Tuesday, January 20, 2009

Are we going bust?

Well, apparently so, since the government has decided to use more public money to bail out our hopeless banks.

Peter Oborn in the Daily Mail trumpets that

We’re a nation on the brink of going bankrupt

The reason?

'thanks to Alistair Darling's insane generosity last October...It is no longer difficult to imagine the national debt doubling or even trebling if this banking crisis persists for much longer. If that happened, the economy would collapse, Britain would go bankrupt and the receivers would be brought to bear.'

What does that mean exactly? Who are the receivers?

Well, it turns out the receivers are ... us. Or rather, those of us who are net savers over those who are net debtors. So in other words, I owe the money to my Dad, I think.
In fact, national debts exist precisely for the purpose of resolving crises - ours ballooned during the Second World War, but was quickly reduced to more normal levels in the postwar years. At the moment UK national debt is a little over 40% of GDP, although in practice rather more given the liabilities taken on from the banking crisis.
In other words, the UK is in a similar position of a person earning £100,000 a year with a £40,000 mortgage. Not so worrying after all, perhaps?

Well, it's true the bank losses could end up being significantly higher than a year's worth of UK output - even several multiples of it - but as long as British savers are still prepared to take on UK government debt (and with sterling weak, they have few options), the government can keep servicing it. And given the state of the private banking sector, government debt is a relatively attractive prospect for British savers, as the reduction of interest rates on National Savings suggests. It's certainly a better bet than RBS shares. And as the GDP growth returns after the recession, the debt/GDP ratio should be reduced, provided governments run more or less balanced budgets (eventually).

So, Peter Oborn, the UK is probably not going bust. But its banks are, and the government has no option but to bail them out in one way or another. Or, preferably, take them over completely, as our own Willem Buiter argues in his brilliant but terrifying Maverecon blog.