Vox
February 2, 2012
Inflation in the UK is now more than double that of France, but only one country has had its credit rating downgraded. This column argues that government credit ratings should be aided by a second rating measuring the potential loss of real value, whether by inflation or default.
The authorities in Britain are proud of the fact that over the last three centuries there has been no default on British government debt, despite debt-to-GDP ratios climbing to high levels (near or over 200%) after each of the three main wars. But that did not mean that holders of such debt were necessarily paid back in full in real terms. At the start of 1946 the nominal value of 3½% Consols was £104.7; at the start of 1986 its nominal value was £34.75, and in the meantime the price level had risen from 27 to 385.9 (1974=100), about 13 times. So the real value in 1986 was about 1/40 or 2½% of its 1946 value, a real haircut of some 97½%, though this ignores interim coupon payments. Inflation, especially anticipated inflation, can destroy real value as quickly and surely as default.
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