What of past debts? In 1427 the Florentine public debt amounted to some 5 million florins, roughly ten times what it had been a century before. This was probably rather more than total ‘national’ product.90 The combined public debt of the Dutch United Provinces was still bigger: it was around 100 per cent of national product by the 1690s, and rose still higher in the years of French rule between 1795 and 1806.91 By contrast, early modern monarchies were less indebted. The French debt in 1561, for example, was around 20 per cent of GNP.92 The debts of the English crown remained tiny in relation to national income until the late seventeenth century. In the course of her reign, Elizabeth I’s debt fell from £227,000 to zero and then rose again to £350,000: this last figure amounted to no more than 1 per cent of national product. Even at the time of the Glorious Revolution, the royal debt of £3 million represented little more than 5 per cent of national product.93 In the seventeenth century the Swiss Confederation had no debts whatever; indeed, some of its constituent republics had considerable assets. In 1600 around a third of the total expenditure of Lucerne, for example, was invested in loans to other states and individuals.94
In the century after the Glorious Revolution, however, Britain’s debt rose with only a few peacetime pauses to 215 per cent of national income in 1784. After a brief peacetime decline in the following decade, it rose again to 222 per cent of national income in 1815 and reached a peak of 268 per cent in 1821.95 Small wonder the national debt became a byword for immensity. ‘My master is the best of all husbands in all the five quarters of the globe,’ wrote Leopold of Saxe-Coburg’s secretary Baron Stockmar in 1816, shortly after his master’s marriage to Princess Charlotte, daughter of the Prince Regent, ‘and his wife bears him an amount of love, the greatness of which can only be compared with the English national debt.’96 The British debt burden was indeed exceptionally high. Not only was the French debt lower in absolute terms; French national income was higher. According to one estimate, the total French debt in the late 1770s was equivalent to just 56 per cent of GNP;97 though another source implies a figure of over 80 per cent in 1787, and a third estimate for 1789 puts it at 150 per cent.98 Even the highest estimate is considerably below the equivalent British figure.
Figure 8 attempts to present the longest possible view of public debt in Britain, France, Germany and the United States. As is immediately obvious, the British experience has been of two great mountains of debt, due to the eighteenth-century wars against France between 1688 and 1815 and the wars against Germany between 1914 and 1945. Though of equal height – in 1946 the debt/income ratio only just exceeded the post-Napoleonic peak – the two peaks are distinguished by their gradients, the slopes of the later debt mountain being much steeper on both the ascent and the descent. The ‘south face’ of the earlier mountain is in fact a series of lesser summits (in 1698, 1721, 1750, 1764 and 1784); while the later mountain has a jagged triple summit (1923, 1933 and 1946).
Figure 8. Public debt/GNP ratios since the late seventeenth century
Sources: Britain: Goodhart, ‘Monetary Policy’, statistical appendix. I am grateful to Ryland Thomas for supplying the complete database used by Professor Goodhart. US: Brown, ‘Episodes in the Public Debt History’, pp. 245–51; from 1980: Statistical Abstract 1999, table 542; Federal Reserve Bank of St Louis, website. Germany: 1850–1914: Hoffmann, Grumbach and Hesse, Wachstum, pp. 789 f.; 1914–23: Balderston, ‘War Finance’; Webb, Hyperinflation, p. 49; Witt, ‘Finanzpolitik’, p. 424; Mitchell, European Historical Statistics, p. 390; Holtfrerich, German Inflation, pp. 67 f.; 1925–38: Hoffmann, Grumbach and Hesse, Wachstum, pp. 789 f.; James, German Slump, pp. 52, 375; 1939–45: Braun, German Economy, pp. 112, 115; 1950–1998: Statistisches Bundesamt, Statistisches Jahrbuch 1997, tables 24.3, 20.5; Deutsche Bundesbank, Monatsbericht (Aug. 1998), p. 56. France: Schremmer, ‘Taxation and Public Finance’; Flandreau, ‘Public Debts’; 1920–1929: Alesina, ‘End of Large Public Debts’; 1960–1999: OECD (gross debt as a percentage of gross national income).
