What’s holding the British economy back? Debt, debt, and more debt

Maxed out

Last week the coalition government was hit with a combination punch of bad economic news. On the same day unemployment was up and the Bank of England’s growth forecasts were down.

Labour were quick to point the finger. Shadow Chancellor Ed Balls said “The British economic recovery was choked off well before the instability in the last few months in the eurozone…The government is cutting too far and too fast and it’s pushing borrowing and unemployment up at the same time”

You have to wonder whether Balls actually believes any of this. In Labour’s last year in office government spending was £660 billion. This financial year it is forecast to be £703 billion. Only in the weird world of Labour party economic policy could a rise in spending of 6.5 percent be described as “cutting too far and too fast”

In other words, for all the sound and fury about ‘heartless’ ‘Con-Dem’ cuts, there actually aren’t any. And non existent cuts obviously cannot be harming the economy.

But while we might have come to expect Ed Balls to say stupid things about the economy the coalition isn’t being totally honest either.

“These figures show just how much our economy is being affected by the crisis in the eurozone” was Employment Minister Chris Grayling’s reaction. Slightly more circumspect, Chancellor George Osborne has said“There’s no doubt that growth in Britain, jobs in Britain, have been hit by what’s going on in theeurozone”

Pinning the blame for Britain’s sluggish growth on the euro crisis has left the government open to charges of hypocrisy. In opposition didn’t they scorn Labour for its claims that Britain’s ruinous finances were all the fault of exogenous economic shocks beyond our control? Well no, they didn’t. They blamedLabour for increasing debt when the economy was growing in the years before the crash; the global nature of the crisis was always understood.

And unlike Balls’ nonsensical claims about the effect of phantom cuts there is a grain of truth to what Osborne and Grayling say. The very real possibility that the monetary system of our biggest trading partner could collapse is bound to have an effect on British business.

But this still misses the heart of Britain’s economic problem; debt. In the years leading up to the credit crunch, debt, both public and private, exploded in Britain. By 2008 household debt in Britain stood at 173 percent of household incomes, higher even than in Japan in 1990 on the eve of the bursting of its property bubble and ensuing 15 years of stagnation.

British households are now trying to repay that debt, reduce the amount they owe, or, to use the technical term, deleverage. That is why their spending has slumped.

The standard Keynesian remedy would be for government to step in and take up the slack, replacing the vanished spending of households with government spending. But, thanks to the lunatic profligacy of the Labour government, we don’t have that option.

Desperate to shed the image for financial mismanagement which had cost it the 1992 election, Labour, in 1997, committed to stick to Conservative party spending plans if elected. They were and they did. The national debt fell from 42 percent of GDP to under 30 percent. As fantastic as it may seem now, Chancellor Gordon Brown’s nickname ‘Prudence’ was well earned.

Then, in 2001, Labour won a second big electoral majority. Hubris set in and the spending sluice gates were opened. At a time when Britain’s economy was growing and, according to the simplified Keynesian theory, we should have been running budget surpluses, Labour began running deficits. This was in 2002; five years before the first banker came rattling the begging bowl. Labour applied its stimulus to an already growing economy.

The sorry story can be seen in the graph below.

Under Labour’s splurge national debt rose from around 30 percent to around 35 percent on the eve of the crash. That might not sound like much but consider two things; first, that is a percentage of what was, then, a growing economy. Second, where would we have been without it?

If we look at the trend of debt when Labour were adhering to Conservative spending plans and continue that we could have been heading into this crisis with a national debt of around ten percent of GDP, just think how much more room that would have left for government stimulus.

Either way the upshot of this massive private and public borrowing binge is simple; we have had a period of overconsumption which will now be followed by a period of underconsumption. As long as the dead weight of this debt is pressing down on the British economy the best we can hope for is the sluggish growth we have had.

We can forget the delusional sniping of the ridiculous Balls. The real problem for the coalition is that by blaming the crisis on the eurozone for Britain’s economic ills they convey the impression that the solution might be other than it is.

David Cameron made a start on disabusing the public of this notion this week when he said “High levels of public and private debt are proving to be a drag on growth, which in turn makes it more difficult to deal with those debts”.

The coalition thus has a tricky tightrope to walk. On the one hand they risk being accused of talking down the economy if they tell the grim truth on debt. On the other they risk being punished for the dashing of false hopes conjured up by deflections.

Yet as we’ve seen, it is not non-existent cuts which are holding the British economy back nor even, yet, the meltdown of the euro. It is Britain’s suffocating debt burden. Until that has been dealt with we will not see recovery.

This article originally appeared at The Commentator

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