The global debt ob­ses­sion that re­fuses to wane

The Daily Telegraph - Business - - Special report: Future of the economy -

As bor­row­ing lev­els soar to counter the pan­demic,

Tim Wal­lace asks how much is sim­ply too much

Wilkins Mi­caw­ber – one of Charles Dick­ens’ most en­dur­ing comic cre­ations – fa­mously said that debt was a recipe for “mis­ery”. But

David Cop­per­field aside, a lit­tle bit of debt is not nec­es­sar­ily a bad thing. It spreads the cost of pur­chases, and that can be sen­si­ble when mak­ing a big in­vest­ment – buy­ing a house, say, or an ed­u­ca­tion.

Debt can be key to get­ting a busi­ness off the ground. Gov­ern­ments find debt handy to get through rough eco­nomic patches, or to make in­vest­ments for the fu­ture. If chil­dren now ben­e­fit from a new school, for in­stance, then why not ask them to pay for it once they start work, and fund it in the mean­time by bor­row­ing? Or so the logic goes. In­cur­ring ex­tremely large debts can be worth­while, for in­stance to win the Sec­ond World War.

Bri­tain faces an ex­treme sit­u­a­tion right now, if not quite as se­ri­ous as global war. The na­tional debt has just hit £2 tril­lion, equiv­a­lent to 100pc of GDP. It has not been this high as a share of na­tional in­come since the Six­ties. So this is an ap­pro­pri­ate time to ask an un­com­fort­able ques­tion: how much debt is too much?

One an­swer is that bor­row­ing is not a dan­ger un­less it be­comes un­af­ford­able. As with a house­hold, this be­comes a real prob­lem when the in­ter­est bills rise too high, or when it be­comes dif­fi­cult to re­fi­nance. This has not been a prob­lem for the UK, but wreaked havoc in Greece a few years ago. Even with­out be­com­ing dan­ger­ously un­sus­tain­able, debt ser­vic­ing costs can be a drag. Ex­tra in­ter­est pay­ments mean higher taxes, less money to spend on ev­ery­thing else, and slower eco­nomic growth. But this has not yet hap­pened.

To judge from the debt mar­kets, one would never know that bor­row­ing had soared. The Debt Man­age­ment Of­fice has been put through its paces, is­su­ing record lev­els of bonds and bills to bring in the cash. De­spite this de­mand for funds, in­ter­est rates are at rock bot­tom. The Govern­ment can bor­row for short ma­tu­ri­ties at neg­a­tive rates, with in­vestors pay­ing for the priv­i­lege of lend­ing to the Trea­sury.

This is part of a long down­ward trend in bor­row­ing costs. Back in the Six­ties around 10pc of govern­ment rev­enue went on in­ter­est pay­ments.

By March 2020 the ra­tio was down be­low 4pc, a record low de­spite the legacy of debt from the fi­nan­cial cri­sis.

At­ti­tudes to debt have changed over time, in fi­nan­cial mar­kets as well as the po­lit­i­cal sphere. In the Nineties, Gor­don Brown was keen to es­tab­lish a rep­u­ta­tion for “pru­dence”; he said the na­tional debt should not rise above 40pc of GDP.

The ‘tip­ping point’

In the fi­nan­cial cri­sis, when he em­phat­i­cally broke that rule, the World Bank said there ap­peared to be a “tip­ping point” as na­tions with pub­lic debts above 77pc of GDP typ­i­cally suf­fered slower eco­nomic growth.

That in turn makes it harder to pay down the debts, mak­ing for lean years ahead. A fa­mous, though con­tro­ver­sial, pa­per by Car­men Rein­hart and Ken Ro­goff that year warned 90pc was a key tip­ping point. By 2012, Bri­tain’s na­tional debt was up to three quar­ters of GDP, and kept edg­ing up. In 2015, then-chan­cel­lor Ge­orge Os­borne warned it was key to get this down as a pre­cau­tion against any fu­ture cri­sis. “Un­less we re­duce it, we will not be able to sup­port the econ­omy and the Bri­tish peo­ple in the way we would like to do when the shock comes, be­cause we would not have the room for ma­noeu­vre. Fail­ing to ad­dress that is deeply ir­re­spon­si­ble,” he told Par­lia­ment. “It is pre­cisely be­cause no one knows when the econ­omy will be hit by the next shock that we should take pre­cau­tions now.”

His poli­cies to re­duce the deficit might not have been uni­ver­sally pop­u­lar at the time, but that “next shock” ar­rived with bells on this year.

