Fiscal consolidation in earlier British history

Martin Wolf writes:

In 1816, the net public debt of the UK reached 240 per cent of gross domestic product. This was the fiscal legacy of 125 years of war against France. What economic disaster followed this crushing burden of debt? The industrial revolution.

There is more here, gated by the FT.  This is an excellent point but I will ask whether this is an argument for or against fiscal consolidation (without meaning to suggest that the British should raise taxes further or borrow less right now).  The industrial revolution is a tough act to pull off again.  By the way Martin reports:

Between 1815 and 1855, for example, debt interest accounted for close to half of all UK public spending.

The broader numbers are interesting too.  During the 19th century British consols generally yielded three to four percent.  By Wolf’s account British growth was about two percent for the first half of the 19th century.  So there was in fact some fiscal consolidation, because at those differential numbers growing out of the debt will not work.  Note for instance that during the 19th century Britain introduced or expanded some fundamentally new methods of taxation, such as the income tax.  In this sense the scope for “do it on the path toward larger government” fiscal consolidation was unprecedented and could not be replicated today.

What actually pulled Britain out of its debt problem was the Victorian growth spurt in the third quarter of the 19th century, which I consider part of the most revolutionary period of technological progress in all of human history.  Again, that may be hard to replicate.

There is good evidence that the British experienced crowding out of capital investment during their period of peak debt (pdf) and in that sense the burden was paid all along.  That situation is different today.

Your mileage on this one may differ, but in the 19th century Britain ran a regular balance of payments surplus.

There is also this (pdf):

Britain managed its huge national debt by relying on debt instruments (“consols” and similar bonds) that were perpetual yet callable. That meant that sudden spikes in interest rates, associated with wars or financial crashes, had limited impact on government solvency. Compare this to the danger that Italy and other European countries are facing, with the need to refinance over the next few months large fractions of their (much smaller) national debts. There was certainly a cost in terms of higher interest rates to British financial policy. But in retrospect one can argue that British authorities were wise to take that course, and that in general they were smarter than ours not to be deluded by the promises of liquid and rational markets, and were prepared for upheavals. For all the sophistication of our economic theory, our ancestors may have been more sophisticated than we are in truly understanding how the world works.

Very long-term debt is perhaps not such a bad idea today.

I do very much oppose the tax increases which have been chosen recently by the United Kingdom, and the switch in the content of public expenditure away from investment, and in that sense I agree fully with Wolf.  And of course today’s British debt/gdp ratio is not near 250%.  Nonetheless, when it comes to drawing conclusions about fiscal policy over the next ten to twenty years, the historical example of the 19th century can cut either way.


"For all the sophistication of our economic theory, our ancestors may have been more sophisticated than we are in truly understanding how the world works."

No shit Sherlock. OK let's see other things our ancestors did better. Like not caring about cheap chalupas.

With such a strong respect for the traditions of the past, one wonders why you're posting this comment on the internet as opposed to tacking it up in the town square.

He's doing it so that you can post a stupid throw-away comment in response without considering the issue one second. You should feel grateful.

The key take away from unconvincing historical parallels - It "can cut either way".

I got to agree. I like Martin Wolf very much (called for him to be the next PM or at least BoE Governor) and I do think that our economic set-up has a lot to compare it with 19C (the crushing of the working/middle class wages and resulting inequality notably).

Yet the comparison with the UK is about the least informative one you could make. Just as the comparison with high debt level post WWII is, imho, somewhat misplaced. Even if we were to follow my personal recommendations (boosting middle class earned income by means fair or foul), I doubt we would see the kind of pent-up demand catch-up we saw during the reconstruction period and the 50s...

"called for him to be the next PM"

This makes me wonder whether commenters here understand the first thing about the British political system. That is an almost-probability-zero scenario.

You're rather nice about the probability. For ref, I used to live in the UK - about 10 years total. And I meant it as a joke/as a show of support for Martin Wolf's rather top of the line economic reporting/advocacy.

"In 1816, the net public debt of the UK reached 240 per cent of gross domestic product. This was the fiscal legacy of 125 years of war against France. What economic disaster followed this crushing burden of debt? The industrial revolution."

