Conjoncture

The trajectory of UK public finances after Covid

Eco Conjoncture n°3 // March 2021  
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THE TRAJECTORY OF UK PUBLIC FINANCES AFTER COVID-19  
Before the onset of the Covid-19 pandemic, the United Kingdom had already begun to come out of the “age of  
austerity”, to borrow a phrase from former Prime Minister David Cameron. The massive intervention of UK authorities  
to support the economy through the Covid-19 sanitary and economic crises has significantly strengthened this trend.  
The government deficit ran at almost 20% of GDP in 2020, and the ratio of government debt to GDP increased by  
twenty percentage points to nearly 100%. Once the crisis is over, some adjustments will be needed. That said, the  
Treasury’s eagerness to bring public finances back under control rapidly could be counterproductive if it stifled the  
economic recovery. Moreover, long-term prospects, particularly demographic trends, suggest that balancing the  
government’s books will be no easy task.  
The Covid-19 crisis hit at a time when UK fiscal policy was beginning to  
be loosened after years of austerity. A combination of a massive increase  
in government spending, collapsing fiscal receipts and the measures  
taken by the Bank of England has pushed the UK’s government debt  
sharply higher over the past months. This document attempts to  
analyse the past trends and future trajectory of public finances. The  
first section reviews the state of UK public finances before the Covid-19  
crisis. The second examines the health crisis and its impact on the  
economy. The third details the measures taken by the UK authorities  
and the effect of the crisis on government spending, receipts, deficit  
and debt. The final section then considers the long-term outlook for  
the public finances, and discusses the government’s strategies to  
ensure the sustainability of the country’s sovereign debt.  
BREAKDOWN OF TOTAL MANAGED EXPENDITURE (TME)  
GBP bn, 2019-20  
DEL  
AME  
9
8
7
00  
00  
00  
600  
500  
400  
300  
200  
100  
0
The state of the public finances  
1
The structure of public spending  
Current expenditure  
Capital expenditure  
SOURCE: HM TREASURY  
The total amount of government spending, known as Total Management  
Expenditure (TME), is split between the resource budget, covering  
current expenditure, and the capital budget, dedicated to investment  
spending. Each of these categories then splits into two sub-divisions.  
Departmental Expenditure Limits (DEL), set during Spending Reviews  
or, occasionally, Comprehensive Spending Reviews (CSR), set maximum  
spending over three years for predictable current and investment  
spending. This is the case for administrative costs, such as operational  
costs and payroll. The other subsection includes spending that is  
harder to control and thus to predict, such as welfare, tax credits and  
public sector pensions. This spending, known as Annually Managed  
Expenditure (AME), is reviewed annually.  
CHART 1  
PUBLIC SECTOR EXPENDITURE FOR MAIN FUNCTIONS  
Real value, GBP bn (2019-20 prices)  
Social protection  
Education  
Economic affairs  
Health  
General public services  
Defence  
350  
00  
3
250  
200  
Chart 1 shows the breakdown of UK government expenditure for the  
2
2
019-20 fiscal year . Public sector current expenditure accounts for  
1
50  
around 90% of total government spending. The remaining 10% is split  
almost equally between investment and depreciation, which together  
form public sector gross investment.  
100  
50  
Where does public spending go?  
0
1
996-97 1999-00 2002-03 2005-06 2008-09 2011-12 2014-15 2017-18  
Social protection is by far the main public expenditure item. Its  
stabilisation, and even slight reduction, in real terms since the  
beginning of the last decade is the main explanation for the slowdown  
in spending growth.  
CHART 2  
SOURCE: HM TREASURY  
Healthcare is the second largest item of expenditure, followed by edu-  
cation, public services, economic affairs and defence (see Chart 2).  
This trend has clearly reflected the spending cuts introduced under the  
austerity programme launched after the Global Financial Crisis (see  
next section). However, it has also been helped by the sharp reduction  
in unemployment since 2012, which has had the effect of reducing the  
government’s benefits bill. UK unemployment fell from 8.5% in 2011 to  
Pre-crisis trends  
In 2018, UK public spending accounted for around 40% of GDP. This  
makes the UK government one of the lowest spenders among European  
OECD members (see Chart 3).  
3
.9% just before the onset of the Covid-19 crisis.  
