There’s good news. And there’s bad news. The International Monetary Fund won’t be descending on 11 Downing Street any time soon. The situation of the UK in 1976 is not comparable with today’s — unfortunately, it is incomparably worse.
When the UK had its financial crisis in 1976, Denis Healey, the former Labour chancellor, did what he needed and imposed austerity. “One never likes one’s bank manager”, he quipped as he went cap in hand to the IMF. But he swallowed the humiliation, and he took the money. The UK got a $3.9 billion emergency loan from the IMF. But Healey himself had to do the heavy lifting with tax rises and spending cuts.
Back then, the UK had a balance-of-payments crisis: it was running out of foreign currency reserves to pay for its imports. This is not the case today. The problem the UK has today, which it did not have in 1976, is a structurally weak economy with low productivity growth. The UK’s economic model, that of a late-capitalist rentier society, is no longer working. Yet, unlike in the Seventies, the UK lacks a political majority sufficient to arrest the toxic dynamic between rising debt and low economic growth.
Brexit did not cause the problem; but nor did it solve it. The Brexiteers fell into the same trap the Remainers had fallen into before. The UK had needed to reform its economic model for membership of the EU to be successful. The EU’s single market became dysfunctional over the years and no longer generated the growth it once did.
‘There are only three ways out of a debt problem: austerity, growth, and default.”
The Leavers also got this wrong. If they really wanted “to take back control” as they famously claimed, they similarly needed to reform the economic model: towards one that rewards entrepreneurship and innovation. It would have required a systematic reboot of the public sector. That did not happen. This is not something the IMF can help you with. It is not the unelected “ministry of finance for every country in the world” as Julius Nyerere, a former Tanzanian president once claimed. And it is certainly not the IMF’s job to bail out clueless governments.
If things in Britain are bad, though, they’re worse in France. France had its financial crisis in 1982, a year after François Mitterrand became the first Socialist French president. After a year of classic Socialist economic policy, the country was on the brink of a financial crisis, similar to the UK’s position six years previously. At this point, Mitterrand performed a policy turn that left his supporters in shock. He appointed Jacques Delors as his new finance minister, who, like Healey in the UK, delivered austerity — “an operation without an anaesthetic”, as Delors described it at the time. Delors, who later became president of the European Commission, aligned the French economy with that of Germany, and in doing so laid the ground for a long period of stable economic growth. Contrary to popular narrative, the UK, too, experienced an economic boom in the period from 1976-9. Margaret Thatcher did not come to power because of low growth, but because of a failing public sector.
Either way, and unlike in the Seventies and Eighties, neither François Bayrou nor Keir Starmer has the majority needed to deliver the policies which would fix the problem. In France, the situation is about to come to a head: Bayrou has called for a confidence vote to support his austerity policies and the consensus is that he will struggle to find a majority. He is still fighting. He went on TV the other day with an impressive rant in which he said the young French are being expected to pay off the debt “all for the comfort of certain political parties and for the comfort of the boomers, who believe that everything is just fine”. Indeed, the debt France has been accumulating is for investments for absurd early retirement policies, and a bloated public sector.
Unlike Bayrou, Starmer has a large majority — though not one large enough to pass the welfare reforms needed to meet his fiscal targets. Sure, he can raise taxes, and that will almost surely happen in this autumn’s budget. But this will only make the doom loop worse. As taxes go up, fewer companies invest, and people consume less.
And good people leave. When Brexit happened, some European expats left London. But for most, it still made sense to live and work in post-Brexit Britain. It remained a business-friendly place. But with Labour’s tax policies, which target expats and soon property, their incentive to stay is massively reduced.
The parallels between the UK and France are not coincidences. Something similar is happening throughout Europe. The underlying problem is productivity growth — growth per hour worked. The more widely used measure of gross domestic product, or GDP, is misleading because it conflates productivity and employment growth. An extreme example is Spain, where GDP growth is very strong. But this is due only to mass immigration. Spain, Italy, France, UK, even Germany now, all suffer from low productivity growth. This is why people feel so miserable. Their countries are getting richer on paper. But they are not.
The old trickle-down economic model worked well in the days of unbridled, global financial capitalism, a period that for the UK started in the mid-Eighties and ended in 2008, when its productivity collapsed. Italy’s wave of low productivity growth was kicked off around the time when it joined the euro. Germany’s began to stagnate in the second part of the last decade. France performed better than Germany and the UK until the pandemic but has since joined the low-productivity club.
For the time being, America has managed to buck this trend. It has high debt and high growth. But this could change under Donald Trump because his “Big Beautiful Bill” is even more reckless than anything we have seen in Europe. It would indeed be ironic if the most Europhobic president in American history ended up delivering a European-style low-productivity economy.
Yet, again, if that were to happen, it would be only part of a wider trend. You cannot pin this down to any one politician or political party. This is not about the Left versus the Right. The UK’s economy fell off the cliff during the global financial crisis when Gordon Brown was prime minister. Seven prime ministers from both the main parties presided over the aftermath. France is run by a rainbow coalition of the Left, the centre, and the moderate Right, and not one of these parties even has a plan to reverse it.
The problem, rather, is the way in which debt and productivity interact. You have to look at the two numbers together, as well as the debt-servicing costs, which are determined by the interest rates and the repayment schedule. The debt ratio in the UK is 95.6%. In France, it is 113%. The US’s debt ratio is even higher, at 124%. But low productivity growth is making things worse in the UK and in France.
Germany has lower debt than other large European countries. But their debt burden is rising too. The German welfare state is out of control and piling up enormous future liabilities. All these European countries have distinct versions of the problem. But the underlying force is the same — a secular stagnation in productivity growth.
There are only three ways out of a debt problem: austerity, growth, and default. Some would add inflation to this list, but I don’t. Investors would demand higher interest rates to compensate for this, leaving the government in exactly the same tight spot as before.
The most authoritative work ever written about sovereign debt was “Growth in a Time of Debt”, written in 2010 by the economists Carmen Reinhart and Kenneth Rogoff. They studied 44 countries over 200 years and found that countries with debt-to-GDP ratios of over 90% performed worse than those with lower rates. The result was widely discredited at the time because their calculations contained errors, which received wide publicity. Unfortunately, these errors detracted from the main result — that there is a toxic interaction between high debt and low productivity growth. The paper’s findings have become even more relevant in the 15 years since publication.
So, beware of Reinhart-Rogoff. A debt spiral is like a slow-moving deadly disease. It is hard to forecast its progression. But one thing is certain: we are not going to wake up one day and discover that we’ve been miraculously healed.