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Lessons on long-term bonds: Keynes on 1932 debt conversion

    Jeremy Warner wrote an excellent critique of George Osborne’s proposed 100-year bond on Wednesday, claiming that investors would be mad to take them on.

    He cites the example of the War Loan conversion in 1932, when in a time of national crisis, the Chancellor Neville Chamberlain managed to persuade investors to swap their 5% stock for a 3.5% issue, in part due to their patriotism but also due to Chamberlain’s promise to redeem those who accepted within a month in cast at par, plus a 1% bonus. 90% of the public accepted the deal and at a stroke Chamberlain had reduced interest expenditure by £20 million. It was a great win for the Government, who had official debt levels at 175% of GDP.

    The problem for investors is that when inflation and interest rates rose in the 1950s, the investment looked decidedly dodgy.

    Today’s CPS publication, Metroboom: Lessons from Britain’s recovery in the 1930s by George Trefgarne, shows that Keynes correctly identified that this was all a bit of a conceit even in 1932 and actually thought that deep down the people knew it. He said:

    “The public mind… is… a peculiar combination such as could only exist, perhaps, in this country, of a keen desire to make the scheme an overwhelming success, both by personal and by communal action, with an unspoken conviction or at least a suspicion that the whole thing is in truth a bit of a bluff which a fortunate conjunction of circumstances is enabling us to put over ourselves and one another, and that the new War Loan may be expected to fall to a discount in due course. I am not sure that the authorities themselves are entirely free from an idea of this kind.”

    Warner asks why on earth an investor would want take on Osborne’s bonds now, when interest rates bear little relation to the real world?

    Maybe this will be a classic example of the same economic mistake being made just after the last person old enough to remember the last mistake has died.

    Ryan joined the Centre for Policy Studies in January 2011, having previously worked for a year at the economic consultancy firm Frontier Economics.

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