The flaw in Ed Balls’s deficit conjuring trick.

The UK Labour Party’s finance spokesman, Ed Balls, has a great idea for cutting the deficit: have government borrow to fund public investment, and don’t count that borrowing / expenditure as part of the deficit.

And on the face of it, that’s perfectly sensible: after all, borrowing to fund investment is what every other firm does. Plus it’s what every other household does when “investing” in a house to live in. However, there’s a catch as follows.

Where any entity borrows to fund investment, normal practice is to repay the debt as relevant assets depreciate, or when the asset is  worn out and is scrapped. Indeed, if the debt CAN’T be repaid as the asset depreciates, that’s good evidence that the investment is not viable.

Thus if government is to fund investment via borrowing, then it can’t borrow an amount equal to each year’s NEW investment: it can only borrow an amount equal to “new investment less depreciation on existing investments”. And assuming total investment by government expands at the same rate as GDP, that means the NET ANNUAL INCREASE in government investment is piddling: between 1% and 2%.

The great Balls conjuring trick collapses like a house of cards.

Borrowing versus tax.

Next: does it greatly matter whether government funds investment from borrowing or from tax? Personally I don’t think so. Milton Friedman and Warren Mosler advocate/d that government should borrow NOTHING. I.e. they argue/d that the only liability the state should issue should be base money.

However, given that there are two ways of funding public investments, i.e. borrowing and tax, presumably one must be better than the other. Personally I can’t work out which. At least I can’t work out which would be better in a closed economy. Inspiring ideas on that topic will be welcome.

Total amounts borrowed and invested.

Incidentally, I recently had a look at the total figures for borrowing by the UK government and total investments or assets held by government. The two totals are VERY ROUGHLY the same: certainly one total isn’t double the other.

So what does that prove? That there’s no good reason to cut the debt? I don’t think so: suppose those dreaded bond vigilantes and/or foreign holders of UK debt lose faith in the UK and start demanding an extortionate rate of interest? Do we pay them? I suggest not.

I suggest we pay down the debt. Or put another way, I suggest we, 1, pay off some or all creditors, 2, stick two fingers up at them, 3, tell them to go away and tell them we’ll fund UK based public investments out of our own resources, thankyou very much.