18 Financial Repression

Napier

Financial repression means stealing money from savers and old people slowly. Investors in government debt are the ones who will be robbed slowly.

Financial repression means engineering an inflation rate in the area of 4 to 6% and thereby achieving a nominal GDP growth rate of, say, 6 to 8%, while interest rates are kept at a lower level.

We are moving from a mechanism where bank credit is controlled by interest rates to a quantitative mechanism that is politicised.

The power to control the creation of money has moved from central banks to governments. By issuing state guarantees on bank credit during the Covid crisis, governments have effectively taken over the levers to control the creation of money. Of course, the pushback to my prediction was that this was only a temporary emergency measure to combat the effects of the pandemic. But now we have another emergency, with the war in Ukraine and the energy crisis that comes with it. There is always going to be another emergency, which means governments won’t retreat from these policies. This is the new normal.

For the government, credit guarantees are like the magic money tree: the closest thing to free money. They don’t have to issue more government debt, they don’t need to raise taxes, they just issue credit guarantees to the commercial banks.

By controlling the growth of credit, governments gain an easy way to control and steer the economy. Credit guarantees are only a contingent liability on the balance sheet of the state. By telling banks how and where to grant guaranteed loans, governments can direct investment where they want it to, be it energy, projects aimed at reducing inequality, or general investments to combat climate change. By guiding the growth of credit and therefore the growth of money, they can control the nominal growth of the economy.

Given that nominal growth consists of real growth plus inflation, the easiest way to do this is through higher inflation. Engineering a higher nominal GDP growth through a higher structural level of inflation is a proven way to get rid of high levels of debt. That’s exactly how many countries, including the US and the UK, got rid of their debt after World War II. Of course nobody will ever say this officially, and most politicians are probably not even aware of this, but pushing nominal growth through a higher dose of inflation is the desired outcome.

We’ll see consumer price inflation settling into a range between 4 and 6%. Without the energy shock, we would probably be there now. Why 4 to 6%? Because it has to be a level that the government can get away with. Financial repression means stealing money from savers and old people slowly. The slow part is important in order for the pain not to become too apparent.

We today have a disconnect between the hawkish rhetorics of central banks and the actions of governments. Monetary policy is trying to hit the brakes hard, while fiscal policy tries to mitigate the effects of rising prices through vast payouts. Who wins? The government.

Central banks are powerless - They’re impotent. This is a shift of power that cannot be underestimated. Our whole economic system of the past 40 years was built on the assumption that the growth of credit and therefore broad money in the economy was controlled through the level of interest rates – and that central banks controlled interest rates. But now, when governments take control of private credit creation through the banking system by guaranteeing loans, central banks are pushed out of their role.

What you have learned in market economics in the past forty years will be useless in the new world. For the next twenty years, you need to get familiar with the concepts of political economy.

Napier (2022) We Will See the Return of Capital Investment on a Massive Scale