If the problem is debt what does more debt achieve?
Today the Bank of England and HM Treasury launched the Funding for Lending scheme (full details here) designed to enable banks to lend more money to the “real economy” (i.e. not financial institutions). But, as the above graphic shows, the UK is already indebted to the tune of 507% of GDP. Is the answer to this to borrow more?
This kind of lunacy is a direct consequence of the way that banks, debt and money work in the UK today. Because 97% of the money supply is created by private commercial banks as debt, when folk stop borrowing, start saving and start paying down their debt, the money supply shrinks. Hence Quantitative Easing which would be far better spent into the real economy directly on infrastructure projects as Jon Snow comments in his blog today.
These issues were the subject of an extraordinarily good conference – Justbanking– in Edinburgh in April. The organiser of the conference, Beth Stratford, has prepared an interactive presentation highlighting the main themes of the day. Take a moment to explore it – therein lies the solutions to the way we do money and banking today.
Does whether being indebted is a “good thing” or a “bad thing” not depend on what you’re indebted for? If it’s a property bubble (e.g. Spain, Ireland) then clearly (with the benefit of hindsight!) it’s a bad thing . But if it’s to fund something sustainable with a good chance of success, then it would be a very good thing. Point I’m making is it strikes me that a graphic of how much debt a country has is pretty meaningless without an analysis of what the debt is for. But then again, as I know as much about economics as I do about golf courses, who am I to say?
Perhaps you could give us a sentence or two on what the composition of Japan and the UK’s debt is.
Neil, you’re quite right. It does matter what the debt is for, and the composition of debt shown in the diagram partly hints at this. Britain’s government debt is 66% of GDP according to the latest official figures (81% in the diagram above — it depends on what figures you’re using), but private debt is around 427% of GDP. Of that sum, about half is from financial companies. A large part of that financial-sector debt was in unproductive, speculative activity based on the blind hope that asset prices would keep rising — facilitatated by the financial weapons of mass destruction that caused the crisis. What the diagram doesn’t show is that financial-sector debt boomed over the past couple of decades (see my post: http://emergenteconomics.com/2012/06/19/dont-forget-about-private-debt/ ), partly due to deregulation and globalisation. By the time the crisis hit the UK ï¬nancial system had become the most highly leveraged of any major economy, and it remains so. Government and household debt rose much less, and in fact government borrowing (which is mostly used for much more productive purposes) isn’t that high — it has been much bigger during the last century. That’s not to excuse all government largesse, but irresponsible financial-sector borrowing, facilitated by international trends and excessive liberalisation, was in large part responsible for the crisis.
Japan can sustain such a high level of debt because people save a lot, mostly in Japan Post, which accounts for a quarter of household assets. Japan Post holds about a fifth of national debt in the form of government bonds. Although the government has a huge pile of borrowing on its books, seen in aggregate the economy isn’t in such a precarious position because Japanese people save loads and effectively lend it to the government. Brits don’t save as much, so things here are a lot more dodgy.
The Justbanking presentation is excellent, spelling out most of these themes.
Ironically the British government is currently in a situation where it could borrow money at super-low interest rates to build infrastructure or other useful investments, yet it is engaged in an obstinate death-march to shrink the state.
So overall, it’s a bit simplistic to say more debt = bad, less debt = good. It’s important to analyse where the debt comes from and what it’s for.
Dan, I remember having a conversation with a friend back in 2008 which went:-
Friend – “What’s happened to all the money?”
NK – “I don’t think it existed in the first place.”
That is doubtless massively over-simplistic as well but may be a grain of truth perhaps?
No, again I think you’re pretty close to the truth. Something that the previously marginalised, unorthodox economists like Steve Keen have recently been arguing, with considerable success, is that the banks actually create money rather than it existing it already. The very act of constructing a credit derivative, or more generally making a loan, is itself the manufacture of money. There was a lot of dodgy stuff going on, and as you say, the money didn’t really exist in the first place.