0:00

Today's episode is sponsored

0:02

by Trading 212. The

0:04

platform bringing commission-free investing

0:06

to everyone. National debt figures

0:08

are staggering, running to trillions of

0:11

pounds in the UK and tens

0:13

of trillions of dollars in the

0:15

US. Headlines were one of unsustainable

0:17

paths and ticking time bombs under

0:19

our economies. But is government debt

0:21

really out of control? I want

0:24

to know how we got buried

0:26

under this mountain of debt and

0:28

what the real risks are. And

0:30

in today's dumb question of the

0:32

week, we ask, is government debt

0:34

just like household debt only much

0:37

bigger? All right, let's get into

0:39

it. So this week, Roman, we're

0:41

going to be talking about things

0:43

which involve very big numbers in

0:45

the trillions. Now, I want to

0:47

avoid the trap where we go

0:49

big number equals scary. So I

0:52

think what we should do, if

0:54

we can, is always talk about

0:56

things as percentages of GDP, if

0:58

we can. Yeah, otherwise the numbers

1:00

just look crazy. You should always scale

1:02

it in terms of the size of

1:04

the economy. An economy that's 10 times

1:07

as big can maintain a level of

1:09

debt, which is 10 times larger. So let's

1:11

just get to it straight away then. How

1:14

big is the public debt in

1:16

the UK? So public sector net

1:18

debt and that excludes public sector

1:20

banks. That was estimated at

1:22

about 95.5% of GDP, gross

1:24

domestic product. And that was

1:27

for February 2025. So a little bit

1:29

under 100% of GDP. Should

1:31

we give some context to that?

1:33

Because it has risen sharply

1:35

over the past 25 years.

1:37

If we go back to the turn of the

1:40

Millennium, the year 2000, public debt

1:42

at that point was 28.3% of

1:44

GDP, and now we're at nearly 100.

1:47

And again, if you zoom out here,

1:49

I think it's useful, and go all

1:51

the way back to the 1700s. I

1:53

thought going back to the Millennium was

1:55

fair enough. We were turning the time

1:57

machine way back. But with the UK...

1:59

do that which is great but 2000

2:02

was very much a low point in

2:04

debt to GDP for the UK just

2:06

prior to that well I say just

2:09

about 50 years prior to that just

2:11

after World War II that's when we

2:13

reached our all-time high for debt to

2:16

GDP there it peaked at just over

2:18

250% briefly and after World War I

2:20

it peaked at about just under 200%

2:23

so Clearly, times of crisis, when you

2:25

really have to raise a lot of

2:27

taxes, raise a lot of income and

2:30

spend it, those are the periods in

2:32

time when government really splurges out and

2:34

issues lots of debt and pushes up

2:37

debt to GDP. You promised me the

2:39

1700s. Keep going. Okay, so another peak

2:41

was just after the Napoleonic War. Clearly

2:44

we had to pay for that. Then

2:46

we had the American War of Independence.

2:48

Before that. the seven years war, the

2:50

war of the Austrian succession, and each

2:53

of these had its own little peak

2:55

which built up and built up to

2:57

a crescendo of the Napoleonic Wars when

3:00

debt to GDP reached about 200% again.

3:02

But then if we go further back

3:04

in time, all the way back to

3:07

1,700 debt to GDP was tiny. It

3:09

was only about 25% and the first

3:11

thing that really pushed us up the

3:14

hill was the war of the Spanish

3:16

succession. Seems like there's a lot of

3:18

wars in British history if we're looking

3:21

at the debt to GDP ratio. But

3:23

the reason why we won those wars

3:25

was that we were very good at

3:28

issuing debt, at least that's one argument.

3:30

But we're not fighting a war right

3:32

now, so how has debt gone from

3:35

just under 30% of GDP in the

3:37

year 2000 to almost 100% now? Well

3:39

that's why it hasn't gone to 200%

3:42

probably, but we have had COVID, which

3:44

is kind of like a war against

3:46

a virus, so I'd argue that something

3:49

like a pandemic would also count as

3:51

something which is going to push up

3:53

to GDP. Any kind of big crisis

3:56

we have to spend a lot. We

3:58

did spend a lot through COVID on

4:00

furlough and on healthcare costs. And of

4:02

course before that we had the global

4:05

financial crisis, which really cost a lot

4:07

in terms of bank bailouts and stimulus

4:09

packages. And of course growth, because if

4:12

you're comparing debt to GDP, if GDP

4:14

is weak and debt to GDP is

4:16

going to go up. And it has

4:19

to be said in the past, whenever

4:21

we've actually reduced our debt to GDP,

4:23

So this was following the Napoleonic War

4:26

and following World War II, the way

4:28

that number's fallen is because GDP growth

4:30

has been more rapid than debt growth.

4:33

Yeah, we've grown our way out of

4:35

it to some extent and inflated our

4:37

way out a little bit. Yeah. And

4:40

here I think it's worth being clear

4:42

about the difference between the national debt

4:44

and the deficit, because you hear a

4:47

lot in the media about the deficit,

4:49

and I guess that is the engine

4:51

by which the debt grows. Yeah, so

4:54

this is the distinction between levels and

4:56

flows. The deficit is what makes debt

4:58

grow because you plug the difference between

5:01

tax income and expenditure by issuing debt,

5:03

and then the level of debt grows

5:05

if the deficit is continually large. And

5:07

at the moment, the deficit in the

5:10

UK, which is called public sector net

5:12

borrowing, is around £137 billion this year.

5:14

which is 4.8% of GDP and is

5:17

too high to be sustainable in the

5:19

long run really. Now the Office for

5:21

Budget Responsibility issued a report last week

5:24

alongside the spring statement which showed that

5:26

based on the government's spending plans and

5:28

tax plans and its assumptions around growth

5:31

and things like that, it expects the

5:33

deficit to fall to 2.1% of GDP

5:35

by the end of this parliament in

5:38

2030. So it's fair to say this

5:40

government takes debt to GDP very seriously.