Unless Wolf is also claiming that 150 years of war and the accumulation of debt to levels of 250% of GDP caused the Industrial Revolution, I am not sure I get the point of the leading statement (especially its "relax, what me worry tone"). Instead I must interpret it as cautionary: "Yeah, you can get out of these kinds of holes. "All" it takes is a technological and commercial revolution of the scale of the Industrial Revolution. Oh, and get ready for all those Dickensian dislocations in the mean time..."

Indeed. Who needs history in such bizarre times. Martin Wolf rejoins his natural constituency, the frantic throng of Keynesian economic activists -- Eichengreen, Rodrik, and Skidelsky -- in united praise of Mark Blyth’s (who the?) weird political rewriting of economic history. Structural reform (they label it 'austerity') becomes mere simple ideology with no basis in fact or theory, because only superior beings have non-ideological ideas. William Ewart Gladstone (b. 1809), four times Prime Minister and four times Chancellor of the Exchequer between 1853 and 1894, British father of nature’s evolutionary Schumpeterian crisis-induced “retrenchment”, is written out of history as a deluded old fool who had the misfortune to have his thoughts distorted by the experience of actually living through the dislocations of the times along with Dickens (b. 1812) who cleverly chose fiction to express economic history.

Schumpeter wrote of Gladstone:

“There was one man who not only united high ability with unparalleled opportunity but also knew how to turn budgets into political triumphs and who stands in history as the greatest English financier of economic liberalism ...
The greatest feature of Gladstonian finance was that it expressed with ideal adequacy both the whole civilization and the needs of the time, ex visu of the conditions of the country to which it was to apply; or, to put it slightly differently, that it translated a social, political, and economic vision, which was comprehensive as well as historically correct, into the clauses of a set of co-ordinated fiscal measures … Gladstonian finance was the finance of the system of natural liberty, laissez-faire, and free trade …
The most important thing was to remove fiscal obstructions to private activity. And for this, in turn, it was necessary to keep public expenditure low. Retrenchment was the victorious slogan of the day … It means the reduction of the functions of the state to a minimum … Retrenchment means rationalisation of the remaining functions of the state … The resulting economic development would in addition, so it was believed, make social expenditures largely superfluous … Equally important was to raise the revenue that would still have to be raised in such a way as to deflect economic behaviour as little as possible from what it would have been
in the absence of all taxation ('taxation for revenue only') …
And since the profit motive and the propensity to save were considered of paramount importance for the economic progress of all classes, this meant in particular that taxation should as little as possible interfere with the net earnings of business … As regards indirect taxes, the principle of least interference was interpreted by Gladstone to mean that taxation should be concentrated on a few important articles, leaving the rest free ...
Last, but not least, we have the principle of the balanced budget …”

And, thus, there came about that miracle referred to as the Industrial Revolution. Dickensian Dislocation describes it better than Debt & Deficit.

Harrumph … For emphasis, Schumpeter (no fool) said of Gladstone (no fool), he "translated a social, political, and economic vision, which was comprehensive as well as HISTORICALLY CORRECT, into the clauses of a set of co-ordinated fiscal measures … retrenchment". When will the FT find a new chief ideologue for the times?

As Jeff Sachs said to Russ Roberts, why is disaster the new standard?

OT: Hey Andrew', did you catch the recent diatribe against bankers Jeff Sachs made (it's on YouTube)? What do you think of his (apparently sudden) populist leanings? Catching which way the wind blows and bowing accordingly?

The only thing saving banks is their failures. Also, I asked the same question I cite to Sachs but none cares when I it. It ain't for me.

I wonder if autocorrect is net positive.

Interesting question. Standard two-letter transposition typos are usually mostly irrelevant; they don't affect the reader's ability to understand the word. So autocorrect solves a mostly irrelevant problem. But when it kicks in and starts making wholesale changes to words, it can really be confusing.

On the bright side it did provide us with the gist for some hilarious websites.

Autocorrect is a good illustration of Reynolds' Law:

Subsidizing the markers of status doesn’t produce the behaviour patterns that result in that status; it undermines them.

The marker in this case being correct spelling. Autocorrect 'subsidized' them (everybody got superficially correct spelling) and now more people than ever can't spell worth a damn. Including ostensibly educated people.

