The credit crunch era has seen some extraordinary changes in the establishment view of monetary policy. The latest is this from the Peterson Institute from earlier this month.
On October 1, Prime Minister Shinzo Abe’s government raised the consumption tax from 8 percent to 10 percent. Our preference would have been that he not do it. We believe that, given the current Japanese economic situation, there is a strong case for continuing to run potentially large budget deficits, even if this implies, for the time being, little or no reduction in the ratio of debt to GDP.
Indeed they move on to make a point that we have been making for a year or two now.
Very low interest rates, current and prospective, imply that both the fiscal and economic costs of debt are low.
The authors then go further.
When the interest rate is lower than the growth rate—the situation in Japan since 2013—this conclusion no longer follows. Primary deficits do not need to be offset by primary surpluses later, and the government can run primary deficits forever while still keeping the debt-to-GDP ratio constant.
As they mean the nominal rate of growth of GDP that logic also applies to the UK as I have just checked the 50 year Gilt yield. Whilst UK yields are higher than Japan we also have (much) higher inflation rates and in general we face the same situation. As it happens the UK 50 year Gilt yield is not far off the annual rate of growth of real GDP at 1.17%.
They also repeat my infrastructure point.
To the extent that higher public spending is needed to sustain demand in the short run, it should be used to strengthen the supply side in the long run.
However there are problems with this as it comes from people who told us that monetary policy would save us.
Monetary policy has done everything it could, from QE to negative rates, but it turns out it is not enough.
Actually in some areas it has made things worse.One issue I think is that the Ivory Towers love phrases like “supply side” but in practice it does not always turn out to be like that. Also there is a problem with below as otherwise Japan would have been doing better than it is.
And the benefits of public deficits, namely higher activity, are high…….The benefits of budget deficits, both in sustaining demand in the short run and improving supply in the long run are substantial.
Are they? There are arguments against this as otherwise we would not be where we are. In addition it would be remiss of me not to point out that one of the authors is Olivier Blanchard who got his fiscal multipliers so dreadfully wrong in the Greek crisis.
UK Policy
If we look at the latest data for the UK we see that in the last fiscal year the UK was not applying the logic above. Here is the Maastricht friendly version.
In the financial year ending March 2019, the UK general government deficit was £41.5 billion, equivalent to 1.9% of gross domestic product (GDP) ; this is the lowest since the financial year ending March 2002 when it was 0.4%. This represents a decrease of £14.7 billion compared with the financial year ending March 2018.
In fact we were applying the reverse.
Fiscal Rules
The Resolution Foundation seems to have developed something of an obsession with fiscal rules which leads to a laugh out loud moment in the bit I emphasise below.
Some of the strengths of the UK’s approach have been the coverage of the entire public sector, the use of established statistical definitions, clear targets, a medium term outlook, and a supportive institutional framework. But persistent weaknesses remain, including the disregard for the value of public sector assets, reliance on rules which are too backward or forward looking, setting aside too little headroom to cope with forecast errors and economic shocks, and spending too little time building a broad social consensus for the rules.
Actually the “clear targets” bit is weak too as we see them manipulated and bent. But my biggest critique of their obsession is that they do not acknowledge the enormous change by the fall in UK Gilt yields which make it so much cheaper to borrow.
Today’s Data
That was then but this is now is the new theme.
Borrowing (public sector net borrowing excluding public sector banks) in September 2019 was £9.4 billion, £0.6 billion more than in September 2018; this is the first September year-on-year borrowing increase for five years.
Actually there was rather a lot going on as you can see from the detail below.
Central government receipts in September 2019 increased by £4.0 billion (or 6.9%) to £61.2 billion, compared with September 2018, while total central government expenditure increased by £4.3 billion (or 6.8%) to £67.6 billion.
As to the additional expenditure we find out more here.
In the same period, departmental expenditure on goods and services increased by £2.6 billion, compared with September 2018, including a £0.9 billion increase in expenditure on staff costs and a £1.6 billion increase in the purchase of goods and services.
The numbers were rounded out by a £1.6 billion increase in net investment which shows the government seems to have an infrastructure plan as well.
It is noticeable too that the tax receipt numbers were strong too as we saw this take place.
Income-related revenue increased by £1.7 billion, with self-assessed Income Tax and National Insurance contributions increasing by £1.1 billion and £0.6 billion respectively, compared with September 2018.
VAT receipts were solid too being up £500 million or 4%. But the numbers were also flattered by this.
Over the same period, interest and dividends receipts increased by £1.6 billion, largely as a result of a £1.1 billion dividend payment from the Royal Bank of Scotland (RBS).
Stamp Duty
We get an insight into the UK housing market from the Stamp Duty position. September was slightly better than last year at £1.1 billion. But in the fiscal year so far ( since March) receipts are £200 million lower at £6.3 billion.
Comment
We find signs that of UK economic strength and extra government spending in September. They are unlikely to be related as the extra government spending will more likely be picked up in future months. If we step back for some perspective we see that the concept of the fiscal taps being released remains.
Over the same period, central government spent £392.4 billion, an increase of 4.5%.
The main shift has been in the goods and services section which has risen by £11.6 billion to £145.7 billion. Of this some £3.5 billion is extra staff costs. Some of this will no doubt be extra Brexit spending but we do not get a breakdown.
As to economic growth well the theme does continue but it also fades a bit.
In the latest financial year-to-date, central government received £366.5 billion in receipts, including £270.0 billion in taxes. This was 2.8% more than in the same period last year.
How strong you think that is depends on the inflation measure you use. It is curious that growth picked up in September. As to the total impact of the fiscal stimulus the Bank of England estimate is below.
The Government has announced a significant increase in departmental spending for 2020-21, which could raise GDP by around 0.4% over the MPC’s forecast period, all else equal.
If we move to accounting for the activities of the Bank of England then things get messy.
If we were to exclude the Bank of England from our calculation of PSND ex, it would reduce by £179.8 billion, from £1,790.9 billion to £1,611.1 billion, or from 80.3% of GDP to 72.2%.
