UK government downgrade and the weaker dollar

In recent days quantitative easing in the USA has got to the US dollar. It has started to fall against other currencies. I guess the US authorities are relaxed about that. It will correct the balance of payments more quickly, and put more pressure on the exporting countries.

Over the last year the US economy has fallen much less than the European economies, less than the UK and much less than Japan. The US still has strengths from its huge continental market, and from the energy and productivity of its workforce and from the entreprenuerial nature of many of its people. The successful exporters, led by Japan and Germany have hit worse turbulence, as they were very dependent on western demand for their range of products.

Even China has struggled. The impact of the collapse in demand must have been quite severe in the first quarter of 2009. The world can only make economic progress when the big exporters spend more of their savings, and borrow more to finance more consumption. That is happening very slowly, if at all.

In the meantime, it is quantitative easing which is providing the only drink at the wake. Today Sterling, the other QE currency, fell back from its recent rises. A ratings agency has said “We have revised the outlook on the UK to negative due to our view that, even assuming fiscal tightening the net general governemnt debt burden could approach 100% of GDP and remain near that level in the medium term”.

If only that were the limit of it. As readers of this website know, the true indebtedness and liabilities of the UK state are well above £1,500,000,000,000 already. It now costs £80,000 a year to insure £10 million of UK government bonds against default!


  1. Blank Xavier
    May 21, 2009

    QE is tax.

    The BoE was given permission by Labour to perform QE.

    BoE then create new Sterling; which is and only is a redistribution of wealth, where wealth is transfered from all holders of Sterling in proportion to their holdings of Sterling. Those who hold more, pay more, and that wealth is transfered to the BoE.

    The BoE is spending 95% of that wealth on Government issued debt. QE IS A TAX. The wealth the Government obtains by selling debt to the BoE is being used directly to pay for regular State spending.

    The economy is tanking like crazy and the Labour has cunningly responded by *increasing taxation*.

    The UK is *so* screwed. All of this – it has one result and one result only; *human suffering on a massive scale*. People loosing their jobs, their homes, their children being pulled from their school, seeing their lives just shattered.

  2. Steve Tierney
    May 21, 2009

    Yep, of COURSE QE is tax. I made the same point in my blog post some time ago.

    (I’d like Mr Redwood to put my on his blogroll, but I’m too small fry…) ; )

    Just imagine what will happen to the dollar when China really makes its bid to become the new global default currency.

    All bets are off.

  3. Freddy
    May 21, 2009

    “It now costs £80,000 a year to insure £10 million of UK government bonds against default!”

    I don’t understand this. By definition, the UK can always redeem its bonds, because it can always just create however much sterling it needs to do so.

    Or does this default risk refer to foreign currency obligations ? And do we have any ?

    Reply Sovereign default is quite common, but not I am pleased to say by the UK. This refers to the CDS rates for UK debt.

    1. Acorn
      May 21, 2009

      Freddy, think Zimbabwe. The Credit Default Swap Rate (CDS) at 80 basis points, (that is 0.8%), in reality means that the market thinks there is about a 14 to 1 chance that the UK government will go broke in the next five years; that is, it will not be able to sell its debt (gilts) into the markets. The BoE could keep printing money to buy those government Guilts but would end up printing £5 million notes, which no one would want to hold because they would buy a lot less next week because then there will be a lot more £5 million notes around (and Guilts). Just like Zimbabwe.

      As far as foreign currency external debt obligations are concerned, it would be better that you did not mention that again see following.

  4. Josh
    May 21, 2009

    I remember when Thomas Sargent criticised Obama’s Keynesian plan the other month, when he said, ”the calculations that I have seen supporting the stimulus package are back-of-the-envelope ones that ignore what we have learned in the last 60 years of macroeconomic research.”

    And I don’t know why Obama and Brown and their cabal of economic advisors are not taking any notice of the Rational Expectations theory.

  5. APL
    May 21, 2009

    JR: “quantitative easing in the USA has got to the US dollar. [ snip ] Over the last year the US economy has fallen much less than the European economies, less than the UK and much less than Japan.”

    Welcome to competitive devaluation, which will probably continue for many years.

  6. Mike Stallard
    May 21, 2009

    I’m lost.
    I really do not understand the transfer of money from the QE printing presses to the Bank of England to the gilts. It seems to me that the more money there is around the place, then the less it will be worth. Hence: inflation. Is this right?

    “Market” to me, means a place where you sell and buy things. The USA, apparently, has stuff to sell. China has lots of stuff to sell and is becoming very rich, as its people don’t spend much. It is now, apparently, buying up Sri Lanka as an inroad into India. It is fast buying its way into Zimbabwe and other African countries, where it is enslaving the wretched Africans.
    So what have we got to sell?

    If we haven’t got as much to sell as we are spending, then, surely, we will go broke? And, at the moment, the books are not in any way balancing? Is it really that simple?

    May 21, 2009

    The BBC have understood and taken advantage of the public’s enormous current interest in politics by moving Question Time into prime time tonight. Well done BBC (at last) – a good move in all ways!

    What was clear tonight is the huge appetite for a general election sooner rather than later and Gordon Brown will have an uphill battle to hold this steamroller at bay for 12 months.

    We believe the public thirst could be assuaged by agreement to a sensible timetable based on the rationale we blogged here yesterday. We re-produce our proposal and arguments below and suggest that the Opposition recognise that an election in 6 or 12 weeks from now is impractical at this time of year and start suggesting that an election should be held on 1ST or 8TH OCTOBER.


