In the intricate dance of public finance, the UK government, like many others worldwide, often spends more on public services than it gathers from tax revenues. This deficit necessitates borrowing, a practice as common as it is controversial, for borrowed money comes with the obligatory partner of interest, which must be paid back.
The Rationale Behind Borrowing
The government primarily relies on taxes as its source of income. When expenses overshoot revenues, there are typically three ways out:
- hiking taxes,
- reducing spending,
- or resorting to borrowing.
However, raising taxes can often backfire.
“Higher taxes mean people have less money to spend, so businesses make less profit, which can be bad for jobs and wages,”
a dynamic that also translates to reduced tax revenues for the government.
Hence, borrowing often emerges as the preferred choice, especially for financing significant projects anticipated to boost the economy.
The Mechanics of Government Borrowing
Bonds, or “gilts” as they are known in the UK, are the primary instrument through which the government borrows money. These are promises to pay back borrowed money in the future, coupled with regular interest payments. Gilts are a favourite among financial institutions due to their reputation as a safe bet, backed by the assurance of repayment.
A Glimpse at the Numbers
The dynamics of government borrowing oscillate throughout the year, influenced by factors like tax submission timelines. In the 2022-23 financial year, borrowing stood at £128.4 billion, marking a £5.5 billion increment from the previous year. However, the national debt, which is the cumulative borrowing over the years, reached approximately £2.59 trillion, a figure equalling the total value of goods and services produced in the UK in a year.
The Implications of Rising Debt
A growing national debt translates to increased interest payments. While low interest rates in the 2010s mitigated the impact of these payments, rising rates have rendered the cost of debt more conspicuous. Records show that the government allocated more funds to debt interest in the last financial year than it did to education. This dynamic ignites a debate among economists; some voice concerns over excessive borrowing while others contend that increased borrowing catalyses economic growth, eventually amplifying tax revenues.
The Future Outlook
Challenges loom large as the UK contends with an ageing population and the imminent threats of climate change. The Office for Budget Responsibility (OBR) projects a potential escalation of public debt, fueled by a reduction in the working-age population and an increase in pension payouts.
“Public debt could soar as the population ages and tax income falls,”
warns the OBR, projecting a rise to over 300% of GDP by 2070.
Government’s Stance on Debt
Chancellor Jeremy Hunt, responding to these forecasts, emphasized the government’s commitment to making “difficult but responsible” decisions to stabilize public finances. He attributed the elevated government costs to the “twin global emergencies of a pandemic and war in Ukraine.” The government aims to reduce the underlying debt in the upcoming five years, a commitment echoed by Prime Minister Rishi Sunak.
Deciphering Deficit and Debt
In the realm of public finance, ‘deficit’ denotes the disparity between government’s earnings and expenditure. A surplus emerges when the government spends less than it earns. In contrast, ‘debt’ represents the accumulated money owed by the government over the years, increasing with each deficit and diminishing with every surplus. This dynamic dance of numbers and economic principles underscores the intricate ballet of managing a nation’s finances.