UK government finances are on an ‘unsustainable’ path, watchdog warns

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The UK’s public debt is on an “unsustainable” upward path because of trends such as population ageing and the costs of climate change, the government’s fiscal watchdog has warned. 

Surging public spending is projected to lead to a rise in the ratio of public debt to 274 per cent of GDP over the coming 50 years, compared with less than 100 per cent now, according to the Office for Budget Responsibility. 

Over the same period, public spending is expected to rise from 45 to more than 60 per cent of GDP, partly due to an “exponential” increase in debt service, while revenues remain at about 40 per cent of GDP.

This is without factoring in the government’s ambition to boost defence spending to 2.5 per cent of GDP, the likelihood of shocks hitting the economy, or the risk of investors demanding higher returns on gilts.

“On almost any scenario the government is likely to have to raise taxes or cut spending to keep the public finances on a sustainable trajectory,” Richard Hughes, OBR chair, said as it published its Fiscal Risks and Sustainability report on Thursday, analysing longer-term fiscal trends.

“With unchanged policies and growth as mediocre to poor as it’s been in the last couple of decades, something’s got to give,” said David Miles, a member of the OBR’s Budget Responsibility Committee.

The report comes as the Labour government warns it will have to make painful choices in its first Budget on October 30, which it says are needed to tackle an in-year public spending overspend of nearly £22bn. 

Rachel Reeves, chancellor, has signalled taxes will have to rise, along with tough decisions on spending and welfare to bolster the public finances.

In the most recent Budget, under the previous Conservative administration, debt stood at 98.1 per cent of GDP — its highest level since the early 1960s.

“In addition to the inevitability of further shocks, governments in the UK and around the world face a number of longer-term pressures that are likely to weigh on their public finances further,” the OBR report said.

The direct and indirect costs of climate-related damage could increase debt by 23 per cent of GDP by the mid-2070s, if the rise in global temperatures was limited to 2 degrees Celsius, and by 33 per cent of GDP if global temperatures rose by up to 3 degrees, the OBR said. There was a “considerable” risk that the costs could in reality prove much higher.

Meanwhile an older, less healthy population would require higher health and pension spending while also being less able to work and pay tax.

The UK population is projected to increase by 13mn people by 2070, with two-thirds of this expansion among those aged 65 or older, the age at which health costs per person begin to rise sharply.

The watchdog found that a sustained period of tighter budgetary policy would be needed to bring the public finances back to a more healthy state. On its central projection, pulling debt back towards pre-pandemic levels would require an average budget clampdown of 1.5 per cent per decade over the half-century period. 

Debt would rise much less if the UK boosts health outcomes — in particular by tackling the rise in mental health conditions that affect people of all ages — and if efforts to limit global warming begin to pay off.

But the OBR warned that longer healthy life expectancy would have mixed implications for the public finances, as it would also imply higher pension spending — unless the government raised the state pension age or revisited the “triple lock” policy that means pensions outpace earnings over time.

The biggest gains would stem from an improvement in the economic potential of the economy. Every 0.1 per cent increase in productivity growth reduces the rise in the debt-to-GDP ratio by 25 percentage points, the OBR calculated — while noting this was not necessarily in any government’s gift.  

As such, a 1 percentage point increase in productivity growth, which would take increases back to rates seen before the financial crisis, could keep debt below 100 per cent of GDP throughout the next 50 years.

But Hughes warned that while higher productivity would make “the biggest single difference to fiscal sustainability”, restraint would still be needed. “Governments have to not spend the proceeds,” he said.

Darren Jones, chief secretary to the Treasury, said the OBR report revealed the public finances to be in a “shocking state”.

He added: “That’s why this government began work immediately to address the inheritance with tough choices on spending alongside ambitious action to drive growth. By fixing the foundations, we will rebuild Britain and make every part of the country better off.”