The problem is when I spell fine. Autocorrect,ironically, had to be added to "my" library. We now officially work for the machines. Not a shot was fired.

"Very long-term debt is perhaps not such a bad idea today."

In general, it seems to me that the government only needs to have two kinds of debt
1. the very short term type that functions as reserve-type backing for bank deposits or collateral for repo markets. This is not 'borrowing', simply the grease that maintains the coherence of the monetary system.
2. The very long term type that genuinely supports the 'borrowing' that a government needs to do for its activities.

All other maturities exist primarily to smooth pension liability matching.

Seems to me all other maturities automatically come into existence once you opt to have long term debt. If from today onwards the gov't decides to only borrow with 50 year bonds, next year the market will have 50 year bonds and 49 year bonds trading. That's ignoring the fact that financial engineers can create 10, 20, 25 yr bonds by simply taking a stack of 50 year bonds and dividing up their coupon and principle payments into a new security.

Tsk, tsk, TC. "Martin Wolf says"? Oh please. Long time readers of Marginal Revolution comments section will note that I, Ray Lopez, have made the very same arguments right here: (1) that Britain had over 200% debt-to-GDP, (2) that this crushing debt load was saved by the Industrial Revolution, and (3) bonds were issued as perpetual (and indeed, if I read William N. Goetzmann's book on the history of money correctly, some were not callable).

I, Ray Lopez, anticipated Martin Wolf. But who gets the credit? The more famous person, Martin Wolf. The Real World trumps the Virtual World (and this, ironically, at the site that promotes distance online learning). Isn't that the story of economics in a nutshell? It's driven by personalities.

Yes, it's true. Long time MR comments section readers are well aware of how chronically under appreciated "I Ray Lopez" is.

This is how it works. This occurred to me pondering pk and his response to TV on R&r. Can't explain a fish to water.

The world would be such a better place if economists did not try to dress up and act like scientists. They are all, at the end of it, feuding historians.

(Perhaps I should say the best are feuding historians. Below them you have the cranks and true-believers.)

NPR planet money has an interesting episode wrt r&rogoff. Wolfers has the best take at the end of it.

in the 19th century Britain ran a regular trade surplus, unlike today.

Britain ran a trade deficit with China, which thought it had done without British manufactured goods for millenia and could continue to do so, until 1842. After that opium from India sold in China reversed the trade deficit to a trade surplus. This reversal is called The Opium War.

Perhaps all that interest on the debt crowded out other government spending. The UK government stayed small and stayed out of the way of the Industrial Revolution.

More accurately, the limited working-class franchise limited government spending, though the franchise was extended to cover them between 1832 and 1928. Furthermore, social spending was seen as the role of local government, so the poorest areas had the least available revenue to redistribute. This policy probably helped economic growth, as in China today, but it also had dire social consequences at time (most egregiously, the Famine). The Liberal Party gradually introduced more progressive fiscal policies, such as Gladstone's free breakfast table and Harcourt's death duties, culminating in Lloyd George and Churchill's budget of 1909-10.

And Britain became the undisputed world power with Europe in tatters. The American economy was growing as well.

Isn't this ignoring the cemetery of evidence, of the European nations that were equally in debt but lost the war? What was the debt load in France? Or were the Napoleonic debts written off?

When the UK was spending half of their budget on debt interest, how much were they spending on entitlements?

Strange! No mention of the external deployments of surpluses (overseas investments of capital) in which capital made greater returns abroad than at home; **and** made greater returns than the servicing charges on the Consols!

It's whatcha do with the surpluses that either result in growth, stagnation, or decline. T'was true in the days of barley& Bronze, and can be seen today as surpluses are sequestered by the motivations of Managerial Capitalism.

"By Wolf’s account British growth was about two percent for the first half of the 19th century." I've seen that sort of thing said before and I must say I find it implausibly low, probably a better indicator of the shortcomings of the measuring rod than of the economy.

mebbe on accounta high debt? just a theory.

I think the biggest takeaway from this is something that many have been saying all along, that fiscal consolidation is enormously helped by rapid growth. So I see this less as an argument against consolidation but more of an argument for faster growth. Where we are going to have a problem is how to precipitate said growth.

