Two sides of the same tarnished coin

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If you returned from the moon and listened to this week’s news from the UK you might think that there had been two big stories. There was the crisis in Cyprus and the attempt to head it off with a shock tax on bank deposits. And there was the Budget in the UK with its sad admissions of failure (on the budget deficit and on growth) and its slightly bonkers-sounding solutions (looser monetary policy and more buying and selling of houses).

But in fact these weren’t different stories, just different aspects of the defining story of the decade – the huge debts that have been built up by sovereign states and the various ways they intend to scam their voters into paying them off.

The situation in Cyprus is an obvious one of crisis, but in many ways our own – while covered up by our often used ability to depreciate our currency and indulge in quantitative easing at will – is not much better. Look at any chart of global indebtedness ( has an upsetting one) and you will see that overall debt in the UK is the highest of all the large nations bar Japan (which should bring little comfort). Our debt to GDP ratio, once you have included household debt is well over 500 per cent of GDP, while our financial sector debt alone comes in at extraordinary levels relative to the rest of the world (nearly 200 per cent of GDP).

Yes, you might say, but at least we aren’t talking about nicking money out of the bank accounts of our savers to deal with our problems. No asset confiscation here. In one sense you would be absolutely right. We aren’t talking about it. But we are just getting on with doing it. The effect on the UK savers of the very low interest rate policy of the past few years has been just horrible. One of my MoneyWeek colleagues calculated that had your money been sitting on deposit in the UK for the past four years you would now be worse off than if you had kept it in Cyprus and suffered the (now unlikely) deposit tax.

How so? A toxic combination of ultra-low interest rates and high inflation (relative to current interest rates as opposed to relative to the 1970s) have made it all but impossible for UK savers to make a real (inflation-adjusted) return on their savings. The result? According to the forecasting group ITEM Club, someone who deposited £10,000 in 2009 will now be sitting on a real terms loss of £1,297 while the pressure group Save our Savers puts the total cost at just over £200bn (not far off 20 per cent of the value of all the savings in the UK). But however you run your numbers, the cost to the hard working and saving strivers all politicians profess undying passion for is pretty stunning.

I’ve written here about financial repression before, and this is a pretty classic version of it, one in which you keep interest rates below inflation with a view to allowing the government to borrow cheaply, cutting real wages (to make us more competitive), bailing out private debtors, subsidising bank profits and of course keeping house prices high. It is also one you should expect to have to live with for many years to come. Why? Because it works. Savers money is gradually being transferred to debtors (the ITEM Club notes that the average mortgage holder is saving £387 a year in payments thanks to repression), government debt will come down over time as inflation eats away at it and fiscal drag (more people being dragged into higher tax bands) ups the tax take. It also forces investors out of cash and into assets that the government prefers us to hold (government bonds, equities and, of course, houses) and in doing so to take more risk than we normally would.

Now you know how much you are losing in real terms every year on your cash, do you really want to hold so much of it? Me neither. That’s why so many of us are moving out of cash and into other assets almost regardless of price. In his latest note for the Personal Assets Trust, executive director Robin Angus points to the yield on junk bonds which are “supposed to offer high yields because they are, well, junk.” Instead they not only yield less than in 2007 but are offering some of the lowest returns ever.

What sort of world are we living in, asks Angus, “when Bolivia can borrow for ten years at a mere 4.75 per cent?”

There is definitely now a bubble in the bond market (caused by the desperate search for yield) and a good case can be made that it is shifting to the equity market too. The quality stocks that I have spent the past few years encouraging us all into as some form of defence are, as Angus puts it, getting “too dear to offer an adequate margin of safety”. They were GARP stocks (growth at reasonable price). They are now GAWP (growth at the wrong price).

Good business models and relatively good yields might offer an illusion of certainty in the markets but at the wrong price, there is none. You will be wondering what to do. Tricky one. Part of the answer might be to hold more cash than you are comfortable with. The other part? To recognise that this aspect of financial repression works too: all valuations can be driven to extremes by yield-panicked investors in extreme circumstances.

Take me, I know that house prices in the UK are still not far off historical highs. But after this week’s Budget I actually found myself wondering if I should look for a buy-to-let investment (on the basis that there is some yield and that the government has clearly decided house prices are never to fall). That’s how well it works.

Merryn Somerset Webb is editor-in-chief of MoneyWeek. The views expressed are personal

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