IT is often forgotten that Britain has defaulted on its national debt in the past. The Great Conversion of 1932, after another economic and financial crisis, was a humiliating moment for what was then the British Empire. After much negotiating, the UK’s costly five per cent first world war bonds were turned into new, cheaper 3.5 per cent bonds. The bonds were effectively swapped into new, lower-yielding ones; yet most investors were not paid off in cash at par, which is what they would have been entitled to. But what was most remarkable about the whole process was that it took place (more or less) voluntarily. Roughly 70 per cent of the £2.1bn outstanding was converted during the process, which was based around patriotic fervour and massive pressure on large investors.
There is no way such a voluntary renegotiation would be possible this time around, if for no other reason that so many of our IOUs are held by unsentimental foreign investors. And because of modern accounting rules and the fact that UK gilts are insured against default, an explicit UK default would be catastrophic.
So what would happen were the government unable to sell enough gilts to pay for its spending, or if soaring interest rates start to guzzle up an ever greater share of public spending? One option, of course, would be to print money or restart quantitative easing. But this would have disastrous inflationary consequences.
Another option would be to approach private banks for emergency bridging loans. In 1931, Britain was in crisis and was hemorrhaging an unprecedented £5m worth of gold bullion per day in its desperate bid to remain in the gold standard. The Treasury approached JP Morgan for an emergency loan; the approach rebuffed because of the dire state of the UK’s public finances. The same would happen this time round: private banks – who have just been hit by supertaxes -- are not exactly in the mood to do the government a favour.
We could try to borrow from the Chinese or – like Barclays was originally forced to do – to turn to Middle East investors, who hold a lot of sterling, or to other sovereign wealth funds. The geopolitical consequences of such a move would be too disastrous to contemplate; fortunately, there is no way either Labour or Tories would stoop to such a degrading policy.
A more likely outcome would be another IMF bailout. Our first took place in 1968-1969; our second in 1976. Both were deeply humiliating. They
triggered the pull-out of all UK troops East of Suez and convinced the British establishment that it had no choice but to join the European Union. It took until the early-2000s before one could really say that Britain’s establishment had recovered psychologically and was no longer merely programmed to manage decline.
There have been two truly successful fiscal reform programmes in the 20th century: in the 1920s, expenditure was slashed across the board by 30 per cent (six per cent after adjusting for inflation). In the 1930s, a run on the pound and the government's inability to borrow from overseas also forced cuts (though at the cost of a Royal Navy mutiny). As an excellent report from Andrew Lilico of Policy Exchange points out, public spending was slashed from 27.2 per cent of GDP in 1931 to 23.5 per cent of GDP in 1934, a cash fall of 9.6 per cent and almost six per cent in real terms. We desperately need to make a similar effort today. firstname.lastname@example.org