This week there was some sense out there that the coalition has finally won the war on the deficit. Not the real war (actually cutting the level at which our debt is growing), obviously, but the war of words.
However, as Daniel Finklestein points out in The Times today, we aren’t there yet. Ed Balls made a stab at accepting that UK debt levels mean that cuts aren’t all bad. But it turns out that Ed Miliband still thinks that “the government is going too far”. He still doesn’t “accept what they are doing.” He still doesn’t think the last Labour government spent too much. And he still only supports one of the ‘cuts’ made so far – the curbs on public sector pay (which aren’t, of course, cuts, just limits to rises). He still doesn’t appear to think that debt is a problem. He still doesn’t get it.
In his defence, he isn’t the only one. Across the Atlantic, he has lots of company. Paul Krugman, writing in The New York Times, is a great fan of rejecting austerity and revving up for a whole lot more debt-financed public spending. He reckons that a “wrong-headed” obsession with debt is standing in the way of a US recovery.
If it could be banished, the short-term upside of spending would more than outweigh any long-term bother connected with new debt records being hit every day. He thinks of federal debt as an internal transfer – a fiddling around of balance sheets that can’t be destabilising and he thinks that, because in the past other countries have had proportionally more debt and got away with it, more debt is okay.
But there is a massive problem with all this. Halkin’s Peter Warburton sums it up very nicely. “Krugman seems to be living in a textbook world of his own, where debt can be ignored because all debts are honoured.” But we don’t live in that world any more. “In various dimensions, debt capacity has been exhausted.” We can no longer be sure that sovereigns will honour their debts (unless via inflation).
And that is the case for the US and the UK as much as it is for anyone else. “The US in 2012 is not the US in 1931; government bond issuance has amplified on a global scale, rationing the access to medium- to long-term funding. Individual US states have already encountered downgrades; it does not take much imagination for the sovereign credit to follow.
“Krugman mocks the prediction of higher US bond-yields as a penalty for excessive borrowing, but fails to mention that the US Fed has taken unprecedented action to repress Treasury bond-yields (via quantitative easing).”
Spending might have a short-term effect – although the “post-mortem on the substantial 2009 boost is not flattering” – but the extra debt it would bring just wouldn’t be OK. The US is in a deep fiscal hole in an unforgiving debt market. It doesn’t need to dig any deeper.
The same goes for us. Our politicians might like to say that the UK, with its record-low gilt-yields, is something of a safe haven. But let’s not forget that UK gilt-yields are low for the same real reason as US yields are low: we are printing money to roll over our debt.
And what a debt it is. Liam Halligan had a look at it in The Telegraph this week. By the time we arrive at zero deficit (ie, our national debt peaks), UK debt will be £1,500bn. That’s eight times what it was in 2000 and three times what it was in 2008. It is also a number that excludes all our horrible off-balance sheet debt (everything from private finance initiative (PFI) to public sector pension obligations).
And that assumes a degree of economic growth and austerity implemented in full. Right now, the markets are distracted from our hideous fiscal position by the eurozone. But when they turn to look at us again, why would they think that we could honour £1,500bn worth of debt?