Government's £13.8bn Professional Indemnity loss ~ Budget 2024 special

You will have noted from the first ever budget for the new Labour Government, that billions of pounds have been committed to compensate for previous government's admitted liabilities - £11.8bn for the Blood Scandal and £1.8bn for the Horizon Post Office Scandal, respectively. This is £13.6bn of committed losses. These are admissions of liabilities and the compensation is effectively indemnity in all but name.

It is worth emphasising that, under the Insurer of State (IoS) concept, BOTH of these compensation funds could be given liquidity to indemnify the Treasury for the commitments made.

How would it work?

Before we explain - here's the flow of process:

• Loss Purpose Vehicle created for each loss type
• IoS loans (with nominal interest rate) a sum to the LPV, including administration costs - loans represent capital creation
  • This effectively makes the IoS a "type" of Central Bank, right.
• LPV buys Perpetual Bonds
  • Perpetuals entitle LPV to a "slice" of State Insurance Premium (formerly Insurance Premium Tax) forever.
  • The Perpetual has no maturity date, and cannot be resold.
• Capital from this process is then credited to HM Treasury as "indemnity" for the losses committed to.
• HM Treasury has £13.6bn more fiscal headroom than it would otherwise
• IoS "Indemnity Policy Committee" meets annually and decides whether to increase or decrease the State Insurance Premium levy
• HM Treasury reserves the right via the IoS and DMO (Debt Management Office) to "pay off" some of the Perpetual(s) debt and therefore the loan(s) issued by the IoS to the named Loss Purpose Vehicles (LPVs).
• Whereby the Bank of England in parallel (only at the behest of HM Treasury):
  • Issues Gilts within existing auctions to the corresponding amounts
    • Utilises Quantitative Easing model in addition.

To recap, both of the losses would have a corresponding "Loss Purpose Vehicle". This is a new type of company with monopoly rights to buy a certain "new" category of national debt, and always wholly owned by the IoS. That vehicle would then be loaned capital (with a supplement for administration running costs), that corresponds to each loss - the loan would carry a very nominal interest rate. So, that's two LPVs, let's call them Blood Re I and Horizon Re I. Those LPVs would then have rights to buy Perpetual Bonds.

The exact sum of Perpetual Bond would be issued to the LPV, which would sit on its balance sheet as an asset. That bond gives the LPV a right to a share of State Insurance Premium (this is the levy set by the IoS on all insurance, replacing Insurance Premium Tax) perpetually. The underlying bond can only be fully repaid at the behest of the issuer - and may not be resold.

This creates a "synthetic" national debt in a "closed loop" between the Insurer of State and HM Treasury. It operates in parallel with and mutually exclusive from the Bank of England's standard gilt market issuances.

What is the fiscal hypothesis?

Instead of requiring either £13.8bn of new tax revenues, or £13.8bn of Gilt issues, the Treasury is instead entirely Fiscally Neutral. This means, it has headroom it otherwise would not have had - along with the growth multipliers of not borrowing more state debt (which represents a drag on interest rates eating at State spending) as well as the tax raises or spending forgone, but re-routed to other sources of growth.

The inflationary impact? Since this capital is already being guaranteed - there is no primary "on gross" inflationary impact. The existence of the Insurer of State doesn't change the Government's admission of liability - nor the quantum it has "settled" for the claims. It has avoided the need to borrow or tax more - or cut less. Two of which could be deemed inflation drivers - if they result in businesses raising prices, or the exchange rate weakening. This closed loop instead spreads the losses perpetually across the Insurance Economy - until such time as economic conditions allow the Perpetuals to be "balanced off" with Gilt issuances.

Readers may note that the Capacity of the Insurer of State does have a limit. The theoretical maximum of Perpetuals issuable is always tied to both the Nominal Interest Rate assigned to them (in the aggregate) and the total pot of State Insurance Premium (formerly insurance premium tax.)

At any point, however, the IoS may "raise" its solvency by increasing SIP, or by Perpetuals being effectively transferred into the Gilt market - at the behest of HM Treasury, only.

Insurer of State - Capacity

Let X be the total possible pool of Perpetual Liquidity.

Assume Insurance Premium Tax = c£8bn per annum

SIP (£8bn) must equal 0.2% of X.

0.002X = 8000000000

X = 8000000000 / 0.002

X = 4000000000000.0

Therefore, you could theoretically borrow £4 trillion.

Note: Unless SIP is "increased" the total amount of Perpetual liquidity is capped at £4tn - over 130%+ of UK GDP.

It would be for the Treasury to decide how to "treat" the Perpetuals balance on the state ledger - would it be treated as national debt, or carved out as a synthetic national debt. Since it isn't a liability in the truest of senses - more an Option/Right to a bona fide and predictable income stream, is it in fact debt?

That is as much a political question as it is an economic accountancy issue.