Has the im­por­tance of pub­lic debt been ex­ag­ger­ated?

The Independent - - Voices - BEN CHU ECO­NOMICS ED­I­TOR

“Fis­cal il­lu­sion” sounds like the kind of thing Der­ren Brown might do to your wal­let in front of a packed theatre.

But ac­tu­ally, fis­cal il­lu­sions are what per­turb ex­perts at places such as the Of­fice for Bud­get Re­spon­si­bil­ity

and the In­sti­tute for Fis­cal Stud­ies.

They re­fer to var­i­ous of­fi­cial sta­tis­ti­cal arte­facts and quirks ex­ploited by min­is­ters, such as the fact that stu­dent loans or spend­ing on pri­vate fi­nance ini­tia­tive con­struc­tion projects don’t show up in the na­tional deficit.

But could there be a fis­cal il­lu­sion to make those look like triv­i­al­i­ties? Could the great­est fis­cal il­lu­sion of all be the idea that re­duc­ing el­e­vated lev­els of pub­lic debt should au­to­mat­i­cally be a pri­or­ity for gov­ern­ments?

Olivier Blan­chard is one of the world’s most re­spected macroe­conomists and the for­mer chief econ­o­mist of the In­ter­na­tional Mon­e­tary Fund.

Giv­ing the an­nual Amer­i­can Eco­nomic As­so­ci­a­tion pres­i­den­tial ad­dress last week, Blan­chard ar­gued some­thing along those lines.

Put sim­ply, his th­e­sis is that if the mar­ket in­ter­est rate at which a gov­ern­ment can bor­row is lower than the econ­omy’s ex­pected growth rate, there is lit­tle so­cial cost from the debt be­cause the gov­ern­ment can sim­ply roll its bor­row­ings over when they come due – with­out hav­ing to raise taxes or cut spend­ing and with­out risk­ing a dan­ger­ous debt spi­ral.

A gov­ern­ment can sta­bilise its debt pile so long as the deficit as a share of GDP does not ex­ceed the trend GDP growth rate – it’s not nec­es­sary to elim­i­nate bor­row­ing en­tirely to achieve this

Blan­chard noted that the US gov­ern­ment can cur­rently bor­row for 10 years in fi­nan­cial mar­kets at around 3 per cent a year, but that Amer­ica’s pro­jected nom­i­nal GDP growth rate is higher, at around 4 per cent. The gap is even big­ger in the UK, where our own gov­ern­ment can bor­row for just 1.3 per cent but the ex­pected nom­i­nal growth rate is 3.6 per cent.

When one con­sid­ers the pos­i­tive im­pact on growth of higher gov­ern­ment deficits in a time of pri­vate sec­tor re­trench­ment (and the neg­a­tive im­pact of over-hasty deficit re­duc­tion) the Blan­chard find­ing be­comes an even more sig­nif­i­cant re­sult.

“The wel­fare costs of debt may be small or even al­to­gether ab­sent,” he sug­gests.

These are not en­tirely novel ar­gu­ments. Many econ­o­mists have made the re­lated point in re­cent years that a gov­ern­ment can sta­bilise its debt pile so long as the deficit as a share of GDP does not ex­ceed the trend GDP growth rate – and that it’s not nec­es­sary to elim­i­nate bor­row­ing en­tirely to achieve this, de­spite what some politi­cians in­sist.

But the fact that these points are be­ing ad­vanced from one of the most in­flu­en­tial pulpits in the world of aca­demic eco­nomics is sig­nif­i­cant.

It’s im­por­tant to stress what Blan­chard is not say­ing. He isn’t ar­gu­ing gov­ern­ment debt lev­els never mat­ter or that politi­cians can al­ways hap­pily bor­row and spend with­out limit. In­ter­est rates may rise. Trend GDP growth rates may fall. Bor­row­ing to spend on white ele­phants is in­her­ently waste­ful.

But his anal­y­sis sug­gests that politi­cians, their ad­vis­ers and civil ser­vants need to have a much more so­phis­ti­cated ap­pre­ci­a­tion of the costs and ben­e­fits of gov­ern­ment bor­row­ing for the wel­fare of the pop­u­la­tion. They need a far more nu­anced ap­proach to fis­cal pol­icy, one that takes into con­sid­er­a­tion in­ter­est rates and the con­di­tion of the over­all econ­omy.

The is­sue of pub­lic bor­row­ing has shaped Amer­i­can and Euro­pean pol­i­tics over the past decade. Their in­flu­ence in the UK has been es­pe­cially pro­found. The coali­tion gov­ern­ment suc­cess­fully cre­ated a grossly mis­lead­ing nar­ra­tive that the spike in the deficit in 2009 was due to Labour profli­gacy (rather than the re­ces­sion) and that its aus­ter­ity poli­cies were the only pos­si­ble rem­edy.

When the for­mer Labour leader Ed Miliband for­got to men­tion “the deficit” in a speech be­fore the 2015 gen­eral elec­tion, he was beaten up by even the non-par­ti­san sec­tions of the me­dia for ne­glect­ing what was widely seen as the most im­por­tant is­sue of the day.

But if Blan­chard’s anal­y­sis is right, it was a jus­ti­fied omis­sion. The na­tional debt just doesn’t mat­ter as much as we’re led to be­lieve.

(PA)

The is­sue of state bor­row­ing has shaped Euro­pean and US pol­i­tics for a decade

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