5:42

They haven't splurged on spending and they're

5:45

very keen on getting debt to GDP

5:47

under control. Now if we turn our

5:49

attention to the US, obviously the numbers

5:52

are much bigger there because it's much

5:54

bigger country. they're experiencing a kind of

5:56

similar thing to the UK where deficits

5:59

are very large by historic standards and

6:01

debt has been rising fast. So for

6:03

the United States it depends how you

6:06

measure it but if you look at

6:08

what the CBO recommends which is federal

6:10

debt held by the public as a

6:13

percentage of GDP that's just a shade

6:15

under a hundred percent it's 97 percent.

6:17

So a similar ballpark to the UK

6:19

really? Yeah it's not very different at

6:22

all. Now you might see a lot

6:24

of people quote the gross federal debt.

6:26

which is the broadest measure of debt

6:29

and that's much higher that's around 123%

6:31

of GDP in the US. But as

6:33

you say the CBO thinks that's not

6:36

the best measure of debt because it

6:38

includes debt that's held by the government

6:40

itself and that is generally through schemes

6:43

like social security and retirement programs and

6:45

Medicare where they invest in treasuries themselves

6:47

so it's the government kind of owing

6:50

itself money. And I think we should

6:52

probably mention what the CBO is. It's

6:54

the Congressional Budget Office. Now this is

6:57

a non-partisan organisation in the United States.

6:59

It was set up by a congressional

7:01

act in 1974. And the idea is

7:04

that it provides objective non-partisan information to

7:06

support the congressional budget process. Yeah, and

7:08

handily they issued their latest report last

7:11

week, much like the OBR in the

7:13

UK, and they project forward. What's going

7:15

to happen to the US deficit and

7:18

the US debt over the next 30

7:20

years? And crucially, they do that on

7:22

the basis of what is the law

7:24

at the moment. We can talk about

7:27

this in a second. I think that's

7:29

a problematic way of doing it. But

7:31

whenever you look at their projections, it's

7:34

always quite alarming. Sure is. So when

7:36

I looked at it this time, it

7:38

said, by 2055, federal debt held by

7:41

the public will reach 156% of GDP

7:43

and remain on track to increase thereafter.

7:45

If you look at the graph, it's

7:48

a scary graph, it's steep, isn't it?

7:50

Yeah, it starts at 100 today, and

7:52

then it just seems to grow. a

7:55

fairly linear fashion all the way up

7:57

to 2055. And as you'd expect, the

7:59

reason the debt keeps growing throughout the

8:02

period is because deficits are baked in

8:04

across the period based on current law.

8:06

So over the next 30 years, the

8:09

CBO estimates the deficit to be 6.3%

8:11

of GDP, which is more than one

8:13

and a half times the average over

8:16

the last 50 years. And that larger

8:18

deficit... is primarily being driven by an

8:20

increase in interest costs as the US

8:23

has to service its debt, but also

8:25

increased spending on healthcare programs like Medicare,

8:27

social securities, you've got an aging population,

8:30

and actually trend growth which is weaker

8:32

than it's been over the last 50

8:34

years on average. And again, if you

8:36

look at that history of fiscal deficit

8:39

for the United States, currently it's pretty

8:41

large, it's about 6.3%. But it's been

8:43

gradually getting larger since 2000. It's just

8:46

government after government, Republican or Democrat, has

8:48

been gradually increasing how much the government

8:50

spends without taxes paying for it and

8:53

then plugging the difference with debt. Now

8:55

when interest rates were pretty much zero

8:57

since 2007, that wasn't such a big

9:00

problem because the debt servicing cost was

9:02

small. But now that we're starting to

9:04

see interest rates pick up back to

9:07

normal, it's a big problem. For example,

9:09

a lot of people quote the fact

9:11

that the US is spending more on

9:14

debt servicing than it is on defence.

9:16

And that is unusual. If you go

9:18

back before 1990, the fiscal deficit was

9:21

much smaller. It's only when you go

9:23

back to the Second World War that

9:25

you see a really huge fiscal deficit

9:28

when it ballooned out beyond 25%. I

9:30

found that that surprising that the US

9:32

is spending around a trillion dollars a

9:35

year on interest, give or take. and

9:37

the defense budget is something like 850

9:39

billion dollars. Yeah, spending more just servicing

9:42

its debt than it is on tanks

9:44

and fighter jets, some missile systems and

9:46

all that stuff which we associate with

9:48

US federal. spending. But can I just

9:51

say that one of the side effects

9:53

of a fiscal deficit is government bonds?

9:55

And I love government bonds. In my

9:58

world, it's my happy place. Obviously too

10:00

much government debt, not such a happy

10:02

place. So within reason, I think having

10:05

a deficit is okay. And in fact,

10:07

it's probably normal. And it's probably good.

10:09

But when it gets out of control,

10:12

which is the topic of today's podcast,

10:14

that's the real problem. Yeah, Robin, you're

10:16

not a price insensitive buyer, are you?

10:19

You have to look at the market

10:21

and make a judgment call. I do

10:23

look at the yields, yeah, yeah. But

10:26

the thing is, you've got tens of

10:28

trillions of debt in the US. It

10:30

can run a surplus for quite a

10:33

while and they'll still be plenty of

10:35

treas for you to buy as they

10:37

roll them over. That's right, that's right.

10:40

I mean, they've got to issue new

10:42

stuff because it does mature, but there

10:44

is a kind of servicing bonds. But

10:47

it's fair to say a lot of

10:49

people like bonds. And they are a

10:51

mainstay of balance sheets across the world.

10:53

But who holds all this debt? So

10:56

the outstanding debt, US Treasuries, at the

10:58

moment is about $36 trillion. And two-thirds

11:00

of that is held by US citizens.

11:03

Now that's not really a problem because

11:05

if you're a US citizen, presumably you

11:07

don't want to scup your own government

11:10

by selling their debt. You don't want

11:12

to destabilise your own country. And when

11:14

you say US citizens, you're including institutions

11:17

like pension funds and insurers and all

11:19

of that stuff in there as well.