1
2
How to understand public sector spending, United Kingdom Government, 29 May 2013.  
UK fiscal years run from April to March of the following year.  
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ment of spending plans in the event that debt servicing costs exceed  
6% of government revenue.  
GENERAL GOVERNMENT SPENDING  
However, while the aim of the fiscal rules is to keep public spending in  
check, spending growth has accelerated in real terms after they were  
introduced nearly twenty-five years ago (see Chart 4).  
%
of GDP, 2019 or last available  
6
5
4
3
2
1
0
0
0
0
0
0
0
It was only thanks to the austerity programme launched after the  
Global Financial Crisis that the government managed to rein in public  
spending. The programme, introduced by Chancellor George Osborne,  
aimed to balance the current budget over a moving five-year forecast  
period and to reduce the ratio of debt to GDP. As a result, growth in  
spending slowed significantly over the last decade. TME even fell by  
more than 1% in real terms in the fiscal years 2011-12 and 2013-14.  
However, successive governments over the past three years have  
repeatedly promised to bring to an end what future Prime Minister  
David Cameron called the “age of austerity“ in 2009. In her speech to the  
Conservative Party conference in October 2018, Prime Minister Theresa  
May announced that austerity would soon end, and this pledge was  
CHART 3  
SOURCE: OECD  
4
reiterated by Chancellor Philip Hammond in his 2018 Budget speech .  
A few months later, when presenting the 2019 Spending Review, then  
5
Chancellor Sajid Javid stated being “turning the page on austerity” .  
6
Lastly, Chancellor Rishi Sunak unveiled a budget in March 2020 that  
TOTAL MANAGED EXPENDITURE  
would have had the effect of stabilising, rather than reducing, the debt-  
to-GDP ratio. It should be noted that this budget contained only the  
premise of the recovery package later introduced by the government  
in response to the Covid-19 crisis. This package, detailed below, has  
clearly marked the end of the “age of austerity”.  
Annual changes in real terms (%)  
8
Fiscal rules are introduced  
6
4
2
0
2
4
The Covid-19 crisis  
The health crisis  
Because the government was slow to introduce restriction measures,  
the Covid-19 pandemic initially spread rapidly in the UK. As a result,  
the country’s first lockdown, which was finally imposed on 23 March  
-
-
2
020, was particularly long – non-essential shops only reopened in the  
middle of June, while the tourism and accommodation sectors had to  
wait until early July. Faced with a resurgence in the epidemic, a second  
lockdown was introduced in early November. While it was lifted after  
a month, a mutation of the virus, making it particularly contagious,  
led to the introduction of a third lockdown in early January. This will  
only start to be lifted in March, and some restriction measures will  
remain in place at least until mid-June. With a total of more than  
1
979-80 1984-85 1989-90 1994-95 1999-00 2004-05 2009-10 2014-15 2019-20  
CHART 4  
SOURCE: HM TREASURY  
Successive UK governments over the past twenty years have sought to 100,000 deaths, the UK is the world’s fifth most affected country, behind  
respect fiscal rules when drawing up their spending plans. These rules the United States, Brazil, Mexico and India, and thus the hardest hit in  
were first set out in 1997 by Gordon Brown, then Chancellor of the Europe. Moreover, according to the Government Stringency Index from  
7
Exchequer. Initially, there were two rules. The first, the ‘golden rule’, the Oxford Covid-19 Government Response Tracker (OxCGRT) , the UK  
stated that over the course of an economic cycle the government could maintains restriction measures among the strictest in Europe.  
only borrow to invest, and that current spending would be financed by  
Vestibulum odio dolor, efficitur eu orci quis, cursus elementum  
The economic impact  
tax receipts. The second sought to maintain government debt below  
4
0% of GDP over an economic cycle. These rules have since been re- Given the length and severity of restriction measures, it is hardly  
magna.Proinatauguenecauguedapibuspharetra.Pellentesque  
peatedly dropped and replaced.  
surprising that the UK economy has been hit particularly hard by  
the Covid-19 crisis. The collapse in consumption and output, notably  
resulting from restriction measures and the sharp slowdown in global  
The three fiscal rules now in place were set out in the Conservative  
Party’s manifesto for the 2019 elections , which led Boris Johnson to  
the prime ministership. The first stipulates that the current budget  
must be balanced no later than during the third year of the forecast  
period. The second limits net public sector investment – that is to say  
excluding depreciation – to 3% of GDP. The third calls for a reassess-  
eu blandit massa.  
