Sean O'Grady: Our debt hangover is stopping us joining the global growth party

We need to pause and drink in the pure milk of Keynesian orthodoxy, and remind ourselves of the paradox of thrift
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The Independent Online

Alistair Darling is a just a little bit like the guy down the pub who won't stand his round. We've all seen them, shying away from the bar at the crucial moment, pleading that they've left their wallet at home, generally expecting a free ride.

Mr Darling too would like everyone else to look after the UK's need for economic refreshment. He's borrowed so much lately he's running out of credit. His bank manger, a bespectacled chap named Mervyn King, told him a few months ago that the party was over and that, when he was ready, he ought to think about repaying the overdraft. No pressure, but the message was clear enough all the same. He more or less agrees with Mr King about that, actually. That's why Mr Darling has to get other people to buy him his favourite cocktail – a fiscal stimulus with a twist of monetary boost and a car scrappage scheme chaser. Thus, when he tells other governments, such as the French and Germans, as he did via this newspaper yesterday, that they must carry on spending their way out of recession, what he really means is that he wants them to carry on spending their way out of our recession – because he is skint. Having themselves emerged from their downturns a few months ago, along with Japan, Australia and others, President Nicolas Sarkozy and Chancellor Angela Merkel can be forgiven for looking askance at our importunate Chancellor. The signs are that they won't be buying him many more drinks. Cheers.

As a glance at the latest forecasts from the OECD shows, the UK is punch-drunk from the recession, even though it wasn't as harsh here as it has been in other places. We are hung over from it, though – the sick man of the world economy, lagging well behind our peer group of the major advanced economies. We ought to be able to benefit from the revival in exports because of the 20 per cent plus deprecation in sterling over the past two years, but so far it just seems to be trimming our traditionally insatiable thirst for imports (which is something). We ought, equally, to be making much more of the substantial easing in credit markets that has occurred since the most savage phase of the credit crunch, yet businesses and homebuyers complain that credit is hard to come by, and there are signs that we may not be as keen on taking on debt, no matter how cheap it is, as we used to be.

The reason behind our slow growth, now and in the future, is simply that we will have to clear our vast "debt overhang". Consumer debt alone runs to almost £1,500bn, or about a year's GDP, and the public sector is fast catching up with that total. Throw in the usual dizzying sums for bad bank debts and you have the biggest debt mountain, relative to the size of the economy, in the advanced world. The truth, now dawning on us, is that we will be paying off our debts – private and public – for a very long tome to come, which will stymie our ability to spend, and thus to grow, for perhaps decades. We're chipping away at it now. The first net repayment of consumer debt in 20 years or more was announced by the Bank of England earlier this week. It was a hugely important moment, telling us much about our current priorities.

Anecdotal evidence is not always the best to rely on, but when you hear your most generous, indeed profligate, friend declaring apropos of nothing in particular that they are going to start saving, (as I did recently) then you know something is afoot. I have also heard stories about people on tracker mortgages ignoring the windfall they've been given from the cut inbank rates to 0.5 per cent and maintaining their old monthly repayments – not spending the cash and not what the Bank of England had in mind at all. It makes psychological sense too. If you're worried about losing your job, as so many of us are, and you think house prices are not about to shoot up, you're not likely to take out a loan or mortgage – no matter how cheap it may be. That is the deflationary mindset that represents the biggest single threat to a return to strong growth. Forget all that stuff about the banks not wanting to lend – we don't want to borrow, thanks very much. Or at least that is the danger.

What's the answer to that? Well, as Keynes famously observed, monetary policy can be as ineffective as pushing on a string when an economy has been drained of all its confidence. Interest rates become irrelevant to business people who cannot see a profitable investment out there. Pumping more money in through "quantitative easing" has only a limited effect if the banks are sickly and consumers as nervous about debt as they are. We need to pause and drink in the pure milk of Keynesian orthodoxy here, and remind ourselves of the familiar paradox of thrift. For while it might well make sense for us as individuals to trim our spending and pay back our bloated credit card debts and demanding mortgages, it does not make a lot of sense for the economy as a whole, which needs our spending– starved of which it will just goes into another decline, or at least not grow very fast.

That means that the Government has to take up the slack, in true Keynesian style – which ought to be possible really. After all, even if total public sector net debt rises to 10 per cent of GDP it will still be way below where it stood for most of the 1950s and 1960s, say. Even then the economy still managed to grow, albeit fitfully sometimes, year in, year out. Debt as a percentage of GDP peaked at 262 per cent in 1946, yet life went on, albeit in an austere fashion.

Yet that is only a part of the debt problem. The sheer volume of paper we will be trying to dump on the gilts markets – perhaps £200bn a year – looks indigestible, and it certainly will be without the Treasury's biggest customer, the Bank of England, helping out. But there is a further debt issue. For years we have been private sector Keynesians – borrowing heavily to finance rapid growth and the housing bubble. But we've been bad Keynesians because all that time we were stoking the boom, not dampening it, as Keynes would advise. Now we are maxed out on our overdrafts, student loans, credit cards, store cards, charge cards, personal loans, mortgages, buy-to-let mortgages, second mortgages, and all the rest of it. Factor all that in, and the feeble state of the banks, and you can see why the money markets might be nervous about UK plc looking for yet more credit. We will soon hit the buffers on our ability to borrow and spend out way out of recession – hence the need to get our friends in Europe and elsewhere to help us out by spending freely on our exports. Relying on others for your economic revival ishardly ideal.

In the world as a whole, the recession may be ending faster than we thought possible, perhaps because globalisation, international supply chains and the internet have linked us up so much more than in previous recessions – the counterpart to the amazing speed and synchronicity of the international slump of 2007-09. But not in Britain's case. Not quite first in, we will certainly be last out, and we can look forward to many years of sluggish growth. I need a drink.

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