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Paying Down Debt

At one stage during the election campaign, either Scott Morrison or Josh Frydenberg hinted at their intention to begin paying down the national debt if they were re-elected.

It is a sad reflection on our media that no one thought to ask how this might happen. If they had, it’s likely they would have exposed a simple, albeit inconvenient truth, firstly about how that debt is created and secondly, how it is retired.

Currency-issuing governments don’t need to acquire debt, but given that the funding of deficit spending is a fact of life in Australia, we should all know just what the procedure is, and how it works.

To fund deficit spending, the government issues bonds in its own currency. Various entities, both here and overseas, buy these bonds because they have money they want to invest and bonds are considered safe investments.

The bonds are issued for a specific length of time (3, 5, 10 or 20 years), the money received for them is held in an account at the Reserve Bank, interest is paid twice yearly and when the term expires, it is returned to the bondholder.

Under current arrangements, when the Australian Office of Financial Management (AOFM), anticipates that the consolidated revenue account is running low, it will issue a bond sale tender to meet the expected shortfall.

There are other considerations such as yields and so on and the bondholders can, if they choose, sell their bonds on the secondary bond market and even make a profit from it. But that’s another story.

So when and how can this process reflect a reduction in government debt accumulation? Well, it can’t. As long as governments spend more than they collect in taxation, this is the process that plays out. It doesn’t have to, but governments choose to do it this way. It’s a political choice.

In some cases, when a bond issue matures, the government will issue a new tender just to cover the amount being repaid to bond holders. New tenders can be issued to cover maturing issues. It sounds stupid, but what can one do.

From this we can see that debt is accumulated to offset deficit spending and old debt is being retired and replaced with new debt. But what happens when government produces surpluses? Does the AOFM stop issuing tenders for bonds? That would seem to be the logical thing to do, wouldn’t it?

The last time this occurred was in the early 2000s when John Howard famously and incorrectly claimed that his government had paid down all debt.

They had, in fact, reach a point where net debt was thought to be zero, but some gross debt (bonds still on issue), was still owing. Gross debt is what interest is paid on. Howard and Costello wanted to shut down future bond sales but, as it happened, they continued to issue bonds even when the government was producing surpluses. Why?

The answer to that question is best explained by Philip Baker’s article written for the Evatt Foundation in November 2002 where he writes…

“Commonwealth bonds, which the government issues when it borrows money, are the safest of all securities. For many individuals who are labouring to pay off credit cards and mortgages, zero government debt may sound like a good thing. But it could also create a dilemma for big and small investors because it would result in a real shortage of risk-free, safe-haven assets for superannuation savings. The remaining government bonds on issue would be scarcer and more expensive for investors. Fund managers would be forced to invest in riskier corporate bonds or send the money offshore – at the very time the government has increased to 9 per cent the amount of an individual’s salary that must be invested in superannuation.”

So the Howard government continued to issue bonds because the bond traders needed them as leverage against a shrinking and less-safe market. This implies that bond sales have nothing to do with government debt.

So where does this leave Scott Morrison and Josh Frydenberg who desperately want to be seen to be paying down debt, a debt which in reality, does not exist? If the government were to cease issuing bonds it would make no difference to the nation’s fiscal balance. But it would incur the wrath of the bond traders and we couldn’t have that, could we?

Of course, none of this needs to be thought about while we continue to have a negative fiscal balance, i.e. deficit spending, and with the economy currently in a downward spiral, that situation will continue for some time yet. Despite Morrison and Frydenberg claiming we are back in the black, we are not. Not this year, or the next, or likely even the one after that.

And, just for the record, here is where the gross debt position stood back when the adults took over*** and where it is today:

May. 2019. $541 billion

September. 2016. $420 billion

September 2013. $257 billion ***

August . 2007. $58 billion

So much for a debt and deficit disaster. And where are those fearless journalists who could take on the Prime Minister and Treasurer when they make deceptive statements about paying down debt?

Perhaps an intimidatory raid on the ABC might keep them quiet for a while.

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13 comments

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  1. Peter F

    Actually. after the election I heard Frydenberg say that they are going to ‘pay down Labor’s debt’.. The lies continue.

