Professor Niall Ferguson of Harvard and Scotland has really stirred up the acrimonious US election debate with his attack on Obama in Newsweek. Newsweek is a fairly soft left newsmagazine mostly found in crumpled piles on BA long haul flights. The attack dogs of the left have found 'errors' in the piece which they claim discredit our erudite prof. Did the Congressional Budgetary Office estimate that Obama's medical reforms would add to the deficit? Has Obama's policies created jobs or destroyed them? But does it matter? I suspect not, the argument is much simpler than all of that. As Ferguson made clear in his recent Reith lectures, the western economies have gorged themselves on debt and now it's payback time - big time. The cause of that debt overhang is because we have enjoyed a social wage far greater than we have been willing to pay for. How has this situation come about dear blogees?
Governments, under constant money supply, have just two ways of raising cash. They can do it through taxation, by finding more and more inventive ways of relieving us of what we earn. Or, they can do it through borrowing. The attraction of borrowing is that there are, or were, a lot of potential lenders out there. The last 60 years have seen two periods where debt has become really cheap. In the late sixties and seventies the Arab-Isreali conflicts led to a surge in world oil prices. Large flows
of oil dollars flooded into the oil rich middle eastern states and particularly into the pockets of the wealthy families who had or took control of their governments. They spent those dollars at home but in the end there is only so much you can buy and so they had to 'invest'. This they did - they lent it, via the banks, to any government who asked for it. This created the 1970's first sub-prime crisis as many of those governments around the world were unable to repay. Even the UK had to ask the IMF for a bail-out as the labour government of the day tried to borrow and spend its way out of recession.
In the nineties and noughties, it wasn't oil but cheap labour that sucked the spending power of the west eastwards and into the pockets of the booming Asian economies. If a US consumer can buy a $10 shirt from China or a $30 shirt from Kentucky then China wins hands down. The Chinese, particularly, with a quarter of the world's population in its hinterland prepared to sew shirts for the proverbial song, grew rich on western shirt dollars. And so the financial markets became awash with cash looking for a home. The global banks found it a home. Literally. And so the 2nd great sub-prime crisis became reality. This time consumers borrowed, government' borrowed and the western economies became bloated with debt. Far easier for a government to borrow money than to take it through taxation - they could get reelected that way. They borrowed to spend. In the UK the population loved public spending: welfare, the NHS, more welfare, wars and yes, even more welfare. But, in the end it was unsustainable. In the end the banking crisis narrowly averted in the late 70's and early 80's became the real banking collapse of 2008.
So, what is the lesson? In the end governments cannot spend more than what their people are able and willing to pay for. Indeed, we are slowly beginning to learn that this ability and willingness is very limited. So where now? That is for a future blog.