Sunday, November 30, 2008

UK Public Finances

Readers Question: Why is the UK’s public finance position considered worse than other major economies when the UK has the lowest percentage of National Debt to GDP when compared to these other economies? (i.e. UK debt 43%, Germany 64.9%, France 63.9%, US 72.5%, Italy 107%, Japan 194%)

I think there are a few reasons.

1. People Always Imagine the Worst

I think if you went to France, Italy, US, Ireland, people in those countries would probably think they have the worst state of public finances. It is the nature of the national media to exaggerate the extent of economic problems. It hardly makes a good headline to say:
'UK National Debt increases, but, is still significantly less than our main international competitors'
Rapid Deterioration.

One thing about the UK public finances, is that although National debt is 'relatively' low, next year will see a rapid deterioration. In the next financial year, Government borrowing is estimated to be £115bn or 8% of GDP. This will increase National Debt from £512bn to £627bn - that's a pretty rapid increase. Because growth is negative, national debt as a % of GDP will jump significantly. If the recession continues, it could be very difficult to prevent a continued rise in public sector debt as a % of GDP. Germany by contrast has worked hard to improve its fiscal position. Even though it is in recession, they somehow have managed to balance the budget. (They should now pursue expansionary fiscal policy and borrow more, but, they have become rather proud of their balanced budget.)

Claims UK Debt is Alot Higher

The Institute of Fiscal Studies claims public sector liabilitie is a lot higher - if the government includes PFI Initiatives and public sector pension liabilities. Therefore, because of this some suggest the true level of public sector debt is already over 100% of GDP. However, this is to confuse net debt with net liabilites. They are just liabilities - they have not incured borrowing yet. However, it is a guide to the future strains on public finances the UK may face. You can see IFS report here -pdf
  • Also, it should be remembered other countries have similar pension liabilities. Countries like Japan and Italy will face much more pressure on public finances because there demographic trends are much worse than the UK. See global demographic trends

Low Savings in UK

The UK could not cope with national debt of 195% of GDP like in Japan. Japan can cope because it has very high levels of personal savings. Therefore, people are willing to buy the government's debt. The UK doesn't have the necessary level of savings for government to borrow 195% of GDP. However, as the recession bites, savings are increasing, and at current levels, the government will be able to finance the increased levels of public debt.

The UK situation is bad, government borrowing is increasing very fast. But, the UK is not facing imminent bankruptcy as some of the shrill tabloid headlines would like us to believe.

It is difficult to compare countries public sector debt, but, it also worth examining the cost of paying interest on the public sector debt. Last year UK spent £31bn on interest payments - Alot, but, still affordable.


Anonymous said...

Why does Japan's high level of personal savings allow it to have a larger national debt than the UK? Are you suggesting that means debt is being purchased from Japanese saver's deposits, either directly or by the savings banks? So long as their was money available in the economy the UK debt could be funded from overseas investment, so does it really matter that we do not have a high personal saving's rate?

Tejvan Pettinger said...

The majority of UK government debt is held by domestic savers. Little is foreign owned. In theory, we could finance government borrowing by oversees investors buying it. I'm not sure how much foreigners would have an appetite for buying UK government debt.

25% of US national debt is foreign owned.

Anonymous said...

You can find a rather more courteous and accurate summary of IFS analysis of the level of public sector net debt here: Public sector pensions are an important call on future tax revenues and you might well want to take them into account when setting fiscal rules, but they are not the same as net debt. One important reason people refer to the UK's relatively high indebtedness is that although it is low by G7 standards, it is higher than most other OECD countries on comparable definitions. Hope this helps.

Tejvan Pettinger said...

Thanks for comment Robert

Joanne Poi said...

I think these boys answered it best

Charles Maxwell said...

I observed from the UK's public works based on consolidated bidding for infrastructure sourcing, that UK's project finance contracts has one of the most discerning panel. It echoes the news that UK evaluates carefully each contracts.