Public finances slowly recovering but don’t rule out a tax hit

21 November 2021

Paul Craig, portfolio manager at Quilter Investors, comments on the latest public finances data, looking at the strategy to improve the economy, pressure on Treasury and what this may mean going forward.

Although clearly still at elevated levels, the public finances are on the slow road back to normality. The government borrowed an additional £18.8bn in October 2021, £3bn less than in the previous month and £0.2bn less than October 2020. As a percentage of GDP, debt has remained fairly steady at 95.1%, coming down from 95.5% in the previous month.

The Chancellor will certainly be pleased to have the furlough scheme firmly in the rear-view mirror, which will considerably reduce the government’s monthly outlay. Instead, the Treasury’s coffers are slowly being filled thanks to normal service being resumed, with government receipts up 6.2% on the same month last year.

But all is not quite so rosy. The Treasury’s debt servicing costs have already increased substantially and look set to increase even further. The Chancellor has previously said that a 1 percentage point rise in interest rates on UK debt will cost the exchequer an additional £25bn. Indeed, government interest payments have already increased from £1.8bn in October 2020 to £5.6bn in October 2021. This is a 212% increase, largely as a result of movements in the RPI index, to which index-linked gilts are tied.

After holding back on rate increases in November, the Bank of England looks set to begin the process of tightening policy at its next meeting in December. While this is likely to only be a modest rate increase to start off with, it will considerably increase the Treasury’s debt service costs.

We’re also seeing evidence that the super deduction, announced in the Budget in March 2021, is having an impact on corporation tax receipts, which are down £0.7bn in October 2021 compared with a year earlier. The Chancellor will be hoping that the deduction, which allows companies to reduce their tax bill by up to 25p for every £1 invested, will translate to stronger economic growth in the future.

Before the next election, the Chancellor will be looking to return the public finances to a ‘sustainable footing’. This will undoubtedly be difficult considering the many spending projects he has on the go such as reducing the ever-growing NHS backlog and the UK’s transition towards Net Zero, together with new fiscal rules which stipulate everyday spending must be met with taxation. This in a nutshell, leaves taxation as the primary fiscal lever going into the next election.

[Main image: samson-ZGjbiukp_-A-unsplash]

Professional Paraplanner