Yves here. Richard Murphy gives a succinct description of the methods open to the UK for retiring its national debt and what the effects of implementing these options would be. The same analysis applies to the US. Even though Kier Starmer has finally resigned, expect yet another revolving door neoliberal to take his place, with the leadership fight providing yet another opportunity to push this destructive economic ideology.
As reader Clive wrote many years ago in response to deficit scaremongers:
I wish I had a pound for each time I heard an asset holder (it is usually someone discussing a retirement fund but you can easily find a similar response from someone exposed to residential real estate) defending some perfectly idiotic policy response on the basis that it would “help their pension”. I wish it, because if I had, I’d probably have enough to bail out the entire system.
It cannot be stated often enough (please everyone, tell your friends as often as they’ll put up with it): All pensions are residual claims on future prosperity. Wrecking the present, such as:
* by degrading the installed asset base in areas like transport, power or potable water supply and distribution
* by neglecting health and social care services
* by crapifying education
* by tolerating unemployment, especially youth unemployment… is lowering the baseline for prosperity in the present which means a lower base to draw on in the future. These are not potential, theoretical problems which might emerge in the future; they are happening today. They represent legitimate areas where state intervention is perfectly justified.
I am not a disinterested party here. I am long on both financial asset and residential real estate exposure. These are judged by the people who manage my fund the least-worst asset classes for long-term investment — I have limited (virtually zero) influence over their strategies for investment. I fully expect these assets to be subject to write downs with the knock-on effect to the returns I have been promised in retirement. Not exactly a prospect that thrills me, especially as I have limited options to reduce my exposure. But the alternative to the current approach — which is being pursued by every government and central bank out there — and writing down unsustainable valuations is as the piece points out The Great Depression II.
By Richard Murphy, Emeritus Professor of Accounting Practice at Sheffield University Management School and a director of Tax Research LLP. Originally published at Funding the Future
There were quite a lot of heated, and sometimes furious responses on LinkedIn to my suggestion in a recent video that concerns about the level of the national debt in the UK were completely misplaced because the UK could never go bust. That was because, as a matter of fact, the UK government could always create the sterling currency required to repay the UK’s national debt whenever it wished.
Those responses made me think that those commenting clearly did not understand the consequences of the debt repayment that they are so keen on, or what that repayment might mean if it were to happen.
The Objections
To explain this, let me summarise those objections first. Those seemingly shouting loudest suggest that:
- The UK could not repay national debt in the way that I suggest.
- Alternatively, if it were to do so, then the country would be so awash with cash that hyperinflation would result.
- Thirdly, they are quite sure that this debt, and the interest paid upon it, is threatening our national well-being, without quite being able to explain why. They do, therefore, want it to be reduced, although what mechanism they desire for this purpose is not clear.
So, let me look at the available mechanisms for reducing government debt. There are, in essence, only two.
The Mechanisms
Firstly, the government can repay the debt in the way I have suggested.
The mechanism is, in essence, identical to quantitative easing, so we know it works. The government creates new money, or reserves, at the Bank of England and uses that facility to purchase government debt currently in issue at market prices.
In accounting terms, as shown by the UK government’s Whole of Government Accounts, this does effectively cancel the debt in question. In its place, there are the central bank reserve account balances created to facilitate this repurchase, which would be held by UK banks and other financial institutions that previously owned this debt and would now instead hold deposits with the Bank of England. In net terms, there would still be debt, but its nature would have changed from being long-term bonds to short-term deposits.
Secondly, the government could repay the debt by running perpetual fiscal surpluses. In other words, the government would tax more than it spends, taking both current and investment expenditure into account, and use the surplus to make a net repayment of what is called debt, but which are actually deposits placed with the government acting as a banker.
You can play around with alternatives on these themes, but in essence, these are the options available.
Appraisal: Repaying the Debt
The first of these options is technically entirely feasible. All that takes place is an asset swap. Government bonds are replaced by balances with the Bank of England held by banks and other financial institutions.
This is the indisputable consequence of this approach. After all, if debt is repaid with newly created sterling, people will have to deposit the funds they receive, because the government will make the payments for the bonds they buy electronically via the Bank of England and its central bank reserve account facility, and the only safe place in which any bank or other financial institution could deposit the sums in question is back with the Bank of England, who are the only people capable of guaranteeing repayment of the sums in question.
In other words, all this ‘repayment’ does is switch the profile of the government’s debt from being on a long-term, fixed-interest, guaranteed repayment and cost basis to being on a very short-term, highly liquid (but actually non-repayable, as far as the financial sector in aggregate is concerned) basis on which the amount of interest to be paid would be determined by the Bank of England.
Given there would be, in this scenario, no long-term interest rates over which the Bank would seek to have influence, the reason for it to pay interest on reserves on most of these balances would in that case disappear, and a Japanese approach would emerge, where most such central bank reserve account balances would not be subject to interest payment, massively reducing the level of overall government debt interest payment, which would, in that sense, achieve the objective of those who are obsessing about levels of government debt and the cost of it.
On the other hand, the slight problem would be that, as a consequence:
- Banks would lack the bonds needed to operate the overnight repo market in the City of London, which would have the net effect of both undermining the credibility of much of the UK banking system and considerably increasing risk for private-sector companies.
