Latest Data Reports Higher-Than-Expected Borrowings

In the second month of the financial year 2019/20, the government saw a shortfall of GBP 5.1 billion compared to a deficit of GBP 4.1 billion a year earlier, representing a 23 per cent rise from May 2018 and above all forecasts in a Reuters poll of economists. The Office for National Statistics reported on Friday that it expects the government to borrow more money this year than previously forecast after borrowing over the first two months of the financial year increased by 18 per cent over the same period in 2018 to GBP 11.9 billion. In the past decade or so, the British government has followed a path of fiscal austerity to reign in the excessive borrowing, and the budget deficit had steadily declined since 2010 when it was 10 per cent of economic output to just above 1 per cent last year. According to estimates by the Office for National Statistics, borrowing for the financial year 2018/19 would be above Chancellor Philip Hammond’s GBP 22.8 billion target, and higher by GBP 500 million than previously expected, to GBP 24 billion.

In the United Kingdom, the public sector comprises of five sub-sectors, with the central government being just one of the sectors. The figures reported by the Office for National Statistics exclude public sector banks, and the gap between total spending and revenue is termed as the deficit or public sector net borrowing excluding public sector banks (PSNB ex). The amount of cash and other short-term assets held by the public sector less the amount of money the public sector owes to private sector organisations is referred to by commentators as national debt or public or sector net debt excluding public sector banks (PSND ex). While debt is a stock concept which represents the total amount of money owed at a point in time, deficit or borrowing represents the difference between total spending and receipts over a period of time. So, reducing the deficit is not the same as reducing the debt as when the government runs a deficit, this typically adds to the debt total.

Total expenditure by the central government rose by GBP 2.5 billion (or 4.2 per cent) to GBP 61.0 billion was higher than the receipts received by the central government in May 2019 rose by GBP 1.9 billion (or 3.5 per cent) compared with May 2018 to GBP 56.7 million. Contributions by Income Tax and National Insurance to central government receipts in May 2019 increased by GBP 0.6 billion and GBP 0.7 billion respectively compared with May 2018, as a result much of this annual growth in central government receipts in May 2019 came from Income Tax-related revenue. Value Added Tax (VAT) and Corporation Tax (CT) are liable to revision as these contain forecast cash receipts data. While corporation tax reported the first year-on-year decline in May since 2013 to report a decrease of GBP 0.1 billion compared with May 2018, accrued receipts of Value Added Tax (VAT) increased by GBP 0.5 billion. Despite various data pointing that the economy struggled during May, tax revenue during the month looked relatively decent.

The government borrowing rose by more than expected last month as there was a significant increase in expenditure on goods and services of GBP 1.9 billion. Primarily because of fluctuations in the Retail Prices Index (RPI) to which index-linked bonds are pegged, interest payments on the outstanding debt decreased by GBP 0.3 billion compared with May 2018. While both current and capital transfers between local government & public corporations and central government are based on administrative data supplied by the finance ministry, both the local government and public corporation’s data for May 2019 are initial estimates, based largely on the Office for Budget Responsibility (OBR) forecasts.

A better indication of the position of the public finances is provided by the cumulative financial year-to-date borrowing figures than the individual months because of the volatility of the monthly data. In the current financial year-to-date, GBP 11.9 billion was borrowed by the public sector, increasing by GBP 1.8 billion over the same period last year, and around GBP 8.0 billion out of the total borrowing related to the current budget deficit, while GBP 3.9 billion was capital spending (or net investment). Of the total borrowings, while local government and public corporations were in surplus by GBP 2.2 billion and GBP 0.1 billion respectively, GBP 12.9 billion was borrowed by central government and GBP 1.3 billion was borrowed by the Bank of England, making the borrowings by the central government as the most significant contributor to the amount borrowed by the public sector.

In the first two months of the financial year, receipts of the central government rose by 3 per cent over the same period last year to GBP 118.4 billion, including GBP 85.9 billion in taxes. Over the same period, expenditure by the central government was GBP 128.1 billion, representing a rise of 3.9 per cent. Of the total amount, just below one-third was spent on social benefits (such as pensions, unemployment payments and others), while around two-thirds was spent by central government departments (Education, Defence). Interest on outstanding debt of the government and capital spent took up the remainder of the expenditure.

Net debt of the public sector excluding public banks represents the debts built up successive governments over earlier years and is the total money owed by the public sector. At the end of May 2019, the share of the value of all the goods and services produced by the economy in a year (or gross domestic product) owed by the public sector to the private sector stood at 82.9 per cent, which equates to around GBP 1.8 trillion. The quantitative easing programme undertaken by the Bank of England has contributed to its net debt, and if this debt was excluded from net debt of the public sector, total debt would reduce to 74.4 per cent, or GBP 1,622.2 billion. Since 2017, total debt as a share of GDP has been gradually decreasing, helped by check on expenditure by the central government. However, given that just two months of data has been released, it is too soon to declare a change in the trend. Since 2013, contribution by the central bank has also resulted in higher total debt.

While the Office for Budget Responsibility (OBR), which is responsible for the production of official forecasts for government, expects public sector net borrowing (excluding public sector banks) in the financial year 2019/20 to be GBP 29.3 billion, on the basis of April/May, it is headed for GBP 28.3 billion. However, as much will depend on Brexit developments and how the economy reacts to it and as monthly public finance data can be prone to significant revisions, it is far too early to draw any conclusions for the yearly data.

Given that the budget deficit is estimated at around 1 per cent of GDP in 2018/19, reporting substantial improvement overall in the public finances in the fiscal year, and interest rates remain very low, it is clear that the most aggressive period of cost-cutting is now over. Many economists believe that the health of the finances of the government would not be affected much by a mild increase in borrowing. The deficit in fiscal year 2018/19 was down 42.5 per cent from GBP 41.8 billion in 2017/18 and was the lowest deficit for 17 years. From a peak of 9.9 per cent in terms of GDP in 2009/10, the budget deficit fell to 1.1 per cent in 2018/19.

The higher than expected borrowing figures over the first two months of the financial year serves as a reminder that the next finance minister may have limited options to cushion any Brexit blow to the economy and highlights the strain that a slowing economy could place on the public finances in the months ahead. However, other economists reckon that the latest public finance data are not a sign that the economy is losing momentum and it may have been affected by one-off factors, such as a rise in government investment. As the uncertainties have risen due to the imminent change of Conservative leader and Prime Minister, the outlook for fiscal policy, which was already uncertain because of the extension of Brexit until 31 October, has further made the investors anxious.

The Chancellor, Philip Hammond, has repeatedly said that a no deal Brexit would result in a substantial short to medium-term hit to the economy and has warned that the austerity policies of the last decade would come to an end in such a scenario. He has sought to keep his fiscal options open should this occur for potential increases in public spending or tax cuts to counter the hit to the economy. Moreover, due to changes in accounting practices of the Office for National Statistics, the public sector borrowing figures will rise by more than GBP 10 billion in September. This would further limit the ability of the next chancellor to seek expansionary fiscal policy to counter any negative impact on the economy.