi-billion dollar venture capital funds being set up with no clear sector or project, just to seek investment opportunities wherever they occur. Where money is forced on banks or large corporates by quantitative easing they look around and then use it to buy back their own shares.
In passing, an amusing tweak : when the government pays out interest on the National Debt to a UK taxpayer, they usually get some money back in income tax. Those with big balances of savings are often high tax payers, so as much as 40% of the interest comes straight back to the public purse.
Second point from Mr Know All from Question Time: money issuance. It is true that much of the funding following the 2008 credit crunch and the 2020 pandemic has effectively come from money creation – dressed up as ‘quantitative easing’ as the government gives the central bank money to buy its bonds. The usual objection here is to say “I can’t issue money, sure. But if the government pays its debts by printing money, that will lead to inflation”. This belief has withstood the trillions of pounds and dollars issued as ‘monetary easing’ to rescue the economy from the effects of 2008 Credit Crunch. That did not cause inflation. The Japanese government has run a deficit for years, and not suffered inflation or collapse in business confidence. The billions issued to support the economy and society during the Covid 19 crisis won’t either. On a minor point, the dine-out deal actually reduced inflation. In the longer term, the causes of inflation are complex, but it is one issue that modern central banks and governments seem to have under control. Briefly, if more money was issued when the economy was booming, and there was full employment, prices would nudge upwards, but that isn’t the situation when Governments use the National Debt to support things during a recession. Prices actually fell after the 1929 Crash: there was plenty of room for new spending, and no pressure on wages. Same in 2008, same now.
Those interested in understanding where money comes from might wish to look into MMT (modern monetary theory), or they might not. MMT enthusiasts say that government spending is not funded by taxes: spending comes first and creates the income that generates tax revenues. Well, maybe. The book you need to read is Stephanie Kelton’s “The Deficit Myth”. What we can agree is that the process of actually finding money – whether from bond sales or money creation – is not currently a problem.
I said earlier that it might be prudent to ensure that interest payments do not get out of hand in the longer term, so resources can be targeted at genuine social goals. The Economist looked at the topic of ‘how much public debt is too much’ in a brief talk you can catch here.
The third question I asked of our saloon bar Socrates was about the economic effect of cutting back on spending in a slump. The idea that this would help anyone is simply the opposite of the truth. If you feel it’s important to reduce the National Debt, than the best way is to have a prosperous economy with a booming tax take. That’s how a National Debt proportionately much higher than the current one was reduced in the post-war period (with the additional help, it must be admitted, of a handy bit of inflation). Reducing government spending and raising taxes during a recession works against this. Cutting spending in a slump actually makes things worse, and postpones recovery: the great economist Keynes argued this after the 1929 slump – no-one listened – and then revealed his analysis in “The General Theory of Employment, Interest and Money” in 1936. Cutting welfare, 1930s style, or raising taxes (as some nutters are currently recommending) would make things worse – like, as Simon Wren-Lewis observed, complaining the fire engine saving your home is using too much water. Measures like that would also (ironically) make it more difficult to balance the budget, for only a recovery can do that: leaving in place the rising welfare payments and reduced tax income that apparently increase the deficit actually helps the recovery – economists call them ‘automatic stabilisers’. And as the economy grows back, the real size of the national debt – measured as a proportion of our national income – falls. It was 250% of our income in 1945, and fell steadily to 30% by 2003. It’s now 100% – still, though, a lower proportion of income than many people’s mortgages.
That’s why Osborne’s austerity was not only unpleasant to the poor, its treadmill delayed the recovery in government finances two years later than predicted, and at the cost, according to the Financial Times, of higher waiting times in hospital, reduced local authority services, worse prison performance and much else. The way that austerity impacted most severely on public capital investment – better transport, housing, newer schools, IT links – caused additional damage that hampered growth. Extraordinarily, the Euro zone did the same, and Italy actually went into negative investment (i.e. it let public assets go to waste during the recession).
And then, lastly, the social effects of cutting back on spending on our public services. It wasn’t necessary to cut them in 2010, despite what the press and every faux serious commentator on TV said, but the coalition government did so with a will, talking as if the crisis of 2007/8 was due to over-high levels of public spending: the theory, as Alexei Sayle unforgettably put it, that the crisis was caused by having too many libraries in Wolverhampton. The effect was bad. We are learning now how damaging it was to reduce spending on health preparations. We are finding also that crime is rising. Ministers cut technical education by 40%, and then bewail skills shortages. Hospital waiting lists lengthen. In big cities, young families can’t find decent housing. Poverty has been increased by pitiless reductions in welfare payments, already amongst the lowest in Europe. Ministers needed the advice of a 22 year old footballer to face the obscenity of child hunger in the world’s sixth richest country.
None of this is radical or new. The Treasury civil servants who impose this nonsense were all expensively educated at posh universities where economics lecturers will have told them that government budgets automatically go into deficit in a slump, and the correct policy objective is to go with that. Here’s a blog from Simon Wren-Lewis, a proper Prof, saying the exact same thing. Where does this nonsense come from ? There are conspiracy theorists who say its a deliberate right wing conspiracy to shrink the state and kill the old. There was a time when I wouldn’t have believed that, but …
Anyway, what now ? As the economy recovers, the deficit will decline and disappear. There may then be space to reduce the national debt with increasing tax revenues and reduced welfare needs, but for the moment I can’t see the point of that. There’s a good debate on this between Jonathan Portes and Bill Mitchell in the Prospect article I spoke of earlier. They disagree about whether tax rises will be needed in the future, but are agreed to add them on now would be madness. A similarly sensible explanation by Ben Ch is here -just five minutes and nice graphics. We have a pandemic that will destroy jobs in many industries, and who knows what Brexit will do. Columnists in posh papers tell us the Chancellor must not use public funds to support ‘jobs that are gone forever’, as if no-one will go to a department store, bar, football match, hotel or a restaurant when this is all over. It’s not a bad idea to plan for the future, to have generous training schemes for new government environmental initiatives, for example. But that doesn’t work against keeping demand high wherever we can. And even before the current crisis, we had problems that only a buoyant public purse can cure. Poverty is still endemic in Britain, and ambitious plans are needed to level up the economy, boost technology and infrastructure, reskill the unemployed and move to a decarbonised economy. Let’s solve the crisis, and worry about the finances later.