There’s worse to come as we all get older

The state of the public finances and the need to cut public borrowing were, quite rightly, the issues which dominated the political conference season this year. Whatever the country’s other problems, and there are many, the burgeoning sea of red ink in the Treasury’s books should concern us all. In his April budget, the Chancellor forecast borrowing of around £175 billion, equivalent to about 12 per cent of GDP, for this financial year and next. Borrowing was then expected to fall back, reflecting economic recovery. But the projected improvements in the figures should not remotely be interpreted as signalling a return to fiscal normality or sustainability. Very hard decisions will have to be made if the public finances are to be rectified.

The still-influential credit rating agencies usually become nervous about maintaining a sovereign borrower’s ‘Triple-A’ status if public debt as a proportion of GDP rises above 70 per cent or so. On the government’s own definition of ‘net public debt’, this ratio is expected to creep above the critical level by the end of 2011/12, and to continue increasing. If GDP growth were to fall short of the Chancellor’s budget forecasts — in which growth rates of more than 3 per cent were assumed from 2011/12 — the surge in public debt would inevitably become even more problematic. And there are, worryingly, at least two reasons to expect that GDP growth will be relatively anaemic over the next few years. First, bank lending is likely to be restricted, restraining economic recovery; and second, the underlying trend rate of growth may be lower than in the recent past as a consequence of the damage the economy suffered during the downswing.