Realist, not conformist analysis of the latest financial, business and political news

Put Not Your Trust In Government – They’ll Play You If They Can

A useful and interesting little example of how we should not put our trust in governments. Especially about money, specifically here about lending our money to them but the general point of not trusting them concerning money is important. Because they’re somewhere between cynical realists on the subject and lying b’stards. Our example today being inflation linked interest rates on loans to the government:

Half a million savers desperately trying to protect their cash from the effect of inflation will see their returns slashed in the new year.

NS&I, the Government-backed savings provider, will change the way it calculates interest for customers who hold its “index-linked savings certificates”, meaning reduced returns for 507,000 savers.

From 1 May 2019, account holders who choose to renew their certificate will see their returns switch from the retail prices index (RPI) rate of inflation to the much lower consumer prices index (CPI).

There is, of course, no one “inflation rate.” Relative prices change all the time, the general price level generally only goes up. But what the actual inflation rate experienced by anyone is depends upon the mixture of those relative price changes in the specific basket of goods that they habitually purchase. The US providing us with a good example of this as they produce different inflation rates for different circumstances. Certainly, urban and rural, also for retired households and some others I think.

Which inflation rate an inflation linked bond should be linked to is therefore something with no correct answer. There are perhaps better and worse ones but.

The thing is though governments will always lie about this sort of thing. Or at least attempt to shaft creditors. A fun example recently being Argentina. They had domestic currency bonds which were used to pay off creditors from the last time they defaulted. They were domestic currency, so everyone knew that this exposed to inflation risk. So, they agreed that they should be inflation protected. Interest was inflation plus something.

Then Argentina started to “misreport” the inflation rate – drastically under-estimating it, obviously – and trying to jail those independent economists who were trying to provide an independent estimate of what the rate actually was. The various Kirchners were such open and honest people.

The only difference in the UK is the scale of the attempt to rook. Here it’s pretty marginal and something that could, without casuistry but still a bit sneakily, be supported. But the pensions story is fun.

There was a time when inflation was lower than wages growth. So, the annual rise in the state pension was linked to inflation. Then, in the 70s or perhaps early 80s (can’t recall whether just pre- or during Maggie) inflation was higher than wage growth. So, pensions were switched over to rising with wages, not inflation. Later, wages rising again, switched back to being inflation linked. Note that the moves were always in the direction of government shelling out less to those who had, in good faith, paid in.

So, why do they do this? Because it works. The second half of the 20th century saw most governments spring free from vast debt burdens by the simple expedient of inflating it all away. Those who had trusted them by buying gilts, Treasuries and the rest simply ending up screwed in their old ages.

Lovely people, governments. We even know of one Professor of Practice who insists that inflation’s a good thing precisely because it does screw such savers.

The existence of inflation protected bonds such as these NS&I ones being the result of us all having seen everyone get screwed in the last generation and two. In fact, the very existence of these NS&I bonds is proof that we cannot trust government with our money. Which is why it’s no surprise at all that they’re trying it again.

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