The way out of borrowing too much – borrow more

The Credit Crunch and banking crash began when the UK (and US) authorities decided to bring the credit party to an abrupt end in 2007. In the UK they slammed on the brakes with high interest rates, starved the money markets of funds, and finally told the banks to lend less and save more. The credit binge was one they had fuelled in earlier years with low rates and their own special enthusiaism for off balance sheet financing. Suddenly we were all told that borrowing too much was not good for us. It appeared they wanted a new era of austerity, based on repaying debt and living within our means. The private sector was put through the mangle to squeeze out excess. The Chancellor and the Governor told us about moral hazard and said it was up to the banks to sort out excessive debts and over the top lending.

Two years on, and we live in a different world. The private sector is doing exactly what they wanted. It has no choice. Banks are dutifully hoarding cash and lending it back to the government. Individuals are paying off credit card debts, and striving to get the mrotgage under control. Businesses are being forced to sell off stock and stop investing as they cannot borrow more, or only at high rates. That’s what was what they wanted to happen because they ahd allowed the country to borrow too much. The sooner the adjustment is made the better, painful though it is. It is the price of big policy errors made in the “good” years.

Now we learn that the authorites do not like the high unemployment figures, the poor output figures and the rest that flows naturally from the credit squeeze and from their past huge mistakes. Who does? Why didn’t they listen when some of us warned them in time to stop the worst of it?

So they have come up with a great way to overcome a crisis of borrowing too much in the private sector – they are borrowing too much in the public sector instead. They are fighting fire with fire. All that they said about the dangers of excessive credit in the private sector applies with a vengence in the public sector. In the private sector if a business borrows too much it goes bankrupt. Only those who have decided to deal with it lose out. If a state borrows too much all its citizens are forced to pay the bills and suffer the resulting pain of adjustment to reality. When will the Chancellor and the Governor make their speeches about moral hazard in the public sector? Or does the Governor now live in a world where none of this debt is real, because he thinks we can print limitless amounts of money to “settle” the bills with no adverse consequences?

Between 2003 and 2006 they got regulation of private sector banking and credit hopelessly wrong. Now they are gettign public sector credit hopelessly wrong. Why do they never learn? Haven’t they grasped yet that all borrowing does one day have to be repaid. If you refuse to live within your means now, you will be even poorer tomorrow.

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25 Comments

  1. Mick Anderson
    Posted August 20, 2009 at 7:23 am | Permalink

    Fighting fire with fire? More like fighting fire with petrol!

    On the assumption that the Labour party do not expect to win the next election, it’s simply a scorched earth policy. Mr Brown will not be responsible for clearing up the mess he leaves, no matter how terrible.

    The only adverse consequence for Gordon is the loss of his job, and that will be significantly softened for him by a very generous pension. Personally, he doesn’t really lose – he’s going nowhere near the breadline that his lousy policies impose on others.

  2. alan jutson
    Posted August 20, 2009 at 7:51 am | Permalink

    Gordons Prudence has died me thinks.

  3. Acorn
    Posted August 20, 2009 at 8:19 am | Permalink

    A bit off subject but may be of interest to those who have had some involvement with the subject of “local-ism” in England. Particularly, possible new ways of funding local government. Funding streams into local government are very complex. There are currently, numerous different pieces of primary and secondary legislation that have funding streams attached to them, basically grants in one form or another.

    In total, they demonstrate the extent of micro-management by central government of local government. Don’t bother about terms such as inside or outside aggregate external finance; that is just the departmental route the money took to get to the Council. It is all taxpayers’ money. See the following link; particularly “Annex C”. There may be a grant in the list your local Council may have missed out on.

    My point here is, to cut down on more borrowing, as JR states above, you have to cut back on more spending. To cut back on spending, someone has got to tackle the likes of all the grants in Annex C.

    http://www.communities.gov.uk/documents/statistics/pdf/1296826.pdf

    • alan jutson
      Posted August 20, 2009 at 11:33 am | Permalink

      Acorn

      Interesting and staggering, thank you for the link.

      • Posted August 20, 2009 at 4:49 pm | Permalink

        It seems to me that they have very little money/power left at all! Good link: thanks.

  4. Brian Tomkinson
    Posted August 20, 2009 at 8:26 am | Permalink

    JR: “Haven’t they grasped yet that all borrowing does one day have to be repaid.”

    Regrettably, many people live under that illusion. The current government couldn’t care less as they don’t expect to be around to suffer the consequences. Reading that Mervyn King wants to print even more money I wonder if your party’s policy of giving more power to the Bank of England is such a wise one after all.

