How will the UK pay off its Covid-19 debt?

During the first half of 2020, the Covid-19 pandemic has ravaged the world, causing excessive financial intervention by…

During the first half of 2020, the Covid-19 pandemic has ravaged the world, causing excessive financial intervention by governments around the world to counteract the negative economic impacts of the measurements imposed to combat the virus. In particular, Europe has been among the regions worse off which has led to worries of rising debt levels and questions over how it will be paid off.

In the UK, the government, as of July 2020, has spent around £190bn which equates to roughly £3,000 per citizen. The month prior, the national debt exceeded 100% of the GDP for the first time since 1963. Although this is not as high as a level as the post WW2 debt to GDP ratio of 2.7, the 2020 level of debt is deemed by many as unsustainable and a serious problem for the UK economy. 

The national debt is increased by consistent budget deficits which increase the amount of debt the government owes to lenders. In the modern era, countries rarely achieve a budget surplus, thereby increasing their national debt year on year. The Covid-19 pandemic has brought about excessive spending by the government to curb the effects of the virus, through means such as the furlough scheme. The spending on managing the Covid-19 pandemic would not have been factored in when the government forecasted their spending for the year which will lead to a large budget deficit for 2020 and the years to follow. Although this deficit can be reduced, and hopefully will be done via a form of fiscal austerity in the coming years, it is unlikely it will ever become a budget surplus.

One way to help limit the effects of the debt is through inflation. Inflation is the sustained increase in the average level of priced goods in an economy. If inflation occurs, then the act of repaying bond holders would require a smaller percent of total government tax revenue. It is easier for the government to pay back as the real value of the bond has fallen. Therefore, the borrower, in this regard the government, is better off, whereas the savers, the bondholders, are worse off because of inflation. However, inflation can be damaging as if the rate of inflation is too high, this can lead to considerable uncertainty in the economy; which can reduce investment and spending, eroding savings. 

A ‘focused upon’ statistic is that of debt to GDP ratio, however this ratio has two parts, not just debt levels. To decrease the ratio, the government simply has to increase the value of the output of the economy. One of the reasons for the rising ratio is that while the debt levels have been rising, output has taken a sufficient hit, which has reduced the GDP of the UK. Importantly, in previous years while in a budget deficit, increases in output during the year have offset the deficit to maintain a steady debt to GDP ratio. Thus, in order to reduce the debt to GDP ratio of the UK economy, the government has to increase the value of the country’s GDP at a greater rate than its deficit to cause a fall in the debt to GDP ratio. This would not be expected to take place completely during 2020, but rather a gradual increase as the post Covid-19 world begins to take shape.

There are several ways in which the government can increase the value of its economy but the most beneficial of those is through increasing productivity. An increase in productivity will lower unit costs as more units are produced per hour which will improve the output. Examples of increases in productivity include upskilling existing workers to make them more productive. Additionally, by increasing competition within markets, the efficiency of firms will increase, thereby increasing output in the economy and a result, GDP.

With no set date for a vaccine as of yet, the government will have to continue to spend large amounts of money on maintaining the economy and keeping it afloat. Ergo, the key issue facing the government is to find ways to boost the economy, while still dealing with the pressure of the pandemic on jobs and the ability to work efficiently. The emphasis of this issue has been illustrated by the newly released government schemes, such as the ‘Eat Out to Help Out’ scheme to promote dining in in restaurants across the country.

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