It kind of depends. It depends on what happens to growth, it depends on what happens to the future course of the rate of interest.
Here is the bad news; it seems that whatever happens, it won’t be until the 2030s that the UK public net debt as a percentage of GDP returns to the level seen before the credit crunch. So, when David Cameron says the government is burdening a generation with the cost of paying for its current measures, he is right. At least that’s what the latest green budget from the Institute of Fiscal Studies (IFS) has concluded.
Here is the good news: the cost of repaying the public debt, as a percentage of GDP, won’t be especially high, or unusual. At least, it may be like that.
First things first. When the Tories complain that the current government is responsible for seeing borrowing rise, they are only half right.
In fact, it rather seems that government finances under both the Tories and Labour followed a pretty similar trajectory. Both governments inherited a situation in which net debt was relatively high. Both governments then managed to reduce it for the first few years of their administration, then under both administrations it rose.
However, the circumstances were different. The Tories witnessed two recessions during their tenure. Labour has just experienced the one, so far. The Tories reduced net debt during the boom, Labour allowed it to grow. Then again, maybe the reason why the UK had such a long boom is precisely because labour allowed debt to rise.
But moving forward, what is clear is that the UK’s debt will grow. Sure, the government’s stimulus package will increase growth, but the question is, what price must we pay for this?
Well, forget about the cost of the banking bail out. It is possible the government will actually make a profit on this – eventually. Maybe it won’t. Maybe, ultimately, the cost of this bail out will be in the billions – well, let’s put those arguments to one side, and just consider the cost of repaying government debt, excluding the cost of the banking bailout.
This is where the ‘yes, buts’ come in. First of all, there’s fiscal tightening. Can the government save money, are there ways in which spending is being wasted, and can efficiencies be made? Well, the answer to all those question is yes, but. Yes, of course spending can be cut, efficiency can be made, waste reduced, but why wasn’t it done before, and who is to say the government will actually make those savings?
It’s easy to say, but less easy to do.
The IFS calculates that the credit crunch has probably imposed a permanent cost on the exchequer of around 3.5 per cent of national income, or just over £50bn a year. The government says that, come the recovery, it will squeeze the fiscal budget, and try and start clawing money back. Apparently the Pre-Budget Report suggests that net debt will increase by 21.1 per cent between the year 2007/08 and 2013/14. This works out at around £10,000 for every family.
But before you get too high handed, just bear in mind most of this extra spending was going to have been required whatever happened. In a recession, government receipts fall, spending on benefit necessarily rises. Actually, the fiscal stimulus will only account for around one-fifteenth of the total. So, actually, when you put things in context, the government’s plans to kick start the economy don’t seem quite so irresponsible.
But, despite all the bad news, the cost of repaying this debt remains quite modest. “If the average interest rates faced by the government remain at current low levels,” says the IFS, “then the cost to the taxpayer of financing this debt would remain low by historical standards, with net interest payments remaining well below the 3.0 per cent of national income paid in the last year that the Conservatives were in office.” So, yes, debt is high, very high, but no, the cost of repaying this debt does not necessarily have to be that high.
The worry, however, relates to what happens if interest rates rise. The IFS puts it bluntly: “If the interest rate faced by the government rose to that level of the mid 1990s, then the burden of financing debt would rise gradually but unsustainably.”
It is all very well saying the UK’s public debt is not that much worse today than under the previous government, but were there other factors at play?
Well, the IFS pointed out that although the structural budget deficit improved slightly under Labour, it did so at a time when other countries saw a significant improvement in their structural budget deficit. In fact, says the IFS, no less than 19 of the 24 developed economies for which it has data, have done more to reduce their structural deficit. It seems that in 2007, the UK had the largest structural deficit of the G7 economies, and the third highest of the 26 industrialized countries for which OECD data is available.
As for net debt, yes, it is true, as Gordon Brown likes to remind us, that in 2007 the UK had the second lowest ratio of government debt to national income in the G7 after Canada. “But,” says the IFS, “we had the eleventh highest debt ratio of the 28 countries for which the OECD has data.” The IFS says: “It is not clear why we should compare ourselves to the G7 economies rather than to the broader range of OECD countries in judging how prudently we manage our public finances. In fact, one third of OECD countries had net financial assets rather than net debts in 2007.”
© Investment & Business News 2013