Did Britain in 1815 (or even the US post-WWII) have a massive welfare state that already earmarked a substantial portion of future GDP and that was in jeopardy of being crowded out by debt service? What Democrats don't understand is that a measure of fiscal probity now is essential to delivering on THEIR vision down the road.

And of course today’s British debt/gdp ratio is not near 250%.

Depends on how you count it. What about the unfunded obligations, including implicit obligations? What about the government loan and bank guarantees (TBTF)? All this stuff ought to be worth quite a pretty penny.

If you want to play that game we can play it for 19th century Britian as well. For example, did not Britain have an 'undstood' obligation to come to the aid of Canada had the US tried to invade and take it over? What about India?

But to make it more explicit: If the UK has a bond for 1,000 pounds due in ten years, that's debt of 1,000 pounds. But what if Joe Schmoe has 1,000 pounds in a checking account at a UK bank? If the bank fails maybe the UK will guarantee him his account will be saved but that's not the same thing as the UK gov't having a debt of 1,000 pounds. If the bank doesn't fail, the gov't owes nothing. Even if the bank fails, how much is owed will depend upon whether or not the bank fails entirely or if there's enough assets to recover some portion of the funds.

To make it even harder, consider that tomorrow the gov't could decide to only gurantee deposits up to 500 pounds. Does that mean it's debt is cut in half? Regardless, if the gov't declared it would only pay 500 pounds on the bond that would be considered a default and a very big deal. Changing bank guarantees is simply a policy change.

An interesting point was made at the end of the article.

Great Britain used long term (callable) debt as a way to lock in interest rates and avoid interest rate risk - thus making the debt more predictable and manageable.

So using long term debt is a good idea for government borrowing.

But the bond market has figured this out. Long term bonds simple shifts the interest rate risk from the government to the bond holders. Over time, bond holders have required a higher and higher premium to hold long term debt. And this has shifted the preponderance of government bonds into shorter and shorter duration.

This is well described in Rogoff/Reinhart "This Time It's Different"

It seems like these authors have been in the news quite a lot lately

Nonetheless, when it comes to drawing conclusions about fiscal policy over the next ten to twenty years, the historical example of the 19th century can cut either way.

Nonetheless, this ties into the R-T debate over whether there's some 'magic percent of GDP' whereby the debt-to-GDP ratio begins to inhibit growth. There is not a good theoretical reason why this should be so the obligation falls upon those advocating it to demonstrate it's true emperically. Major examples where the opposite happened or that 'cut either way' go to undermine the credibility of the hypothesis.

KS, you mention the bond market demands long term bonds have a higher rate. I agree, but currently UK 2060 maturing gilts (fixed) have a redemption yield (if I read the DMO table right) of 3.16%, against 2.8% current inflation (CPI). 0.36% real cost doesn't seem that bad for not having to worry about refinancing for 47 years.

All inflation linked linked gilts currently have a negative real redemption rate, including those maturing in 2062. So right now, I'd say long term bonds make sense for the UK govt. And I think they have issued more long term bonds, partly because pension funds want them. Maturity is about 15 years on average.

British military spending and the Industrial Revolution are not completely unrelated. One of the earliest examples of mass production was building pulley blocks for the Royal Navy. Bessemer wanted to produce cheap steel to build cannons for the British military.

"the Victorian growth spurt in the third quarter of the 19th century, which [Tyler considers] part of the most revolutionary period of technological progress in all of human history."

Cheap steel was probably the key invention that led to that growth spurt.

Part of the problem here, IMO, is that the metric is deceptive. Someone says the US budget is in crises because some projection says in 2030 the deficit will be 6% of GDP. So then it makes all the sense in the world to act right now to reduce our deficit by, say 2% of GDP. I mean if we did so that makes the problem in 2030 only 4% right? Wrong. Both are moving targets.

Or put another way, what would it mean if your debt when you were 17 years old and working for min. wage at an ice cream shop was 50% of your yearly income versus 45 years old? If you happened to have a very low debt ratio at 17 yrs old or a very high one is there a good reason to think that would have a major influence on your financial position at 45 years old? Possibly but not likely. At 17 your income is minor compared to what you're hopefully pulling in at 45. At 45 you are probably incurring big boy sized debts so being very frugal at 17 probably won't help very much. If you struggled very hard to put 50% of your ice cream pay away in savings, that's not going to matter much when your're putting money down on a luxury car at 45.

