Every Prime Minister, from Thatcher onwards, takes office with the same rhetoric. To bring harmony where there is discord, and the new dawn of a stakeholder economy, one where high productivity generates rising income and spreads wealth more widely. Yet they always end up reverting to the same model of low productivity, high debt, and high consumption, with a side of rising wealth inequality. Thus, Cameron and Osborne’s “march of the makers” morphed into the Help to Buy mortgage guarantee and the largest trade deficit in history.
Nowadays there is an odd belief that ever more debt is a painless policy – far too many Conservative politicians and commentators talk about low interest rates as if they are a fact of life, much like the weather. But this ignores that the Bank of England effectively interferes in the market to set interest rates. Monetary policy is decided centrally. While the Bank cannot set individual rates or completely dictate them, it can set the broad level.
Thus government bureaucrats have created the current economic model, one that consists of four core elements. Firstly, low interest rates. Secondly, high and rising private sector debt levels. Thirdly, high asset prices relative to the rest of the economy. Fourthly, a general government deficit where taxes do not cover spending.
If you want to help savers and potential home owners then actually do so
Thus while politicians pay lip service to hard work, saving, investing and so on, they create cheap credit and excess debt. Why bother saving when the Bank of England’s base rate is just 0.5 per cent? NatWest is now contemplating a negative rate of interest. Yet politicians pretend to back those who save – e.g. Osborne’s paltry pensioner bonds. And people wonder why ‘post-truth politics’ and radical frustration is sweeping the West.
The only way the ongoing government deficit can be maintained under existing policies is consistently low interest rates. When politicians or others call for more government spending, they are calling for low interest rates and hurting savers. In addition, they are also raising the price of homes and denying a younger generation a chance to own their own home.
This surge of cheap debt goes back to the mid-1980s. From 1987 to 2009, total UK debt as a share of GDP soared from 210 per cent to 543 per cent. Since then, while private debt has moderately declined, this has simply been replaced by soaring government debt, meaning no ‘de-leveraging’ in the UK economy since 2010.
The May-dy’s not for turning?
Theresa May stated in her launch speech “Monetary policy – in the form of super-low interest rates and quantitative easing – has helped those on the property ladder at the expense of those who can’t afford to own their own home.” She understates the charge sheet against low interest rates. We are told (and I genuinely believe) that she and her advisers want a new economic model based on more sustainable growth. But I also think Osborne and his advisers wanted this in 2010. And Blair before that, and Lawson and Thatcher before that.
So judge not on words but on action. Brexit jitters will give pro-debt fans an excuse for lower rates and quantitative easing. If the Bank of England does cut rates and loosen policy this will be the fastest u-turn in political history, applauded by the same City analysts who have applauded the last thirty years, and who benefit from ever more debt and cheap credit.
More vested powers than powerful arguments
Despite what you might think from the media, low interest rates are unpopular. By 32 per cent to 23 per cent people would prefer higher interest rates and say they would benefit economically if they were in place. By a margin of two to one, Conservative voters say they would benefit from higher rates. Middle-aged households with high levels of debt, particularly mortgages, would lose out, but savers and those trying to buy a home would benefit. (It is worth noting that those in power and media commentators are often rich households with large mortgages aged 35-55).
The intellectual fig leaf is arguments that more credit boosts ‘demand’ and ‘stimulates’ the economy. Growth in the money supply is linked to lower interest rates – the lower interest rates are, the greater is the growth in the money supply, and the greater demand for debt and spending now versus at a later date is. (I will do a more technical post on banking at some point, but this very abridged version will suffice for now).
Our current model benefits the super-rich and short-termism
The main beneficiaries of the current policies are the super-wealthy and the City. The Bank of England itself found that it was the top five per cent that benefitted from QE given their wealth and assets. Meanwhile the City sees rising asset prices and ever expanding debt that they manage, all of which keeps the bonuses flowing.
The real world effect on productivity is disastrous. Any company these days can make a short term return by loading up on debt. Between 1987 and 2009 the level of debt held by non-financial companies rose from 45 per cent to 122 per cent of GDP. Soaring asset prices encourage other dysfunctional behaviours (e.g. land being developed slowly by builders). The result is that there are often lower returns to be had from the hard business of action compared to just issuing more debt and riding asset prices.
May has promised to fix this. She wants a capitalism that works for all. But forget about the workers on German boards. It was the tight monetary policies of the Bundesbank that created the Mittelstand. Companies had to generate income, not create debt. No cheap debt meant no threat of hostile takeovers by asset strippers using cheap borrowed money. You cannot replicate other countries’ successes with just warm words, high vis jackets and a hard hat.
Monetary policy must take account of savers and rebalancing the economy
The next article will discuss what a monetary policy that tried to rebalance the economy and help savers might look like. But what must not happen is recourse to the same tried and failed tools of the past six years.
The first noises from the new Chancellor and Prime Minister are extremely encouraging. But we will find out when the Bank of England meets next month whether or not our new team are serious about a new economic model, or if they will just follow the failed economic path of their predecessors.