Could 18th cen­tury's 'sink­ing fund' solve fis­cal cliff?

The Pak Banker - - Front Page - Woody Holton

AS Pres­i­dent Barack Obama and con­gres­sional Republicans seek to re­solve the so-called fis­cal cliff, the com­bi­na­tion of au­to­matic tax in­creases and spend­ing cuts sched­uled for next year, a mu­tu­ally agree­able so­lu­tion is lurk­ing in an un­ex­pected place: the 18th cen­tury.

In the 1700s, Great Bri­tain had a debt burden that was even more omi­nous than the $16 tril­lion the US gov­ern­ment now owes. In 1716, Par­lia­ment pro­posed an in­ge­nious, and fairly un­con­tro­ver­sial, way to re­duce this debt, called a sink­ing fund. The scheme was copied 74 years later by the US Congress. And it could work just as well now as it did three cen­turies ago. The sink­ing fund was the brain­child of Robert Walpole, who was then the first lord of the Trea­sury and chan­cel­lor of the Ex­che­quer. Its pur­pose was to chip away at a na­tional debt that had swollen to 55 mil­lion pounds, which Par­lia­ment con­sid­ered "in­sup­port­able."

The con­cept is sim­ple: A gov­ern­ment im­poses a spe­cial tax for the sole pur­pose of sink­ing -- re­duc­ing -- its debt. As the sink­ing fund cuts into the debt, it re­duces the amount of in­ter­est that has to be paid ev­ery year. The cru­cial step is for these in­ter­est sav­ings to be plowed back into the fund. If the an­nual in­ter­est rate was 2 per­cent, then ev­ery $100 re­duc­tion in the gov­ern­ment's debt would di­min­ish its an­nual in­ter­est obli­ga­tion by $2, which would al­low an­other $2 to be di­verted to the sink­ing fund -- not just in that year but ev­ery sub­se­quent year. As the amount owed grad­u­ally de­creased, the sink­ing fund would grow at an ac­cel­er­at­ing rate, not un­like the way com­pound in­ter­est swells an un­touched sav­ings ac­count.

Richard Price, a British preacher and po­lit­i­cal econ­o­mist, pub­lished a pam­phlet in 1772 demon­strat­ing that a coun­try pay­ing 5 per­cent in­ter­est on a 258 mil­lion pound debt could pay the whole thing off in 86 years if it es­tab­lished a 200,000 pound sink­ing fund and put all in­ter­est sav­ings back into it. Par­lia­ment cre­ated an­other sink­ing fund in 1786, and it helped slow the growth of Great Bri­tain's na­tional debt. Un­for­tu­nately, the temp­ta­tion to raid the funds for other pur­poses was al­ways strong. In "The Wealth of Nations," which ap­peared in 1776, a sad­der-but-wiser Adam Smith com­plained that of­ten "a sink­ing fund, though institut- ed for the pay­ment of old, very much fa­cil­i­tates the con­tract­ing of new debts."

One 18th-cen­tury strat­egy for mak­ing sure tax dol­lars ac­tu­ally went to sink­ing the na­tional debt was the con­cept of "cer­tifi­cate taxes." Dur­ing the Amer­i­can Rev­o­lu­tion, the Con­ti­nen­tal Congress and the 13 state leg­is­la­tures had no cash to pay sol­diers and the army's sup­pli­ers. So in 1783, when the war ended, they gave sol­diers and sup­pli­ers IOUs, and the state leg­is­la­tures adopted taxes to re­deem them.

State of­fi­cials knew these taxes wouldn't ac­tu­ally bring in much money, be­cause cit­i­zens had the op­tion of pay­ing them us­ing the IOUs. If you were a vet­eran, you could use some of your prom­is­sory notes to pay your taxes, then sell the rest to neigh­bors who hadn't fought in the war or sold sup­plies to the army and thus needed prom­is­sory notes to sat­isfy the tax col­lec­tor.

Cer­tifi­cate taxes en­abled sol­diers, sup­pli­ers, and other hold­ers of gov­ern­ment prom­is­sory notes to turn them into cash with­out ei­ther the IOUs or the cash pass­ing through the hands of the gov­ern­ment. Those who had IOUs to sell got their money di­rectly from fel­low tax­pay­ers. To­day, many Republicans might sup­port a sink­ing fund in prin­ci­ple but worry that a fu­ture Congress would di­vert the new rev­enue to waste­ful gov­ern­ment ex­pen­di­tures.

Newspapers in English

Newspapers from Pakistan

© PressReader. All rights reserved.