The last few weeks have seen a rise in the level of debate about the UK public finances and we can use this morning’s data release to illustrate that. The relatively simple part is what has happened so far.
Central government tax and National Insurance receipts combined in the financial year ending (FYE) March 2021 (April 2020 to March 2021) were £672.4 billion, a fall of £30.6 billion compared with the same period a year earlier. Government support for individuals and businesses during the pandemic contributed to an increase of £204.3 billion in central government day-to-day (or current) spending to £942.7 billion.
That is about as clear an example of fiscal policy being deployed in the UK that I can think of. Some of it was the automatic stabilisers as spending rose due to unemployment benefits and taxes fell. But the extra spending such as the Furlough Scheme was combined with tax cuts such as VAT and as you cannot leave out the housing market Stamp Duty. All of this brought us to this below.
As a result of these low receipts and high expenditure, provisional estimates indicate that in FYE March 2021, the public sector borrowed £297.7 billion, equivalent to 14.2% of the UK’s gross domestic product (GDP).
So the highest level of relative borrowing since the end of the second world war and the highest level of nominal borrowing ever. Economics text books will be full of this as both an example and a test case. One thing that historians are likely to be confused about is why so much faith was placed by some in a body that was so consistently wrong?
This was £29.7 billion less than the £327.4 billion expected by the Office for Budget Responsibility (OBR) in their Economic and Fiscal outlook – March 2021 on a like-for-like basis.
That beat goes on as they will be giving evidence to the Treasury Select Committee later.
Today we’re taking evidence from the @OBR_UK
on their Fiscal Risks Report. We’ll be looking at their assessment of the risks to public finances from the pandemic, climate change and public debt.
They have been consistently wrong about the pandemic which is hardly inspiring for their abilities in the other two areas. Care is needed because the situation has been to say the least volatile, but the issue is that they keep being systematically wrong.
UK Bond Yields
Not mentioned in today’s release is the impact of the fall in UK bond ( Gilt) yields that has oiled the above. If we return to the failures of the OBR I recall them predicting back in the day that UK bond yields would be 4% and I am being kind. Whereas we saw some shorted-dated ones go negative and even the 50-year fell to below 0.5% for a while. So as the band Middle of the Road put it borrowing has been.
Ooh wee, chirpy chirpy cheep cheep
Chirpy chirpy cheep cheep chirp
If we bring this right up to date we see that the recent bond market rally has reduced the 50 year yield below 1%. Things have been volatile this week die to the equity market gyrations we have seen but at the moment it is 0.87%.
Inflation Problems
This is an issue I have warned about both generically and for the public finances. This month it started to come into play.
Interest payments on central government debt were £8.7 billion in June 2021, the highest monthly payment on record (records began in April 1997).
Fluctuations in debt interest are largely a result of movements in the Retail Prices Index (RPI) to which index-linked gilts are pegged.
The latter sentence needs an at the moment added because we could see days when conventional bond yields rise again, and they come back into play in this respect. However back to the inflation issue.
The interest related to the £470.7 billion index-linked gilts in circulation (at redemption value) increased by £6.0 billion in June 2021 compared to June 2020, mainly as a result of the large increase in the RPI between March and April 2021 impacting on the uplift of the three-month lagged index-linked gilts.
We now know that rises we have seen in the RPI will be having an impact in future months.
Regular readers will recall I have been making the point that the UK should be issuing more conventional bonds for this reason. A few years back there was something of a debate with Jonathan Portes on this point with him arguing that real yields are negative. The problem as I have consistently pointed out is the gap between theory ( real yields) and reality which is what we are paying.
The Austerity Plan
Whilst fiscal policy has been en vogue there is a cadre at HM Treasury who will have been planning all along to take it back in some sense. That has found a form this week at the Institute for Fiscal Studies.
But his room for manoeuvre in the medium term is far more limited. The government’s existing spending plans imply cuts to some departments, and still make no allowance for additional virus-related spending. Sticking to those plans would mean spending up to £17 billion less on public services per year than what was planned prior to the pandemic, despite rising costs and rising demands.
I am not sure that is going to work and confusingly the IFS seems to think that the government can spend more now.
The current budget deficit – the difference between what the government spends on day-to-day activities and what it raises in revenues – is, under our forecast, improved by £30 billion for 2021−22, relative to the forecast back in March.
Yes that is another OBR fail. But it would be odd to spend now if you think that there is trouble on the horizon. Frankly it all looks rather confused which is par for the course for both the IFS and HM Treasury.
What about the June numbers?
We arrived at the release with hope because the signals for June employment growth has been strong. The catch is that because many of the numbers are estimates such a thing is likely to be caught later by revisions rather than revealed today.
Central government receipts in June 2021 were estimated to have been £62.2 billion, a £9.5 billion (or 18.0%) increase compared with June 2020. Of these receipts, tax revenues increased by £8.1 billion (or 21.7%) to £45.5 billion.
Income Tax was up 14% on last year as is National Insurance being up by 11%.
Central government bodies spent £84.1 billion in June 2021, £2.5 billion (or 3.1%) more than in June 2020.
This is more than explained by the debt interest rise we have already looked at. On the other side of the coin the various Furlough Schemes dropped by about £6 billion. So the net move was mostly this.
Central government departments spent £31.1 billion on goods and services in June 2021, an increase of £1.7 billion (or 5.7%) including £17.7 billion on procurement and £12.8 billion in pay.
Oh and we paid £800 million to the EU as part of the Brexit settlement.
Comment
There is quite a bit going on here as the economic situation has again turned out better than the official expectation via the OBR. But looking further ahead there are clearly challenges. Any sustained burst of inflation will be expensive. Of course they have a plan for that with the RPI being converted into a another version of CPIH but that will not happen until 2030 at best and hopefully never. Any sustained rise in conventional bond yields will be expensive but at present with its £3.45 billion of weekly purchases the Bank of England is in play here. As it happens bond yields generally have fallen too.
There is a catch in the above in that bond yields have fallen because of fears that economies will slow due to new Covid problems. Today that has been illustrated by Australia where half the population is now in another lockdown. In the end these issues come down to economic growth. That is why government forecasts invariably settle on 3% per annum growth as that fixes most debt problems quite quickly. Therein lies the rub as it has been quite some time since we managed that.