Want growth? Osborne must ask BofE to drop government debt
If the Bank wrote off its government bonds, UK debt would instantly fall by a third - and nobody would lose out
AT THE weekend George Osborne complained that hopes of a British economic recovery are being "killed off" by the failure of the eurozone to get a grip on its problems.
He is right, of course, but the drawback with using the euro as an alibi is that it raises the question of what else the Government could be doing to boost growth?
The Chancellor has never much cared for the hard grind of economic reform, whatever he may say. Instead, his strategy has always been to offset higher taxes and tighter spending with low interest rates and a dose or two of money printing.
Base rate has now been a record low of half a per cent for more than three years. Over the same period the Bank of England has purchased £325 billion of government gilts under its programme of quantitative easing (QE), which equates to roughly a third of the national debt.
If Osborne is going to put more oomph into the economy, it looks as if it will have to be QE that does the heavy lifting. That will not be straightforward; not only will he have to take the markets with him but also the Bank itself, which guards its independence zealously. However there are still some shots in the monetary locker, if the Bank's Governor, Sir Mervyn King, will allow them to be deployed.
First up, it is absurd that the Treasury is paying the Bank well over £10 billion a year in interest on its gilts. Both are, after all, arms of the same body. Even more bizarre is that the Bank then cancels this money, although the Treasury still counts it as part of the deficit.
In the US, all monies received by the Federal Reserve under their QE programme are recycled into the public purse in the form of a dividend. At the very least, we should be doing something of the same sort here.
Secondly, both the Bank and the Treasury should use QE to boost lending to the private sector much more directly than they have managed so far.
The Bank is said to be worried that if it buys packages of mortgages or business loans it might not get repaid in full. But the real glory of QE is that, because it uses what the economists call fiat – ie printed - money, rather than real people's savings, it does not necessarily have to get its cash back.
Last October, I wrote in this column that in all likelihood the mountain of gilts amassed by the Bank would eventually be allowed simply to expire, thus relieving our children and grandchildren of a huge future burden.
In a recent article, Jim Leaviss, head of retail fixed income funds at M&G, went even further. Pointing out that it is hard to see who would be harmed by such a move, he wondered whether we should not announce now that all the Bank's gilts would be cancelled, thus reducing the national debt from 63 to 41 per cent of GDP at a stroke.
If you think this sounds unconventional, it is. But debt annulment has a long pedigree, stretching all the way back to the Book of Deuteronomy which stipulated that there should be a debt amnesty every seven years.
Fast forward and nearly everywhere in the western world the story is the same, we are drowning in excessive debt. Purging this borrowing by normal means could easily take ten years or more, if we are lucky. But until it is dealt with banks will not lend, business will not invest, and growth will not resume.
Even in today's dire circumstances, cancelling debt certainly should not be seen as a cure-all. The danger that moral hazard could get out of hand, and we really might find ourselves on the road to Zimbabwe-style monetary damnation, is real enough. Set against that, the longer the process of conventional debt reduction takes the more destructive it will be.
Could the Treasury and the Bank, between them, come up with a framework to guard against the risks?
They might find it irksome, but perhaps what we need is a public pact under which the Chancellor promises to stick with deficit reduction and deliver on economic reform, in return for the Governor allowing greater leeway on how QE can be used and eventually dismantled.
If we were trapped in the eurozone, we would just have to sweat our debts out for decades to come, like Greece and Spain. Fortunately, we are not in the euro and we still have our monetary freedom. We should make the most of it.