3
4
6
7
Coronavirus Government Response Tracker, Blavatnik School of Government, University  
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of Oxford.  
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(
see Chart 5). Over 2020 as a whole, GDP fell by nearly 10%, the The second significant variable when looking at the official response  
biggest contraction of any G7 country in real terms. Admittedly, this to the current crisis is inflation. At the beginning of 2020, the annual  
partly reflects how the volume of non-market output is recorded, and rate of increase of the Consumer Price Index (CPI) was close to the  
particularly how the provision of healthcare and education is captured. Bank of England’s 2% target. As a result of the pandemic’s impact  
Nevertheless, even when accounting for this, the ONS estimates that on demand, the collapse in oil prices in the first quarter of 2020,  
the UK is the G7 country that suffered the biggest drop in GDP over the and some government measures such as temporary cuts in VAT for  
8
first three quarters of 2020 . According to the Bank of England, by the certain sectors, this rate fell to 0.5% in May and has not exceeded 1%  
1
0
end of 2023 the supply capacity of the economy will be around 1.75% since . Against this background – and with its secondary objective of  
lower than it would have been in the absence of the pandemic.  
supporting the government’s economic policy in mind – the Bank of  
England’s Monetary Policy Committee (MPC) loosened its monetary  
policy significantly over 2020 (see following section).  
Setting aside the level of economic activity, the authorities’ response  
detailed in the following section – was determined by the effect of  
the crisis on two other major economic variables. Indeed, these will  
continue to guide the authorities’ response over the coming months, The strong response from the authorities  
and could thus have an indirect but prolonged impact on the UK’s  
public finances.  
The government has spent without limit...  
To meet the challenges stemming from the sanitary and economic cri-  
ses, the UK government has devoted substantial resources to support  
public services, companies and individuals.  
GDP OF THE UNITED KINGDOM  
First, nearly GBP130 bn have been paid out in 2020-21 to support  
public services, and around GBP60 bn have already been earmarked  
for 2021-22. These funds have notably been aimed at supporting the  
healthcare system through the sanitary crisis.  
Volume index, 2018=100  
1
05  
00  
1
The government’s measures targeted at companies have included  
subsidies, tax cancellations and deferred contributions. According to  
initial estimates from the Office for Budget Responsibility (OBR), which  
is responsible for providing independent forecasts to the Treasury, these  
measures will have a total cost of nearly GBP35 bn in 2020-21. On top  
of this, Chancellor Rishi Sunak has promised more than GBP300 bn in  
guarantees for loans to companies. To date, the various government  
programmes (Bounce Back Loans Scheme, BBLS; Coronavirus Business  
Interruption Loan Scheme, CBILS; and Coronavirus Large Business  
Interruption Loan Scheme, CLBILS) have provided more than GBP70 bn  
in financing. Meanwhile, nearly GBP85 bn have been approved for  
issuance under the Bank of England’s Covid Corporate Financing Facility  
9
9
8
8
7
7
6
6
5
0
5
0
5
0
5
0
1
997 1999 2001 2003 2005 2007 2009 2011 2013 2015 2017 2019  
CHART 5  
SOURCE: ONS  
(
CCFF). However, the impact of these programmes on the government’s  
budget is likely to be inferior to these amounts, close to GBP30 bn in  
2
020-21 according to the OBR. That is because most of the loans will be  
The first is the unemployment rate. In fact, it has not shot up as  
much as might have been expected given the abrupt and extended  
collapse of economic activity. This is thanks to the proactive response  
from the authorities, which rapidly introduced a furlough scheme to  
limit redundancies and a support programme for the self-employed  
repaid and therefore not need government intervention.  
As far as households are concerned, the government has put in place  
a furlough scheme (Coronavirus Job Retention Scheme, CJRS) and a  
support programme for the self-employed (Self-Employment Income  
Support Scheme, SEISS) in order to limit redundancies and protect  
workers’ incomes. More than ten million people have benefited  
from these programmes, which are estimated to have cost the UK  
government more than GBP70 bn in 2020-21. Lastly, households have  
also benefited from an increase of around GBP8 bn in welfare payments.  
