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Interest on UK debt hits record high: why does it matter?

It’s become hard to avoid the dire numbers about the state of the British economy, but some inevitably catch the eye more than others.

Earlier this week, the Office for National Statistics revealed that inflation in the UK was at 9.4 per cent, and many fear it will rise to 12 per cent by the end of the year.

It’s a big deal, and it has major implications for the spending and saving habits of people across the country.

Under pressure: Chancellor Nadhim Zahavi said the government had taken steps to strengthen public finances

These alarming inflation figures are compounded by separate figures released today by the ONS, which show figures for public borrowing for June and, crucially, the interest payments associated with servicing that borrowing. The numbers are noteworthy.

Interest payments on UK government debt hit their highest level on record in June, with the independent Office for Budget Responsibility forecasting interest payments to reach £87 billion this financial year.

This is Money describes what the ONS revealed today about government borrowing levels and interest payments, why the data is important and what these incredibly high figures mean for households and Britain’s future economic prospects.

How much did the government borrow in June?

Public sector net borrowing was £22.9 billion in June, according to the ONS.

This was £4.1bn more than a year earlier and £600m higher than the Office for Budget Responsibility’s forecast. The number of borrowings in June was the second highest level since records began in 1993.

In the first three months of the 2022-23 financial year, which began in early April, Britain borrowed 55.4 billion pounds.

This is actually £5.7bn less than the same period last year, but also around £3.6bn more than the Office for Budget Responsibility forecast in March.

How did the government react to today’s numbers?

Commenting on today’s borrowing and interest figures, Chancellor Nadhim Zahavi said: “We are aware that there are risks to public finances, including from inflation, with June’s interest expenditure on debt more than double the previous monthly record.

“That’s why the Government has taken steps to strengthen public finances, and in its latest forecast the OBR estimated that we are on track to reduce debt.”

Why are these borrowing numbers important?

Some experts believe that the current sky-high level of borrowing will affect the ability of the next prime minister to provide additional financial assistance to families suffering from rampant inflation and the cost-of-living crisis.

Ruth Gregory, senior UK economist at Capital Economics, said: “This could limit the next prime minister’s ability to deliver more help to households if CPI inflation rises further from 9.4 per cent in June to around 12 per cent in October. exacerbating the cost-of-living crisis.”

Others suggest today’s June borrowing figures mean the next prime minister will have to choose whether to focus on managing spiraling borrowing or tackling the cost of living head-on.

Hoa Duong, an economist at PwC, said Britain’s estimated borrowing was about 12.4 percent of gross domestic product, well above the 50-year average of 3.6 percent.

Duong said: “While the tax cut could ease pressure on business spending and boost growth, it could push up inflation, exacerbating the ongoing decline in wages.

“Currently, that means choosing between focusing on managing the deficit or tackling the rising cost of living, but not at the same time.”

Will borrowing levels rise?

A growing number of experts believe that borrowing will continue to grow.

Martin Beck, chief economic adviser at EY Item Club, said: “EY Item Club expects both receipts and spending to ultimately exceed the OBR’s forecast for the full financial year.

“Revenues will be boosted by the impact of higher inflation, which will also put upward pressure on costs. And costs will be further boosted by the cost of May’s £15bn household support package, which is not yet factored into the OBR’s forecasts. Based on current policy, borrowing should be around £10bn more than the OBR’s forecast of £99.1bn.

“However, the prospect of a larger-than-expected rise in the energy price cap in October, followed by another rise in January, means there is a good chance the Autumn Budget will bring additional financial support to households.

“If this is the case and the money is released by March, it will further increase borrowing in 2022-2023.”

What happened to interest payments on loans?

While the level of borrowing published in today’s ONS figures may have caught your eye initially, it’s worth taking a closer look at the published interest payment figures.

Interest on central government debt was £19.4bn in June, £10.3bn more than the previous monthly record set in June 2021, with £16.7bn of that £19.4bn sterling reflect the effect of the Retail Price Index.

Why are interest rates so high?

Central government debt servicing costs will rise significantly from mid-2021, the ONS said today.

In recent months, high inflation, now at a 40-year high, has pushed up the cost of interest payments on government debt.

The ONS said: “These increases in spending largely do not reflect recent increases in the level of public debt, nor are changes in service costs driven by large increases in interest or coupon payments from the government.

“Instead, the recent high levels of interest arrears are largely the result of higher inflation, with interest paid on indexed mortgages rising in line with the retail price index.”

RPI hit a 40-year high of 11.8 per cent in June, according to ONS figures.

Rising: Interest on UK debt hit record high in June, ONS data shows

Rising: Interest on UK debt hit record high in June, ONS data shows

Experts at the Institute for Fiscal Studies said: “A quarter of the UK’s public debt is index-linked, meaning the cost of servicing it is directly linked to inflation.

“So the interest on the debt for the whole of this year will be much higher than what we are used to with the recent spike in inflation.”

It added: “But the other part of the month of unusually high payments is a typical pattern that predates the current bout of high inflation.”

“This pattern arises because, ironically, the measured cost of servicing index-linked debt is highly dependent on how the price level changed three or two months ago.”

Why are these percentage figures significant?

John O’Connell, chief executive of the Taxpayers’ Alliance, said: “These figures show that the cost of servicing the national debt is now in the stratosphere.

“Inflation and out-of-control government spending threaten to only worsen the situation, but the government seems unwilling or unable to take control of the country’s finances.

“Ministers must get serious about spending to deal with high levels of debt and ensure taxpayers are protected.”

Meanwhile, Danny Hewson, financial analyst at AJ Bell, said: “Families wondering why the government isn’t doing more to help them cope with their strained finances should understand that the Treasury is fighting its own battle against inflation .

“​​​​​​​While most of the Covid support measures are now firmly in the rear-view mirror, the government still borrowed more in June than it did last year, and covering the increased interest on all the debt it has accumulated has played an important role .

“In fact, interest paid on debt last month was the highest since records began in 1997, and with inflation still running, things are only going to get more expensive, especially as some of that debt comes back and refinancing will be much more expensive. .’

One of the experts, Michal Stelmach, senior economist at KPMG UK, said the figures “support the idea that inflation is an effective tool for debt reduction”.

How much more interest payments will grow?

The OBR estimates that interest on outstanding central government debt will be £87.2 billion in the current financial year.

The IFS explained: “High inflation and higher interest rates than we have been used to in recent years will push debt interest costs as a share of national income this year to levels last seen in the 1980s.

“If, as predicted in the spring statement, price growth returns to the pace we’ve been used to over the past 25 years, this will quickly have a knock-on effect on debt interest payments.

“However, inflation is already running ahead of the March forecast, and other forecasters such as the Bank of England have further increased their expectations for inflation, which may also prove more resilient.”

What is expected of inflation?

A sharp monthly jump in petrol prices not seen since at least the late 1980s, along with widespread increases in food staples such as eggs, milk, cheese and vegetables, led Britain’s annual inflation rate to rise in June from 9.1% to 9.4%.

With the annual energy price cap set to rise from just under £2,000 to more than £3,000 in October, analysts are warning that worse is to come.

All eyes will be on the Bank of England and the government to see how both plan to contain inflation, help households struggling with the rising cost of living and manage public finances wisely.

Dealing with all these competing forces will require a monumental balancing act – and there’s no one-size-fits-all answer to sort it all out. A difficult path awaits us.

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Interest on UK debt hits record high: why does it matter?

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