You can’t dodge austerity

The world of economics got itself very wound up this week. Why? Because a group of enthusiastic economists spent many hours trawling the work of some other economists and found they had made a mistake with a spreadsheet formula. Petty rows over statistics are not uncommon in economics. But this one was more important than most.

That's because the mistake was discovered in a paper by US economists Carmen Reinhart and Kenneth Rogoff that explored the relationship between a country's growth and national debt. It concluded that nations with public debt at 90% or more of GDP are destined to see low economic growth at best. The paper was often cited as one of the main justifications for the attempts across the UK and Europe to cut state spending.

The mistake (which doesn't actually make that much difference to the theory) has given new impetus to the anti-austerity gang in the UK a mixture of politicians, economists and union leaders who genuinely believe you can spend your way out of debt. And that if you do so, austerity will never be needed.

Subscribe to MoneyWeek

Subscribe to MoneyWeek today and get your first six magazine issues absolutely FREE

Get 6 issues free

Sign up to Money Morning

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Don't miss the latest investment and personal finances news, market analysis, plus money-saving tips with our free twice-daily newsletter

Sign up

This is nonsense. Robert Colville, writing for The Daily Telegraph, lays out the basic numbers. It costs the UK £43bn a year to service its debts (even with historically low interest rates). We have those debts (the interest on which eats up money we might like to spend on other things) for the simple reason that there is "a ceiling on the level of tax receipts that the government manages to take in". It is about 35% of GDP.

Spending averages out at more like 42% (it's more at the present time). So we have to borrow 7% of GDP a year loading bill upon bill. There is, says Colville, "no universe in which this is sustainable". You can delay austerity. You can hope that the longer you leave it, the less painful it will be. But it has to be done in the end.

But what do we do instead? We keep giving benefits to wealthy pensioners. We ringfence the areas where real spending takes place (schools and hospitals). We pour money into propping up house prices (to the cost of our renting young). We cross our fingers that we can rely on mild inflation to erode our debts (without said inflation getting out of control).

We use 652 different types of surgical gloves in the NHS (which the National Audit Office estimates wastes £500m a year). We keep sending money to the EU despite it sending us back little of apparent benefit.

And we put up with ministers such as the one who said to The Times this week that "this is not the time to have a lively debate about the remodelling of the state". I would have thought now is exactly the time for that debate. And to get on with remodelling the state before it really is too late.