Tuesday, October 28, 2008

UK Government on Track for Bankruptcy

Today, I am just going to conduct a very quick review of some of the news that has emerged is confirming the the UK is on course for a government debt default. The strength of the US currency means that the US is safe from default at the moment, but a UK default will probably be the first step towards the loss of confidence in the US government position, and may see the US default as well.

The first piece of news is that the IMF is now running out of funds, and as I have discussed before, the idea that the IMF will be able to rescue the UK when the crisis comes is diminishing. The second piece of news is that the once mighty £sterling is in freefall against currencies around the world. This is what the Times has to say:

'The descent of the pound drew comparisons with the early 1990s. Then it fell 50 cents from $2.01 to $1.50 - but this time the downward spiral of the currency is gathering momentum.

“People are selling the pound because it’s there. There’s no reason for them not to,” said Nick Parsons, head of markets strategy at National Australia Bank, who is forecasting that the pound will go as low as $1.40 early next year.'

The most interesting part of the article, however, is that the reasons for the fall, which are given as:
“We will go down further because the problems the UK faces are worse than other countries. We are uniquely exposed because of the sheer amount of debt we’ve got.”
In other words, the markets are now realising that the UK is in very deep trouble, and that the UK debt position is unsustainable. This has been an underlying theme of the blog since the first post. The collapse of the £sterling is exactly as predicted in my November essay 'A Funny View of Wealth':
All the while this is happening the government will fall into crisis. With a falling pound, an economy collapsing around them, and an already overstretched borrowing position....'
The 'all this' that I am referring to is the collapse in house prices and consumer spending, and the downward spiral of the economy. I detailed in the essay why the £GB would fall. One factor is the collapse in inward investment that bolstered the £GB, another is that the UK simply does not produce enough goods and services to support the £GB. To this, in later posts, I added that demand for the £GB would fall due to drop in demand for the currency to lend back to us.

The implications of the fall in the £GB for the UK economy are profound. The problem that this will cause for the government will be how to finance government borrowing. With a falling £GB the UK overall is now a high risk destination for money. Nobody wants to lend into a devaluing currency, as the devaluation destroys the value of their investment. This will drive lenders in one of two directions; either they will charge extremely high costs for their lending, or will ask for repayments in another currency, thereby shifting the risk on to the borrower. In both cases, government borrowing will become unaffordable.

Meanwhile, government spending is already spiralling out of control. Add to this that the government has now taken on huge costs and liabilities in the banking bailout, and it becomes apparent that the government is on course for disaster. For example, according to the Times, repossessions have climbed by 71%. The collapse of the economy is going to see ever more defaults on mortgage and consumer credit, as well as defaults on consumer loans. These defaults will hit the financial sector hard, and that now means that they will hit the government. The government is going to need very deep pockets to support the financial sector, but it just does not have them. This is one of the reasons why I have consistently opposed the bailout, arguing that it would push and already overstretched government into the certainty of default.

As the crisis deepens, the government talks more and more of ever more borrowing, calling on the ghost of Keynes as justification. However, Keynesian economics never allowed for increased borrowing in the 'good times', and in the case of the UK the borrowing has been both by the government and consumers. In other words, even if Keynesian economic theory is accepted, this is a gross distortion of the principles. There is therefore no doubt that very few potential investors are going to buy the UK government's economic policy.

For lenders, there will be a larger question looming. How exactly will the UK emerge from this crisis, and how will the economy expand to eventually repay this borrowing. I posted a comment on a forum a while back, asking anyone to point to where the future growth to repay the debt will come from. Not one answer was provided, and this is because there is no miracle around the corner that can return the UK to wealth. There are, quite simply, no sectors of the economy that promise any growth that will provide any significant new real wealth.

All of these elements add up to the onset of the financial crisis for the UK government, and a sovereign default. It is now only a matter of time before the UK faces up to the reality. It is bankrupt.

Note: I have been asked to give a firm date (see comments below) for when the UK will default on debt. However, whilst I have predicted the timing of many of the key events of the current crisis, this does not mean that I can read the future. I first mentioned the possibility of UK defaults back in June (I believe) but gave no estimate of time. More recently, I have suggested that it would be in about 3 months time, and that was about a month ago. I believe that the guess is starting to look more ever more credible, so will stick with that timescale, so would guess at about 2 months time. However, this is no more than a guess, as the determinant is going to be something that is hard to predict - confidence.


  1. Okay. Its a scary statement. Want to say 'when'? Only when a predication has a 'when' can it really be a prediction. Take a shot. When do you propose this will happen?

  2. Now I am truly scared. What do you think one expecting a government default do? Withdraw their money and hide it "under the mattresses" as they say?

  3. Have you read the Final Crash by Bouleau and Wake Up! by Mellon & Chalabi?

    I personally think we must study what Japan did after their bubble burst. I don't know many details but I think they really focused on driving input costs down.

    We will time travel back to the 1980's. No new cars on the road.

    Get the green bug.

    Get religion.

  4. The very suggestion that the UK could default on debt repayment before Christmas does not make sense. The UK is not even that much in debt relative to other counteries. The debt repayments should be relatively low compared with total government expenditure.

    Debt is overhyped, and other nations will help if debt does become an issue. Wealth is relative, and so is debt. As all developed western countries are in debt it is not a handicap. In fact, avoiding debt may be fatal and perhaps the UK should be borrowing much much more.

  5. Thought you might like this by the Renegade Economist:


    Power to the people.

    Death to Bubble Addicts

  6. WONDERFUL site, if there was ever a cynic in the world, I would have to be one of them. I will definitely be checking up on your site from time to time!

    Jesse W.

  7. The UK Gov't has promised it citizens and illegal imigrants more than what they can take in through tax. more than 1 in 5 are on some kind of income benefits from the gov't (working age). That kind of social system in unsustainable from a country that doesn't maufacture a lot of goods/ or resources to be sold. The people who expect the gov't to pay for them because they don't want to work are going to be up a creek without a paddle when the gov't tightens spending and deep cuts come to its social network. Here a perfect example of a system gone rotten . E.G. a young women who has a baby and is not married (or partener) gets a house free fom the counil (local gov't) all this does is encourage young women with no/poor education to continue to have children and the council will by houses/rent houses for them. This seems very expensive plan for the tax payers. A system that rewards anyone for not wanting to become succesful will always fail.


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