Debt Ratios and the Comparison with WWII

Recently I've seen a lot of people saying things like "UK has had higher debt for 204 of the last 250 year." This is true and it is part of the criticism of the present government. We should certainly be worried about high levels of public debt, but having looked at the arguments I agree with those who say now is not the time to cut public spending. As far as I can make out the govt continue to argue using the moronic household finances model, which ought to convince no one.

The fact is that the UK's immediate post-war government debt was about 260% of GDP and then fell sharply over the following decades to below 50%. And people who disagree with the government find this comforting.

However what they don't seem to factor in is the levels of private debt (figures on private debt are based on the 2013 Budget Report, but other estimates put private debt much higher). At the end of WWII we had very low levels of private debt - consumer credit had yet to be invented! Back then there was a real possibility that private enterprise would borrow to invest and get things growing. Back then there was huge demand for products created by shortages.

NOW the situation is very different. Household debt is about 100% of GDP. Far from having an excess of demand we have stagnant demand. Retail spending is steady but not growing. And in an economy predicated on steady but infinite growth this is a problem. Inflation is higher than growth and thus the value of everything is being eroded. People are also saving, but I need to cover what's happening in business before looking at this.

In business the situation is complex. Non-finance sector debt is about 105-110% of GDP. In the household finance model this would require drastic cuts. But the government is looking to business to invest, expand, and kick start "the recovery"/ On the face of it business is mortgaged to the hilt. With demand flat there is no incentive to invest in increasing supply. In addition banks are reluctant to lend more to business because they are already carrying a great deal of debt. And to top it off we know that they are supporting 100s of zombie companies - companies that cannot afford to service their debts, but that are being kept afloat because bankruptcy would mean an outright loss for the banks. So while good companies cannot get loans, bad companies are being being extended credit they can't afford.

And it does not end there. In the boom years many companies were bought by the buyer mortgaging the company they were buying (a so-called leveraged buyout). This has left a lot of companies carrying enormous debts. I have cited the case of Travelodge numerous times. Saddled with £500 million in debt by Dubai International Capital when they "bought" the company, it could not service it's debts despite making £50 million in profit. Thus is was handed back to Goldman Sachs et al. and immediately 40% of it's debt was written off. Many other companies have been less fortunate and have declared bankruptcy. A lot of companies are carrying such debt, which was barely serviceable in boom years, and is not in the Long Bust. And these loans are due to be re-negotiated soon.

In any case this simple analysis makes it seem very unlikely that the private sector will lead investment growth. The government is sadly mistaken in waiting for business to kick things off under these conditions. There is no demand at present. And if the government does not wish to get involved then we'll be waiting a long time for demand to increase.

The finance sector holds more debt than all the other sectors put together, including government, but this it owes mainly to itself. The workings of this sector are something of a mystery to me. But their debt servicing costs must be taken into account.

Now, although I've asked many economists what it costs to service our private debts, none has ever been able to tell me. Say the average interest on all the loans is 10% pa. That would mean the interest alone amounts to 44% of GDP every year! This is difficult to believe, but when are the experts going to explain it better?

So with the dearth of good investments and the high risk environment householders with cash are simply saving it. Capitalism is where people with leftover wealth invest it in the creation of new wealth. What we have at the moment is barely worth the name.

Now we got this way because successive governments removed controls put in place after the Great Depression to stop it happening again. Economic theorists apparently believed that they had found a way to avoid the consequences of banks being allowed to create money through issuing debt. At best this was misguided, but since some of them benefited financially (according to interviews in Adam Curtis's film The Trap), we must assume that it was partly deliberate. The rise of free market economics coincided with a rise of NeoLiberalism which sought to reduce the role of government in people getting rich, i.e. to removed other kinds of social safeguards enabling the rich to become richer. And thus not only have we seen repeated recessions and economic disasters culminating in the Long Bust, we have seen wealth inequality growing exponentially. The super rich have continued to increase their wealth despite the Long Bust, whereas most people have less wealth.

So the present cannot be usefully compared to the past just by looking at government debt. Other variables have changed. In particular private debt is very, very much higher than it was in 1945. And this means that we cannot expect a gradual return to prosperity with everyone's wealth keeping pace. We can expect something more like the Japanese experience. Many years of economic stagnation.

That said the UK is still one of the largest economies in the world. We still do £1.5 trillion worth of business each year. Inflation is relatively low. And compared to the rest of Europe unemployment is low. Standards of living are amongst the highest in the world. Things could be a lot worse. They may yet be worse, but for now we're afloat.

Meeting my MP

In July 2012 I went to see my MP, Dr Julian Huppert (LibDem), about the levels of Private Debt in the UK. I showed him the chart from the 2011 Budget Report which showed that private debt was about 480% of GDP.