Note: These series are not perfectly comparable. British and American figures are expressed as a percentage of GNP; German figures as a percentage of NNP. The debt figures are not exactly comparable either, as the British and French figures exclude local government debt, the American figures exclude state and local debts, as well as federal debt held by the government or Federal Reserve system; while the German figures are for total public debt, including all levels of government.
By comparison, both France and Prussia emerged from the Napoleonic period with debt/national product ratios below 50 per cent. Indeed, the French debt burden remained below 50 per cent until the war of 1870, but thereafter rose sharply to reach a peak of 117 per cent in 1887, then declining gradually to just 66 per cent on the eve of the Great War. The Prussian debt burden fell sharply from 42 per cent in 1815 to 11 per cent in 1848 and was still only 14 per cent in 1872. Its subsequent rise should be seen alongside the rise of the federal debt of the German Reich. While the Prussian debt burden came close to 50 per cent in 1892, the Reich debt grew rapidly to a peak of 47 per cent of net national product in 1894. In other words, the major continental powers had rising debt/GNP ratios at a time when Britain’s was being reduced.
All three European powers experienced dramatic and comparable increases in the ratio of debt to GNP during the First World War. After 1919, however, their paths sharply diverged. While the British and French debt burdens rose in the immediate post-war years, the German declined precipitously to zero in 1923, for reasons to be discussed in the next chapter. After peaking at 185 per cent of GNP in 1922, the French burden also fell sharply in the years to 1930, though it remained in excess of 100 per cent of GNP. The British debt burden by contrast hardly fell at all in the 1920s and actually rose between 1930 and 1933. The German debt burden remained relatively lower than the British and French during the Great Depression; but after 1933 it soared with astonishing speed, overtaking that of Britain in 1943. Yet after the Second World War it fell once again to less than 20 per cent of GNP in 1950. The French debt burden was also much reduced after 1945, and indeed continued to decline in the 1950s and 1960s: from above 30 per cent in 1958 to less than 8 per cent in 1974.
The American federal debt burden has followed a lower and somewhat smoother path, declining from above 60 per cent after the War of Independence to zero in the 1830s, then rising sharply from 2 per cent in 1860 to 41 per cent in 1878. Even when state and local debts are included, total American public debt was low in the nineteenth century: around 10 per cent of GNP in 1825, rising to 15 per cent in 1843, then declining slightly to 12 per cent in 1860. Its highest level was in 1870, after the Civil War, when it reached 49 per cent of GNP; but thereafter the ratio fell back to just 14 per cent in 1913.99 Even the First World War caused a far smaller increase than the European states experienced: in 1919 the federal figure was a mere 30 per cent, compared with European figures of around 150 per cent. The debt burden rose during the Great Depression, from a low of just 16 per cent in 1929 to 45 per cent in 1939 (the total public sector debt was by now around 100 per cent of GNP); and went even higher as a result of the Second World War, at the end of which the federal debt alone amounted to 114 per cent of GNP. Like Britain, however, the US saw a sharp fall in its debt burden in the post-war years, in the American case to just 23 per cent of GNP in 1974. In 1980 the total public debt of all three tiers of American government was just 38 per cent of GNP. Set in this comparative perspective, the subsequent increase of the debt under Ronald Reagan – which at the time caused commentators so much Angst – was modest, as the figure makes clear.
Using the OECD definition of total gross government debt, the post-Reagan US figure peaked at just over 63 per cent of GDP, a lower figure than for at least nine other OECD members. Moreover, the debt burden had risen more steeply during the same period in seven other OECD economies.100 Even on the broader definition used in the Statistical Abstract of the United States, total public sector debt was no more than 82 per ce
nt of GDP in the mid-1990s. If one thinks of this debt as at least in part a consequence of winning the Cold War, the figure is strikingly close to the equivalent figure in 1946, immediately after the Second World War had been won. And, as we have already seen, the budget surpluses of the late 1990s have raised the prospect of substantial if not total repayment of the federal debt. In Britain too buoyant government revenues in 2000 prompted the Chancellor of the Exchequer to talk – perhaps hubristically – of debt redemption.
