Definition
The Full Funding Rule is a self-imposed Treasury convention requiring the UK government to “fully fund” any fiscal deficit by issuing an equivalent amount of government bonds (gilts and Treasury Bills) to the private sector.
In simple terms, if the government spends more than it receives in taxes, this "Rule" requires that the government must “borrow” the difference by selling debt instruments to investors, even though, as the currency issuer, it can always create the money required to make those payments directly through the Bank of England.
Origins and purpose
The rule was introduced in 1981 by the then-Chancellor Sir Geoffrey Howe, under advice from the Bank of England. It formalised the monetarist turn in UK economic policy. Until then, the government routinely financed part of its deficit by selling Treasury bills directly to the Bank of England, a straightforward form of money creation.
Howe's change came during the early years of the Thatcher government, at the height of the neoliberal counter-revolution. It was intended to end so-called monetary financing and to reassure financial markets that the government would no longer create money to pay its bills. Instead, every pound of deficit spending would be matched by borrowing from the private sector.
This was sold as a measure of prudence to control inflation and restore discipline to public finances. In reality, it was a political device to create the illusion that the government's spending capacity depended on the willingness of private investors to lend it money.
The Rule was reinforced by Gordon Brown in 1998 with the creation of the Debt Management Office in the Treasury to manage public debt, symbolising the split of fiscal and monetary policy on the creation of the Bank of England's supposed independence.
How it works
Under the Full Funding Rule, the UK Debt Management Office (DMO) must issue new gilts equal in value to any fiscal deficit forecast by the Treasury, whilst day-to-day it issues Treasury Bills to achieve the same goal.
The proceeds of these sales are credited to the government's account at the Bank of England late each day, the government's spending during that day having previously been drawn from that account using funds already created for the government by the Bank of England, making a mockery of the process.
The acquirers of the bonds and Bills in question make settlement of the payment due for them from their central bank reserve accounts, which have been previously inflated by the value of the government's spending on the day in question. In other words, the full funding rule is simply an accounting exercise to create interest-bearing deposits out of the sums the government spends to support the fiction that the government must borrow to spend, even though the reserves that investors use to buy the gilts come from money the government has already created.
Consequences
The Full Funding Rule has three major effects:
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It disguises money creation by routing it through financial markets rather than acknowledging it as a normal function of a currency-issuing state.
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It enriches the wealthy by providing a constant flow of safe, interest-bearing assets to institutional investors — effectively a subsidy to the financial system.
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It justifies austerity by sustaining the myth that public spending must be “paid for” through borrowing and that rising “national debt” is dangerous.
The result is a permanent structural bias in favour of the financial sector and against direct investment in public purpose.
Relationship to modern monetary operations
The contradiction at the heart of the rule was exposed by quantitative easing after 2009. When the Bank of England purchased hundreds of billions of pounds' worth of gilts from private investors using newly created money, it reversed the Full Funding Rule in practice. The state effectively borrowed from itself, cancelling out its own debt.
This proved that the rule was never a financial constraint, and only a political one. It also demonstrated that there is no operational difference between money created via “QE” and money created for direct government spending. The only distinction is who benefits first.
Current status
Although rarely discussed, the Full Funding Rule remains the foundation of the Treasury's fiscal framework today. It is embedded in the Debt Management Report and in DMO operating procedures. Successive Chancellors, whether Labour or Conservative, have all maintained it, citing what they call market credibility, yet its rationale has collapsed. The UK has long since left the gold standard. The Bank of England is nationalised. And QE has shown that the government can finance itself directly at any time.
In short, the Full Funding Rule persists as an ideological relic: a monument to the neoliberal determination to constrain democracy by pretending that money creation is a sin.
Why it matters
Understanding the Full Funding Rule is essential to understanding how economic power operates in modern Britain. It turns the government's role as the currency issuer into that of a currency borrower, allowing private markets to dictate the limits of public policy.
Abandoning it would not mean uncontrolled money printing. It would simply mean acknowledging reality, that the true constraint on government spending is real resources, not the availability of financial tokens.
A democracy that cannot spend its own money for public purposes has surrendered sovereignty to superstition. The Full Funding Rule is that superstition, written into Treasury procedure.
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Thanks to you and your team for another illuminating article.
Alas, yet again, might your article demonstrate that our nation is not a valid democracy but, so much more, a plutocracy which cultivates and gains power from citizen ignorance imposed through state education omissions and the reinforcement of that ignorance by “courtier” main stream political political parties and main stream media outlets?
Might be worth adding that this was enshrined in law by the Maastricht Treaty 1992…. although since Brexit it may not apply to the UK anymore.
Also, perhaps, that QE was was dreamt up to allow direct financing of government spending without breaking the Full Funding rule (or law, as it was then).
Personally, I am quite happy with “full funding” as a guideline (but I would not make it a law) as long as we have a BoE that is active in the secondary gilt market to control yields and there is some restrictions on the remuneration of reserves. Indeed, I think it delivers a very similar outcome but offers better control of monetary policy than direct monetary financing via the Ways and Means account “overdraft”.