Afterwards he wrote to me

Thank you for coming to see me at the Guildhall to discuss the concerns you have about private sector debt. 

As discussed, I have now written to the Chancellor to ask for his comments on the issues you have raised. Please find attached a copy of this letter and I will write to you again as soon as I have received a response. 

I hope that this will be helpful and once again, thanks for bringing your concerns to my attention.

What he wrote to George Osborne was this (extract):

I would be grateful to know your thoughts on how levels of private debt can be brought down in the UK and the effect you anticipate that this may have on our economy. Additionally, I would be interested to know what the UK has been doing to encourage other EU countries to work to reduce the amount of private debt they have and what effect you believe this will have on the stability of the Eurozone.

My constituent does not think that the Government is paying due attention to our levels of private debt and it would be helpful if you had any comments which I could pass on to him.

Eight months later I've not had any response and attempts to nudge Dr Huppert on Twitter and by email have not produced any responses. I sent an email on 5th December reminding Dr Huppert that went unacknowledged. I can only presume that this issue is of no interest to George Osborne and that Dr Huppert has given up expecting a reply from the Chancellor - not even a form letter apparently, not even an acknowledgement. 

I'm putting this online in the hope that it might facilitate an answer. I noted earlier this month that the updated chart shows that private sector deleveraging stalled in 2012. The level of debt has been stuck at 440% of GDP for more than a year. I don't think it's too much to ask how the government about these figures.

What is the UK Spending on Debt Servicing?

Since 1 Oct  I've been telling people that the interest payments on our debt take up a significant proportion of GDP each year. I estimated that the interest on the £7 trillions of private debt might amount to about 45% of GDP each year - assuming an average 10% interest rate.

Now in an online review of the 2012 edition Occupy Money, It’s the Interest, Stupid! Why Bankers Rule the World, Ellen brown reports that an economist has calculated the amount in the USA as 35-40% of GDP.

This is bad news for the UK as our private debt is much higher than the USA - which is a factor in why their economy is in recovery and ours is not. Their private debt peaked at 303% of GDP, whereas UK debt peaked at 475% of GDP (according to the 2011 Budget Report). Current rates are about 250% in the USA (according to Steve Keen and this graph) and 450% in the UK.

USA Private Debt 1920-present

UK Private Debt 1987-2010

And note Steve Keen's important point that even now private debt is much higher as a percentage of GDP than it was at the peak that caused the Great Depression.

Now if the USA is losing 35-40% of it's GDP then proportionally the UK is losing much more. I'm hesitant to put a figure on it based on this information it has to be more than 50%. And this is a chilling figure. Imagine if Camoron was right and we were to treat the UK like we were running a credit card. More than half our income is going on interest payments, let alone paying off the principle.

And just a note to acknowledge that Robert Peston wrote about this on the BBC Website in November last year.  His figures are from a different source, I prefer to use the government's own figures - the differences reflect the difficulty in calculating these figures. He has UK private debt at 481% of GDP in 2008 and rising to 492% in 2011 (or £7.4 trillion). The rise is being driven by financial institutions. So actually Peston's analysis is even more pessimistic than mine. I've tweeted him to ask what he thinks the interest payments might be. Chance of an answer is about zero, but one has to try.

Private Debt Stays Behind Closed Doors

This is a graph from the Government's 2011 Budget Report. It shows their estimates of the scale of private sector debt - about six times the level of public debt. The top lighter band is the financial sector. Black is household which is about 80% mortgages, and dark-green is non-financial business.

Curiously neither the 2011 or the 2012 Government Budget have any measures for dealing with this problem. In the 2012 Budget there is barely any mention of private debt. I fact public debt is talked up as the problem. And recent days have seen government minsters blaming this on Labour. In particular the Government's  Budget is silent on the possibility of this massively over-indebted sector borrowing even more money for investment. I cannot recall any government minister mentioning private debt, and I cannot recall any journalist asking sustained questions about it. Some questions came up during Steve Keen's recent book promotion tour, but have died down again.

Many commentators are now saying that the Govt are using the chaos of the ongoing depression to shrink the state for ideological reasons. For example, in an interview with the Guardian, Dr Gabriel Scally formerly of the Department of Health says:

"At the end of the war this country was hugely indebted but within a couple of years had free healthcare and free education for everyone – what an achievement! This government is putting a huge price on education, especially young people seeking to go to university, and is in the process of dismantling the NHS." 

I think this is very likely to be the case. So not only is the government ignoring the primary cause of the depression, its austerity program is doing long term damage and preventing recovery, but they are dismantling or seriously weakening the social institutions that we need to help us get through this.

If you sat down to right a farce about a myopic and incompetent government, you could not do better than the real thing we have now. The UK will be a long time recovering, and we have not seen the worst of it yet.