As England enters a second lockdown, we should be under no illusions about the economic cost. More jobs will be lost. More people will fall into arrears on their rent. More businesses will fail. More people will become homeless. More children will become hungry.
As in March, the pain will be distributed extremely unequally. While some people will lose jobs and houses, others will lose holidays and gym memberships.
At this time, people need to be provided with clear explanations of what is happening in the economy. They need to know what the worst possible future outcomes are, and how they can be avoided. At the moment however, people are not getting these clear explanations. Instead, two conflicting, almost diametrically opposed narratives have emerged.
On the one hand, many politicians and commentators have become increasingly panic stricken about the scale of government debt, which is rising at £1 billion per day – calling it “unsustainable”, and “out of control”. The UK chancellor, Rishi Sunak, has taken to Twitter to reassure us that he will bring the debt down to protect younger generations.
Alongside this, “Modern Monetary Theory” (MMT) has been rapidly growing in popularity. Spearheaded by American economist Stephanie Kelton, and increasingly popular on both sides of the Atlantic, this set of ideas, and its growing group of followers, strongly advocates for significantly higher levels of government spending and debt, financed by newly created money, in order to support the economy.
In the face of these completely opposite ways of viewing our current economic crisis, how are ordinary people to understand what is really happening?
How did we get here?
Both these ways of viewing the economy have been born from the same radical change that has occurred in the management of western economies since 2008: the move towards permanently higher levels of government debt, funded by central bank-printed money.
Before 2008, Rishi Sunak’s Twitter explanation of government finances would have been correct. The government funded its expenditure entirely from taxation and borrowing. Since 2008, however, the mechanics have changed significantly. Whilst it is still technically true that governments fund their spending from taxing and borrowing, increasingly large amounts of that borrowing have been borrowed from… itself.
This “Quantitative Easing” (QE) was a new trick in the West (although it had been trialled already for over a decade in Japan previously), and was intended as a temporary, emergency measure to help stimulate the economy. However, it ended up not being temporary, as the persistent failure of the economy to recover in the way anticipated led the Bank of England to repeatedly increase these loans and, subsequently, to extend the length of the loans once they reached maturity.
The end result was that, at the beginning of this year, the Bank of England owned over 30% of the UK’s national debt – an impressive £445 billion. Near identical schemes were introduced in Europe and America. In response to the COVID crisis, the Bank of England turned the taps on once more, adding another £300 billion to these loans. A further £150 billion was added last week, bringing the total amount of money “owed” by the UK government to the Bank of England up to £895 billion. That is equivalent to £32,000 per household.
In turning these temporary measures into quasi-permanent measures, central banks such as the Bank of England had – albeit perhaps unwittingly – completely changed the world of government finances. The loans provided to the government by the Bank of England pay no interest (technically they do, but the Bank of England returns that interest to the government, since it is government owned), and it is broadly accepted by City traders that they will never be repaid, because central banks will continue to extend them indefinitely.
What is a loan that bears no interest and never has to be repaid? Firstly, it’s the kind of loan that everyone wants, and secondly it is not really a loan, but a gift. By repeatedly extending and increasing the size of these loans instead of repaying them, central banks have convinced investors and traders that these “loans” are in fact permanent. In doing this, they have ushered in a new era of government finances, where government spending can and will be funded by freshly printed money, “gifted” (although technically loaned) from the central bank. Economists used to call this “monetization”.
Competing ideologies of “government debt”
This has left us with two competing ideologies of how government spending actually works. Rishi Sunak’s story is still the official truth – the government’s funding comes from taxing and borrowing. Although some of that borrowing might come from the central bank, it has to be paid back, just like everything else.
MMT on the other hand comes closer to understanding the true situation, which has become an open secret amongst financial market participants: the money lent from central banks to the government will never be paid back, and is thus not “really” a debt, but pure monetisation.
These two very different diagnoses come with different prognoses. If government debt is “real” and must be repaid, then one can understand the argument that sufficient belt tightening is needed. This logic can be used to justify anything from the refusal to extend furlough to voting against free school meals for the poorest in our society in the middle of the worst recession since the Second World War.
