One of the many curious things about Foreign Secretary Liz Truss is that she has the capacity to drive some people around the twist. There are the Trussites, hovering over her Instagram posts in political adoration, and then there are others who consider her a menace who is about to be made Prime Minister in a sinister conspiracy by Brexiteers.
At least she is willing to challenge the groupthink of the Bank of England and the Treasury, both of which are full of clever people who have manifestly failed to manage the inflationary shock currently knocking us all off our perches. At the weekend, it was reported that Ms Truss believes that the debts run up by the government during Covid ‘should be hived off into a separate pool and paid off more slowly, as Britain did with its war debts’.
This attracted the attention of the economics editor of the Financial Times, Chris Giles (who in fairness is usually happy to challenge the Treasury). ‘Sometimes I despair, if Liz Truss thinks that increasing the longevity of a portion of the UK debt makes it cheaper/disappear, we are in serious trouble.’
In fact, what Liz Truss is suggesting is perfectly respectable, as anyone with a passing knowledge of financial history would be able to tell you. And if it didn’t make the national debt disappear, it would certainly make it cheaper and more manageable.
As part of the wholesale reform of British institutions after the Glorious Revolution of 1688, there was also a financial revolution. This began with the importing of so-called ‘Dutch finance’, in other words a Stock Exchange and a Central Bank, with the founding of the Bank of England in 1694.
The financial revolution progressively put the national debt on a more trustworthy footing. The hotch-potch of lotteries, short term loans and annuities, which the Crown relied upon to borrow, was progressively replaced with bonds, or gilts, with the interest to be paid by tax, ring-fenced by parliament for specific purposes. Investors were delighted. In 1751, the Consolidate Loan Fund and National Debt Redemption Act created a new innovation. Not only did this consolidate all borrowing into one fund, but it also created a new type of bond, consols, which was effectively perpetual.
In other words, the Bank of England could issue £100 nominal on behalf of the Treasury, paying interest of say 3 per cent or £3. These amounts were fixed. And the brilliance of consols was twofold. First, economic growth and inflation made the cost of funding them effectively cheaper over time, relative to the size of the economy. And second, paying them back or redeeming them was entirely at the discretion of the government.
This process is explained in a handy paper called I Owe You, A Churchillian Solution to the National Debt by Eamonn Butler and Gabriel Stein for the Adam Smith Institute (indeed it was this paper specifically which caught Liz Truss’s attention). But you can read about it in dozens of economic history books, notably The Cash Nexus by Niall Ferguson.
Consols were the ideal instrument for funding emergencies such as wars or pandemics. They explain why the British state was able to cope with debts of over 250 per cent of GDP after the Napoleonic wars, the first and the second world war (more than twice the current level of 95.5 per cent). It was the British financial system, raising money at low rates of interest, which prevailed over Napoleon, the Kaiser and Hitler, not simply force of arms.
In 2015, George Osborne took the questionable decision to stop issuing consols and to pay the remaining issues back, thereby bringing the shutters down on the consol market. This should be reversed. States don’t take out insurance policies to fund crises, they are too big. Instead, they should insure themselves through perpetual or long term bonds, spreading the cost of one-in-a-hundred years events over decades. Far from being shouldered with the cost of today’s spending, future generations benefit from wars, emergencies, disasters and pandemics being successfully resolved and the subsequent economic growth that success brings. The costs to later citizens are trivial relative to the gains; winning wars and weathering pandemics makes them better off than they otherwise would be.
It is the failure to treat Covid and the consequent costs as a one-off which is Rishi Sunak’s founding error. Instead of doing that, he has embarked on a crazy dash to balance the budget within five years and reduce the national debt to a modest 80 per cent by raising taxes to the highest level for 70 years. No attempt has been made to differentiate emergency Covid spending from the other, more frivolous demands of the Prime Minister. We really don’t need to worry about the public finances nor be subjected to the current levels of taxation, as long as we are sensible, controlling and accounting for spending properly and keeping some historical perspective.
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