Black Hole - What Black Hole?

Black Hole - 

What Black Hole?

(and how to solve it)

Rachel Reeves claims that there is a huge economic black hole, a £22 billion black hole in the UK government budget.

We must categorically dispute this claim, and our in house 1st Class Economist provides the details here - 

Why is there no "black hole"? Technically it is impossible for the UK government to have a black hole in its budget.

When the government spends, the Bank of England creates money to enable it to do so. 

It does not wait for tax revenues to come in, it does not have to borrow. As long as it has passed a legal budget, the government tells the Bank of England to make a payment on its behalf. 

And the bank has no choice but to make that payment because they are legally required to do it. 

There is always the possibility that the Bank of England can extend an overdraft to the government to cover its so-called deficit, and as a consequence, there can never be a black hole. Hence, it is a technical impossibility.

It's also a technical impossibility for there to be a black hole because, as history proves, if the government spends new money into the economy, it can tax it back. It is the actual process of spending that creates the capacity to pay the tax. 

In fact, you couldn't pay tax unless the government had created the money to make that payment of tax in the first instance because it would not exist. 

So, spending always has to come before taxation. But, if the government decides not to tax back everything that it spends, and it can, if it so wishes, it can offer those who are left with some of the new money that it has created, the opportunity to save with it. 

That savings opportunity comes in the form of government bonds, or gilts as they're in the UK, or by way of depositing funds with national savings and investments, which is the government's own savings bank. 

In either of these cases, the money not taxed back can be lured back into the government's coffers because it has the ability to offer any interest rate it likes to make sure that that happens, and as a consequence, the chance that there will ever be a black hole as a consequence of government spending is, for all practical purposes, is exactly zero because the government can always recover the money it spends. 

So therefore it is ludicrous to claim that there is a black hole. But Labour Chancellor Rachel Reeves is still making it nonetheless, and main stream media are echoing her statements without question. 

They can always ask questions about her financial literacy for actually making the claim, but they refuse to.

So, let us put forward several ways in which she could fill in that supposed black hole that she claims exists, without denying pensioners a winter fuel allowance, or forcing more children into deeper povity by keeping the 2 child benefit cap.

The first option, and one which has already been mentioned. is that the Bank of England could offer an overdraft to the government. This was last done  in March 2020 when the UK's Covid crisis began.

The bank said that the government could have an overdraft of £20 billion, which was really very generous of it, remembering that the government (us) owns it! 

It used to offer a facility called the Ways and Means account, which was substantially bigger, but was taken out of use in 2006. So that overdraft facility would, of course, fill the black hole. 

Another alternative would be bonds. The government could issue a new bond for £22 billion, and it could say this bond is only going to be available on the market for a week, after which it's going to buy it back again via the Bank of England.

This is known by economists as quantitative easing (QE). Announcing it in advance, the city would happily go along with the arrangement, and there is ample capacity for new quantitative easing in the UK economy at present, and therefore, this would work. The black hole could be filled that way, straightforwardly, simply, and with no fuss and no upset to any market anywhere. 

A third option is even easier. It could just issue that bond and not buy it back, and the City of London would buy it. There is no doubt about that. In other words, this black hole can be filled. 

Want another option? The fourth option is really straightforward too. Tell the Bank of England to stop its quantitative tightening programme. Quantitative tightening is simply the reverse of quantitative easing. QE involves the government, via the Bank of England, buying its own bonds back from the financial market.

The UK govetnment did so with £895 billion worth of such purchases between 2009 and 2021. 

Quantitative tightening involves selling those bonds back into the financial market, and that process is underway at present at the Bank of England. 

They have sold £200 billion of bonds that they bought between 2009 and 2021 back to the financial markets, and the only reason they have done so is to keep interest rates high. That has worked.

But we don't need high interest rates in the UK economy right now. Therefore, it could end the quantitative tightening process, and if it did so, the capacity to sell new bonds to cover the government's deficit would exist. 

For example, the Bank of England sold £33 billion of old bonds into financial markets between April and June 2024. 

Therefore, selling £22 billion worth of new bonds, would be incredibly easy. In other words, the deficit can be covered again. 

One more way of dealing with this? As already mentioned, we don't need high interest rates. So Rachel Reeves needs to have a quiet word in the ear the governor of the Bank of England, and say, come on, drop those rates. 

Our very own Economist assures us that interest rates are 2% too high right now.

Inflation is running at about 2%. We know that's going to continue. 3% base rate would be more than enough to give a positive net interest rate, which is what the Bank of England's goal is. 

Therefore, drop that rate by 2%, and the government would save more than £22 billion a year in interest costs. Black hole solved. 

There is however one slightly more complicated way, the option of raising tax. 

Tax does not need to go up on what Labour likes to call "working people", which in fact includes anyone, whether they work or not, because everyone, from children to pensioners, do actually pay tax in various different ways. 

So what taxes could be raised, that would not penalise those on lower incomes? There are some obvious cases. First of all, capital gains tax could be equalised with income tax when it comes to tax rates. 

At present, most capital gains are charged at half the income tax rate, and that is absurdly biased. It is a straightforward bung to the already wealthy, who are the only people who make capital gains. 

If the rates were equalised, it would raise over £12 billion a year in extra tax revenue. As an alternative, cut the higher rate tax relief on pension contributions, because that is a £14 billion a year bung to the already wealthy too, who are saving in pensions and who get double the rate of tax relief on their pension saving that people on lower rates of tax get, which is totally and utterly unfair, unjustifiable and does not reflect the tax rate that they will pay when their pension is eventually paid out to them in retirement, when almost certainly they will be lower rate taxpayers. 

What else could be done? Labour could add VAT onto the payment for financial services. There is no such charge at present. Financial services supplied to the wealthy, because nobody else buys advice on financial services, is currently exempt for the purposes of VAT. 

Add VAT of 20% and over £8 billion a year could be raised in additional tax revenues. We have already suggested enough tax increases here to cover the £22 billion deficit, but you want some extra relief? Then you could look at and remove, business property relief and agricultural property relief and inheritance tax, which simply reinforce the concentration of wealth in society for no overall net economic gain, and that would add another £5 billion too.

Labour and Rachel Reeves have plenty of ways, using taxation on the wealthy alone, to increase the revenues that she can enjoy and therefore clear the deficit she claims is there!

So why are Labout MP's talking about the need for pain? It's either because they are economically illiterate, and we have to consider that possibility, or it is because they want, for some reason, to impose pain via austerity, which means that we will have a reduced quality of government services. 

We don't need to suffer those things, we've already had 14 years of that so far, and another 5 years is not needed!

The UK could have all the services it needs. Not only could Rachel Reeves cover the £22 billion deficit that she claims the Tories have left for her, but she and Labour could have a vastly more ambitious programme for themselves in office to solve the problems in the NHS, in education, in social care, and in so many other areas in society. The capacity to deliver really exists! But Labour are not willing to do it. 

Having worked in the city, it

is very odd that Reeves doesn't apparently know that these possibilities are there. 

But they do exist, and we will talk about them, and make people aware, because it is vital that there is public awareness of the fact that this austerity and this pain is unnecessary, and no government, let alone a Labour one should not be doing this.