By comparison, four OECD member states in 1999 had debt/GDP ratios in excess of 100 per cent (Italy, Belgium, Japan and Greece). And even these figures pale into insignificance alongside the external debt burdens of many less developed and post-Communist economies. In Guinea-Bissau total debt exceeds 500 per cent of GNP; in both Nicaragua and the Republic of Congo the figure is above 300 per cent. Five other countries – all in sub-Saharan Africa – have total debts in excess of two years’ GDP.101
DO PUBLIC DEBTS MATTER?
How high is too high? According to Mr Micawber, any deficit at all was excessive: ‘Annual income twenty pounds, annual expenditure nineteen nineteen six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.’102 This is the view some American politicians take of public finance: they would like to see a balanced budget amendment to the federal constitution similar to those already in force in some states. Europeans are less Micawberish. The Maastricht Treaty specified that countries wishing to qualify for single currency membership should not have deficits in excess of 3 per cent of GDP, nor debts in excess of 60 per cent; though neither criterion was rigidly enforced. The British Chancellor of the Exchequer, Gordon Brown, has recently suggested that the British debt should be stabilized ‘over the economic cycle’ at around 40 per cent of GDP.
Yet the long-run experience – and especially that of Britain – would seem to fly in the face of all such rules. Any theory of the economic significance of public debt must explain why Britain was not only able to overcome economically and demographically superior antagonists in both the eighteenth and the twentieth centuries; but also why she managed to avoid the internal political crises associated with high debt burdens in both France and Germany; and, above all, why she emerged as the ‘first industrial nation’ despite carrying a public debt burden of unparalleled size and duration.
Anxiety about the macroeconomic impact of large public debts is not new. When David Hume contemplated Britain’s growing national debt in 1752 he saw ‘the seeds of ruin … here scattered with such profusion as not to escape the eye of the most careless observer’.103 Sir James Steuart, writing fifteen years later, agreed: ‘If no check be put to the augmentation of public debts, if they be allowed constantly to accumulate, and if the spirit of the nation can patiently submit to the natural consequences of such a plan, it must end in this, that all property, that is income, will be swallowed up by taxes.’104 Adam Smith argued in The Wealth of Nations that loan finance tended to crowd out private investment and hence to depress private capital formation.105 Ricardo called the national debt ‘one of the most terrible scourges … ever invented to afflict a nation … the overwhelming incumbrance which palsies all effort’.106 The moralistic nature of this critique exerted a powerful influence on Victorian politicians. In March 1854, arguing vainly that the Crimean War could be paid for out of current taxation, Gladstone described ‘the expenses of war’ as ‘a moral check which it has pleased the Almighty to impose upon the ambition and lust of conquest which are inherent in so many nations’.107 ‘To resort to the money market for a loan’, he declared, ‘would be a course not required by our necessities and therefore unworthy of our character.’ Citing (selectively) John Stuart Mill and McCulloch, he argued that ‘capital taken in loans’ might be ‘abstracted from funds either engaged in production or destined to be employed in it’ so that ‘their diversion from that purpose [would be] equivalent to taking the amount from the wages of the working classes’. Raising taxes, on the other hand, would encourage ‘the community’ to take ‘the first and earliest prospects of concluding an honourable peace’.108 It was the mid-Victorian conventional wisdom that ‘taxes are taken from income, and loans from capital’.109 On this basis, Stanley Jevons argued (in his Coal Question of 1865) that the national debt should be paid off entirely because Britain’s coal reserves – a key component of the national wealth – would be exhausted after a century. This so alarmed Gladstone that he sketched plans to eliminate the debt over the next two hundred and fifty years by a combination of budget surpluses and a pacific foreign policy.110
Yet there has long been a counter-argument that public borrowing can have beneficial effects. The eighteenth-century writer Isaac de Pinto claimed that national debts might be a positive stimulus to growth, since ‘the debts, never becoming due, and having no critical period to dread, are as if they did not exist’. Each new loan, he argued, ‘create[s] a new artificial capital which did not exist before, which becomes permanent, fixed and solid, as if it were so much real treasure’. ‘When once a fund is created, the numerary remains, and the contributive faculty increases as well as circulation, and without too great an increase of specie … A light tax is drawn from the nation, into whose hands it returns again, with a general benefit to the whole.’111 Thomas Malthus opposed repayment of the national debt on the ground that, by dint of what would now be called a ‘wealth effect’, bondholders’ consumption boosted aggregate demand.112 At a rather less sophisticated level, a national debt could be seen as enhancing a state’s power – even its prestige. In 1781 Alexander Hamilton, the genius of early American public finance, declared: ‘A national debt, if it is not excessive, will be to us a national blessing. It will be a powerful cement to our nation.’113 Some eighty years later, in his ‘Biglow Papers’, James Russell Lowell satirized the Confederate leader Jefferson Davis’s claim to independence on this basis: ‘We’ve a war, an’ a debt, an’ a flag; an’ ef this ain’t to be independent, why, wut on airth is?’