- Pension funds would not have the assets needed to underpin the long-term income guarantees they provide to those who have saved with them upon retirement.
- Life assurance companies would lack the investments needed to underpin their liability funding requirements.
- Overseas governments and those outside the UK who wish to save in sterling would lack the mechanisms needed to hold sterling as a reserve asset, significantly imperilling the terms of UK trade.
UK debt could, then, be repaid in this way, and the cost of interest on it could be dramatically reduced, but the consequence would be that the UK financial services sector would be effectively destroyed because it could not provide the services it presently makes available, whilst financial risk in the private sector would increase dramatically.
Would anyone want to do that? No, of course they would not. But what thinking this through shows is just how much the UK government does, at present, provide by way of subsidy to that sector. The payment of interest on this debt is, effectively, a subsidy to the financial services industry, and that is a very good reason why it should be taxed more heavily. The thinking exercise is not a waste of time in that case.
Running Government Surpluses
Looking at the second alternative to reduce debt, running persistent and long-term government surpluses would be necessary to achieve this goal. That is potentially more disastrous than repaying the debt.
What this would require is that the government extract more money from the economy through taxes than it injects through spending each year, meaning the government would effectively act as a perpetual brake on economic activity in this country. Income, growth, investment, and the size of the UK economy would all shrink annually under this policy.
That would be the inevitable consequence of effectively imposing such a policy on the economy. In addition, all the consequences of reducing the availability of UK debt, noted previously, would be incurred as well, with the impact being spread over a longer period, but nonetheless resulting in the same net long-term outcome.
Repaying supposed government debt would, then, be a wholly destructive activity as far as the UK economy, the UK financial services sector, UK income and UK financial security are concerned. There is literally no other possible conclusion that can be reached with regard to any such plan, meaning that the only question that needs to be asked as a consequence is why anybody would wish to put this idea forward as an economic policy:
- What are they trying to achieve?
- Why are they trying to achieve it?
- Why do they think the only plausible outcomes are desirable?
- Have they thought through what they are proposing?
I cannot answer these questions because I cannot imagine why anybody would want to promote something as destructive as reducing the so-called UK national debt, but it would appear that some seek to do so, and I would be interested to know what they really think.
Thank you for this succinct argument against preoccupation with nominal public ‘debt’ levels.
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As an edge case, I think that if the velocity of money in the private sector significantly increased in ways that led to more output per unit money in circulation, that could in principle counteract the de-stimulatory consequences of a policy of chronic State surplus.
I don’t think it’s realistic to expect that to happen spontaneously, but it might be that part of the interest in “programmable money” and state-controlled digital currency is to have the option to incentivize spending by private sector actors. This could increase velocity of money.
But, even if this needle’s eye could be threaded, the question remains “why pursue this goal in the first place?” Rather than focusing on the nominal level (whether of ‘debt’ or even of GDP), it would be better to measure concrete outcomes, measures of national well-being, and design policies to improve those.
Wouldn’t “repaying” the US national “debt” mean letting all US Treasuries mature and then not selling more? This would merely be a reserve add, albeit a very large one.
Yes, that is his first option, “Government bonds are replaced by balances with the Bank of England held by banks and other financial institutions”, substituting The Fed for BoE.
And with it comes all the consequences he lists with that option.
What you suggest is just a slow motion version that would be noticed first with the absence of bond auctions and the growing desperation of all the financial services that rely on ready access to Treasury bonds.
I’m old enough to remember hearing rumblings from certain quarters about the forthcoming dearth of US Federal debt issuance as Clinton’s surpluses began to drag on — they were little more than thought experiments and were conducted very quietly, but I never forgot them and they helped Warren Mosler’s ideas “click” when I first encountered them almost a decade later.
Up there with not repairing the leaking roof because spending the money would reduce your children’s paper inheritance.
Playing the Devil’s Advocate, under the scenario of the Gov retiring interest-bearing bonds and replacing them with non-interest-bearing cash deposits: wouldn’t the former Gov bond-holders (banks, insurance firms, pension funds, etc) now instead invest those funds into AAA-rated corporates resulting in a boom of available funding for those corporate entities? The dream being that the corporate entities, now flush with capital, would invest in business expansion and R&D projects to the benefit of society?
You mean like they’ve been doing since the Peterson Foundation was set up to advocate paying down the national debt?
What would cause this massive reorientation of the corporate sector? They’ve not made any such use of new available cash flows in my adult lifetime, why would one expect that now? More likely to go to buy backs and bonuses.
Additionally, actual economic growth, rather than the financial kind, requires a growing monetary base in order for monetary scarcity to not induce deflationary pressure. This scenario would impose something like the gold standard constraint.
Ownership of land is concentrated and the current global economic system has no intention or ability to employ “everyone” to the grave.
Pay back debt? I am reminded of a quote from The Sopranos: “When you’re bleeding a guy, you don’t squeeze him dry right away. Contrarily, you let him do his bidding, suavely.” Appeals to the supposed moral or practical sense of balancing national budgets need the qui bono treatment, with which this article helps.