11:21

Exactly. Institutions probably hold more than retail

11:24

investors. I'm not sure what that split

11:26

is for the US. But what's perhaps

11:28

more worrying are the non-US holders of

11:31

that debt, which makes up one-third of

11:33

the holdings. Now people have referred to

11:35

this as the kindness of strangers. And

11:38

of course, you can't rely on that

11:40

kindness. particularly if you are not being

11:42

very kind to them. For example, Japan

11:45

holds about just over a trillion dollars

11:47

of that debt, China holds... 761 billion,

11:49

UK 740 billion, Luxembourg weirdly, 410 billion,

11:52

given it's essentially a tiny country, but

11:54

of course that's often financial institutions buying

11:56

US debt. Yeah, tracing the debt is

11:59

never an easy task, is it? Otherwise

12:01

it looks like the Cayman Islands is

12:03

one of the biggest holders of US

12:05

debt. Yeah, they hold 404 billion. Which

12:08

on a per capita basis is insane.

12:10

and Belgium our favourite country 378 billion.

12:12

Some of that's China actually rooted through

12:15

Belgium. But another big holder of US

12:17

federal debt is of course the Federal

12:19

Reserve. Its various quantitative easing schemes over

12:22

the last 20 years have in effect

12:24

meant buying treasuries and boosting the size

12:26

of the central bank balance sheet. But

12:29

here we get to an interesting question

12:31

of... Is that really debt? Or is

12:33

it a kind of accounting trick on

12:36

the national balance sheets where you've printed

12:38

money to buy your own debt? It

12:40

is odd, isn't it? And you get

12:43

into all sorts of circular arguments about

12:45

whether it's real debt or not, whether

12:47

it's effectively been retired. Legally it hasn't

12:50

been retired. Yeah. And they are winding

12:52

it down. Now, quantitative tightening is important

12:54

because you can see that if you

12:57

measure the US Treasury securities securities securities

12:59

securities, the holdings by the Fed. for

13:01

treasuries. That peaked at 5.8 trillion and

13:04

that was in roughly the summer the

13:06

spring of 2022 and it's been falling

13:08

fairly sharply since. So currently it's about

13:10

4.2 trillion. So it's diminishing but the

13:13

rate of decrease has recently slowed because

13:15

the feds slowed down its QT programme

13:17

for treasuries at least. And a similar

13:20

thing seems to be playing out in

13:22

the UK where in fact the Bank

13:24

of England is actually selling. some of

13:27

its guilt holdings on the open market,

13:29

somewhat controversially, and is charging the UK

13:31

treasury money every year now because it's

13:34

selling at a loss. This is all

13:36

a weird accounting trick as you say

13:38

but it does mean that the government

13:41

and I guess the taxpayer by extension

13:43

has to find a bit of extra

13:45

money every year at the moment. UK

13:48

government yeah whereas in the US they

13:50

don't actually sell them they just wait

13:52

for them to mature and roll off

13:55

as they call it. But if you

13:57

accept that this is all a bit

13:59

of a weird fiction in a way

14:02

you can look at a measure like

14:04

public sector net debt excluding the bank

14:06

of England. which is obviously lower than

14:09

the actual day. It's more like 90%

14:11

rather than the 95 point something percent

14:13

we talked about earlier. But interestingly, the

14:16

OBR forecasts that by the end of

14:18

the Parliament, those things will have both

14:20

converged at around 95% of GDP as

14:22

the Bank of England ends its term

14:25

funding scheme and asset purchase facility, which

14:27

is what you'd expect, right? Yes, a

14:29

normalisation to the pre-crisis state of affairs.

14:32

Now clearly what you want to avoid

14:34

as a government is having to spend

14:36

a huge amount servicing your debt because

14:39

that's money that you can't spend on

14:41

all the other things that a government

14:43

needs to run the country. So if

14:46

we look at the UK for example

14:48

the total spending is just under 1.3

14:50

trillion pounds a year of which 105

14:53

billion was the debt interest. Yeah so

14:55

about 4.3% of GDP was spent on

14:57

debt interest. in 2223, which is a

15:00

post-war high. Now, the OBI expects that

15:02

to decline a little bit in the

15:04

coming years, but not hugely. It's going

15:07

to be around 4% maybe a little

15:09

bit lower by the end of the

15:11

Parliament. And I guess crucially, we are

15:14

spending a lot more on debt interest

15:16

than we used to. So in the

15:18

10 years before the pandemic, the cost

15:21

of servicing the national debt was around

15:23

2% of GDP on average. So, you

15:25

know, we're more than twice that at

15:28

the moment. So until quite recently the

15:30

UK issued a lot of inflation link

15:32

debt. Now the way those work is

15:34

that they increase their principal value increases

15:37

as does their coupon in line with

15:39

our And when RPI inflation zoomed up

15:41

above 10% that pushed up the principal

15:44

values of those notes, of that debt.

15:46

Now that's not something that reverses. It

15:48

carries on being expensive until those bonds

15:51

mature. So that was a real problem

15:53

for the UK. A lot of historical

15:55

inflation make debt, which is more expensive

15:58

to service. And relative to other countries,

16:00

we issued a lot more of this

16:02

stuff because our life insurers love it.

16:05

For the rest of the debt, which

16:07

is nominal, that wasn't an issue, it

16:09

wasn't about inflation increasing. Really the problem

16:12

there is that there's just more debt

16:14

outstanding and because yields are higher, as

16:16

that debt's rolled over, the government's having

16:19

to pay more to service those bonds.

16:21

So all in all, a pretty much

16:23

perfect storm for the UK government. So

16:26

the picture overall, I think you could

16:28

summarize in the UK and to an

16:30

extent in the US, is that debt

16:33

has been rising extremely fast, extremely fast.

16:35

since the financial crisis. Deficits are persistent

16:37

and governments don't seem to be able

16:39

to close them. And yields have gone

16:42

up. And markets are a little bit

16:44

nervous, I guess you could say, now

16:46

they're looking at this step. I'm saying,

16:49

is it sustainable? So I guess when

16:51

we come back from the break, the

16:53

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16:56

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apply. All right, Roman, so we've got

18:12

this debt pile. It's roughly the size

18:15

of the economy and growing. How dangerous

18:17

is it? I think debts a little

18:19

bit like chocolate in the sense that

18:22

as long as you don't have too

18:24

much, it's kind of okay. In small

18:26

quantities, it's absolutely fine and it makes

18:29

things better. But the problem really comes

18:31

when it really starts to create a

18:33

lopsided economy where debt servicing becomes a

18:36

really big factor. So for example, if

18:38

you're spending a lot on debt servicing

18:40

costs, you're not going to spend it

18:43

on public services, on infrastructure, and that

18:45

can be a problem for future growth

18:47

for future growth. And in order to

18:50

get rid of it, you may have

18:52

to increase taxes. And of course, nobody

18:54

likes that. So it's very politically unpopular.

