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UK public finances: what do the latest data tell us?

Government borrowing in the UK fell slightly in December 2021, as policy-makers wound down spending on Covid-19 relief measures. But there is still a long way to go before it returns to more normal levels. Rising inflation adds further pressure to the management of existing public debt.

According to the latest data, the UK’s public finances remain under substantial pressure from the burden of coronavirus support measures. The Office for National Statistics (ONS) estimates that between March 2020 and April 2021, government borrowing as a percentage of total output was 15%, the highest it has been since 1946.

Figure 1: Government borrowing as a percentage of GDP

Source: ONS, OBR

In recent history, the government has frequently borrowed and spent more than it has taken in tax revenue. In fact, a budget deficit of 3-4% has been the norm since 1970. According to the latest data, government borrowing between April and December 2021 was nearly half what it was in the same period in 2020. But at £146.8 billion, it was still the second highest figure for these nine months since records began in 1993.

The stock of government borrowing (public sector net debt) also continues to grow. At £2,340 billion, it is currently equivalent to 96% of UK annual GDP (see Figure 2). This is the highest it has been since the early 1960s, when the country was still recovering from the Second World War.

Public sector net debt excluding public sector banks is the amount of money the public sector owes to private sector organisations (it is often called ‘the national debt’). The difference between net debt and gross debt is that the former subtracts financial assets (it measures theoretically how much debt would be left if the public sector sold all of its financial assets). The Bank of England’s asset buying with electronically created money since the global financial crisis of 2007-09, known as quantitative easing, contributes £324 billion to the net debt figure.

Figure 2: Net debt to GDP 1994-2021 (% of GDP)

Source: ONS

For December alone, public spending in 2021 outstripped tax revenue by nearly £17 billion. This resulted in the fourth largest December borrowing on record. Net debt was slightly lower than it was a year previously, but was still almost three times as high as the pre-pandemic levels (see Figure 3).

Figure 3: Monthly public borrowing 2019-2021 (£, billion)

Source: ONS

What do the latest data tell us about the Treasury’s tax receipts? The biggest proportional increases in revenue for December 2021 were in stamp duty and business rates – two levies that were temporarily cut during 2020. This means that last year’s figures were artificially lower than usual.

On the expenditure side, total spending ‘only’ fell by £1 billion in December 2021, as the end of furlough payments to employees and self-employment support was cancelled out by a tripling of debt interest payments. This added over £5 billion to the government’s outgoings compared with a year earlier and was a December record.

What caused this uptick in debt interest obligations? The government finances its borrowing by selling bonds (interest-bearing IOUs) to investors, including the Bank of England. The interest payments on some of these bonds are linked to the rate of price increase across the economy (inflation).

Inflation is currently at its highest level in 30 years, and the Bank of England doubled its main interest rate at its February meeting – from 0.25% to 0.5% – as it attempts to bring inflation back to its 2% target. This hike in interest rates, with more expected soon, further increases the cost of government borrowing.

The UK is not alone: other advanced economies are also experiencing extraordinarily high peace-time debt levels (see Figure 4). Nor is it alone in facing rapidly rising inflation: the United States is currently experiencing price growth of around 7%, and the country’s central bank, the Federal Reserve, is expected to raise interest rates further as a result.

Figure 4: General government gross debt across the G7 (% of GDP, in December 2020)

Source: ONS, IMF

The December ONS data confirm that debt interest payments are set to play a significant role in public sector finances over the coming months. Whether central banks are able to tame inflation is likely to determine how much headroom governments around the world have for continued elevated levels of public spending.

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Author: Ben Pimley
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