(
see following section). As a result, while the unemployment rate rose  
by more than three percentage points during the Global Financial  
Crisis, reaching 8.5% in late-2011, its increase since the beginning  
of the health crisis has so far been limited to only a little bit more  
than one percentage point. In the three months to December 2020,  
the unemployment rate was 5.1%. However, this limited rise can also  
be explained by an increase in the number of inactive people – those  
who are not employed but not looking for work either, and who are not  
included in the unemployment numbers. According to the Office for  
National Statistics (ONS) more than 700,000 jobs have been lost since  
All in all, the OBR estimates that these measures will have an impact  
of GBP280 bn (14% of GDP) on the 2020-21 deficit and of more than  
GBP50 bn on that of 2021-22 (see Table 1).  
.
..while its revenues collapsed  
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In the meantime, government revenues have decreased significantly  
due to tax cuts and the contraction of economic activity, which reduced  
tax receipts. The OBR believes that the shortfall for 2020-21 will be  
more than GBP55 bn compared to 2019-20 receipts, a fall of nearly 7%.  
The drop in receipts from VAT, income tax, corporation tax, National  
early February 2020 .  
9
10 Consumer price inflation, UK: January 2021, ONS, 17 February 2021.  
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Insurance Contributions (NICs), and taxes on non-residential property for purchases of corporate bonds to GBP20 bn. All of these purchases  
(
business rates) should account for around three quarters of the short- have an instantaneous effect on net debt and a continuous effect on  
14  
the deficit .  
fall (see Chart 6).  
The instantaneous effect on government debt of the purchasing of gilts  
comes from valuation effects. While the APF purchases these from the  
private sector at market prices, as liquid assets they are recorded at  
face value in the calculation of net debt, that is to say at the level of the  
principal that will be repaid at maturity. As falling yields have pushed  
up gilt prices in recent years, their market prices are now higher  
than their nominal value. The value of reserves issued to finance the  
purchase of gilts is therefore greater than the accounting value of these  
liquid assets. Therefore, public sector net debt increases as a result of  
the APF’s purchases. When it comes to corporate bonds, these are not  
recognised as liquid assets, so the increase in net debt is equal to the  
total amount of reserves issued, and thus to the bonds’ market price.  
EFFECTS OF VIRUS-RELATED SUPPORT MEASURES ON PUBLIC DEFICIT  
GBP bn  
2
019-20 2020-21 2021-22 2022-23 2023-24 2024-25 2025-26  
Public services  
0.0  
-1.8  
0.0  
-0.2  
0.0  
-127.1  
-73.3  
-31.4  
-34.1  
-8.3  
-58.8  
2.5  
-0.4  
6.5  
-1.7  
-0.8  
-52.7  
0.1  
0.0  
0.0  
-0.6  
-1.3  
-0.1  
-1.9  
0.3  
0.0  
0.0  
0.0  
0.0  
0.0  
-0.1  
-0.5  
-0.1  
-0.7  
0.0  
0.0  
0.0  
-0.1  
-0.3  
-0.1  
-0.5  
Employment support  
Loans and guarantees  
Business support  
Welfare spending  
Other tax measures  
Total  
0.0  
-0.8  
-0.2  
-0.7  
0.1  
-1.8  
-5.7  
-280.0  
The continuing effect on the deficit from bond purchases results from  
the fact that central government no longer pays interest on the gilts  
to the private sector but to the Bank of England, which is part of the  
public sector. The central bank, in turn, pays the banks that sold it the  
gilts at the rate it pays on the reserves that it has created on their  
accounts to finance these purchases. This is Bank Rate, the policy rate  
of the Bank of England. Overall, this is as if the government refinanced  
itself at Bank Rate. Since the global financial crisis, this rate has been  
lower than the average interest rate the government has paid on its  
debt stock. This means that the UK government’s debt service costs  
are reduced by the APF’s purchases, which therefore leads to a smaller  
deficit. The APF’s purchases of corporate bonds also reduce the govern-  
ment’s deficit, as the interest rates on these bonds are also generally  
higher than the base rate paid on the reserves created to buy them.  
