A Bond Market Specialist's Response to People Who Think the Bond Market Doesn't Matter
yes we will burn your house down if we feel like it
Introduction
There are a bunch of dim left arguments1 that say that the bond markets don’t matter so countries can borrow what they like. Here is one of those:
The author is an economist at a respected think tank but does not, AFAIK, have any bond market experience. I do. Lots.
What I’m going to do is Fisk it. That means list a bunch of quotes and show you why they’re wrong. Just before I do that I’ll add the motivation point. People on the left want to believe that countries can borrow any amount of money because that would be great. Hell, I want to believe it. You could multiply the science budget by 10.2
Quotes
The headline is “Liz Truss is long gone – but her fiscal meltdown still dictates every step Labour makes.” Liz Truss, if there is anyone who doesn’t know, was a very short-lived UK Prime Minister who was ejected from office by the bond markets (this should be your first clue that maybe the bond market do matter…). This happened because she launched a “mini-budget” that contained a lot of unfunded tax cuts and a complicated feedback loop involving pension fund leverage then blew up the Gilts market.3
So we know immediately where the author is headed, which is a virtue of an argument. He will claim that this episode is causing unnecessary spending caution in the current government even though the episode in question happened to a different government in the past. In other words, the bond market doesn’t matter.
The first two paragraphs are attacks on Liz Truss. She was incompetent, so this is fine, but it doesn’t really advance the author’s argument. Unless he wants to imply “rules that bind incompetent Prime Ministers do not bind competent ones.” He does not however advance that claim directly so we can simply dispense with this opening. In philosophy grad school, your supervisor strikes out the first two paras and writes “your argument begins here” in front of para 3. 4
In para 3 we get to the meat. Last week the UK government tried to move in the direction of5 balancing the books by reducing the amount of money given to disabled people6 by £5bn. The government then failed to get this through Parliament des[ite holding 403 out of 650 seats in the House of Commons for a massive majority of 165. This is another kitten/conniption factor (the first was in a footnote so you should really read those). It reflects the fact that the majority of Labour MPs are subsidy allocators. They used to work at a charity, or they did PPE at Oxford and became Spads. None of them have ever generated cash or run anything.7
“While all the talk from this government was about getting disabled people into work, they presented no real evidence that siphoning money away from this group will achieve this.” This reflects political reality. The purpose of this bill was not to get disabled people into work. It was to save money. That’s why it failed, indicating the government cannot save money. Or indeed reduce its spending level from anything less than “full on drunk sailor after ten years at sea” mode.
Then we get mention of the fiscal rules. These are designed to be a useful heuristic which tells you when you are borrowing too much. Why were cuts wanted? “Because the possibility of not meeting the fiscal rules was apparently spooking the markets.” This is disingenuous. There is no doubt at all that this possibility was taken very seriously by markets. I’m not sure if we were “spooked.” The point though is this. We have a choice whether to buy your bonds. We can but other bonds (it’s a big world out there) or not buy any bonds. If you do anything we don’t like, we definitely won’t buy your paper unless you bribe us to do so by putting the coupon up. (Which you can’’t afford because you already borrowed so much from us. You’re welcome.)
The author then describes the fiscal rules as a “self-imposed straitjacket” under which “governments believe they can only spend if the economy is growing and borrow if the bond markets nod approvingly.”
It’s not self-imposed. It’s imposed by us — bond market participants. We took out Truss and we can do it again.8
The implication is that these two statements are false and that governments are wrong to believe them. The important ratio is debt/GDP. You can borrow any amount for investment.9
So it’s sort of true that governments can only spend if your economy is growing, but only because you already used up all of your debt capacity. The real problem is with the second claim. This devolves to ‘you can only borrow from the bond market with bond market approval.’ Denying that looks odd. Why do you think you can borrow from us without our approval? Or if you have another source of funds, maybe you should name it.
The author then says that the public sector needs money (true) and that if you can’t borrow, the other options are tax raises and cuts. Also true. But then he says that the bond market will lend more whether it wants to or not.
“It doesn’t matter that the markets themselves aren’t demanding cuts, only that politicians think they might.”
