One consequence of a decade or more of fiscal prudence is that there is not enough public debt around any longer. It is therefore desirable for the
Why should the
Governments can issue long-dated instruments more easily that private institutions. While individual government administrations come and go, the institutions of government are pretty permanent. Given the strong convention that governments assume (accept responsibility for servicing) the debt left by their predecessors, government debt can have a maturity equal to the expected survival period of the state. Governments can establish important benchmarks for private asset pricing by issuing significant quantities of gilts at maturities of 10, 20, 30 and 50 years. Indeed perpetuities, or consols (government debt with an infinite maturity) should be issued again after a long interlude.
Index-linked debt is even scarcer than nominal long-dated debt. For pension funds, index-linking to a range of indices (RPI, CPI and Earnings) would be most helpful. Index-linked consols would not only be welcomed by economists trying to figure out what the truly long real rate of interest is, it would be welcomed by the markets too.
The absence of longevity bonds or mortality bonds (bonds whose interest rate varies with the life expectance of a given age cohort or collection of cohorts) is a major disadvantage to defined benefit pension funds whose liabilities are effectively index-linked annuities and index-linked deferred annuities. Index-linked longevity and mortality bonds (linked to the RPI, the CPI or to Earnings) would be a great boon for defined benefit pension funds and life insurance companies. They would at last be able to actively manage their exposure to longevity and mortality risk. The government is the natural issuer of such liabilities, because of their ability to tax, to vary transfer payments and benefits and to change eligibility requirements for benefits.
The government would also be doing the tax payer a favour by issuing these highly popular and in some cases somewhat innovative securities. Their marginal borrowing costs would be lower than it would be were they to issue shorter maturity nominal debt instead. It failed to do so even in January 2006, when the real yield on the newly issued 50-year index linker touched 0.38 percent. I tried to get a 50-year index-linked mortgage at those rates from my bank, but was told such an instrument does not exist (indeed, index-linked mortgages of any maturity are notable for their non-existence).
When the joys of issuing long-dated index-linked longevity bonds are put to the Debt Management Office the reply invariably is that if they were to issue more of the fancy new stuff they would have to reduce their issuance of the conventional gilts. The DMO wishes to remain present ‘in strength’ in all conventional market segments, to continue to establish important benchmarks. As indeed they should! And here comes the news: balance sheets have two sides: assets as well as liabilities. You can issue any amount of new liabilities without running a larger financial deficit and without retiring any existing conventional liabilities if you are willing the use the proceeds from the issuance of the new liabilities to invest in a portfolio of financial assets. Yes, says the DMO, but we only do liabilities. Yes, I answer, and that’s why you should become the Office of Asset and Debt Management or, more concisely, the Office of Portfolio Management.
The asset side of the OPM should probably be invested in a globally diversified portfolio of financial instruments, preferably mainly equity and other equity-like assets. Of course, we don’t want the British state to get involved in a managerial role in any of its financial investments; they would be in it for the income, not for the control. This OPM is different from a Sovereign Wealth Fund in countries like