Dunkirk

Even though I like to go skiing in the Alps occasionally and Greece is great in the Summer (not mid-summer), the place where I really want to be, is here in my home country. I love our quiet hills and rocky coasts, the history and the cynical humour of the people. Even though I could afford to de-camp to Switzerland or the USA, I am not going. But we have a national failing. We all think that its going to be OK really, even when the opposite is staring us right in the face. In the end, we face the facts and pull ourselves together as we did after Dunkirk. It was then that we had 'our finest hour'.

After my thought yesterday, I was presented with a similar comment, but excluding the cultural bit, written by no less a person than Simon Johnson, a former Chief Economist of the IMF. He shares my view that the Greek government will have to default on its bonds in the end. Not doing so damages Greeks and encourages the fools that bought Greek Government Bonds, principally German and French Bankers to do it again. They need a sharp reality check, that a Greek default would give them.

The UK gross debt* is worse even than the Greek gross debt per unit of population, but our government debt is less bad. That means partly that households are so mortgaged that they are not in a position to meet a sudden demand for extra funds from the government, but the prospect of the UK government giving a hair cut (only partially repaying) bond-holders is less imminent.^†

There are a number of things that you can do when you are faced with a monstrous debt:

• Go bust. In UK terms that means defaulting on the repayment of bonds.
• Change the way you live, so that income exceeds expenditure by enough to leave you soon out of debt or with a debt that you can afford to service and have a decent life. In UK terms, that means reducing expenditure on health, education, the civil service, Quangos, Local Government etc.
• An alternative that you can try is to increase your income without increasing your expenditure. The Government call this 'Growth'. Businessmen know that getting a higher turnover without incurring higher costs can be difficult. For instance your competitors may have the same idea. Governments say: well let all people consume more so the market is bigger for all of us. But there are only so many resources to meet this consumption so that means that the money may not return to most economies, it results in rises in the prices of certain assets instead. Returning to growth is not the 'given' that Chancellors like to pretend that it is. 
• Sell some assets. The Government has sold quite a lot of the family silver, and the remaining sales look less attractive than before. But we all know that when you have sold assets you have less ability to earn money. 
• The Government have a special way. They can print money, so that savers money is worth less and so is debtors money, including their own debts. The trouble for them is that when they do this, any re-financing of debt, is going to cost more, just as the Greek Government are finding out now. There is no such thing as a free lunch.

It's clear that the next government are going to try to change the way we live, plus a bit of inflation, and they will find a few assets to sell. It's not thinkable that a country that depends so much on the City of London for its wealth is going to default on debt.

But the UK gross debts are substantial: £6,600 billion ($9,900 bn), the highest as a percentage of GDP of any country in the world (possibly excluding Iceland), of which £3,700 bn ($5,640 bn) reflect government, non financial business and household debt. The gross debt is over £100 for every second since Jesus Christ, and that may be an understatement.

Treating the government, non financial business and household debt as if it were a company, servicing the £3,700 bn at 4% would cost nearly £150 bn a year out of a "turnover" (GDP) of about £1,370 bn. That means servicing the debt would cost 11% of turnover, assuming our financial services were off balance sheet. If the bank asked you to plan to repay this debt over 10 years, you would be looking at annual finance and repayment costs equalling about one-third of your turnover.

But the company is currently running at a loss, our competitors won't let us raise prices and we can expect the bank manager to start hammering on the door soon. Wouldn't most companies conclude that they either have to go bust or run the company completely differently. That is what F&R are proposing. A completely different way of running the economy.

If you carry the analogy further, the people are the shareholders and the government and opposition are board members proposing to carry on more or less as before, but better. It's time for the shareholders to force a change of board, not just shuffle the chairs. The trouble is that the shareholders don't want to believe that the problem is that big; it's too bad to contemplate, and none of the board want to spell it out loud and clear because they will lose their jobs.

So what will be the Dunkirk moment? It could be a collapse on the stock market, rampant inflation causing mortgage repayments that delivered many defaulters and another run on the banks, widespread union activity as their members feel the pinch, some possibly natural event that we haven't thought of affecting the world economy, a haircut on bond repayments causing annuity payments and pension payments to be cut, a very large rise in the value of oil and/or gold, giving rise to widespread unrest.

Who knows, and who knows when? But it's coming.

* The combined value of government, household and business debt, but excluding unfunded liabilities like PFI and unfunded pension obligations. According to the McKinsey report, "Debt and Deleveraging, The global credit bubble and its economic consequences", this amounted to 230% of GDP in Greece in 2008, and 469% of GDP in the UK in 2008, or 380% of GDP if you adjust the figure to take account of the disproportionate impact of the City on the UK's figures. At the same time, Greece's government debt was 110% of GDP, while the UK's was "only" 52% of GDP, though this has increased significantly since then, by over 11% in the current year alone, and is anticipated to reach around 90% within a few years.

† Though not improbable, according to Bill Gross, boss of PIMCO, one of the largest bond houses in the world, who described British government bonds or "gilts" as "resting on a bed of nitroglycerine", and has since warned investors from investing in them.