18:57

And usually you might expect it to

18:59

lead to the change of government, because

19:01

nobody's going to vote for a government

19:03

which has hugely hyped up taxes. And

19:06

of course all those things have growth

19:08

impacts, don't they? So I guess if

19:10

you've got rising debt, it often comes

19:13

with higher yields, and that increases borrowing

19:15

costs across the economy, not just for

19:17

the government. It means businesses. are going

19:20

to be charged more to borrow and

19:22

invest, which should slow growth or else.

19:24

being equal. I guess you could say

19:27

it's also potentially crowding out business investment

19:29

because the government is on the markets

19:31

competing for capital with more debt issuance

19:34

against corporate bonds. So corporate bonds look

19:36

less attractive. Yeah I think all of

19:38

that's true. And of course if you've

19:41

got less margins for companies, lower margins,

19:43

that means less profit growth and it's

19:45

going to be bad for the equity

19:48

market. So all in all, not a

19:50

great thing. And I think one thing

19:52

which I worry about more with high

19:55

debt is that we've talked about how

19:57

debt often jumps up when you have

19:59

a crisis, a war, a pandemic, a

20:02

financial crisis, whatever it is. Those things

20:04

seem to happen fairly regularly and I

20:06

often think there's not much you can

20:08

do about some of those things. So

20:11

we'll probably get another crisis at some

20:13

point. Does it give us less room

20:15

to act in the next crisis? Yeah,

20:18

for example after World War I in

20:20

the UK. the debt hadn't fully got

20:22

back to normal. In fact, it was

20:25

nowhere near back to normal before the

20:27

next one. And going back even further,

20:29

we were talking about the 1700s and

20:32

1800s. Well, there was just war after

20:34

war. And after each one, the debt

20:36

built up, and it never really got

20:39

a chance to fall. So I think

20:41

you're right. I think that now we've

20:43

got less capacity for a future crisis,

20:46

whether it's a pandemic or whether it's

20:48

another war. It's interesting, isn't it, reading

20:50

through these reports from the OBR and

20:53

the UK and the CBO in the

20:55

US. They make all these projections going

20:57

forward, you know, 30, 40 years. And

21:00

everything follows a neat orderly course where

21:02

the deficits are kind of the same

21:04

as they are now into the future.

21:07

And yeah, it makes the debt look

21:09

really bad. But to me, I was

21:11

saying, oh, that's kind of a best

21:14

case, right? The world seems to throw

21:16

problems at us, which means that we

21:18

then have to suddenly spend another 20%

21:20

of GDP, bailing everything out. But I

21:23

think we're lucky that we can do

21:25

that because in the past, whenever we've

21:27

needed to, we've been able to. And

21:30

that's why I think it's really important

21:32

that the UK is a credible borrower.

21:34

If we were some country which really

21:37

didn't care about debt to GDP, then

21:39

when these crises do occur, at least

21:41

the people who give us the money

21:44

can be fairly confident that they will

21:46

get paid back. Whereas if you're Argentina,

21:48

that's a much harder case to make.

21:51

I mean, we'd never defaulted on our

21:53

debt, have we, in the UK? Well,

21:55

there was some close shaves and technical

21:58

ones, but... Not really, not for a

22:00

long time. Don't scare the horses from

22:02

it. We've never defaulted. I loved it

22:05

in the UK. No, the Middle Ages,

22:07

we were serial defaulters. But look, that

22:09

was a long time ago. But it's

22:12

good to know that we would have

22:14

the capacity to increase our debt to

22:16

GDP to 200% as we did in

22:19

previous wars. And that would give us

22:21

three trillion pounds to spend to defend

22:23

ourselves. Do we though? Why did Liz

22:25

truss come a croper so quickly if

22:28

we've got that capacity? No, seriously though.

22:30

Is it because we weren't in a

22:32

crisis? I think that was the issue,

22:35

and it was a period of high

22:37

inflation, and it just seemed economically literate

22:39

what she did. I guess the thing

22:42

is, if a crisis comes along, like

22:44

COVID, and the world's panicking, and markets

22:46

are panicking, markets, I guess, are rushing

22:49

out of risky assets like stocks, and

22:51

whatever, and piling into perceived safe assets

22:53

like guilt. So it may be constrains

22:56

yields at the time you're trying to

22:58

borrow a lot more. As if you

23:00

try and do the outside of a

23:03

crisis, you don't have that same benefit

23:05

of flows. Yeah, when the economy was

23:07

effectively healing and it was a period

23:10

of high inflation, and if you issue

23:12

lots of debt and have unfunded tax

23:14

cuts at the same time, well, that's

23:17

just kind of crazy. The problem would

23:19

be if we have a crisis which

23:21

is UK specific. There's no global rush

23:24

into safe assets. It's just, uh-oh, we're

23:26

trying to issue a lot of dare

23:28

at the same time as our yields

23:31

are rising. Yeah, that wouldn't be so

23:33

good. But could we get one of

23:35

these crises of confidence from the market?

23:37

the so-called bond vigilantes rising up just

23:40

because they feel that the debt is

23:42

on an unsustainable path. I think it's

23:44

unlikely for the UK and I think

23:47

it's unlikely for the US as well

23:49

unless there are some obviously crazy signals

23:51

coming from the government or just signs

23:54

that the government doesn't care. They don't

23:56

care about debt to GDP because they

23:58

assume that people will just carry on

24:01

buying their debt regardless of whatever they

24:03

do. I think that's the situation in

24:05

the US right now. I don't think

24:08

either party really cares about debt to

24:10

GDP. You see talk of slashing federal

24:12

spending, you know, Elon Musk's doge has

24:15

been tasked with going around finding cuts.