TABLE 1  
SOURCE: OBR  
EXPECTED CHANGES IN CURRENT RECEIPTS  
BETWEEN 2019-20 AND 2020-21  
Change in GBP bn  
Change in %  
0
-
-
-
-
-
-
10  
20  
30  
40  
50  
60  
The Bank of England’s financing scheme for banks (Term Funding  
Scheme with additional incentives for SMEs, TFSME) also has an in-  
stantaneous effect on public sector debt. Through this programme, the  
central bank provides commercial banks with loans financed through  
the issue of reserves. As with purchases of corporate bonds, the loans  
added to the Bank of England’s assets are not recognised as liquid  
assets. In the calculation of net debt, the increase in reserves on the  
liabilities side of the central bank’s balance sheet is therefore not off-  
set by a simultaneous increase in liquid assets. The effect of the pro-  
gramme on the deficit is virtually inexistent, as the average interest  
rate on these loans is very close to Bank Rate.  
Total  
Value  
added tax  
Business Income tax  
rates  
NICs  
Corporation Other  
tax  
CHART 6  
SOURCE: OBR  
The Bank of England in support  
In parallel, the Bank of England has also acted to limit the effects of  
the crisis on the economy. Although some measures have had no direct  
impact on the public finances , others have affected public sector net  
debt (PSND) and the government deficit (public sector net borrowing,  
The OBR’s estimates of the impact of the Bank of England’s measures  
on public sector debt are summarised in Table 2.  
1
1
1
2
1
3
PSNB) .  
SOURCES OF YEAR-ON-YEAR CHANGES IN PUBLIC SECTOR NET DEBT  
This is notably the case for the extension of its quantitative easing  
(
QE) programme, which the central bank manages through the Asset  
GBP bn, OBR forecasts  
2
020-21 2021-22 2022-23 2023-24 2024-25 2025-26  
Purchase Facility (APF). Before the crisis, it had a target of GBP435 bn  
for its stock of UK government bonds (gilts), a figure that has now been  
raised to GBP875 bn. Similarly, the central bank has doubled its target  
Year-on-year change in PSND  
Public sector net borrowing  
Financial transactions  
Bank of England schemes  
Term funding scheme  
Other effects  
473.4  
393.5  
66.8  
54.7  
42.9  
11.7  
12.1  
13.0  
204.6  
164.2  
43.3  
30.2  
20.0  
10.2  
13.1  
-3.0  
123.8  
104.6  
29.1  
0.1  
0.0  
0.1  
118.7  
100.4  
16.3  
1.7  
0.0  
1.7  
-6.8  
99.6  
-97.2  
-117.1  
-125.0  
7.9  
102.6  
101.8  
-1.1  
-16.8  
-20.0  
3.2  
1
1 Among these, the Bank of England cut its policy rate (Bank Rate) by 65 basis points  
to 0.10%, its lowest ever level. It also launched a scheme to provide liquidity to market  
participants (Contingent Term Repo Facility, CTRF) and, in cooperation with the Treasury,  
a programme to finance businesses (Covid Corporate Financing Facility, CCFF). Lastly, the  
central bank has expanded the use of the “Ways and Means facility”, which provides direct  
short-term financing to the government, and has entered into swap agreements with the  
US Federal Reserve.  
Other financial transactions  
Valuation effects  
29.1  
-10.0  
14.6  
2.1  
19.8  
-9.2  
15.7  
1.8  
TABLE 2  
SOURCE: OBR  
1
2 Net debt = Debt - Liquid Assets  
1
3 The public sector includes the Bank of England; PSND ex BoE and PSNB ex BoE are the  
2019.  
measures of debt and deficit, respectively, that exclude it.  
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threshold over the next few months, and remain above it for the next  
five years at least.  
The impact on the government’s deficit and debt  
All in all, the crisis will have a significant effect on government deficit  
and debt. In 2020-21, the deficit has increased due to higher spending  
and lower receipts, which have largely overweighed the relief provid-  
ed by the reduction in debt service costs stemming from both lower  
interest rates and the continuing effect of the BoE’s QE programme.  