The analogy here isn't perfect but it's hopefully good enough to see that there's not an excellent reason to think that the UK having a debt of 200%+ in the early 1800's should have mattered all that much for the UK's next 100 years of growth? I don't think so. Let's imagine in 1775 the UK had something like a Paul Ryan or Ron Paul character who browbeated the gov't into, say, 175% of GDP instead of 240%. Is there a good reason to think the UK's path would have been seriously different over the 100 or so years into the future? I don't think so.

If the debt level itself doesn't cause growth to slow or quicken, then the only theory you're left with is crowdout due to deficits. But crowd out is a different issue in that:

1. It applies to the current deficit, not the total debt load.
2. Unlike the debt load, what's good or bad may change dramatically. A 5% GDP deficit may be good in a deep recession, then suddenly turn bad during full employment.
3. It's not the percentage of GDP that really matters, it's whether or not crowding out is happening which we can see by looking at things like private interest rates

240% is for wimps.

UK total private + public debt is way north of 500% today.

Is that a sensible metric? Say I'm a UK person and have a private business, say a pub, with a 50K unsecured loan from a German based business. So what? What does it matter to the German business that there's plenty of coal mines in the UK? If I don't pay the loan back the German business can't make coal mines pay it. They can't order the UK gov't to bail out my pub and pay my loan on the backs of the taxpayers.

Likewise, why put GDP in the denominator? Suppose I have over a million sitting in various bank accounts and in loans other businesses owe me. GDP would be basically the income my pub generates, which may be modest. I should be comparing my debt not to my income but my wealth.

So the better calculation would be :

(UK public debt+ UK private debt - UK debt assets ) / UK GDP

UK assets would include private debt owned by UK citizens and business as well as debts the UK's gov't owns from others.

Agreed, except UK famously hasn't been adding debt to acquire productive assets, and note I did not mention UK corporate debt which is most likely to be acquiring productive assets. Govt and private debt is highly consumptive in nature.

Nonetheless it's silly to talk about people's private debts without looking at their assets.

The history of the Republic of Venice might be worth considering. The Republic issued a great deal of long-term debt to fund its wars and would on occasion retire it by buying old debt at a discount. The Republic was one of the few pre-modern states trusted enough that people would willingly buy its debt (sometimes!).

My source is not an economic history but it has a bibliography: "Venice, A Maritime Republic" by Frederic Chapin Lane. Venice might be a good test-case for upper limits to debt, etc.

Let's add in unfunded liabilities too... of course they will never be honoured but... and what assets am I 'silly' to overlook to service all this debt? Remember the debt was taken on to fund housing and government consumption largely, neither is a productive asset....

Housing is a very productive asset. Imagine back in 1985 you had an uncle who won the lottery and wanted to leave you with a useful asset. What could he have brought? Ice cream truck? A factory to make VHS tapes? A video rental store? Of all the assets he might have brought, the one that would still be quite useful to you today is more likely to be a simple house.

You also forget the fact that every debt by definition equals an asset. There's no such thing as someone who owes money without someone else to whom money is owed.

In terms of assets, gov't is pretty tricky because gov't doesn't usually own assets directly but gov't has an asset that no business has, the ability to tax. The debts that McDonald's incurs today will have to be paid off with hamburgers they make in 2020. They have no right to demand Wendy's make hamburgers to pay their debts. Gov't, though, doesn't own McDonald's, Wendys or Burger King but it does have the right to tax them so in a sense gov't is like a hidden preferred stockholder in every company in the entire economy. If tomorrow those companies are doing well, gov't income goes up and vice versa.

Which makes for a very interest question, how much debt should the British gov't had had in 1816. If your answer is simply "very little because debt is always bad" you're missing an important point. The British economy boomed for the next 100+ years. If the British gov't was run by time travelling seers the rational answer would be to rake up lots and lots of debt since the booming economies of the future would shrink that debt to nothing.

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