24:17

He doesn't seem to be finding anything

24:19

significant. At the same time they're talking

24:22

about massive tax cuts. So the interesting

24:24

thing actually is this CBO report is

24:26

predicated on the basis that the laws

24:29

stay the same. Now, that's interesting, like

24:31

what to stay the same mean, because

24:33

what you've got baked in in the

24:36

US tax system is things that expire.

24:38

So Trump instituted massive tax cuts in

24:40

2017 in this first term, which are

24:43

due to expire in the next few

24:45

years. And the CBO projections assume that

24:47

they will expire and not be renewed,

24:49

yet obviously Trump wants to renew them.

24:52

He doesn't want to raise taxes from

24:54

where they are now, and he wants

24:56

to bring in further tax cuts. So

24:59

the CBO projections to me... I like

25:01

downside projections to the debt. I agree

25:03

and I think if the Trump administration

25:06

does carry on with its extension of

25:08

those tax cuts and does produce more

25:10

of them, well it'll be really interesting

25:13

to see what the CBO forecast looks

25:15

like then, unless of course they shut

25:17

down the CBO, which would be one

25:20

really neat solution to that problem. Probably

25:22

doesn't help you with rising yields though

25:24

if you shut down the statistics. Flying

25:27

Blind is not something investors welcome, but

25:29

if you think about it. the US

25:31

is running chunky deficits of six or

25:34

seven percent of GDP. If those go

25:36

higher again because of further tax cuts

25:38

and all the other problems you've got

25:41

with the aging population and lower trend

25:43

growth. Surely there comes a point where

25:45

the market goes, hang on, you can't

25:48

do this. If the deficit got to

25:50

10% and above on a consistent basis,

25:52

the debt just goes exponential. Yeah, there

25:54

is a certain point at which you

25:57

cross the debt Rubicon and essentially things

25:59

get completely out of control. I think

26:01

the US is far from that. I

26:04

think there are enough people who are

26:06

sensible in Congress who... push back on

26:08

it and probably stop it happening. But

26:11

look, ultimately, if markets were worried about

26:13

debt sustainability, seriously worried in the United

26:15

States, then yields with spike and there'd

26:18

be a huge crisis. I guess that

26:20

takes us to a question of what

26:22

are the possible paths from here to

26:25

deal with the problem if it is

26:27

a problem. So I had a thing

26:29

and came up with five possible paths,

26:32

which I want to run by E.

26:34

Roman. The one you hinted out there,

26:36

I've called The Shock, which is that

26:39

a market scare forces drastic action to

26:41

solve the deficit. Like, taxes go up

26:43

and spending gets slashed immediately just because

26:46

yield to blowing out and markets force

26:48

government's hand. That's the most extreme of

26:50

these situations, I say. The second one,

26:53

which is less dramatic, I've just called

26:55

the grind upwards. So this is slow

26:57

growth. High debt is persisting, taxes maybe

27:00

go up a little bit, spending gets

27:02

squeezed a little bit, the economy struggles,

27:04

but it's not catastrophic, and I would

27:06

call this kind of a Japanification of

27:09

the economy, we just muddle through. You

27:11

kind of see that happening over the

27:13

last decade in the United States. They

27:16

have been muddling through, the deficits been

27:18

consistently large, and debt to GDP has

27:20

been gradually rising. So that has been

27:23

the grind upwards. And this isn't to

27:25

say it's consequence free. Some people would

27:27

say you're harming future generations, right, by

27:30

spending beyond your means now as a

27:32

government, but maybe let's put a pin

27:34

in that and come back to it.

27:37

The third possible path I've called austerity

27:39

returns, so this is where we do

27:41

get... sharp spending cuts, Elon Musk finds

27:44

old apartments to take out in the

27:46

US, he slashes Medicare, he slashes Social

27:48

Security, and the debt is reduced in

27:51

the medium term, but the government bears

27:53

quite a lot of political pain and

27:55

I guess growth suffers at the same

27:58

time. Oh yeah, that wouldn't be without

28:00

consequences, political as well, because remember all

28:02

of these changes come with their own

28:05

pushback from the electorate. To me this

28:07

is an unlikely. path because I think

28:09

the political pain is too great. As

28:11

much as Republicans might want to cut

28:14

social spending, I think a lot of

28:16

their base rely on social security and

28:18

Medicare. Yeah, if the spending cuts are

28:21

too sharp, then remember that government spending

28:23

actually does stimulate the economy. So if

28:25

it's too severe, that could itself cause

28:28

problems. And we're already seeing this in

28:30

red states where, for example, a large

28:32

proportion of the government spending has been

28:35

cut. in particular areas which are very

28:37

painful and that hasn't gone down well

28:39

locally. Yeah there's a political cost and

28:42

I also think there's just an economic

28:44

question of can you actually bring debt

28:46

under control through austerity measures if they're

28:49

too harsh the effect on growth might

28:51

be too big and it's like a

28:53

self-defeating policy. Anyway let's move on to

28:56

the fourth possible path forward which I've

28:58

called inflate away and this is the

29:00

idea that the government has this huge

29:03

debt and it thinks huh Maybe if

29:05

I let inflation just run a little

29:07

hot for the next 10 to 20

29:10

years, the real value of that debt

29:12

will fall as a percentage of GDP.

29:14

I think the problem with that one

29:17

is that the government can't really control

29:19

inflation. They can have certain policies which

29:21

make inflation higher, but making it a

29:23

little bit higher and not a lot

29:26

higher is actually very difficult. Just look

29:28

at the Fed's problems getting inflation under

29:30

control. Plus they'd have to talk to

29:33

the Fed. in order to let that

29:35

happen. You can change the mandate right?

29:37

You could say... or if the inflation

29:40

target is 4% now for the next

29:42

10 years. But just think what that

29:44

would do to US debt, it would

29:47

make a massive difference to the valuation

29:49

of US debt, it would make a

29:51

change to the way companies are run,

29:54

it would be a huge shock if

29:56

you double the inflation target. So I

29:58

just don't buy that as a credible

30:01

way of doing it. And if they

30:03

try to do it secretly again, I'm

30:05

not convinced that the government is competent

30:08

enough to cover that up. Even if

30:10

they could pull it off. It's a

30:12

stealth tax on savers effectively, isn't it?

