The one bubble that governments like must be deflated

SELDOM does a day go by without us hearing about financial bubbles and how a chastened government and its regulators are going to make sure they don't pop up again.

You'd think that people would hate bubbles. This is wrong; people love bubbles, it's only the bursts that then follow that they hate.

When there is a crash, no-one ever says: "I really enjoyed the bubble. I did well out of it even though it was madness and I didn't deserve it. Now we are back to where we should have been all along I'm going to put the hangover down as a small price to pay for all the fun I had."

When the dot-com boom exploded, lots of shares went from nothing to a lot and back again. People felt cheated of the profits they never took at the top of the market. Ten thousand pounds of shares may have gone to a hundred thousand pounds of shares in three months and sat at the crazy all-time high for just ten minutes before collapsing back to where they started. However, you will hear that the investor lost 90,000.

Bubbles convince people that they had what they never really owned. They convince themselves that their good fortune was an entitlement.

Worse still, even after bubbles happen, people rarely understand what caused them. It is therefore not surprising they don't spot others.

There is a giant bubble in the UK, Europe and the US and it is beginning to burst right now.

It is one of the parents of the credit crunch and it is truly huge. The bubble is government.

Ever since the reforms of the Thatcher years, the state has regenerated itself; it has slowly expanded reaching an unsustainable scale which eventually drained the country white.

One of the reasons for easy credit is that it generates easy tax. When someone buys something on credit, the tax generated is paid immediately. When a person in debt buys something on credit, he is paying tax on his future earnings. Credit for consumers is tax in advance for governments. A financially incontinent government loves that. Every banker's mega bonus, every 125 per cent mortgage, every pound of stamp duty paid on a home funded by low credit and high loan-to-values is fuelling a bankrupt state machine.

It is the state that has levered up. It is the state that taxes short term and takes on long-term commitments. It is the state that creates vast quantities of opaque derivatives, attempts to manipulate market forces and sits on unsustainable levels of risk. Bankers are merely minions.

This might sound like a UK story, but it covers Europe and the US. This is the bubble that will shape the next ten years.

The share of GDP that the government consumes must contract significantly.The UK seems to be a stand-out example of a government grasping this nettle, but others need to follow in the next year or two if they want to avoid disaster.

The process will have to see something like a period of Thatcherism again; a process that the coalition government, in its way, is reinventing.

Of course the prospects of getting the budgets of the West back in line seems like a script for apocalyptic recession but the prospects of tight financial management are very often much worse than the reality.

The stock market may well do well in this period. Inflation is most certainly going to be strong and sometime soon interest rates will rise.

I've written in this column before that we were living in the seventies. Well now the eighties are upon us again.

• Clem Chambers is chief executive of stocks and shares website ADVFN. www.advfn.com