Actually, the City of London is quite like the mafia. When you discuss them, there’s sometimes a general impression that, even if they’re evil, they’ve always been there, and anyway, they keep the neighborhood safe. But when you look deeper into what it does, you find either that those things should not be done at all, or that they should be done by someone who doesn’t have such a long history of criminality.
How can gross debt reduced by “paying” it with “money” created as debt?
It’s not possible. Which means the fundamental assumption behind Mr. Murphy’s premise is wrong.
In point, he doesn’t understand the system he is arguing against.
Only an asset extinguishes a liability. In this system, money is not an asset, it’s a liability created by someone promising to do something.
For a currency issuer, money is never a debt. It is created out of thin air. The UK and US are currency issuers. The eurozone is a currency issuer. Individual states in the EU and US are not.
I mean, I guess cash in circulation is a “debt” on a balance sheet somewhere (US Treasury, maybe?) but it doesn’t carry interest and has zero default risk since the US Federal government creates its tokens ex nihilo — so in what way could any such “debt” have any meaning as ordinarily understood in “currency user” terms? Those terms simply don’t apply to the currency issuer.
“the UK government could always create the sterling currency required to repay the UK’s national debt whenever it wished”
Do it. Just do it.
And find out the consequences in the real world.
The UK deserves to be a third world country anyway.
According to the writer regarding monetizing the debt, “After all, if debt is repaid with newly created sterling, people will have to deposit the funds they receive” Well that is a big if, it is also possible that they will take the money and buy another country’s debt, or invest it anywhere in the world for that matter. Debt holders are investors and they aren’t going to hold money where they get lower returns, unless they have no choice. If it is invested in Britain, then good; but the reason there is debt in the first place is because the economy has been growing too slowly due to lack of productive investment – essentially because investors have been getting better returns elsewhere. If the debt money moves offshore, then there will be downward pressure on the currency, along with upward pressure on prices and interest rates.
The other alternative, according to the writer, is to increase taxes, “Secondly, the government could repay the debt by running perpetual fiscal surpluses. In other words, the government would tax more than it spends,” Increasing taxes to pay debt means reducing consumer demand or savings and reducing demand leads to slower economic growth.If the taxes fell on business, they are free to move their investments elsewhere where they could get a better return and that would create a whole other series of problems.
The only possible way for a country to pay its debts is for it to sell to the world more than it buys – in other words run a trade surplus. Slowing economic growth along with growing government debt has been a problem in developed capitalist countries for decades, mostly because formerly domestic companies have offshored their production to low-wage countries. Companies have also been able to gain a larger share of production proceeds through leveraging their investments to get tax breaks, softer regulations and business-friendly labour legislation. This means it would take an even greater trade surplus to be able to pay down the national debt.
When we look at the developed capitalist world, there is frustration that their economies are not doing as well as they used to. That frustration has led to the election of people like Donald Trump who lever that frustration and tell the voting public that they are getting scr^wed by the system. Since the countries are pretty solidly Neoliberal, they aren’t doing much to help the average person – they are just doing what they have always done and are hoping for a different outcome. We also see Europe banging away at Russia, and Trump banging away at the world while he gets up the nerve to go after their real (imaginary) enemy – China. I heard a story on the Duran the other day, at least I think it was them. It goes something like in China there is only one party but you can have different policies; but in the West you can have different parties but they all have the same policy. I can see, as Michael Hudson points out, why the ancients had a policy of debt jubilees – I don’t see how any natural market could correct the current economic situation.
Repaying gov (net) debt, by i.e QE, permanently would also create bigger problems for the debt industry. Repaying debts is obsolete. (Bank-)Industry is all about refinance (aka growth) meaning growth of collateral were gov debt is essential. Largest firms (banks) are the interest-speculators/sellers (derivatives) like the JP Morgans and of course the base-traders (incl shadow-bank industry). Debt-growth industry is all about liquidity and collateral. Problems here means financial stress and the risk of a crises (to big to fail).
Next step expanding collateral (when consumer-loans falls) seems to be crypto and future asset tokenization to maintain debt-growth.
Outstanding US Treasury Debt $30 trillion
Bankreserves at the FED: $3 Trillion
https://fred.stlouisfed.org/series/TOTRESNS/
Gross FED loans against US FED Reserve Notes: (collateral) $2,4 Trillion
https://fred.stlouisfed.org/series/RESPPNTEPPNWW
Thank you for reminding Clive to us, Yves.
“the only question that needs to be asked as a consequence is why anybody would wish to put this idea forward as an economic policy”
For most of them it’s simply that they are labouring under misconceptions associated with the perniciously misleading household budget analogy.
There is also a much smaller number (who manipulate the larger group for their own nefarious ends) for whom the notion that “money grows on rich people” is very useful and therefore to be meticulously cultivated and propagated via the think tanks and university chairs so endowed for the purpose — amplified naturally by the stenographers in the corporate media which they also own and control.
Another misleading / false analogy:
government is a business
Despite former President Carter’s (and Reagan’s) position that life is unfair so get over it, the purpose of a government is to try to make life fairer, and to do that by limiting the concentration of power both outside and inside itself.