The tragedy of Liz Truss’s downfall

Liz Truss is out, and liberals everywhere are cheering. Because? Because the in-and-out UK prime minister has challenged conventional wisdom about how to create a thriving economy. It has threatened to undermine elites who advise defeatist policies that encourage slow growth and celebrate Big Government over competition, investment and entrepreneurship.

She also pledged to increase investment in North Sea oil and gas production and reverse the country’s ban on fracking, as the UK’s energy bills rose by more than 50% from a year ago. Climate activists fainted in horror.

The PM’s rapid fall into trouble is a sad day for England and the developed world.

Liz Truss was elected to revitalize a sluggish country that is still suffering from Brexit, as well as misguided energy and fiscal policies. The Conservative Party – his party – has held 10 Downing Street for 12 years, but has struggled to keep taxes low in light of growing demands for social services, especially during COVID-19.

When Truss took office just a few weeks ago, inflation was at 10%, growth was slowing, and real GDP was still below the pre-COVID 2019 level. Government debt was approaching 100% of GDP and deficits were increasing. A month before she took office, the budget deficit was nearly double what had been projected, the largest for any August on record.

In short, she inherited a mess.

Many companies, and especially profitable financial firms, fled London after Brexit, fearing that Britain’s departure from the European Union would become a burden on international business and hiring. It was a legitimate concern; the rules were not written down, and in the fast lanes of international finance, transactions could not wait for the creation of the new order.

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About 7,000 jobs left the city; it was not, for many companies, an easy decision.

Truss wanted to lure them back, in part by removing caps on bank bonuses imposed after the financial crisis. More broadly, Truss has pledged to cut taxes, confident that such measures would encourage a wave of new startups and growth. Kwasi Kwarteng, Chancellor of the Exchequer of Truss, described the measures as essential to his “blatantly pro-growth plan” for the economy.

Kwarteng released a “mini-budget” outlining his ambitions, which included attracting foreign visitors with value-added tax (VAT-free) purchases, delaying a planned increase in corporate taxes and modestly lower overhead rates. The budget called for more unfunded spending and, effectively, larger short-term deficits.

The plan caused Kwarteng and Truss to be widely mocked and maligned; the mini budget was derided as reckless. Bond markets fueled the criticism. British government bonds, called gilts, fell in price as interest rates rose, causing great volatility in normally boring markets and near panic among traders.

Truss may have pushed a plan at the wrong time, when markets were especially choppy; proposing measures that would increase short-term deficits was a mistake. But she is not entirely to blame for the quick repudiation of her program and her leadership. Pension managers, global central banks that tolerated “free” money, the Biden White House and Federal Reserve Chairman Jerome Powell are also culprits in this story.

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The reason for the crisis in the markets was not only that lower tax rates would increase deficits, but also that pension managers leveraged their bond holdings to meet their obligations to retirees.

Pensions borrowed against their golden holdings to fund riskier investments, thus creating a scenario not unlike the one that emerged during the financial crisis, when companies went bankrupt by leveraging their holdings in normally safe mortgages.

It is also true that as Biden and Congressional Democrats spent trillions on unnecessary spending as the economy was already recovering from the COVID lockdowns, the Federal Reserve raised interest rates, pushing the dollar to an all-time high against the US dollar. pound sterling. That didn’t help calm the market’s jitters.

The Bank of England, faced with a market defeat, stepped in to buy gilts that were being dumped wholesale as pension managers had to scramble to meet collateral demands. This rare intervention convinced investors and critics that Truss’s proposed policies were ill-advised.

So is Liz Truss really the villain in this play, or are the people who engineered an overly easy money period and led investors to risk their holdings really to blame?

It’s an important issue because developed economies, including the US, require solid growth to finance the ever-increasing demands of welfare states. It is also important in justifying opposition to the light regulatory, low-tax approach taken by US Presidents Reagan and Kennedy, UK Prime Minister Margaret Thatcher and, more recently, President Trump.

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The so-called “supply-side” economy has notably stimulated the most prosperous periods in our history. Guidance from those encouraging lower taxes and a smaller government could be instrumental in getting the US and Western Europe back on track after the heavy blows of the COVID shutdowns and overspending and now rampant inflation. Policymakers in the US and elsewhere must begin to reverse the disastrous tsunami of government spending as we try to right our economic ship; the burning of Liz Truss’ show will argue against such a change in direction.

Unfortunately, Truss’ economic agenda was poorly presented by a fledgling finance minister, who was quickly ousted, but the damage done to his credibility made it impossible for him to continue in the leadership.

The Truss case will remain a lesson in fiscal sobriety, but cutting spending will not be part of the lessons. This is a tragedy.

Liz Peek is a former partner at the large Wall Street firm Wertheim & Company. Follow her on Twitter @lizpeek.

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