The least of all evils?
Austerity and default aren’t turning out to be popular policies in the West. In the US they are barely mentioned in a remotely constructive way. Here we have the kind of austerity that involves both spending and debt continuing to rise, as the debt figures out this week have shown. In the likes of Greece, the people won’t stand for austerity and the politicians won’t stand for default.
Good news, then, that there is another way out – what academics call “financial repression” and the rest of us call “ripping off savers”. It involves keeping the cost of government debt low and eroding the value of that debt by using a mix of policies to keep interest rates lower than inflation. For short-term rates this is easy: central banks just keep the base rate lower than inflation. For longer-term rates it is tricky, but never beyond the wit of even the average Treasury official – it’s simply a matter of forcing investors to hold their money in government debt. The more they are forced to invest, the higher they push the price of sovereign bonds. This drives down the yield on those bonds, and hence long-term interest rates.
This isn’t new. Financial repression got us out of the bind of the debt we accummulated during World War II. A National Bureau of Economic Research paper by Carmen Reinhart and M. Belen Sbrancia refers to the period between 1945 and 1980 in America and Britain, when “the liquidation of debt via negative real interest rates” amounted to 3%-4% of GDP on average per year, or 30%-40% over each decade. The policy effectively inflated the debt away.
• Read the full editor’s letter here: The least of all evils?