The problem with this logic is that it is not borne out by the evidence. Whilst the government’s debt does technically exist, in reality it will never be repaid. This is supported both by history – not a penny of the loans taken out after the Global Financial Crisis have been repaid over a decade later – and by financial markets, who are willing to lend to the government for ten years at an interest rate of just 0.38%.
To pretend that there is an urgent need to pay the debt back either now or in the near future is simply untrue. At best, it is dishonesty. At worst, it is an incompetent misunderstanding of how the economy currently works.
The weakness of MMT
Is MMT the answer? It is true that, as MMT proponents suggest, there is scope for significantly increased government deficits, and much higher levels of government “debt” (if it is right to call it that). The COVID-19 crisis has only served to reinforce this, as countries all over the world have rushed to support their economies with huge amounts of newly printed money which, so far at least, has had few negative consequences.
But, as I pointed out in March, there is a reason why we don’t usually allow governments to fund their spending with newly created money. Even when that new money is used to support those desperately in need, as it has been used during the COVID crisis, it still leads to an increase in the amount of money in society. This can not only be inflationary, but if the new money ends up in the bank accounts of richer people, it also has huge implications for the level of inequality.
So far, the evidence indicates that this is what has been happening. Wealthy and high income individuals have accumulated cash savings, whereas poorer people have accumulated debts. The savings of the rich are already being channelled into buying stocks and properties, pushing their prices up, which will increase inequality. US stock prices have risen by 61% in the last eight months. UK house prices have been rising at the fastest pace in sixteen years, to a new all-time high. All this has happened despite being in the deepest recession in living memory.
Wealthy and high income individuals have accumulated cash savings, whereas poorer people have accumulated debts.
MMT is well aware of the risk of inflation. It views inflation as the real limit on money creation and, in doing so, reveals a clearer understanding of the economic situation than Rishi Sunak’s simplistic assessment. However, the effects on inequality and asset price inflation are often pushed to the sidelines of the debate.
Given that wealthier people are much more likely to save and invest additional income than people on low or medium incomes, any inflation that does materialise is likely to appear not in regular goods and services (although that is a real and significant risk), but in things like stock and house prices. This is precisely what happened after the 2008 crisis, when these policies were last implemented on a large scale. Take a minute to think of what it will mean for the future of younger generations from poorer families if house prices double once more. It will mean that their families will never own housing again
This is the core weakness of MMT. It often fails to consider the inevitable asset price inflation that it will cause, and indeed, has caused since 2008. MMT is not, in itself, a magic bullet. If used alone it would cause increases in inequality and house prices, which would be disastrous for poorer families if left unremedied. These issues have to be addressed.
A middle way?
Ordinary people face an impossible choice. One the one hand, there is a bleak and unavoidable future of increased poverty, homelessness and joblessness as a Conservative government prioritises book balancing over a child’s need to eat. On the other hand, there is a relentlessly optimistic utopia of endless money printing, which sounds deeply unrealistic to a general public already mistrustful of the economic credibility of the left.
Nobody does the public a service by misleading them. Not Rishi Sunak nor Stephanie Kelton, regardless of what colour rosette they wear on polling day. We need to tell the truth.
A future of austerity is an economic disaster, but an increase in public spending and government debt cannot be a solution by itself. Both of these policies, if taken in isolation, will lead to increases in inequality that will blight the futures of millions of families in this country. We need to take a more pragmatic path.
This economic crisis should not be paid for by school children going hungry, but equally it cannot be printed away. There is only one group in society who have the wealth to get us out of this crisis, and that is the super rich.
Just last week, data revealed that the UK’s wealthiest households have been hiding assets worth over £1 trillion. That hidden wealth alone is enough to cover the UK government’s COVID deficits this year more than three times over – yet often they are paying tax rates of just 20%.
Globally, the wealth of billionaires has increased by over $10 trillion dollars during the COVID crisis. It’s time to start making the rich pay their taxes.