The British economy is not in a happy state. Many fear that stagnant economic growth and enormous long-term liabilities, especially in the context of an ageing population, not to mention our yawning deficit, make our public finances unsustainable. Bond markets are getting nervous: perhaps a debt crisis and painful correction await. Few believe that Rachel Reeves is likely to provide any compelling answers.
The historical parallel increasingly being drawn is 1976, but the truth is that such fears go right back to the origins of the modern national debt in the 1690s, in the aftermath of the ‘Glorious’ Revolution of 1688, when the Bank of England was founded. From the beginning, the spectre of national indebtedness has haunted the British economy – and politics.
The 1690s changed everything when it came to the nation’s finances. Dutchman William of Orange came to the throne as William III ostensibly to rescue England and Scotland from the Popish designs of James II, but his primary objective was to mobilise the resources of his new country against the military designs of Louis XIV: the Dutch Republic had been at war, on and off, with France, the absolutist Catholic superpower of Europe, for years. To fight such wars, William needed money. Lots of it.
What followed revolutionised the entire financial basis of the hitherto ramshackle English state. Previously, borrowing had been a chaotic affair. Interest rates were high, borrowing was sporadic and often short-term, and the role of parliament in underwriting the debt was unclear. All of this led to the disastrous ‘Stop of the Exchequer’ in 1672, when Charles II repudiated a large proportion of what he owed to the ‘goldsmith bankers’ upon whom the national finances had become dependent.
William’s fiscal needs dwarfed anything that had come before. Under his predecessor James, average annual government expenditure had been around £1.7 million per year. To combat the armies of the French, William required around £5-6m annually. Big tax increases – especially on the landed gentlemen who tended to dominate parliament, as the land tax was the single biggest and administratively feasible source of taxation at the time – did not cover the increased expenditure. Continuing with the shambolic borrowing of recent years was not an option.
The solution of William’s Whig-dominated government was to completely restructure state finances. In 1694, the Bank of England was founded as the new means of managing the nation’s debts. The Bank provided a new way for the government to raise money: on the basis of a stock subscription (the first one raised £1.2m), it would lend money to the government at a regular, lower (but still high) interest rate of 8% on a long-term basis. Since the 1688 revolution had consolidated the role of parliament as a permanent and more powerful institution, it could now underwrite the debt with security, on the basis of dependable future tax revenues. In short, although public finances remained rocky for some time, government borrowing gradually became cheaper, more secure and more long term. Public debt became an attractive investment for financiers.
However, these developments were far from universally welcomed. The country gentlemen feared not only that future generations were being burdened with a crippling debt – ‘the Great Mortgage’, as they called it – but also the political implications of that debt. A new class of financiers and bankers were profiting out of government bonds while the taxes that paid back the interest were largely shouldered by the beleaguered gentry. Whereas land, they argued, was a solid basis for patriotism, a fixed stake in the country, financiers had no national loyalty. The ‘financial revolution’ had been based on Dutch precedents, and the new money-men were often also either foreign, or Protestant Dissenters (more radical Protestants outside the Church of England). Given that the country gentry were largely Tories (the party of the Church), they were not impressed. They feared that the new system would cause power to seep away to ghastly arrivistes, religious radicals and foreigners, who had an interest in sustaining the war that required higher taxes and debt indefinitely. Would the cycle of war, tax and debt never end?
This cycle continued in the era of Queen Anne, as Britain entered another war with the French. Jonathan Swift, Tory propagandist, summed up the situation. The men now flourishing, he argued, were:
a species of men quite different from any that were ever known before the Revolution, consisting either of generals and colonels, or of such whose whole fortunes lie in funds and stocks: so that power, which according to the old maxim, was used to follow land, is now gone over to money.
Debt, fuelled by speculation and fly-by-night financiers, was no basis for national prosperity: only the honest productive investment of the gentlemen farmers could provide that.
Ultimately, these fears proved – at the level of national prosperity at least – unfounded. Despite much talk of paying off Britain’s national debt during the rest of the 18th century, it never happened – indeed the debt got larger – and it didn’t matter. Britain, which in fact became a partnership between the old agricultural interest and new forces, such as manufacturing and finance, became ever more productive. The new, efficient state apparatus and stable political settlement that originated in William III’s era, in addition to the brilliantly managed armed forces that underpinned Britain’s rise to imperial power, provided a framework for growing prosperity. Soon abundant coal also gave us cheap energy: the result was the industrial revolution. The country was so increasingly productive and wealthy that it could easily afford ever mounting levels of debt. Indeed, the debt was probably more an economic stimulus than anything.
The situation we now face is that of a country that risks seeing this process go into reverse. If one has underlying sources of great economic strength – an efficient state providing key infrastructure, long-term investment, a stable political settlement and cheap resources, especially energy – then you can afford high levels of debt. If, however, you increasingly lack these things and your productivity stagnates, then those levels of debt start to look like a real problem. Interest rates creep up. Bond markets get nervous. And once you get into such a vicious circle, it’s very hard to get out of it.
We are, perhaps, at the tail end of a success story that began in the 1690s. Can anyone arrest it?
George Owers’ new book, ‘The Rage of Party: How Whig Versus Tory Made Modern Britain’, is published on September 4.