In the central scenario of its latest Economic and Fiscal Outlook (EFO)  
The future of the public finances  
Adjustments will be needed…  
Given the significant deterioration of the public finances, a tightening  
of fiscal policy will at some point become necessary. The improvement  
will at first be mechanical. As the sanitary situation will improve, the  
authorities will be able, on the one hand, to restart the economy by  
loosening restriction measures and, on the other hand, to gradually  
withdraw its support measures. The deficit will thus automatically  
shrink as spending falls and receipts rise.  
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report , published in November, the OBR predicted a deficit of nearly  
GBP400 bn in 2020-21, which would be equivalent to 19% of GDP (the  
forecasts in the rest of this section are also based on that scenario).  
This increase in the deficit and the instantaneous effect of the QE  
programme have raised public sector net debt. For the first time in  
history, this debt has exceeded GBP2,000 bn. Moreover, the steep drop  
in GDP has contributed to pushing up the ratios of deficit and debt to  
GDP (see Charts 7 and 8). In January, the ratio of public sector net debt  
However, this will certainly not be enough. First, the Covid-19 crisis  
has resulted in a smaller economy, and will therefore lead to lower  
tax revenues in the coming years. The Institute for Fiscal Studies (IFS)  
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to GDP stood at nearly 100% . The OBR predicts that it will exceed this  
PUBLIC SECTOR NET BORROWING (PSNB)  
EXPECTED CHANGE IN POPULATION BY LIFE STAGE (%)  
%
of GDP  
30  
Children  
Working age  
Pensionable age  
2
2
1
1
5
0
5
0
5
0
5
2
4.2  
25  
20  
15  
10  
5
0
5
Forecasts  
6
.3  
4
.1  
0.0  
0.0  
-
-
-2.4  
1
998- 2001- 2004- 2007- 2010- 2013- 2016- 2019- 2022- 2025-  
99  
02  
05  
08  
11  
14  
17  
20  
23  
26  
2018-2028  
2028-2043  
CHART 7  
SOURCE: ONS, OBR  
CHART 9  
SOURCE: ONS  
PUBLIC SECTOR NET DEBT (PSND)  
estimates that tax rises of over GBP40 bn a year will be needed by 2025  
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to “stop debt spiralling upwards” .  
%
of GDP  
Second, OBR projections produced before the Covid-19 crisis were  
already pointing to an unsustainable rise in the deficit and public debt  
over the next decades. This is due to the fact that, like most developed  
nations, the UK will be confronted with the ageing of its population. The  
baby boom that followed World War II contributed to strong economic  
growth in the following decades. However, baby boomers are now  
reaching retirement age, and the birth rate in the UK has stagnated  
1
20  
PSND  
PSND excluding BoE  
100  
8
6
4
2
0
0
0
0
0
Forecasts  
1
8
since the 1980s below the generational replacement rate .  
9
9-00 02-03 05-06 08-09 11-12 14-15 17-18 20-21 23-24  
CHART 8  
SOURCE: ONS, OBR  
6 Public sector finances, UK: January 2021, ONS, 19 February 2021.  
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According to ONS projections , the gap between births and deaths Moreover, the Covid-19 crisis could result in an increase in financing  
will close over the next twenty years. From the end of the 2030s, for the National Health Service, which would further weigh on the  
immigration will be the sole engine of population growth in the UK.  
government’s budget in this area. Given that welfare and healthcare  
are the two main items of government spending – accounting for more  
than half of total spending – a reduction in total public spending will  
be hard to achieve.  
This major demographic challenge could start to weigh heavily on the  
public finances and the trajectory of debt at the end of this decade.  
Between now and 2028, it is expected that the working age population  
will grow at a rate slightly faster than that of the pensionable Thus, any improvement in the public finances will almost certain-  
2
0
population . However, between 2028 and 2043, the former category ly have to come through an increase in government receipts. An in-  
should stagnate while the latter grows by nearly 25% (see Chart 9).  
crease in taxes, the main source of revenue for central government  
see Chart 10), therefore seems unavoidable.  
