The Non-Existent UK Fiscal Black Hole— Editorial 2

The story we are being told about UK government finances by virtually every main stream media (MSM) commentator goes something like this.

The government wants to spend more than it is raising in taxes.  This means that it will have to borrow from the private sector.  The private sector may choose not to lend to the government.  In that case the government will have to abandon its spending plans.  Alternatively, the private sector may be prepared to lend to the government, but only at high interest rates which will increase the cost of government borrowing.

This story is inaccurate and completely confuses the order in which spending and borrowing happen in the UK economy.  The correct story is as follows:

A government gets parliamentary approval for its spending plans.

The Bank of England (BoE) is then, by law, required to make available to the government whatever money is required to finance the parliamentary approved expenditure.  The BoE creates the money and puts it into the government account.

The government spends that money into the economy.  The private sector is now richer by that amount.

The Debt Management Office (DMO), which is an arm of the Treasury, calculates the difference between government spending and taxes levied and issues government bonds, the value of which broadly matches that difference.

 The private sector can buy these bonds.

It is important to note the sequence here.  The government spending happens before bonds are issued and is not dependent on the issuing of bonds.  Issuing bonds is presented by the MSM as the government borrowing from the private sector in order to finance its spending.  In the MSM account, the markets are seen to have the power to cancel parliament’s spending plans if they do not like them, by not buying issued bonds.  

In fact the opposite is happening.  The government spends into the economy first and then issues bonds which allow the private sector to put their newly acquired wealth (due to the government spending) into a riskless, interest earning asset.  The private sector is not doing the government a favour by buying the bonds and so allowing the government to implement its parliamentary approved program.  On the contrary, it is the government that is doing the private sector a favour by allowing them to put their savings into riskless, interest earning government bonds.

The government, if it wants, can completely control the price and interest paid on these.  A bond is just a piece of paper that promises to pay the owner money on certain dates.  For instance the government may sell a piece of paper that promises to pay £3 on March 1st each year for 5 years and a final payment of £100 on March 1st on the 5th year.  It could offer this piece of paper for sale to the private sector at a fixed price of £100.  Or it could auction it to the private sector.  However auctioning it means that the private sector determines the price of the bond.

Auctioning bonds is probably a bad thing.  It would be preferable if the bonds were issued at a price decided by the government.  If the private sector chooses not to buy them at that price then they would remain unsold.  It would be even more preferable if the government ceased to issue bonds.  The private sector could instead put its savings into non-tradeable National Savings and Investment type schemes.  This would make clear what is really going on.  The government is not borrowing when it issues bonds.  Rather it is helping the private sector to achieve its saving objectives.

The black hole is not just “non-existent”. It is a useful fiction, designed to increase the private sector at the expense of the public sector.

By not spending money in the public sector, the government runs down the public sector and pushes people towards the private sector.

For example, by not spending money on nurses pay and recruitment, the government creates a situation where nurses are working shifts that are under-manned and excessively long. The result is nurses leave to enter the private health sector. And possibly patients choose to go private where they will be treated by nurses who have more time for them.

The idea that “there is no money” hides this manoeuvre.

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