    • Robert K, Oxford
      Posted August 20, 2009 at 10:04 am | Permalink

      An old friend of mine used to work in the wholesale money markets – he was one of the chaps who had to turn up to the Bank of England three times a day wearing a top hat to request funds that would then be sold on to the clearing banks to facilitate daily settlement. At that point – before Big Bang in 1986 – the Bank was in a very powerful position in the market. It knew the daily balance sheet positions of all seven of the designated dealers it dealt with and had a very good idea of the financial strength of the clearing banks too. Two things changed following Big Bang: first, off balance sheet financing became popular, muddying the Bank’s visibilty of the clearing banks’ balance sheets; second, overseas players entered the market, which had the effect of reducing the insight of the Bank into the financial position of market participants. The result: the Bank lost its position as the most potent player in the money markets. So by the time G Brown hived of the Bank’s regulatory responsibilities in 1997 its power was already significantly diminished. Bank of England “independence” seemed like a good idea but the net effect was a weakened Bank with less contact with the market and, presumably, one that was more likely to be swayed by political considerations. That is ironic, given that the point of independence was to distance politicking from monetary policy.
      Which is a long winded way to say that structuring matters so the Bank has more power is not necessarily a good or a bad thing. What matters is that control of the money supply should be subject to the utmost prudence.

    • Freddy
      Posted August 20, 2009 at 10:47 am | Permalink

      Depends who ou have as Governor.

  5. April Ryan
    Posted August 20, 2009 at 8:29 am | Permalink

    This government is quite blatently using quantative easing to continue to fuel it’s own debt and essentially bancrupt the whole country. Its final act of treason will be to sign us up to the Lisbon Treaty before it finally hands over the tatty remains of UK PLC to DC.

    There is no way that this is legal bearing in mind that no one in this country elected GB and Labour have made no effort to consult the public on any single issue of policy. Yet they will get away with it because we will all sit by wringing our hands.

    While I see DC as a saner option to the madness that surrounds us at the moment I’m afraid I think he is letting us down badly in opposition – what opposition?

    • Freddy
      Posted August 20, 2009 at 10:48 am | Permalink

      “While I see DC as a saner option to the madness that surrounds us at the moment…”

      I do hope you’re right. But, for now, he’s kind of a pig in a poke.

    • Waramess
      Posted August 20, 2009 at 11:23 am | Permalink

      An act amusingly described somewhere this morning as eating your own leg to avoid hunger

    • Lance Grundy
      Posted August 20, 2009 at 1:12 pm | Permalink

      But April, Labour have consulted the British public. Three times in fact – in 1997, 2001 and again in 2005. The answer to the ‘consultation’ was always the same… we want more Labour. Labour, Labour, Labour. It’s only now that it’s time to pay, pay, pay for Labour’s policies that some the electorate appear to be having second thoughts – “some” being the operative word.

  6. cuffleyburgers
    Posted August 20, 2009 at 8:37 am | Permalink

    Indeed Mr Brown’s incentive scheme works very much the same way the city bankers’ did. He can borrow as much as he likes – if it works great, and he wins the next election (this is on planet brown of course) if it doesn’t, he doesn’t suffer the consequences.

    Except the consequences for the losers are far more doleful (a carefully chosen words in view of the employment statistics), not being limited to shareholders.

    Brown likes to imagine himself as Churchill, fighting valiantly to rally the country and be the man of the hour (still on planet brown you understand) – and seeing as it took some 60 years to pay off the war debt he doesn’t see it as unreasonable to create his own debt that will take even longer to pay back.

    I hope the Tories will introduce a new tax, a flat tax of say 5% on all income, with no allowances and no exemptions, and call it a labour tax, being a ringfenced tax necessary to pay for Brown’s debt mountain, and explain that it is the extra tax that is the inevitable consequence of electing labour governments.

    • Freddy
      Posted August 20, 2009 at 10:50 am | Permalink

      Yes, yes, yes ! Make sure it is printed separately on all wage slips.

    • Waramess
      Posted August 20, 2009 at 11:21 am | Permalink

      Why on earth another new tax which will simply let the governmnt of the day off the hook.

      Downsize government and you will not need to pay more taxes

  7. Number 6
    Posted August 20, 2009 at 8:39 am | Permalink

    Brown will not lose. He will be thrown out of Number 10, but I imagine (just Kinnock) there is a spot waiting for him at the gold plated EU trough. After all, he has been a good comrade id furthering the EU project and destroying Britain into the bargain.

    So, Brown gets another big salary and perks and as the EU dicatates to us, still gets to ride roughshood over our wishes when we voted to get rid of him.

    The only way to deal with the EU and its malign abillity to allow third rate politicians another grab at taxpayer’s money is to exit the whole rotten structure.

    • Freddy
      Posted August 20, 2009 at 10:51 am | Permalink

      Don’t forget the EU pension – conditional, of course, on continuing to support the aims and interests of the EU.

