Rachel Reeves faces no danger of a global “gilt strike”. The likelihood that investors will be spooked by extra borrowing to plug the UK’s infrastructure deficit is close to absolute zero.
You can measure the mood of the debt vigilantes by how much it costs to insure against British bankruptcy through five-year credit default swaps (CDS). The UK’s risk penalty has been falling all year, continued to fall after Labour took power, and has fallen yet further over recent weeks.
As of today, the figures are: Switzerland (6), Germany (10), Australia (12), UK (20), Japan (22), Korea (32), France and Spain (34), US (37), Canada (40), Italy (61), China (63), Saudi Arabia (67), Brazil (146) and Argentina (1031), among the stragglers.
There is not a flicker of worry about UK solvency, even though markets know that the Chancellor intends to reform – and hopefully eviscerate – the Dark Age fiscal rules that have so harmed this country.
Beware false lessons from the Liz Truss episode. It tells us only that markets will punish incoherent and unfunded tax cuts in the middle of an inflation storm.
Global wealth funds can tell the difference between debt to finance investment with a high macroeconomic return and debt to finance spending that is frittered away on consumption.
They can see that the default strategy of cutting net public investment to 1.7pc of GDP by the end of this Parliament is grotesquely anomalous in a world where the US and China are investing trillions in a global arms race for industrial and technology supremacy, and where Europe’s Draghi report is calling for a double Marshall Plan to boost investment by an extra 5pc of GDP a year.
“The rest of the world is betting on AI and energy technology in the biggest transformation ever seen. We’ll just be left behind if we don’t invest,” said Dimitri Zenghelis, the former head of forecasting at the Treasury and now at the London School of Economics.
Yes, yields on 10-year gilts have jumped by 0.45 percentage points since mid-September, but US yields have risen by much the same. The global bond market as a whole has “repriced” to reflect events in America and China. The rise has been less in the eurozone but that is because Europe’s economy is dead in the water.
The UK’s fiscal regime conflates “bad debt” to fund overspending and “good debt”. This has led to the procyclical madness of slashing investment during downturns – because it is easiest to cut – forgetting everything we learnt from Keynes.
Lord O’Neill, the former Goldman Sachs guru and ex-Treasury minister, said chronic underinvestment “has led to a doom loop of economic stagnation and decline”.
The tail-chasing cuts have been self-defeating even on their own crude terms, a forlorn exercise in fiscal waterboarding.
Public and private capital formation in the UK has lagged the G7 average by 4.7 percentage points of GDP over the last three decades. This is the root of the British disease.
The Chancellor can conjure some fiscal headroom by reclassifying the Bank of England’s QE debt along G7 lines. Or she can show real courage and rebuild the UK’s fiscal regime on entirely different foundations.
The Institute for Public Policy Research (IPPR) estimates that she could boost public investment by £57bn a year by switching to a “public net worth anchor” that takes into account the asset side of the ledger as well as the debt side, an idea also floated by those far-Left Trotskyists at the International Monetary Fund.
“Markets would celebrate,” said Lord O’Neill.
If Labour ducks this, its grand plan for “national renewal” will go nowhere – and the Government will fail.
“There is a clear gap between the party’s plans to go for growth and become a clean energy superpower, and the dribs and drabs that are coming out of the Treasury. This cannot go on,” said Mr Zenghelis.
The IPPR plan would allow the UK to lift public investment gradually to the OECD benchmark of 3pc of GDP as the supply chain builds up, and then keep going to 4pc to rebuild a functioning infrastructure gap after years of starvation.
The rule of thumb is that every £1 of public investment can crowd in £3 of private money. If so, the leverage effect would turbo-charge UK growth in the 2020s and entirely change the narrative in this country.
For those worried about debt, note that the states with the highest public investment ratios in Europe – through thick and thin – also have the lowest debt ratios, namely Switzerland (39pc), Sweden (35pc), and Denmark (33pc) vs the UK (100pc). It is an inverse correlation.
Switching to a “net worth” fiscal rule would put matters in proper perspective. While the bean counters were mechanically cutting spending through the austerity years – i.e. cutting through the support struts of the economy – most were unaware that net worth of the public sector turned negative in 2010 and has since collapsed to minus £726bn (ONS data).
“It’s completely meaningless to look at just one side of the balance sheet. Nobody would borrow to buy a house if they thought like that,” said Mr Zenghelis.
There is now a battle royale going on within the economic policy establishment on these questions. The old guard is digging in its heels, but the reformers are winning.
The Office for Budget Responsibility has switched sides. It argued in August that a sustained rise in public investment could have a multiplier of 2.5 in the long run. The debt ratio would be lower after 10 years than it would otherwise have been. Hallelujah.
It now discerns a bumper economic return on investment in roads, railways, airports, utilities, etc. It argued in September that investing more in health care could slow the rise in the debt-to-GDP ratio by 44 percentage points. Indeed. Let us start by sequencing the genome of the whole population: tiny cost, huge long-term gains.
In the end, the issue is anthropological. Britons want an uplifting national project to restore self-confidence and such endeavours always trump theoretical models in the larger sweep of history.
Ms Reeves should never have tied herself to idiocies of the old fiscal rule, but it would be pedantically trivial to demand that she should therefore persist with idiocy.
The Chancellor told the Labour conference that she would usher in a dazzling dawn of “new industries, new technologies, and new infrastructure ... You will see shovels in the ground, cranes in the sky, the sounds and the sights of the future arriving.”
Excellent. Now do it.
Rachel Reeves should ignore dogmas around debt and go for turbo-growth
The Chancellor has a rare opportunity to transform Britain’s approach to public investment