On this we are going to fundamentally disagree Clive.
This is the bedrock of neoliberalism and foudnation for its curse. It has to go. My thinking is going quite radical – partly in reaction to your pro-status quo posts here, with which I also disagree. I will go for a long walk to think about them today.
Your framing seems to be that that nothing much needs change and even government is not necessary (full funding says that). This is not where I am.
I think you have pushed me over a watershed.
I don’t see that we do fundamentally disagree; we both want government policy to:-
1) not be held hostage by the bond market… and deliver what the country actually needs (infrastructure, health etc..)
2) not excessively reward wealthy savers with high, risk-free interest rates
3) and we probably agree on a few other things, too.
My point is that this can be done within the current architecture – it just needs political will. Whilst it is tough to change orthodox thinking it is probably easier than a complete rebuilding.
Le me go for that walk….
Already seen guillemot this morning, before even having a coffee.
Maybe I’m being naive but I don’t see why we would need a guideline that isn’t a law, or a ways and means overdraft, or anything remotely complex here. If the government needs money to fund public services it creates that money. That’s it.
Money is not a finite resource, it’s not even a real thing ,it’s an abstract concept, a promise made by the government. Why should the government therefore be in hock to private asset owners for making promises to its citizens? Frankly the idea that the government has to seek approval from the markets in order to provide public services to the people it represents is utterly disgusting.
We use taxes to prevent inflation and bonds as a place to store any remaining. Why would the government also need to owe that money or have an overdraft or anything along those lines? It’s a closed system run by the government for the benefit of society (ideally!)
Apologies for the slightly disjointed rambling, I’ve only just come across mmt and this incredibly informative site in the last few days and I’m still trying to absorb it all!
The first neolib appearance of such a rule was the 1973 Pompidou Giscard law in France,
Time scales and perception of advantage.
Speculators: instant market reaction.
Advertisers seek immediate increases in sales.
MPs – even the more far sighted think only as far as the next election (Harold Wilson: ‘A week is a long time in politics.’)
Business – quarterly profit or loss.
Climate and environmental scientists: our children will be engulfed in hell on earth – and we are well on the way.
So the pundits can always find excuses for ignorance, stupidity and greed with some form of ‘We can’t do that because …’
Your disagreement with Clive Parry reveals, I suppose, why chancellors have not (recently) simply invested heavily in future wellbeing as recommended by Richard (and Beveridge?). Also my perplexity at the absence of any compelling answer to ‘What’s stopping them?’
Hi.
I’m wondering if it’s possible, that on any single day, the government deficit is the interest it has to pay on gilts? So, fully funding this deficit is gifting the city an unearned benefit, based upon an unearned benefit.
Further to your recent posts on gilts, I’m thinking that without change(s) to reduce inequality, and get more of the national income spread between more citizens, the current situation of money eventually pooling with a few groups, shall remain, meaning the gilt market has to remain as it is too?
I am interested to see where your thinking on CBDC goes, as I feel something new is emerging from your thinking there.
Hope you are enjoying your more than deserved weekend break.
I appreciate that this is simplistic.
The UK government can create all the money it needs.
But to “justify an economic theory”. The government needs £100 today, it creates £80, but deliberately “borrows” the extra £20 from the financial market, paying fees and interest.
Presumably the financial markets create the £20 needed to “lend” the government.
On top of this the government pretends that its ability to borrow is totally at the mercy of the financial markets. The market has in turn created a dogma justifying this “power”.
Since 1981 how much money/wealth has been transferred this way to the financial elites? £trillions?
The government has control but has conceded power to wealth vampires.
This “reality” is utter madness and must be stopped.
Much of this is wrong. Please read what really happens – on here many times and around page 410 and onwards in the full Taxing Wealth Report.
Probably the most important addition to your glossary. Much to agree with. Go well.
In other words looked at from another angle it’s possible to view the list under “Consequences” as an example of the UK state being commandeered by the wealthy for the purposes of their own narrow interests, a form of extortion or protection racketeering! The UK state’s ability to create money from nothing is being used to create a safe haven for money which especially benefits the wealthy and gives them an interest bonus. Not just this though it provides an excuse to mystify how the UK’s monetary system works and deny meeting the needs of the many for adequate public goods and services. We desperately need to recognise in this country (and others) that extortion or protection racketeering comes in many subtle forms. We are far from understanding this underlying reality.
https://davidlabaree.com/2021/08/12/the-state-as-organized-crime/
It enriches the wealthy by providing a constant flow of safe, interest-bearing assets to institutional investors — effectively a subsidy to the financial system.
Says it all really………….
Has the Bank of England ever responded to this excellent academic paper that proves unequivocally that the UK state is self-funding , without the need to ‘borrow’ ?
https://bit.ly/TheSelf-FinancingState
It ignores it
Have you run this explanation past the BoE and the Treasury for their comment? be good to get their thoughts. Thanks
No. And I seriously doubt they would comment.