It was Bill Clinton who observed that elections turn on the economy – “It’s the economy, stupid!” But mass media has left us largely in the dark as to what economic policy a Trump administration might pursue. Will Americans find themselves on the receiving end of round after round of British-style austerity policies that favour the corporate elite at the expense of ordinary people? You might expect this from a right-wing administration, but apparently not. Trump has actually pledged to:
“…create a million good quality jobs across our country and guarantee a decent job for all, by investing $500 billion in infrastructure, manufacturing and new industries… We will invest in the energy, transport and homes that our country needs and allow good businesses to thrive.”
This is economic policy straight out of the Keynesian playbook: Use government borrowing and spending power to stimulate growth in the real economy as a means of overcoming depression. And Trump does not stop there. This will be achieved at the same time as Americans will be receiving tax cuts.
This should raise an obvious question: “Where, pray, are we to find this $500bn if we are cutting the tax income of an already heavily-indebted government?” There are only two choices. Either Trump must call up the Federal Reserve and ask them to print up $500bn in crisp new $100 bills, or he has to go to the markets to borrow it. This latter option is the one he intends to do. After all, with interest rates below 1%, there has never been a better time to borrow. What could possibly go wrong?
What could go wrong, of course, is that interest rates could go up. What might cause them to do so? Well, the government going to the market to try to borrow $500bn would be a really good way of pushing interest rates through the ceiling.
The reason we currently enjoy low interest rates is that central banks around the world have worked together to use quantitative easing (QE) to buy back their outstanding debt. This has been taken to an extreme in Japan (with the result that its economy has stagnated for more than a quarter of a century) where the central bank “owns” almost all of the government’s debt. QE involves the central bank printing new “central bank reserves” (a special type of currency that banks use to trade with one another) and using these to buy government bonds (i.e. outstanding government debt) from the banks. Because the price of bonds and the interest rate have an inverse relationship, by creating a shortage of government bonds, the central bank forces interest rates down.
So Trump’s plan to issue an additional $500bn in new bonds – which is how governments borrow – will lower the demand for bonds (because there are more of them), thereby lowering the price and thus pushing up the interest rate. Nor does the problem stop there. The new higher interest rate does not only apply to the new bonds, but to all outstanding public (and private) debt. The already indebted US Treasury would find itself unable to service its existing debts at the higher rate.
In such circumstances, the only option on the table would be to try to inflate the debt away by printing new currency. But this simply shifts the problem to the other side of the equation. The government can now service its debts, but the price of everything it spends money on will be rising accordingly. Moreover, higher interest rates and/or inflation will cripple an already beleaguered private sector which never fully recovered from the crash of 2008. All of the “zombie” companies and households that have been surviving on low interest rates will end up bankrupt when rates and/or prices spike up. Were this to happen, the “too big to fail” banks – whose “assets” are all of the debt that companies and households owe them – would be plunged into a crisis even deeper than the one that hit in 2008.
So why is this a problem for the left? Well, while it is true that Donald Trump has said that he wants to borrow $500bn to invest in US infrastructure, the quote at the top of this article is from the British Labour Party. They, too, are promising to borrow £500bn at low interest rates to spend on infrastructure. The US Democrats are also wedded to infrastructure spending as the route back to prosperity. They, too, are setting themselves up to fail for the same reasons that Trump is.
Politically, the left should be terrified that Trump is going to do this in 2016. When the policy fails – probably at some point in 2018 – Trump can quite reasonably point at the Democrats and Labour to show that they would have done the same thing. Worst than this, it leaves the left scuttling around desperately trying to develop an alternative economic policy at exactly the point in the electoral cycle when they need to convince their electorates of their economic competence.
Rather than allow themselves to be pulled down with Trump’s sinking ship, the left would do well to understand the fundamentals of our current economic malaise and develop a policy to meet it. The starting point for this is to escape the intellectual morality trap around private debt.
Our economic malaise stems from the banking and finance industry printing currency out of thin air and then loaning it to as many companies and households as possible in the years before 2008 (for a good introduction to how this works, this presentation by David Malone is well worth watching). Thanks to Mr Osborne’s Help to Buy (the next election) scheme, levels of private debt are now back to those last seen before the crash. Demand in the economy has collapsed because too many of us are struggling just to service the debt that we already have. Insufficient new borrowers are coming along for us to borrow and spend our way to recovery.
Infrastructure spending is seen as a morally acceptable means of generating demand by allowing the government to act as a surrogate borrower. However, because of politicians’ insistence that the money has to be spent on the kind of things that you would get the Queen to open – Heathrow expansion, Cross Rail, HS2, Hinkley Point C, etc. – the spending seldom results in anything useful to the wider economy. Using the government’s unique ability to print currency in order to write off debt, by contrast, would be regarded as highly immoral. To do so would be to reward profligate borrowers when they should be punished. But this misses the – economic and political – point. In the same way that punishing Germany through reparations after the First World War resulted in depression, the rise of the Nazis and the catastrophe of the Second World War, punishing indebted households and businesses has caused depression, has given rise to right-wing demagogues and may well ultimately lead us to war.
Only when we have found a means of paying off the massive debts that we have already run up can we invest in a new round of economic growth. We can do it in two ways. We can adopt the nonsense policies of Trump and the left, resulting in too high interest rates and/or inflation. The result is that millions of households and companies will take a leaf out of the Trump playbook and declare themselves bankrupt. The alternative is that government can print money to write off the debt in a manageable way. For example, in the 1930s, President Roosevelt used government money to buy the houses of indebted mortgage holders, who would then rent their homes back at a social rent. Such a scheme today – provided it offered secure long-term tenancies at a social rent – would be pounced on by millions of mortgage holders who are currently struggling to service mortgages taken out before the crash of 2008. In the same way, paying off company debt in exchange for a stake in the business would be an attractive alternative to rolling over bank loans just to maintain the debt.
The real beauty of these types of scheme is that they are not inflationary. Because of the way currency is created, when a debt is paid off, the money simply vanishes from the economy. The bank simply removes the amount owing from the asset column in its ledger.
But surely there must be loser in this? Well, yes… the banks! But only in the sense that they are receiving government currency printed out of thin air as a replacement for the bank credit that they themselves printed out of thin air. And even then, only in the short-term; since renewed economic growth will allow the banks (at least the one that aren’t bankrupt in all but name) to prosper in future.
The left will not entertain this, of course. Instead, they will follow Donald Trump down the drainpipe of history. Bereft of a workable economic policy, the left will cede the 2020 elections to another – probably even worse – manifestation of right-wing demagoguery. I hope I’m wrong… but I fear the worst.