Truss and Kwarteng’s tax cutting mini budget has caused disarray on the currency markets, with Sterling tumbling to its lowest ever, meaning rising import prices are likely to cause further inflation. The Bank of England has gone ahead with interest rate rises, warning of more to come – even if it has stopped short from increasing them again this week.
The markets are mainly concerned about the amount of borrowing the new government will need. If the tax cuts and national insurance reversals are combined with the energy subsidies, it’s estimated the government will need an additional £200 billion over the next two years, but there’s a lack of confidence that tax cutting will provide the economic growth to generate the tax revenue required to slash the deficit. In a complete turn around Labour is now claiming to be the party of ‘sound finance’ – Rachel Reeves accusing the Tories of ‘gambling with our money’.
But if Labour was elected and the economy likely to be in a terrible mess, how would it pay for what is a relatively modest programme? (Setting up an £8 billion ‘wealth fund’, won’t turn the UK into Norway and £28 billion of green investment, though a major step forward is not going to pay for the Green New Deal.) Labour is right call for windfall taxes and for higher levels of taxation on the ‘wealthiest in society’ – but so far, it’s only committed to reinstating the 45% income tax upper band, generating just £2 billion.
If Labour, even as it stands at the moment, would have to borrow significantly, a more left-wing Labour launching an assault on the economically powerful, would have to borrow substantially. As is the case with the energy companies now, a real commitment to taxing ‘the rich’ would be a prolonged exercise, with tax loop holes needing to be closed and legal challenges required to requisite funds.
Yet claiming to be ‘fiscally responsible’ also means Labour continuing to subscribe to neo-liberal economic thinking, where the economy is equated to a household and where ‘borrowing’ and ‘debt’ are dirty words – Labour has self-imposed ‘fiscal rules’ not greatly different to those of the Tories. Yet this type of fiscal stringency was blown out of the water when, desperate to protect their economies from Covid, governments borrowed excessively to spend what was necessary. In the UK it is estimated this came out at around £400 billion.
What also became apparent, particularly in the UK, a country which issues its own currency, was that a large amount of Covid funding was provided by government borrowing from its own central bank. This usually took the form of ‘quantitative easing’ (QE) – the Treasury selling bonds (gilts) on the financial markets, and the Bank of England buying them back again. But a government that issues its own currency also has unlimited overdraft facilities with the central bank so funding can take place directly.
Though lambasted by right-wing economists as ‘printing money’ or shaking a ‘magic money tree’, one part of the state (the Treasury) borrowing from the other (the Bank of England) frees up government from having to depend on commercial markets or rely on funds from overseas, both would result in ever higher interest rates. Of course, government can’t go on printing money for ever, particularly if the economy returns to full capacity, but, as with Covid, it can do this to prevent a recession and when inflation is largely the result of external factors – increases in the price of energy being the best example – rather than there being too much domestic demand.
A Labour government (particularly a ‘Left’ one) relying on self-funding would likely have to bring in exchange controls to prevent an astronomical rise in import prices and maybe price controls and would also need to end central bank ‘independence’ (read potential sabotage). The B of E is currently reversing the Covid QE measures, in other words, selling its own stock of government debt back to private investors and thus putting further pressure interest rates at a time when it should be doing the opposite.
But even without this type of self-funding, it would be possible, providing there was wide spread support for a political programme (like the Green New Deal for example), for government to dissuade people from investing in private saving schemes and equity funds and buying new state issued ISAs or other more elaborate bonds. Rules could also be changed to tap into public sector pension funds.
Yet, as a result of the dominance of neo-liberal economic thinking, millions of people remain in the dark about public finances and often because of their own personal circumstances, deeply worried about ‘the country’ getting into debt. Yet if governments issue their own currency, then, can they really run out of it?