30:15

It's eroding the real value of savings

30:17

to fund the government by the backdoor.

30:19

An inflation is so politically unpopular. Just

30:22

look at all of the discourse about

30:24

egg prices in the United States. It's

30:26

incredible. The amount of pushback, that's generated.

30:29

And you just amplify that by a

30:31

factor of 10 if they suddenly say,

30:33

oh, we're telling the Fed to double

30:35

its inflation target. Have you seen that

30:38

the Trump administration seems to be going...

30:40

one by one around the European countries

30:42

asking for extra egg imports. And they

30:45

keep getting turned down Denmark's like no,

30:47

no, go away. Belgium says no, get

30:49

your own eggs. This is like the

30:52

kindness of strangers, right, in microcosm, around

30:54

eggs rather than deficit funding. And if

30:56

relations with those countries were good, maybe

30:59

they could have talked them around. But

31:01

this is hardly what I described as

31:03

a charming government. No, and I think

31:06

we've also moved away from a... international

31:08

order based on rules to one where

31:10

it's all made by deals effectively. And

31:13

I don't know what that effect that

31:15

has long term on capital flows, but

31:17

anyway, that's a whole other problem. Let's

31:20

go to the final path forward I've

31:22

identified, which is an optimistic one that

31:24

I've called the growth miracle. And here,

31:27

the idea is the debt comes well

31:29

under control just because productivity booms in

31:31

the coming years. And maybe that's because

31:34

of AI or something else. But the

31:36

idea is that economic growth is so

31:38

hot. that the debt becomes trivial. In

31:40

an ideal world, that's the way you

31:43

grow your way out of debt, is

31:45

to have a pickup and GDP. Now

31:47

can I just say there is another

31:50

sixth path which is a debt default?

31:52

So you do get the government suddenly

31:54

saying look you know how we owed

31:57

you what 36 trillion dollars? Well if

31:59

you're a foreign country we're not going

32:01

to pay you a penny. Now would

32:04

that be a problem? Yeah it would

32:06

be hugely disruptive for markets but under

32:08

this new approach where anything goes who

32:11

knows maybe there will be some kind

32:13

of forcing of governments. to accept a

32:15

write-down on US debt, their treasury holdings.

32:18

All bets are off in that situation,

32:20

I reckon. Who knows what's safe and

32:22

what's not? Well, it was part of

32:25

the Maralago thing, which is that the

32:27

governments would willingly swap their US treasuries,

32:29

coupon-paying treasuries, with a fixed maturity date,

32:32

with century bonds, which has zero coupon,

32:34

which is a default. Yeah. Now that's

32:36

not taken seriously, it's not going to

32:39

be policy, but it is something that's

32:41

being considered being considered. All right, so

32:43

let's nail our colors to the mask

32:46

then. We've got six scenarios. You've added

32:48

one. We've got the shock, the grind

32:50

upwards, austerity returns, inflate away, the growth

32:52

miracle, or default doom. What path do

32:55

you think we're on? I think the

32:57

US is on the grind upwards, because

32:59

clearly the government currently doesn't care about

33:02

deficits. It's unlikely that a Democrat government

33:04

would either. So I'd say, yeah, that

33:06

will probably continue. In the UK, certainly

33:09

at the moment, it seems as if

33:11

we've got kind of austerity returns, where

33:13

we've got a government which is really

33:16

cutting back on spending, certainly the day-to-day

33:18

spending, and does care about debt to

33:20

GDP, so they're trying to get the

33:23

deficit under control as well. But it's

33:25

not great for growth. What concerns me

33:27

is that the UK may move to

33:30

a more populist flavor of government. If

33:32

you look at reform in the polls,

33:34

it's certainly shot up. Who knows what

33:37

they'll do when it comes to managing

33:39

the managing the debt? I think you're

33:41

right about both those things, but that

33:44

in the next 30 years... we are

33:46

going to see either the shock or

33:48

the growth miracle. Eventually, at some point,

33:51

who knows where it is, debt becomes

33:53

a problem, and we either get bailed

33:55

out by AI or we don't. Well,

33:58

you're assuming that it will come to

34:00

some kind of head, but what about

34:02

Japan? Japan is way out there in

34:04

terms of debt to GDP. It's at

34:07

something like 250 percent. But life goes

34:09

on in Japan. Economically, they're okay. Not

34:11

incredibly powerful as an economy now as

34:14

they used to be. The growth hasn't

34:16

been phenomenal. And that's despite the huge

34:18

demographic problems, the fact that other countries

34:21

are taking their export mantle away from

34:23

them, and it hasn't come to a

34:25

head. No, you're right. It hasn't, at

34:28

least not yet. There are some differences

34:30

with Japan though. Like they have a

34:32

very high domestic savings rate compared to

34:35

the US and the UK. And I

34:37

guess you could argue that the bank

34:39

of Japan has somewhat monetized its debt.

34:42

And I think it has a lot

34:44

less debt held by foreign investors. But

34:46

you're right, I guess it shows that

34:49

high debt isn't automatically fatal. But then

34:51

yields are starting to creep up in

34:53

Japan. At this point, by design, they

34:56

want higher interest rates and they want

34:58

a bit of inflation to return. But

35:00

let's hope they can keep that manageable,

35:03

right? You don't want debt to be

35:05

250% of GDP. from negative to positive

35:07

to very very positive. Yeah that would

35:09

be catastrophic for Japan. I mean if

35:12

you were the government now in the

35:14

UK say what could they do? What

35:16

should they do? It seems to me

35:19

there's no easy fixes there's just tradeoffs

35:21

involved. Yeah and as a politician you're

35:23

always thinking about whether you'll get reelected

35:26

which makes you avoid doing the difficult

35:28

things which is to raise taxes and

35:30

to reduce spending. And I think that's

35:33

not going to be something that any

35:35

government is going to do lightly. I

35:37

think a lot of what the current

35:40

government and the previous one were trying

35:42

to do is good, which is to

35:44

boost growth, because ultimately that's what reduces

35:47

debt to GDP. That's the solution. That's

35:49

the way out of the problem. It's

35:51

true. Everyone's preferred option is to boost

35:54

growth, but it's hard to achieve, right?

