Concern about the UK’s trillion dollar national debt could stifle the action needed to make it sustainable, argues Alan Shipman.
When economists consider the £1.7 trillion debt of UK businesses, or the £1.5 trillion debt of UK households, they also look at the other side of the balance sheet: the assets that the private sector has financed with those debts. These are worth much more than what’s been borrowed, meaning firms’ and households’ balance sheets actually remain (in aggregate) very healthy. Businesses’ assets exceeded their liabilities by £28 billion in 2010. For households, the surplus was a comfortable £7.7 trillion, despite the large number of luckless home-owners in negative equity. Before the crash, households’ debt rose dramatically in proportion to their income (from 100% in 1998 to around 170% in 2008 according to the bank of England, but low interest rates kept this affordable, and house price rises held down the growth of debt in proportion to household assets.
It’s what you own, as well as what you owe
Public debt deserves the same balanced view. True, much of it has been run up to finance wars and current expenditures with no lasting asset creation. But a considerable proportion has gone into useful things such as roads, national defence and security, police and judicial systems, and the networks for rail, power, telecoms, gas and water distribution before they were privatised. Although these are harder to put a price on (until they’re sold off), a fair valuation of these assets shows they’ve greatly exceeded public debt, throughout the post-war period. And though their value has dropped a little since the financial crisis, it’s far more stable than that of the financial assets in which the private sector tries to hold much of its wealth.
Until now, that is. Unfortunately, latest data shows that public debt has now drawn level with public assets. Public sector net worth (PSNW), the difference between the two, fell from a peak of £421 billion in 2007 to -£200 million in 2010.
Does this mean – as Conservative ministers like to imply – that the Coalition inherited a bankrupt state? Not really. Credit rating agencies – rendered ultra-cautious by their failure to spot the flaws in US sub-prime debt before 2008 – wouldn’t be standing by the UK’s top AAA sovereign credit rating if they believed it no longer had assets to set against its debts. The sudden drop to being Public Sector Net worth-less is almost entirely due to the government having to rescue the two biggest banking groups in 2008, thereby taking their liabilities (and those of Northern Rock) onto its balance sheet.
Financial corporations’ liabilities exceeded their assets by £315 billion in 2010. This corresponds to the jump in public-sector liabilities to £915bn in 2010 from £608bn in 2008. And it’s little more than an accounting transfer. The nature of modern banking means that financial corporations operated with negative net worth throughout the past decade (the gap was bigger in 2002, at £343 billion in current prices, than in 2010). The only difference is that ten years ago the biggest banks could stand on their own feet, whereas today it takes a large public shareholding to keep them afloat.
Time to rebuild
Public-sector net worth did fall sharply in the 1980s and 90s, when governments privatised public assets (including state-owned industries and council houses) below their market value, often holding on to some of their debt to make them saleable. It is now set to recover as the government uses its record low interest rates to borrow for more big infrastructure-building – including Olympic follow-ups and HS2.
At a time when private companies are repaying debt or sitting on cash because they can’t see anything worthwhile to invest in, the government has a golden opportunity – to finance a much wider range of projects (from better educational facilities to flood defences and renewable energy generation) that could help to revive the economy in the short term, as well as having a highly profitable payback in the longer term. Private investors have an unfortunate tendency to borrow most freely (and banks to lend most liberally) just at the moment when asset prices start to drop and debt costs to rise. Governments are well placed to counter this mistake. Fretting about UK public debt, without looking at the assets it’s secured against, betrays a one-sided view that could stand in the way of recovery.
Alan Shipman 29 January 2012
Alan Shipman is a lecturer in Economics at the Open University. He is responsible for the modules You and your money:personal finance in context and Personal investment in an uncertain world, part of the foundation degree in Financial Services.
Cartoon by Gary Edwards