(
In light of these demographic trends, spending on healthcare and adult  
social care will be the two main factors driving growth in public spend- With that in mind, the average corporate tax rate looks fairly low  
2
1
ing according to the OBR, the third being state pensions spending .  
compared with the rest of OECD and particularly the other G7 nations  
see Chart 11). Similarly, the average personal income tax rate is  
(
somewhat lower than in other developed countries, and a recent poll  
suggests that UK households would be willing to accept tax rises to  
GOVERNMENT RECEIPTS  
2
2
help finance the response to the Covid-19 crisis . One other possibility  
would be to increase VAT. The broad base of this tax – the net price  
of all goods and services exchanged – means that a small increase  
could give a substantial boost to government receipts. However, the  
poorest households – who spend a greater share of their income on  
consumption – would be the most affected by this measure, after  
having been among the hardest hit by the Covid-19 crisis. What’s more,  
the VAT rate is already higher in the UK than in most other advanced  
economies. There could also be an increase in employer and employee  
National Insurance contributions (NICs), which represent a fifth of  
government revenue (see Chart 5 again). This would be the logical  
consequence of an increase in the cost of funding pensions.  
Fiscal year 2019-20, % of total  
Income tax  
7
%
NICs  
3
%
2
3%  
Value added tax  
Onshore corporation tax  
Council tax  
9
%
3
%
Capital taxes  
3
%
Business rates  
4
%
Fuel duties  
Alcohol and tobacco duties  
Other taxes  
4
%
1
8%  
4
%
Interest and dividend receipts  
Other receipts  
However, on the first page of his manifesto for the 2019 general  
election, Boris Johnson pledged not to increase income tax, VAT or NICs.  
Although the Covid-19 crisis would certainly give him some leeway to  
renege on some of his promises, he seems determined to keep this  
one. This means that, among the possibilities discussed above, only an  
increase in corporation tax would appear possible. Indeed, this would  
fit with the change of tack that began prior to the Covid-19 crisis. At the  
end of 2019, Boris Johnson announced the cancellation of a corporation  
tax cut, from 19% to 17%, that had been due to take effect in April 2020.  
What’s more, Chancellor Rishi Sunak is reported to be considering  
an increase in the corporate tax in the 2021 Budget, which will be  
presented on 3 March. Other options could also be considered, such  
as raising tax rates for Internet giants, establish a carbon tax, or even  
6
%
1
6%  
CHART 10  
SOURCE: OBR  
CORPORATE, INCOME AND VALUE-ADDED TAX RATES (%)  
30  
25  
20  
15  
10  
5
0
UK  
OECD average  
G7 average  
2
3
institute a wealth tax .  
but there is little immediate danger  
Against this backdrop, the Chancellor appears to be willing to restore  
the UK’s public finances quickly. In a speech during the Conservatives’  
annual party conference in October 2020, he vowed to always balance  
the government’s books. However, tightening fiscal policy in 2021 could  
be premature. After all, England will still be locked down when the  
Average corporate tax Average income tax rate*  
rate  
Highest VAT rate**  
2
021 Budget will be announced, and the country’s GDP will probably  
contract in the first quarter of 2021. In fact, tightening too quickly  
could be counterproductive. This is because any reduction in spending  
or increase in taxes could delay the economic recovery, which could  
*
*
Single person at 100% of average earnings, no child  
* There is no national VAT in the US  
CHART 11  
SOURCE: OECD, USCIB  
24  
already be hindered by the UK’s exit from the EU’s single market . In its  
Paribas, 20 November 2020.  
2
0 The working age and pensionable populations are determined by the State Pension age  
(
SPA). Under current legislation, this will be 67 for both men and women between 2028  
1 Fiscal sustainability report – July 2020, OBR, 14 July 2020.  
2
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1
9
2
7
October 2020 report discussed above, the IFS warned that it was “not spare capacity and achieving the 2% inflation target sustainably” .  
2
8
the time for tax increases or any other form of fiscal consolidation” and Admittedly, in its Monetary Policy Report for February the Bank of  
that, over the following eighteen months, the government needed to England forecasts a rapid rise in inflation in 2021. However, it expects  
be “focussed on supporting the economy almost irrespective of short- it to stabilise at around 2% until at least 2023, which would allow the  
term impacts on borrowing”.  
MPC to maintain an accommodative monetary policy during this period.  
Moreover, the government is under no pressure from financial markets. Meanwhile, there aren’t any particular concerns when it comes to  
There are several reasons for this.  
the repayment of principal over the short and medium terms. The  
repayment schedule for UK government debt is largely spread over the  
next decades (see Chart 13).  