  8. Waramess
    Posted August 20, 2009 at 8:42 am | Permalink

    The clean-up will be for the Tories then? I hope Cameron has some good ideas up his sleeve and that his promise to spend more in real terms on the NHS is not serious.

    The Tories are not giving the impression that they understand the seriousness of the problem or that they have any interest in doing the things that will be necessary to bring the UK back to solvency.

    Let’s hope the impression they give is just tactical and that Cameron is not in this just for the sake of power and ego

  9. Pete Chown
    Posted August 20, 2009 at 9:25 am | Permalink

    “Or does the Governor now live in a world where none of this debt is real, because he thinks we can print limitless amounts of money to “settle” the bills with no adverse consequences?”

    If so then he is taking economics lessons from Robert Mugabe, which is a frightening thought.

    Of course Brown is more sophisticated than Mugabe. In Zimbabwe they literally printed money, and that’s so twentieth century. Here in the West, currency can be ‘printed’ at the click of a mouse.

    David Cameron warned how borrowing too much could lead to countries defaulting. That is true of the euro-zone countries, and it is true of countries which borrow in foreign currencies. It is probably not true for Britain. A British government would tend to choose inflation over default, so it would simply print money to cover its debts. Because of this, I think the threat Cameron needs to be warning about is inflation. Default is very unlikely.

  10. Alan
    Posted August 20, 2009 at 10:20 am | Permalink

    “In the private sector if a business borrows too much it goes bankrupt. Only those who have decided to deal with it lose out”.

    I wish that were so. Then we wouldn’t have to pay for the consequeces of the banks’ failures.

  11. Posted August 20, 2009 at 10:48 am | Permalink

    @JR “Haven’t they grasped yet that all borrowing does one day have to be repaid. If you refuse to live within your means now, you will be even poorer tomorrow.

    The question is who pays the debt?

    The lender or borrower?

    If the borrower defaults the lender pays.

    Isn’t that the plan?

  12. Robert K, Oxford
    Posted August 20, 2009 at 11:45 am | Permalink

    The catastrophe of the Brown/Greenspan/Bush era is that the bust of the dotcom bubble was reinflated during the mid-2000s. Rather than taking the necessary pain of economic retrenchment in the early part of this decade we were inflicted with another asset boom in which trillions of dollars and pounds were created out of thin air. Take a simple exampe. Someone buys a house for £200,000 which gets revalued at £300,000. They extend their mortgage by £50,000 and buy a Range Rover. Range Rover adds the appropriate capacity and this filters through to its compononent suppliers and subsuppliers and ultimately to raw materials producers. More iron ore is dug up and oil drilled for to satisfy this apparent creation of wealth. But the money is only there because the state, which controls the money supply, says that is. Thus it is “fiat” (“it is thus”) money is created. When the value of the house collapses and the fiat money is exposed for what it is, there has to be a correction because now there is too much capacity in the economy – the market has been fooled into believing that more wealth is in existence than is actually the case. Factories close, workers are put on short time or laid off, incomes decline, and the economy contracts until it finds equilbrium. Left to its own devices that equilbrium will happen and from that point sustainable growth can be envisaged. However, what we are seeing now is Mr Brown refusing to realise that the mistakes he made in loosening the money supply and in a final gamble trying to inflate the bubble one more time. If this money-go-round goes on much longer and the state continues to max out every bit of plastic it has, it is creating the scenario for economic apocolypse.

    • Mark
      Posted August 20, 2009 at 8:02 pm | Permalink

      An excellent explanation of the housing bubble. The factor you omit are that the banks’ balance sheets have to balance: in order to “fund” the increased mortgages (some £700bn extra since end 2000) some £300bn+ has been borrowed abroad directly by the banks, and the rest by selling mortgage backed securities – again mainly abroad, via intermediaries. Another way to look at it is that the spending was not on a Range Rover, but an imported BMW X5, funded by what is in effect an unsecured export loan which has already suffered partial default through sterling depreciation.

  13. Posted August 20, 2009 at 4:40 pm | Permalink

    This blog is usually about six months to a year ahead of the BBC on economic matters.
    That is why it is so very scary that even the BBC has twice dismissed defaulting on our huge debts as today.
    If they have noticed the possibility, then our default looks imminent.

  14. Posted September 9, 2009 at 4:36 pm | Permalink

    I don’t think that it is a good idea to borrow in order to get out of a debpt.

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    John Redwood won a free place at Kent College, Canterbury, He graduated from Magdalen College Oxford, has a DPhil and is a fellow of All Souls College. A businessman by background, he has been a director of NM Rothschild merchant bank and chairman of a quoted industrial PLC.

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