Fitch Rat­ings es­ti­mates the debt could reach 120pc of GDP by the end of 2022. So should we worry? In­ter­est rates sug­gest not, al­though there is no guar­an­tee that mar­kets have an un­lim­ited de­mand for govern­ment debt. The Bank of Eng­land has con­trib­uted, hoover­ing up bonds with its quan­ti­ta­tive eas­ing pro­gramme, de­press­ing rates in the mar­kets.

But the fall in rates in re­cent years is global, and the Bank re­minds peo­ple it re­acts to mar­ket rates as much as it sets them.

Spend­ing spree

The mood of mar­kets also mat­ters, as in­vestors judge what bor­row­ing is wise and what is reck­less.

In coun­tries such as Italy, where high-spend­ing gov­ern­ments have ramped up dan­ger­ous deficits in good years, mar­kets are of­ten twitchy, only lend­ing at fairly low rates when the au­thor­i­ties make sen­si­ble noises.

In Bri­tain, which has tried harder to be sen­si­ble, mar­kets can be more gen­er­ous. Given the pan­demic and the eco­nomic crunch, in­vestors cur­rently seem keen for the Govern­ment to keep bor­row­ing to sup­port the re­cov­ery.

But Rishi Su­nak, the Chan­cel­lor, faces a Bud­get dilemma as the Au­tumn State­ment ap­proaches. A stronger re­bound will put pub­lic fi­nances on a sounder foot­ing. By con­trast, if the Govern­ment hiked taxes or slashed spend­ing to get the deficit down, it could stunt growth and so in­ad­ver­tently worsen its own fi­nan­cial po­si­tion, with a smaller econ­omy to ser­vice the debts. Rat­ings agen­cies down­graded the UK ear­lier in the year. But they are putting lit­tle pres­sure on gov­ern­ments to tighten up their fi­nances in a pan­demic, as a solid re­cov­ery is key to fis­cal sus­tain­abil­ity.

“Fol­low­ing the coro­n­avirus cri­sis, we think pol­icy sup­port will re­main for longer, or at least we would not ex­pect a sharp tight­en­ing of fis­cal pol­icy as had hap­pened in the af­ter­math of the fi­nan­cial cri­sis,” said Fitch Rat­ings. Its an­a­lysts note gov­ern­ments typ­i­cally get more eco­nomic bang for their buck when spend­ing in a re­ces­sion. “This should en­sure de­mand is not held back by tight­en­ing macro pol­icy un­til 2025, al­though the pos­si­bil­ity of post-cri­sis

fis­cal tight­en­ing weigh­ing on de­mand growth in the medium term is an im­por­tant down­side risk.”

Tax rises ‘risk scar­ring’

Kal­lum Pick­er­ing at Beren­berg Bank says that by the fi­nal quar­ter of this year the econ­omy will prob­a­bly be 6pc to 7pc smaller than it was in Fe­bru­ary – match­ing the ex­tent of the fall in the fi­nan­cial cri­sis. No­body wanted to hike taxes or cut spend­ing at the height of the slump, so no­body should con­sider it now, he says. Do­ing so would worry the mar­kets more than a big­ger deficit.

“Rather than view­ing tax hikes as a pru­dent step, mar­kets would wel­come more bor­row­ing now if it was put to­ward stim­u­lat­ing a ro­bust re­cov­ery. There is a good case to be more ag­gres­sive now. The UK had a de­cent start­ing point, in terms of con­trol­ling

the debt be­fore the pan­demic, so if there is a one-off surge in bor­row­ing with no in­fla­tion­ary pres­sures, who will care about the ex­tra debt?” Pick­er­ing says. “If the Chan­cel­lor tight­ens up now with tax rises or spend­ing cuts, it could lead to eco­nomic scar­ring, mak­ing the debt less sus­tain­able and re­quir­ing aus­ter­ity in fu­ture. In­stead, he should in­vest more now to se­cure the re­cov­ery.”

Os­borne, ar­chi­tect of much of that pre-pan­demic deficit con­trol, agrees. “Higher taxes will im­pair eco­nomic growth,” he said ear­lier this month.

The na­tional debt might be ter­ri­fy­ingly huge, and no­body should be blasé about it.

But for now, the best way to get it un­der con­trol is to stay calm and en­cour­age more growth; not to launch an all-out bat­tle against bor­row­ing when the cri­sis is still rag­ing.

‘Post-cri­sis fis­cal tight­en­ing weigh­ing on de­mand growth in the medium term is an im­por­tant down­side risk’

‘Mar­kets would wel­come more bor­row­ing now if it was put to­ward stim­u­lat­ing a ro­bust re­cov­ery’

For­mer chan­cel­lor Gor­don Brown was forced to break his rule of na­tional debt not ris­ing above 40pc of GDP

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