First, First, the massive rise in government borrowing has been lar-  
gely covered by additional purchases from the Bank of England. And  
while the UK went into the crisis with a fairly high debt-to-GDP ratio In fact, the UK’s government debt has an average maturity that is very  
around 85% in March 2020 – its position is not particularly worrying high relative to those of other G7 countries, according to the Treasury’s  
2
9
compared to other developed economies. According to OECD data, only Debt Management Report , the Debt Management Office and the Na-  
Germany and Canada had lower levels of government debt among G7 tional Savings and Investments (NS&I) (see Chart 14).  
2
5
countries .  
Furthermore, the debt stock is not a comprehensive indicator of sol-  
vency. Debt service costs also need to be taken into account, as they  
measure the weight of debt repayments and interest charges on the  
government’s finances. Also, while the ratio of debt to GDP compares  
a stock to a flow, the ratio of debt service to GDP compares two flows.  
OUTSTANDING GOVERNMENT DEBT BY MATURITY  
GBP bn  
140  
20  
100  
Admittedly, the stock of government debt has increased sharply since  
the late 1980s, both in nominal terms and relative to GDP. However,  
over the same period the cost of this debt – the weight of interest  
1
2
6
charges – has fallen steeply as the result of lower real interest rates  
and inflation. Over this period, the interest burden has fallen from  
nearly 4% of GDP to 1.5% (see Chart 12). According to the OBR, this  
trend has accelerated over the course of the crisis, as the increase  
in debt has been overshadowed by the falls in real interest rates and  
inflation that followed the Covid-19 crisis. One of the main reasons for  
these falls is that global central banks have loosened monetary policy  
even further. The Bank of England has notably cut its policy rate by  
8
0
60  
40  
20  
0
2
021 2026 2031 2036 2041 2046 2051 2056 2061 2066 2071  
6
5 basis points, to 0.10%, and extended its QE programme (see previous  
section). According to the minutes of its last meeting, the Monetary  
CHART 13  
SOURCE: REFINITIV  
CENTRAL GOVERNMENT DEBT INTEREST (NET OF APF)  
AVERAGE MATURITY OF THE PUBLIC DEBT STOCK AT END 2019  
1
2
0
8
6
4
2
0
% of public sector current receipts  
of GDP  
Years  
1
6
%
1
14  
Forecasts  
1
2
0
8
6
4
2
0
1
USA  
CAN  
ITA  
DEU  
FRA  
JAP  
UK  
1
985-86 1990-91 1995-96 2000-01 2005-06 2010-11 2015-16 2020-21 2025-26  
CHART 12  
SOURCE: OBR  
CHART 14  
SOURCE: BLOOMBERG, DMO  
Policy Committee has no intention to tighten policy “at least until there  
is clear evidence that significant progress is being made in eliminating  
2
7 Bank Rate maintained at 0.1% - February 2021, Bank of England, 4 February 2021.  
6 Debt service = Principal + Interest  
28 Monetary Policy Report - February 2021, Bank of England, 4 February 2021.  
29 Debt management report 2020 to 2021, UK Government, 11 March 2020.  
2
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0
This indicates that UK government debt will mature much later, and  
therefore that its refinancing requirements over the next few years will  
be lower. All in all, there is little reason to be concerned by UK public  
debt at the moment.  
*
* *  
Like many developed countries, the UK will be confronted to the ageing  
of its population over the next decades, which will probably put a big  
strain on public finances. What’s more, addressing this challenge has  
been made more complex by the pandemic. In fact, the UK government  
is now facing a dilemma. On the one hand, failing to maintain control  
over its books could have serious implications. That is because a larger  
debt stock is more sensitive to changes in interest rates, and a rise  
thereof can never be entirely ruled out. Moreover, should investors  
become worried about the state of the public finances during a future  
crisis, the government’s ability to support its economy could be inferior  
to what it has been during the Covid-19 pandemic. On the other hand,  
tightening fiscal policy too quickly could delay the recovery from the  
current crisis, which could already be hindered by Brexit. The European  
Union made this mistake after the global financial crisis, and payed it  
with years of depressed growth afterwards. Overall, the UK government  
is facing a difficult balancing act in order to keep its finances on a  
sustainable track. Some hints on how it will solve this puzzle could be  
given when the 2021 Budget is presented on 3 March…  
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