Archives for January 2015

Forgive us our debts!

An open letter to Messrs. Osborne and Balls

Dear George and Ed,

Are you seeking a policy that you can surprise markets with on the first day after the General Election, just as Gordon Brown managed when he made the Bank of England independent in 1997, that you cannot talk about ahead of the election, but has no cost and will probably boost your chances of winning the 2020 election?

Well here it is – tell the Bank of England to cancel all the government bonds it has bought through its QE policy intervention in financial markets. I am sure your advisers have already produced papers looking into this for you. Obviously if one of you announces it before the election, the other will denounce it as dangerous and totally irresponsible but I think it works for whichever of you is Chancellor in May.

The Bank of England bought £375bn of gilts in their quest to support the UK economy between 2009 and 2012, which represents about 25% of the total gilts outstanding and about 23% of UK GDP. Since the Bank of England is an arm of the UK government (though acts independently when setting monetary policy) then these gilts represent debt that the UK owes to itself – each year the government pays interest on these gilts to the Bank of England, which books the interest as income and can be used to pay a dividend back to the government. On the national balance sheet, the gilts are an asset of the Bank of England but a liability of the government, and so cancel each other out. Although when QE was originally announced in 2009, it was expected to be temporary and would be unwound (ie the gilts sold back into the secondary market) when policy was to be tightened again, it is now clear that this remains a long way away and policy tightening will initially be implemented through interest rate increases. These gilts will be held for a long time.

The advantage to you in cancelling these gilts is that the ratio of debt to GDP falls from around 90% of GDP to around 70% of GDP and the UK balance sheet suddenly looks much healthier in absolute terms and compared with the major European countries as well as the US and Japan. The pressure from being an economy with too much debt disappears and gives you as politicians much more flexibility in how rapidly you need to deal with the debt. Further, ahead of the 2020 election you will have lots of very attractive charts showing that the UK has much less debt than all those around – what a sound economy the UK will seem to be!

What are the downsides? – well, the Bank of England will technically be bankrupt since the value of the bulk of its assets fall to zero, but that doesn’t matter because it can then print the money it needs to rebuild its capital base. This will enable to others to say that it represents pure money printing on a permanent basis, which may be argued to be hugely inflationary and risky. But this has been the case for almost 6 years now with QE and there are still no signs of these inflationary risks – all that is happening is that the pretence that QE will be reversed has been taken away. Also it does rather suggest that the Bank of England is not actually independent of the government – however, since the financial crisis it is very clear that governments and central banks around the world have been working together rather than independently of each other – central bank independence is a convenient illusion.

A bold act to start the next government which costs nothing to implement and provides lots of advantages to you ahead of the next election – what’s not to like?

Kind regards,


The Greek New Year

While Europe relaxed during their Christmas holidays, Greek MPs were unable to elect a new President and a general election has been called for January 25. The opinion polls show Syriza the radical left party with a 3% lead. The Greek parliament has 300 MPs, 250 of whom are elected on a proportional representation basis, but the other 50 are awarded to the party which wins the greatest share of the vote.

In recent weeks Syriza have been toning down their aggressive rhetoric about unilaterally defaulting on Greek government debt, possibly in a bid to gain more moderate votes. In addition if the current polls are correct, Syriza will not achieve a majority of 151 MPs and will thus need to enter into a coalition with a more moderate party. Markets have thus become a little more hopeful another Greek financial crisis will be avoided.

Syriza’s economic policy has 3 strands:

  • A restructuring or forgiveness of much of the €370bn debt owed by the Greek government
  • An end to the austerity measures,  an end to the Troika (the IMF, ECB and EU) oversight of Greek economic policy and increases in wages, pensions and benefits throughout Greece, and

3)      Remaining in the euro

The first could be easily conceded on pragmatic grounds. 80% of the debt is owed to the Troika and it is generally accepted that most of it is unlikely to ever be repaid. However politically, any formal restructuring agreement would set a precedent that Ireland and Portugal might be keen to emulate, and thus be unappealing to the Troika (and Germany in particular who have effective veto power here).

The second and third demands are, however,  not acceptable (to the Troika) as a pair. If Greece wishes to remain in the euro (and polls show over 70% of Greeks wish to stay in the euro) then limits to government spending and deficits are part of what is required of all countries.

In recent days senior German politicians have made it clear that they would not be unhappy if Greece decides to leave the euro. Documents from the 2010-11 crisis that have recently become public show that many in Germany would have been quite happy not to rescue Greece and force it out of the euro then, but it was Angela Merkel that ultimately decided the contagion risks of a Greek exit were too high. This time around the contagion risks are generally believed to be very much lower and that the Eurozone could let Greece go without a wider crisis.

So the end of January and early February are likely to see negotiations to form a Syriza-led government and the end of the March is the deadline by which a new agreement with the Troika over Greek austerity is due. Either Syriza or the Germans will have to blink first!