We are demanding cuts. The reason it looks like we aren’t is that we are a bit like the suited, booted and Rolexed10 antithesis of Occupy Wall Street. We are a bunch of guys.11
Our demands are not set out by a committee. We have not drawn a line in the bloodstained sawdust where debt/GDP can go up to x and no further. But it’s there. We just aren;t telling you where it is. It’s close though. And you will find out about it when you try to sell us bonds and we stay in the Maldives with our phones on silent.
The author makes a case for public investment. We like public investment. His examples are “infrastructure, childcare, health, skills.” Objection one: this is a list of things that potentially qualify as investment. Welfare spending doesn’t.
Infrastructure. Absolutely. Go ahead. This boosts GDP so will help the ratio of debt/GDP so we’re here for it.
Childcare. No. There’s plenty of people in the world. We need fewer not less. 12
Health. No because there’s plenty of people in the world.
Skills. Yes. Go ahead again. Not too much in the overall picture, because it’s harder to measure than bridges or railway lines or supercomputers, but go ahead.
So where does welfare spending on disabled people fit in there? I don’t see the vector by which that spend adds to GDP. 13
The author does state a symptom of the problem correctly at the end where he says that as this situation continues, “the more we’re left asking why nothing ever seems to change.” This is a real problem, and is likely to mean a deeply incompetent Farage government next time.14
And the answer is that nothing ever changes because the UK has had no productivity growth since 2008 and the bond markets won’’t give you any money because your debt/GDP ratio looks bad to us. Level and prognosis. So this acknowledgement of the author’s is I would say the final gilt-edged nail in the coffin of his argument. Bond markets matter a lot. All we have to do is not take your call and you’re screwed.
Now you think I am a reflexive rightist who doesn’t think about the answers to questions but just gets them in a job-lot kit from one side or the other. So people who like low taxes are also against abortion. (Why?) I’m not. I have a four-quadrant diagram for political “arguments” with the axes being “smart vs dumb” and “left vs right.” What I am going to challenge here is a dumb left argument. An example of a dumb right argument would be “those foreign people are the problem.” A smart left argument would be “efficiency in public healthcare spending is a good argument for more of that spending.” A smart right argument would be “highly skilled people from abroad are great for the economy so let’s massively expand those visas.”
You could actually do that, because it would pay you back. But that’s a utopian fantasy for Newton cosplayers without enough apple trees in the orchard.
Gilts is what UK sovereign bonds are called. Everything I describe here applies elsewhere, including the US, where it would take place on a much larger scale, adequate to threaten the entire world economy.
I know it’s “graf” for journeys but I can’t be that affected.
This failed attempt was nowhere near enough which should be enough to give you gold-plated kittens on its own.
I know three people in receipt of disability benefits. One of them fully deserves assistance and as a result of that assistance led a full working life training students and paying tax. The other two are lying charlatan parasites. I don’t claim this anecdotal evidence reflects the entire picture. But I do know for sure that the real damage done by the cheats is to the people who really need help.
It’s not a response to say “the other lot are worse, or they did Brexit which was a disaster. They are, and they did, but that response is strictly speaking irrelevant unless we live in a binary world of two choices. The world is more complex than that.
The part that always amazes me is where people say “they have to give us more money.” why? Why do we have to do that? we get fired for losing money (maybe you never lived in a world like that)
This is actually really generous of us if you think about it.
We don’t wear ties anymore.
Not many female traders but more now than previously. They think like we do.
Because that would solve climate change. See I told you I’m not a knee-jerk dumb right type.
I don’t have a specific problem with disabled people. I know you think I do. But actually I am pointing out that all welfare spending hurts debt/GDP. It would be great if that weren’t the case. But it is. I don’t make the rules. I’m just telling you how it is. And btw, if you are one of these people who wants to curt defense spending so we can fund benefits, check the relative numbers. Right before you consider that the choice can be between “we all die but some people keep their benefits” and “we don’t die and some people lose their benefits.”
That will only last one term, because it will say “the foreigners are the problem,” which is false. They will then either fail to stop the boats and get booted out. Or they will stop the boats but nothing will improve, and they will get booted out. Either way, the real problem is that dumb governments cause a whole host of permanent problems like low vaccination rates. and you can decide for yourself whether we are going to lend any money to Farage. If we don’t (spoiler: we won’t) then government spending has to fall to match government income in real-time and that would mean some cuts that make “austerity” look like a good day at blood beach.