    Our favoured scenario would be for a general election on Thursday October 8th (assuming we cannot follow the sensible Australian procedure of a Saturday polling day).

    This would:

    a) Give time to select/de-select candidates

    b) Give MPs an unusually hard-working summer recess to prepare.

    c) Enable the Queen to open Parliament in November with a new program from her new government.

    d) Prevent the waste of an entire 12 months of government inactivity and trough-swilling by retiring members.


    1. Michael
      May 24, 2009

      I agree we need an election as thw govt has lost all authoeitu and direction but can’t see why GB would call an election earlier than he need.

  8. Jason
    May 22, 2009

    Look the reason why the outlook for the UK has been downgraded is simple…the current government policies are leading to an ever increasing debt spiral which will eventually wipe us all out. The current plans are unsustainable – and hence they have done what any reasonable person has done and that is to put them on note. What is more worrying for me is the divergence in view of the IMF which supports such expansionary policy, seemingly in the face of its own austerity measures imposed on countries that take funds from it. Its like they want us to get into a situation whereby we spend our gunpowder so that we have no choice but to apply for a bailout with the attached conditionality. Utter madness yet again, and this government has gone for it hook, line and sinker. At this rate even if the conservatives get elected – they may not be able to control economic policy as we may already have taken IMF monies. Perhaps it is the aim of this government to so totally destroy the economy it hands over to the conservatives that they will have large swathes of policy effectively dictated to them from outside – which is in fact what is required now. IMF austerity policy and conditionality are generally viewed as a good thing where governments are profligate to the extreme – particularly where runaway inflation is concerned. Two things are striking about this whole episode – firstly, why the IMF supports such outrageous expansionary policy on one of their members watches, but as soon as an inflexion point is reached will externally impose the massive and painful austerity measures necessary to return the economy to an even keel. Secondly, why this government cannot see that this is the likely outcome of their current policy, opting to slide down the river of hope – with fairytale forecasts of a return to economic growth. If anything needs a stress test – its this government’s finances and its policy.

    One other point to add, as JR has often said in the past in a very timely manner is the question over why the debt position has become so bad is primarily due to the undertaking of massive liabilities because of the illogical, immoral and unethical nationalisation of UK banking industry – which was totally unnecessary. The govt could have just stood behind depositors (in a fractional reserve banking system I think that would have amounted to about 10% of total liabilities) and then let equity holders and bondholders separate assets under a bankruptcy procedure – with some continuing finance provided by the govt if necessary – subject to the securing of first liens. But this govt has chosen to stand behind bondholders – many of whom are foreign – opting to bankrupt the country instead. This can only be described as an act of economic terrorism – despite their benign claims to be standing behind British business and the British people. British business and the British people people would be much better served if their government was in a position to secure funding at reasonable cost to carry out its business. Instead we now face a scenario in which our economic sovereignty may be at threat. People will start to wake up and smell the (more expensive) coffee when interest rates start rising, public sector starts shedding jobs en masse and property prices embark on their crushing third wave down.

    At this stage we face a simple choice – do we want to face up to the responsibility of doing what is necessary ourselves or have it imposed on us externally. This government clearly is the problem – only conservative principles can allow us to do what is required, as painful and radical as that may be. The first step should be to rectify the abysmal favouring of bondholders over taxpayers. In one fail swoop the debt could be brought down to more manageable proportions and some badly needed ethical redress be given to the shell-shocked taxpayer – whilst sending a strong message to the markets and owners of capital that they cannot expect privatising of profits with socialising of losses – which is the current policy and can only lead to more moral hazard down the road.

  9. figurewizard
    May 22, 2009

    As ever the US economy will be the first to turn its economy round. The power of the dollar and as you rightly point out its huge economy and powerful spirit of entrepreunership will see that this will kick off towards the end of this year. China, Germany and Japan may have suffered acute contractions in their own economies but this will rapidly change in the wake of a US recovery because they have the ability to produce the goods that US and other consumers want to buy in large numbers and variety.

    That is why we cannot take comfort from the fact that our 1.9% decline appears to compare favourably with Germany’s 4%. Our own contraction is a chronic one or in the politic-speak of today; systemic. That is why we will wallow in the mire for a lot longer than they. A structural cause of this is that we lack the numbers of innovative small businesses with the potential for export led growth that underpin the strength of the bigger players.

    This vacuum is not the fault of our budding entrepreuners, its the fact that they are unable to raise adequate finance in order to get their ideas off the ground allied to a regime of costly regulation. Business Link is an ineffective quango, our banks have been concerned with little more than ‘buying and selling smoke’ for years, and the government has been obsessed with only supporting big business. As a result of Gordon Brown’s infamous budget of 2005 for example tax on big business has been reduced while those for small business have been massively increased.

    Hopefully an incoming Tory government will scrap the 50% income tax rate to ensure that the City in particular recovers its admittedly vital role in our economy but it will also be imperative for it to properly address the reasons as to why the importance of our innovative small business sector has been ignored for so long. If not, after a long period of stagnation our economy will simply return to being a lesser version of the same one trick pony that we were before.

  10. Adrian Peirson
    May 22, 2009

    A Nations Wealth has to be dug out of the earth and fashioned into saleable goods. You can’t just conjure it into existance.

    Ron Paul’s Campaign for Liberty.

    PS I understand Ron Paul has now got 150 Co Sponsors to audit the ( PRIVATE ) Federal Reserve, Bernanke is offering him alone to audit the Fed in secret.

    Would it do any good if we could audit the Private Bank of England.

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