35:56

And it requires smart investment and long-term

35:58

policy planning and perhaps short-term pain. It's

36:01

just hard to get that going, or

36:03

it seems to have been. So what

36:05

you end up with is this kind

36:08

of technocratic managerial style of government, where

36:10

you've got fiscal rules, which you're trying

36:12

to micromanage your way through. Sometimes... the

36:15

tail is wagging the dog and you're

36:17

looking at the projections from the OBR

36:19

which are clouded in uncertainty and they

36:21

admit that and you're tweaking spending cuts

36:24

and tax rises based on these very

36:26

uncertain forecasts and I think the government

36:28

in the UK probably is quite constrained

36:31

for maneuver here. Taxes as a share

36:33

of GDP are at a post-war high

36:35

of more than 35% and are scheduled

36:38

to rise to almost 38% in the

36:40

coming years and that's already... four and

36:42

a half percentage points higher than the

36:45

pre-pandemic level taxes as a share of

36:47

GDP. And also, as you hinted at

36:49

earlier, they are making cuts to welfare

36:52

spending and to departmental spending outside of

36:54

protected areas, but still public spending is

36:56

high. It's forecasted to 45% of GDP

36:59

next year, which is much higher than

37:01

it's been in recent decades. It all

37:03

seems quite gloomy and depressing when you

37:06

think about... debt because people always focus

37:08

on you know is it serviceable is

37:10

it out of control and yet I

37:13

think people should focus more on how

37:15

it does create this ability to weather

37:17

these shocks and of course you have

37:20

to deal with the aftermath that's what

37:22

we're doing right now but what it

37:24

meant was that through the pandemic we

37:26

could keep people employed there wasn't such

37:29

a big negative shock on the economy

37:31

where there were loads of layoffs and

37:33

then when these crises occur you can

37:36

deal with it. And like you, I'm

37:38

kind of optimistic about what the future

37:40

holds in terms of getting that tet

37:43

to GDP down again, just as we

37:45

had after the Second World War, it

37:47

fell very dramatically. And after the Napoleonic

37:50

War, what you... of rely on is

37:52

there not to be another crisis in

37:54

quick succession or a whole spative crisis

37:57

in fact? Yeah I think that's right.

37:59

I wouldn't describe the national debt as

38:01

out of control which kind of implies

38:04

there's an imminent crisis coming over the

38:06

horizon. But at the same time of

38:08

the other extreme you see some people

38:11

saying you don't really need to worry

38:13

about the debt, government controls the currency,

38:15

it can print money. Let's just get

38:18

on with things and run the economy

38:20

hot. I don't agree with that either.

38:22

I think the level of debt we

38:25

have and the deficits we have do

38:27

create real tangible problems for the economy

38:29

and the government. And there are constraints

38:32

here, genuine constraints around inflation, around the

38:34

resources available to the real economy, around

38:36

crowding out, and around like political capital

38:38

and what you can actually do to

38:41

fix these things before people just get

38:43

sick of it. And I think the

38:45

OBR acknowledges... that the long-term outlook is

38:48

difficult. So a quote from their latest

38:50

report, it says, the long-term fiscal outlook

38:52

remains very challenging, with pressures from an

38:55

aging population, climate change and rising geopolitical

38:57

tensions, putting the public finances on an

38:59

increasingly unsustainable path. The baseline projection would

39:02

require fiscal tightening of 1.5% of GDP

39:04

per decade over the next 50 years

39:06

to return debt to pre-pandemic levels. Leaving

39:09

policy settings unchanged in the long term

39:11

would see debt rise to over 270%

39:13

of GDP by the mid-20-70s. The strong

39:16

words, I think, from a like official

39:18

watchdog. Fiscal tightening 1.5% of GDP. That

39:20

is pretty surprising. We're not going to

39:23

do that. That's why growth has to

39:25

bail us out. I think the thing

39:27

that gets lost in all this debate

39:30

is that people think about the national

39:32

debt as a kind of accounting number.

39:34

It's very abstract. It's like a reflection

39:37

of our collective priorities and our willingness

39:39

to invest now and delay consumption and

39:41

agree on how we should pay for

39:44

the society that we want to have.

39:46

It's a much harder problem than like

39:48

balancing the books. It's always phrased as

39:50

balancing the books, but that's just like

39:53

the trivial bit of it. And it's

39:55

the sum of the previous crisis we've

39:57

suffered in recent history, which recently hasn't

40:00

been great. We've had the financial crisis

40:02

and then a real crisis with the

40:04

pandemic. What worries me is that if

40:07

politicians come along offering simple solutions and

40:09

saying, yep, bread and circuses, let's just

40:11

spend people carrying on buying our debt,

40:14

it doesn't matter, that's what would really

40:16

cause a problem. But you're still happy

40:18

to buy the debt, aren't you? Oh

40:21

yeah, I love it. Now you've heard

40:23

I'm a fan of buying government debt.

40:25

Well, a lot of our content in

40:28

the past has been about buying gilts

40:30

and we've got lots of tools available

40:32

for people who are interested in buying,

40:35

say, low coupon gilts, which are very

40:37

tax efficient. If you want to learn

40:39

more about that, why not join our

40:42

community? Just go to pensioncraft.com/membership. Okay, today's

40:44

dumb question of the week. Is government

40:46

debt just like household debt? only much

40:49

bigger. No. It is a very very

40:51

frustrating analogy to hear, wheeled out over

40:53

and over again. But then it's really

40:55

tempting, right? Because you have to try

40:58

and make it relevant to people's lives.

41:00

And I'm sure we've fallen into the

41:02

trap inadvertently before where you say credit

41:05

card or mortgage or something when you

41:07

try to talk about sovereign debt. I

41:09

wish I could print money. That would

41:12

be great. Well, yeah, there's so many

41:14

differences, isn't there, how a government structures

41:16

it's borrowing versus a household. Do you

41:19

want to run through some of the

41:21

differences for the differences for us? Okay,

41:23

the obvious one is if you control

41:26

money, you can tax people in your

41:28

own money. And in your own money

41:30

is really important. If they could pay

41:33

taxes in some other form, eggs for

41:35

example, then your currency wouldn't be so

41:37

important. But because you can force people

41:40

to pay taxes in your own currency,

41:42

that immediately creates value for that currency.