  2. Phil Pryor

    This budget on forward estimates will run gross debt up to $629 bill, estimated, by next years June 30. From Abbott to Turnbull to Morrison, 2013 to 2020, an accumulation of c. 360 billions of gross debt from these clapped out clowns of lying self praise,and dangerous incompetence. Net debt is a different, but very high increase and total. They lie and are covered by foreign media swine.

  3. pierre wilkinson

    I find it so hard to believe that Labor does not call the government on its’ economic credentials: the facts decidedly tell that their claim to being responsible financial managers are totally bogus, yet no-one seems to mention it.

  4. Pete Petrass

    Yes they were claiming to be paying down Labor’s debt, it has always been Labor’s debt despite the fact they have actually more than doubled Labor’s debt. Does that mean they will only pay down Labor’s part and let their own part run rampant since that bit does not really matter?

  5. Kerri

    Thank you John.
    Good article.

  6. Terence Mills

    John, as Peter mentioned above Frydenberg has consistently said that they would pay down Labor’s debt.

    These people speak in riddles : Labor’s debt in September 2013 was $175 billion : the coalitions’ debt as at April [latest figures] was $372 billion.

    So which debt will they actually be paying down ?

    What worries me more is the way they got into office particularly in Queensland by a scare campaign of lies and misinformation : I know as a fact that this impacted on many senior citizens in my area : https://www.theguardian.com/australia-news/2019/jun/08/it-felt-like-a-big-tide-how-the-death-tax-lie-infected-australias-election-campaign

  7. Wat Tyler

    Since Abbott became PM, but more coincidental with Morrison’s smug ‘on water’ comments, something very disturbing has been happening in this country. It is said that mentioning Nazi Germany is to signal that you’ve lost the argument, but sometimes there are no other comparisons. The three instances of the AFP activities this very week are evidence that the Australian Federal Police are now the Australian State Police.
    An earlier poster said the Australian Press should call them out. Which particular publisher is going to do so? They have even attempted to silence a Murdoch journalist – one of their own.
    The Guardian, for which I had great hopes, has been a disappointment, and even employs former Murdoch people.
    Saying the acts of the government and it’s captive subsidiaries ‘should be publicised’ overlooks the increasingly apparent truth that
    Australians don’t actually have the stomach to buck authority, despite our delusions otherwise. Either that, or they don’t even care.
    The almost-crushed Union movement was invariably led by migrants.

  8. Kaye Lee

    I don’t understand why the RBA is not allowed to buy buy bonds directly. As it is, they trade in them, but are precluded from buying them on issue. If they did (which would really just be an accounting exercise), we could either pay no interest on them or pay the interest to the RBA from which the government draws dividends.

    But, as John says, the commercial traders may be peeved.

  9. Florence Howarth

    It is a.lways Labor’s debt. Never theirs.

  10. John F

    John Kelly, thanks for explaining the LNP financial model.
    You ask “where are those fearless journalists”?
    Probably playing scrabble to gee up their word prostitution skills so they can more eloquently degrade policy analysis.
    That or sucking on Chupa Chups. I mention Chupa Chups because there was a segment on ABC this week of how the retail sector is in a pit. A video clip of a full basket of Chupa Chups at the check-out accompanied the voice-over of the story. While some news outlets depict weak retail by showing a street full of closed shopfronts the ABC has gone with an idle basket of lollies. If nothing else it proves at least one cameraman has a sense of humor-something else to laugh at in the media.

    pierre, “I find it so hard to believe that Labor does not call the government on its’ economic credentials”.
    What hope for Labor while the media is at saturation point with headnodders toeing the neo-con partyline?

    Kaye Lee, “I don’t understand why the RBA is not allowed to buy bonds directly”.
    That is a question I would like to know too.

  11. wam

    The autocue journalists are restricted by time, measured in seconds, and by controversy measured by level of tears or tirade.
    The rabbott gave them the simple questions, requiring complex answers, to ask labor and he made the controversy.
    Shorten stuck to the ABC and fair play. QED.
    Albo can be a power in a scrap between pollies but will he be able to get the controversy excitement into the morning shows to show the lnp as inept in economic management???

  12. helvityni

    Has the MSM finally woken up, it seemed to agree with everything the Coalition said or did during the election period….or even before it…

  13. Max Gross

    Are we there yet?

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