More sophisticated defences of public debt have been advanced in the twentieth century. The early Keynesians argued that ‘functional’ deficit finance could be used to stimulate an economy operating below full employment: public sector deficits and therefore debts would be a good thing in a crisis.114 More recently it has been argued that the growth of public debts can, if markets are incomplete, assist capital formation and economic growth by encouraging the development of financial institutions (to be precise, ‘by introducing new securities that expand risk-sharing opportunities’).115 Historians have suggested that this helps explain Britain’s economic success in the eighteenth century, despite a high burden of debt. The positive relationship between debt and capital formation was especially strong, it is claimed, in the later phase of the Napoleonic Wars, when loans were used to pay for British ships and armaments.116 It is certainly true that government borrowing effectively created the market for private sector bonds and shares, as Table 3 shows. In 1853 British government bonds accounted for 70 per cent of the securities quoted on the London Stock Exchange. By 1913 the figure had fallen below 10 per cent, but the effect of the world wars in increasing the government debt and stifling private sector issuance drove the proportion back up to 55 per cent in 1950. Even as late as 1980, gilts accounted for more than a fifth of the market value of all securities on the London Stock Exchange and 60 per cent of the nominal value.
Another justification for public debts is that the transfers they effect simply do not matter that much. In his Essai politique sur le commerce (1736), the French theorist Jean-François Melon argued that a national debt was made up of ‘debts from the right hand to the left, by which the body is not weakened if it has the necessary nourishment and knows how to distribute it’.117 This anticipated the idea that debt is not necessarily worse in macroeconomic terms than tax because (in the economist Robert Barro’s words) ‘households view as equivalent a current aggregate tax of $1 and a current budget deficit of $1’
.118 The key assumption here is that, to any household with a sense of obligation to the next generation, a tax tomorrow (to pay for current borrowing) amounts to the same as a tax today.119 Government deficits, in this view, merely influence ‘the timing of real economic activity’ in that they influence the timing of taxation. Indeed, when taxes are distortionary – in other words, when they impose distortions on the economy that will tend to reduce growth below its optimal level – deficits can play a beneficial tax-smoothing role, allowing the payments for exceptional events like wars or recessions to be deferred until more prosperous periods.120 Since taxes usually are distortionary, this is an important argument for public borrowing in a crisis. The point was anticipated nearly a century and a half ago by Sir George Cornewall Lewis, the British Chancellor of the Exchequer who replaced Gladstone during the Crimean War. ‘Taxes which cripple enterprise and derange industry or interfere with the ordinary distribution of capital’, he argued in April 1855, ‘are more detrimental to the community than loans effected by the Government.’ Or, as the Oxford economist G. K. Rickards put it in a lecture that same year: ‘Better to succeed to a mortgaged patrimony than to an exhausted estate.’121
The Cash Nexus: Money and Politics in Modern History, 1700-2000 Page 17