41:44

So that relationship between senior age, the

41:47

ability to issue money and the power

41:49

to tax. is inextricably linked. And I

41:51

guess it's critical that government has a

41:54

monopoly on that power to tax. And

41:56

they won't give it up without the

41:58

use of weapons. So that's important to

42:01

remember. But it's a huge difference isn't

42:03

it? So you and I we rely

42:05

on our salaries or our business income

42:07

or our investment income whereas the government

42:10

can to a large extent control its

42:12

own income and has this massively diversified

42:14

revenue stream. And I guess the point

42:17

on currency could be expanded even further

42:19

to say that for a lot of

42:21

countries... including the US, the US, including

42:24

the UK, the government owes debt in

42:26

its own currency. Yeah, unless you're in

42:28

the Eurozone, for example, where that kind

42:31

of breaks down. Or in an emerging

42:33

market where they've borrowed in dollars, say.

42:35

Yeah, hard currency debt. I mean, I

42:38

guess the implication here is that can

42:40

a government that owes debt in its

42:42

own currency actually default legally? Like the

42:45

US or the UK could print pounds

42:47

or dollars to pay back creditors. Obviously

42:49

there's consequences to that, but they can

42:52

do it. And this is an argument

42:54

why countries which can print money are

42:56

said to have a very low credit

42:59

risk. Within reason, they can print money

43:01

to service the debt. So that's always

43:03

reassuring. You always want to lend to

43:06

someone who's got their own printing press.

43:08

They print too much. They might be

43:10

paying you back in very devalued dollars,

43:12

but still, you're going to get some

43:15

dollars somehow. This is it. Within reason,

43:17

everything would be fine. They can't go

43:19

involuntarily bankrupt like a person can, is

43:22

what we're saying. Yeah, ultimately it's always

43:24

a matter of choice for a government,

43:26

you know, do we default on our

43:29

external debt? A repudiation of debt is

43:31

not something that a same government would

43:33

take lightly, because it'll have generational costs,

43:36

because yields will spike and stay high

43:38

for a long period of time. Bond

43:40

investors wouldn't forget that. And you say

43:43

it's a choice, and I think we

43:45

should remember here that we're talking about...

43:47

developed market economies that are borrowing in

43:50

their own currency. Like it's not a

43:52

choice if Argentina defaults on its dollar

43:54

bonds. It might genuinely not be able

43:57

to get its hands on enough dollars

43:59

to... people back. And it's a privilege

44:01

to be able to borrow in your

44:03

own currency. And you probably don't

44:06

want to risk that by annoying

44:08

markets too much. But there

44:10

are other differences, aren't there, between

44:12

a household and a government when

44:14

it comes to borrowing. One of

44:17

those being around how long we live.

44:19

Yeah, for us, it's all a matter

44:21

of a lifetime, which is at most

44:23

about 100 years. For a country, it's

44:25

effectively eternal. So they don't really have to

44:27

worry about paying things off over the

44:30

next century. Yeah, the government never

44:32

really aims to get to the

44:34

position where it has no debt,

44:36

whereas a person probably doesn't want

44:38

to die with like massive outstanding

44:41

debts. Or maybe you do. I don't

44:43

know. Another difference is that if I

44:45

decide to take out a loan, it's

44:47

not going to massively affect the UK

44:49

or another country. Whereas if the US

44:52

decides to massively increase its debt, that

44:54

would have global implications. Yeah, it's just

44:56

the scale of everything, isn't it? Me and

44:58

new borrowing does not impact our neighbour,

45:00

whereas government borrowing and spending

45:03

decisions affect the whole economy.

45:05

Government debt, its level, its structure,

45:07

its growth rate, that affects everything

45:09

from interest rates to inflation, to

45:11

investment to the exchange rate. It's

45:13

not something that acts in isolation

45:16

like me going and getting a

45:18

mortgage. And I think the reasons behind

45:20

government borrowing are different from

45:22

reasons for household borrowing. If I

45:24

borrow it, it's because I haven't got enough ready

45:26

cash. If the government borrows, it

45:29

could be because they're trying to

45:31

do something counter-cyclical. If there has been

45:33

a slowdown in growth, they may be trying

45:35

to stimulate the economy by borrowing. I think

45:38

that's a really good point. The rational course

45:40

of action is completely different. Opposite, you

45:42

might say. Like, if I as an

45:44

individual lose my job... It's sane and proper

45:46

to cut my spending, to cut my

45:49

cloth accordingly. Whereas if you think about the

45:51

government, if the economy tanks and lots

45:53

of people are losing their jobs, what

45:55

you want the government to do is

45:57

to boost spending and to stimulate demand.

46:00

This is what Keynesian economic says

46:02

at least. The government is acting

46:04

counter-cyclically, like you say. It's completely

46:06

the opposite to an individual. And

46:08

as a final point, whenever people

46:10

talk about having no debt, as

46:12

if that were a good thing,

46:14

remember that things like treasuries, UK

46:16

guilt actually form the lubricant for

46:18

the entire financial system, which really

46:20

wouldn't be able to run as

46:23

it exists now, without that very

46:25

safe debt. So just remember that

46:27

one of the side effects of

46:29

having a deficit and having an

46:31

outstanding debt is a good thing,

46:33

which is it makes the financial

46:35

system work. I mean it kind

46:37

of works, doesn't it? Close enough.

46:39

We're muddling through. Thank you for

46:42

joining us for many happy returns.

46:44

Keep sending us your questions, no

46:46

matter how dumb, at MHR at

46:48

pensioncraft.com. And do remember to check

46:50

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46:52

about our membership courses and investment

46:54

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46:56

a pension craft production. Co-hosted and

46:58

executive produced by Romyn Akisa and

47:00

Michael Pew. This podcast is for

47:03

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47:05

not financial advice. We do not

47:07

provide recommendations or endorse any decision

47:09

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47:11

security. We cannot be held responsible

47:13

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47:15

and investors are encouraged to seek

47:17

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