The temptation to believe in the concept of a free lunch has proved irresistible to numerous governments through the ages. Henry VIII, for example, has seized the popular imagination once again through Damian Lewis’s brilliant portrayal of him in Wolf Hall. Bluff King Hal is the nickname often associated with the King. But to his subjects, especially towards the end of his reign, he was more usually called Old Coppernose. He debased the silver coinage with so much copper that, when the coins were used, the copper shone through the flimsy cover of silver onto his portrait.
The Office for Budget Responsibility recently produced an excellent little document which shows how post-war governments in the UK have indulged themselves in the modern equivalent of coinage debasement. The dry title is “A brief guide to the UK public finances”, but it contains fascinating material.
Since 1948, British governments have run deficits on the public finances in 54 out of the 66 financial years. In the most recent four decades, surpluses have been registered on only five occasions.
It all started off so well. The post-war Labour government of Clement Attlee was heavily interventionist, nationalising the mines and socialising health care in the NHS. But it was also a model of fiscal rectitude. It ran a surplus in every single year until its defeat in 1951, including what is by far the largest post-war surplus in 1948 itself, amounting to nearly 5 per cent of GDP – getting on for £100bn in today’s terms. The Conservatives carried on in the same way. From 1948 until the election of the next Labour government in 1964, public sector surpluses and deficits more or less cancelled each other out over time.
This is exactly how it was meant to be. Keynesianism, as it was originally conceived, required the government to run deficits when the economy was slowing down, to boost demand, but then to offset these with surpluses in the good times. But since 1964, the cumulative size of the annual deficits comes to no less than 160 per cent of GDP. A nice little earner with which to bribe electorates.
Governments have got away with it thanks to inflation. The bonds they issue to finance deficits are mostly denominated in money terms. When they mature, the state simply pays back the face value, regardless of what has happened to prices in the meantime. Even with only 3 per cent inflation, prices double in just 23 years. And this doubling halves the real value of debt issued at the time.
The zero inflation world in which we now live changes the rules of the game. Any debt which is sold to finance public sector deficits will have to be repaid for real. Both George Osborne and Ed Balls are smart enough to understand this. The same cannot necessarily be said for many of their senior colleagues. And the biggest task is to convince the electorate, especially in the subsidised areas of the country, that their living standards from now on will depend upon their productivity. No more free lunches.