The national debt has risen to its highest level in more than half a century, but the cost of servicing it is cheaper than it has been in the last three.
It is imperative that the Chancellor takes advantage of these structurally low borrowing costs in order to prevent the UK from staying a laggard in the global recovery from Covid.
Government borrowing costs have not been driven lower by the caprice of central bankers, or indeed much by the Covid shock to growth. They are low because both the real rate of interest and inflation have been driven lower since the 1980s by profound structural forces, such as demographic change, rising inequality, falling productivity, and technological disruption, none of which are likely to have been reversed by Covid and some of which have been reinforced. In other words, while borrowing costs are likely to rise as the economy continues to normalise, they are unlikely to return to anything like the average of the last few decades.
With the second lowest debt burden among the G7 economies, its own currency and structurally low interest rates, UK public finances are sustainable. More money should be borrowed to invest in projects that will grow the future tax base, paradoxically improving fiscal soundness in the long-run. The only major constraint is inflation, which we think is likely to stay tame for the foreseeable future, falling back after a short, sharp spike in the spring.
Our friends and neighbours understand this. Discretionary fiscal spending in the Eurozone will remain significantly expansionary in 2021. The US continues to roll out trillion-dollar spending sprees. Despite higher debt burdens, government borrowing costs in these regions have stayed extremely low. The economic fallout from Covid and the drag on productivity from Brexit could be eclipsed by a publicly backed wave of digitalisation, green energy infrastructure, as well as initiatives to raise productivity outside of SE England. Overall public investment has been lower than in other leading economies in recent years, and investment in digital infrastructure still lags investment in transport, energy and utilities, which in turn lags the best performing advanced countries.
Public investment and support for private business investment has been noticeably absent in UK fiscal policy during the pandemic, in contrast with the EU’s Recovery Fund, for example. But it was pleasing to see November’s Spending Review containing ambitious plans for public net investment, greatly increasing from £42 billion in 2019 to an average of £73bn in the years between 2023 and 2026. We would like to see the March Budget expand on this. The furlough scheme and business aid have successfully kept a lid on unemployment. But the latest ONS BICS survey suggests 15% of business have low confidence they will survive beyond spring. More support is needed.
However, we would like to see it being more targeted. The government should not prop up businesses that were failing before Covid. This may save jobs today, but would jeopardise job creation and wage growth further down the line.
The government should offer those made unemployed unprecedentedly generous retraining packages. Incomes could be supported in 2021 with especially generous unemployment payments or direct stimulus cheques, as per the US. Indeed, unlike in the US, Germany or France, UK household disposable income has already been allowed to fall.
We hope it goes without saying that a return to austerity would be disastrous for employment. The empirical and theoretical evidence, greatly expanded since the financial crisis, is clear that it is highly likely to be fiscally counterproductive too.
If the government retrenches as the private sector is still itself retrenched, there is likely to be a multiplicative effect.
The decline in overall output (and therefore taxes) may be so large that the government’s finances end up worse than when austerity started. Balanced budgets are a matter of political expedience not economic necessity.
Edward Smith of Rathbones will be a panellist at The Herald Budget Briefing on March 4. The event will take place on event platform hopin from 9am-11.45am. To register visit https://newsquestscotlandevents.com/events/budget-briefing-breakfast/.