With the UK poised to go back into recession, the government ought to be borrowing more to invest
A funny thing happened in the bond markets last week, although it mostly stayed under the public radar. While attention was (understandably) focused on the downgrades of France, Austria and other EU nations, a few days earlier investors were actually paying to lend the British government money. That's right: the Treasury auctioned £700m of bonds last Tuesday and sold them at an inflation-adjusted interest rate of -0.116%. The UK is being paid to take cash off the hands of fund managers and bankers.
David Cameron and George Osborne regularly wheel out low borrowing costs as proof that the coalition has pulled off its primary task: of reassuring financiers that Britain is a safe haven. While governments in Rome or Madrid are paying sky-high sums just to conduct their regular business, and the folk at Standard & Poor's are sucking their teeth over the prospects for Paris, London can still raise cash at super-cheap interest rates. The pain of spending cuts, ministers say, is worth the gain for British businesses that want to borrow.
This argument does the business in British politics – but as economics it doesn't stack up. First, Britain isn't the only country paying super-low interest rates. Last week, Germany's government also borrowed at negative interest rates. For the past six weeks, the US Treasury has been paid to take out short-term loans. As the financial crisis has deepened over the past few months, investors have been stowing their cash in government bonds – barring those of a stricken few countries – and commodities as the safest ports in an almighty storm.
Britain's plunging interest rate is an indicator both of fear and pessimism about the prospects for the economy. Contrary to Mr Cameron's claims, his cuts have not made Britain more tempting to investors. That would be so if the spread between the US and the UK's market interest rates had narrowed sharply: over the past three years it has closed – but only a little. Yet according to the prime minister's logic, stimulus-happy Barack Obama should be seeing soaring borrowing costs – particularly after a downgrade. But it hasn't happened.
More important reasons for Britain's low interest rate are, first, that it is outside the eurozone and, second, that the Bank of England has been buying hundreds of billions of pounds of gilts for its quantitative easing programme. Ultimately, low interest rates are only useful if you plan to borrow. With the UK poised to go back into recession, the government ought to be borrowing more to invest. Directing cash into public housing, or into huge time-limited tax incentives for business investment would create jobs, as well as being good in themselves. Mr Cameron holds up record low rates as proof of his successful policies – when they are anything but.