The Self-Financing State

An Institutional Analysis of Government Expenditure, Revenue Collection and Debt Issuance Operations in the United Kingdom

This definitive article written by a team of economic experts describes the complex process involved in government expenditure, taxation and borrowing. It blows apart the myth that ‘government budgets operate like household budgets’ or that ‘funding public services has to come from tax revenue’, or that cuts to welfare and local authority budgets – including Cornwall Council – were necessary and inevitable. This is the summary abstract of the article in full:

“This article provides the first detailed institutional analysis of the UK government’s expenditure, revenue collection, and debt issuance processes. We show that public expenditure is always financed through money creation rather than taxation or debt issuance. Spending involves the government drawing on a sovereign line of credit from a core legal and accounting structure known as the Consolidated Fund (CF). The Bank of England then debits the CF’s account at the Bank and credits other government accounts held at the Bank. This creates new public deposits, which are used to settle spending by government departments via the commercial banking sector. Only the UK parliament can mandate expenditures from the CF.

Revenue collection, including taxation, involves the reverse process, crediting the CF’s account at the Bank, offsetting past injections. Similarly, gilts have been issued to temporarily withdraw money to assist monetary policy objectives. Under the current conditions of excess reserve liquidity, however, debt issuance is best understood as a way of providing safe assets and secure collateral to the non-bank private sector. The findings support neo-Chartalist accounts of the workings of sovereign currency-issuing nations and provide additional institutional detail regarding the apex of the monetary hierarchy in the UK.”

The full article is lengthy, detailed and technical but just this short paragraph says a number of things.

Firstly, Public expenditure involves money creation: the government spends money into existence. (Note: This is true for any currency-issuing government. By contrast countries in the EU such as Greece are currency-using governments. They do not have their own currency but are restricted in what they spend by the European Central Bank)

Secondly, tax revenue does not fund public services. Rather, taxation withdraws money from the economy. Tax revenue does not then sit in a government bank account waiting to be spent but is used to ‘offset past injections’ – in other words it is destroyed.

Thirdly, government ‘debt issuance’ is not about borrowing money needed for public expenditure. Rather, it is a way of ‘providing safe assets and secure collateral to the non-bank private sector’; that’s you, if you happen to be rich enough to invest in government bonds, but it also your pension fund. Pension funds regard government debt as one of the safest forms of investment precisely because a government with its own sovereign currency can never go bust – so long as that debt is denominated in its own currency. To put it another way, a government cannot be forced to default on debts that are measured in a currency it issues itself.

There is a back story to this article. I am told that it has upset not a few orthodox economists whose supply-and-demand models position money as scarce. This includes the scarcity of public money and wrongly claim that public services can only ever be funded from taxation. Their models are wrong on both accounts just as they are wrong about the power of commercial banks to create money in the same way that the Bank of England does. Apparently a letter was submitted to the Journal of Economic Issues demanding that the editor remove the above article. But as they could not offer any substantial argument or evidence against the veracity and accuracy of said article, their plea was rejected. This suggests a real battle is underway between an orthodox economics profession wedded to a neoliberal free market model, one that positions government as ‘a problem’, and a new cohort of heterodox economists who promote a modern money model of where money comes from and how it is used.