Running an Economy – Part 1

If you\’ve managed to move out from behind your sofa recently and take a peek at the news, you might have noticed an uptick in the number of central banks announcing \’interventions\’ to support the UK economy. Further rounds of quantitative easing, rate cuts, loans and grants to small businesses, mortgage and bill \’holidays\’ and more. The funny thing is, noone seems to be talk about how we\’re going to pay for any of it. Here in the UK, the population was going absolutely beserk over the on-going saga of HS2 (currently budgeted at some £100bn) but as soon as the Chancellor made his announcement of £300bn in support for the broader economy, they all seemed to pipe down. 

It\’s been a few years since the financial crisis, but I can remember a time when the national media became obsessed with The National Debt. In a nutshell, this is the money borrowed by a government to fund itself beyond the money which is raised through taxation. For example, if a government spend £500bn in a year, but only raises £400bn in taxes, then it has to issue debt. In the UK, this debt is called a gilt and is essentially an IOU issued by a government to an individual or company.

As with any bond in the public markets, the value and coupon of these bonds fluctuates over time based on supply and demand. If lots of people want to buy gilts, their price goes up and the yield declines. If few people want them, the opposite happens.

Since 2008, global governments have been running a policy of Quantity Easing, buying up billions of pounds of debt around the world. This has artificially inflated the price of bonds, driving their yield to all-time lows (as of the date of writing this article, the yield on a ten-year gilt is just 0.23% against a historical yield of over 15% back in the 1980s!).

Generally speaking, the lower the yield, the more \’secure\’ the government\’s finances are seen as being – after all, why would people be queuing up to lend money if they didn\’t think they were going to get it back? In theory, this should also mean that governments should be encouraged to borrow more; lock in debt at low rates for decades to come (after all, if the government was issuing debt at 15% fourty years ago, then today\’s rates should seem like they\’re discovered the magic money tree!).

The government could borrow tens (or in this case hundreds) of billions of pounds extra each year to invest in the economy; building new schools, improving roads, investing in green energy and the thousands of other \’essential\’ services which we all want provided from our taxes. 

The effect of this would be to shift more \’expenditure\’ in the economy away from the \’free market\’ and towards the \’government\’ or a centrally planned economy. The difference is a stark one; a free market economy is one in which the wants and desires of the people determine what gets funded whereas a centrally planned economy removes the choice from the people and instead defines what money will be spent on and in what amounts.

Take, for example, the issue of transport. Under the free market system, we are able to own cars, bikes, motorcycles, vans, or to travel by bus, or train, or plane. A centrally planned system might determine that these options are \’an inefficient use of resources\’, and so mandate that only a single type of car \’Govcar\’ is able to be owned. Govcars run on electricity, not petrol, so all petrol pumps are shut down overnight. Govcars can also only be bought from your local council, so all car dealerships go out of business. Govcars can also only be serviced at approved government repair shops – so every garage in the country is suddenly closed down too.

Fine, I hear you say; what\’s wrong with this. I only use my car to travel – if I had a more efficient, greener version, I\’d happily give up \’choice\’ to get the best. But extend this theory to the following issues;

Food

\”Four types of meat is too much choice. The population will only eat chicken from now on\”.

Housing

\”Homes are poor use of space, all citizens will be required to live in communal housing and share facilities\”

Entertainment

\”There is no need for  individual content producers, all entertainment and educational material will now be issued by the Ministry of Media\”.

It all starts to sound a bit Orwellian doesn\’t it?

Of course, the other end of the spectrum isn\’t much good either; if the \’free market\’ runs everything, you tend to get the strong abusing the weak; \”there are hundreds of types of meat available, but you can only afford one – roadkill\” or \”there are enormous houses available – to some – but you can only afford this cardboard box in a field\”. Or in today\’s corona virus fuelled dystopia – some tw*t has gone and bought all the soap; they might have enough to last them a year but there\’s nothing left for you, no matter how much you earn.

Naturally, an economy with a mix of the two is optimal. Some government spending to ensure basic provision of essential services such as healthcare, education and personal security, and the free market to drive innovation and improvement. If one gets too strong, the other suffers; balance is required.

To come back to the beginning of this article then, why can the UK government not simply borrow like mad with interest rates so low? In a nutshell, because this is likely to destroy our economy over the long-term. The issues our country is facing are due, in no small part, to national spending priorities – money for HS2 but no money for schools. Money for \’London is Open\’ campaigns but no money for police. And to bring things even more up-to-date; money to bail out the airlines, but no money to send everyone home for a month.

Any fool can throw money at a problem, but it won\’t guarantee a solution. What is required is sensible expenditure, not just crazy profligacy. This explains why no far left government has ever managed to run a successful economy over more than a few years – eventually, the huge growth of the public sector crushes the private sector and those lending money to fund it start to get a bit sceptical \”you\’ve spent £20tn in debt over five years and have a GDP a £4tn? Not sure I want to keep lending to you really\”.

In theory, if GDP grows fast enough to keep up with the growth of debt (or even outpace it), this shouldn\’t be a problem, but when have you ever seen a national government manage this? Of  course, they all say it will happen, but five years later when debt is through the roof and interest rates have soared, it\’s a pretty hard sell to convince the public that \’it was all worth it\’.

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