The UK is about to become a member of the club it has avoided joining for six decades – the club of countries with a 100 percent debt-to-GDP ratio.
Such is the size and scope of the rescue packages needed to prevent the energy crisis that hit millions of families and avoid the bankruptcy of thousands of businesses, the debt ratio, which rose from 83% to 94% in the early months of the pandemic and reached almost 104% in 2021, is now expected to remain in three figures before the end of the decade.
Successive Conservative chancellors have tried to keep the national debt from rising to £2.2 trillion (gross domestic product) in Britain’s annual national income.
This is not how households think about their debts. Most people with mortgages would have a debt-to-income ratio of over 263% in Japan if they matched their outstanding loan to their annual income. However, the debt-to-GDP ratio has become the yardstick by which international investors judge a government’s ability to pay its costs. And that’s why international creditors are always keeping a close eye on public spending deficits, because if it exceeds economic growth, the debt mountain will increase.
Paul Dales from Oxford economy says a brief drop in the UK’s debt-to-GDP ratio below 100% this year will prove temporary: “Four or five years from now it will seem normal for the UK to have a ratio above 100%.”
In his first budgets as Chancellor in 2010, George Osborne did his best to keep the ratio from going over 100% and then bring it down. Rishi Sunak was of the same mind until the pandemic forced him to spend an additional £400bn.
Investec’s Philip Shaw says investors were more concerned about the government’s strategy than the level of debt: “I’m not taking Micawber’s position and not saying 99% good, 101% bad. But the higher the debt, the more you pay in interest and the harder it is to ever reduce it again.”
Developed countries in 100% club very diverse: Cyprus, France, Belgium, Spain, Portugal, Greece and Italy, plus Canada, Japan and the USA.
But what matters, Shaw said, is not the level of debt, but what governments do with the borrowed money.
Alistair Darling, Labor Chancellor during the 2008 financial crash, says investors want to see a coherent plan: we had a sensible and consistent deficit reduction plan that spurred growth.”
French President Emmanuel Macron defended his country’s 114% ratio, saying the extra debt since he took office in 2016 has been used to invest in skills, increase tax breaks for investments and help families during the pandemic. This is similar to Gordon Brown’s golden rule when he was chancellor: additional borrowing was only allowed to support investment.
Dales says Liz Truss’s plan to boost growth through income and corporate tax cuts is misguided: “I haven’t seen evidence that tax cuts are self-financing.”
Shaw is concerned that months of government inaction, making investors even more nervous, means that the UK will suffer a deeper and longer recession than many other industrialized nations.
He says the lack of confidence in the UK can be seen in the rise in the interest rate the government pays on its debts and in the fall of the pound sterling.
Since Russia invaded Ukraine, the pound has fallen from $1.36 to $1.16 and is moving towards parity. Since the UK is so dependent on imported raw materials and components, a weak pound increases inflation. High inflation, high debt, a recession and an energy crisis have put the UK in an exceptionally difficult position.