In a recent article by Warwick Smith in The Guardian, a group of economists refuted three of the government’s claims, namely that there was a budget emergency, that there was a debt crisis and that the carbon tax was an economic wrecking ball.
Knowing how difficult it is to get economists to agree on anything, this seemed like quite a coup and reading it only served to remind me of some of the government’s ‘over the top’, exaggerated and often inaccurate outbursts from various ministers in their feverish attempts to scare us into thinking we have a problem with the economy.
Leaving the matter of the carbon tax to another time, the issue of debt and deficit is quite another matter and should be pursued vigorously.
If there is one way to prove or disprove the existence of a national debt, it is to ask the question: to whom is the debt owed? Government debt (so-called) occurs when the government places a tender on the open market. This is done through The Australian Office of Financial Management. They are the ones who place tenders for the sale of Treasury Bonds.
The most recent tender was for $1.5 billion on 18th July 2014 (Tender 705) at 2.75%. This tender attracted 92 bidders who sought to invest a total of $3.881 billion. The tender, therefore, was oversubscribed and in the end, 39 bidders were successful, 27 of whom received their requested allocation and 12 received a partial allocation. So, bad luck for the 53 bidders who missed out.
The thing is, these bidders were actually competing to buy these bonds. No one was twisting their arm to provide the money. They were, in fact, competing to invest in Australia’s future. That doesn’t sound like the government incurring a debt to me. It sounds much more like people or companies investing in shares on the stock market. I did something similar many years ago when Telstra was put up for sale. The same thing happened then. The offer was oversubscribed and I didn’t get as much as I asked for.
But, just like the stock market, the buyers of these bonds can sell them, if they wish, on the bond market. So, if any of those 53 bidders who missed out on the initial offer, or anyone else, wanted to get in on Tender 705, they still could. So that suggested to me that the government didn’t have to repay that bond, it could simply be traded for the life of the country on the bond market. Except that it does have a use-by date and in the case of Tender 705, that date is 21st October 2019.
But back to the issue at hand.
So, in this case, the government has just raised $1.5 billion repayable on 21st October 2019. The question to be asked here is: what did the government want to do with this money? It looks very similar to a company wanting to raise capital for an acquisition program by announcing a new share issue.
When I put this question to the nice man I spoke with at The Australian Office of Financial Management (AOFM), he said the money goes into consolidated revenue to cover periodic shortfalls in the difference between revenues and outgoings. All of which sounds similar to me borrowing twenty dollars from my brother to buy petrol while waiting for next week’s pension deposit to arrive in my bank account. His answer was what I expected but it was the wrong answer. The bonds are issued to soak up the overflow of cash in the banking system, but he was not going to admit that. It is possible he did not know that.
Every six months the AOFM then issues coupons to the investors (mostly banks), to the value of the interest rate promised. Then, in 2019, the government will repay the principal together with the value of the interest for the final six months.
At the end of each financial year, the treasury accountants add the tax revenues received plus borrowings derived from the bond sales and treasury note issues and that amount should equal the total expenditure for the year. All of which means the books are balanced.
That still leaves unresolved the matter of the money borrowed and the interest payable on these bonds. That is essentially what we call the Deficit. It has to be repaid, doesn’t it? Where does that come from? My friend at the AOFM told me that interest and principal is paid out of general revenue. He pointed out that of the 2014 budget expenditure of $401 billion, $14 billion represented interest payments. Another wrong answer. The interest payment is created out of thin air (ex nihilo).
So then I put the question to him: why not just create the money out of thin air (ex nihilo) to pay both the interest and the money borrowed? He was aghast. Not a good idea, he said. That causes inflation, he said. I suggested that the inflationary element could be controlled by limiting the amount of money in circulation through taxation. Yes, he said, that’s possible. I further suggested that by creating the money we would effectively reduce the value of our dollar on world markets. Isn’t that what we all want for our export industries and local manufacturers?
At this point my friend suggested I call the Treasurer; he said that what I was proposing was a policy matter for government not one for the AOFM to answer. Very true. But his answer betrayed an undeniable truth. It revealed all too clearly that debt can be extinguished out of thin air if a government wanted it so, and that such a policy could be beneficial to Australian export business and local manufacturing.
This, to me, makes a mockery of Joe Hockey and every other government minister’s claims of a debt crisis, and pretty much everything else they say. The government wants us to think, as I once did, that running a nation’s economy is the same as running household debt.
It isn’t and all it takes to explain this is the will to do it.