‘The UK economy entered the crisis in a vulnerable position, owing to the (overly) large size of its banking sector and the high level of household indebtedness. Both continue to weigh on economic performance. Net bank lending to the UK business sector has continued to contract through Q3 2009, and repairs to household balance sheets (i.e. the rising savings ratio) may weigh on demand for some time to come.
The depth of the crisis has been mirrored by the ongoing deterioration of public finances (with gross debt/GDP having risen from 44% at the end of 2007 to an estimated 69% at the end of 2009). It also raises considerable challenges going forward, as the downward adjustment of potential output during the crisis will result in a recurrent shortfall in tax revenues, which, if not compensated by a parallel adjustment in expenditure, would leave the government with a permanent deficit.’
First into recession because of Brown’s profligacy, Britain’s recovery is stunted by continued spending and the government’s inability to address the credit freeze. Moody’s assert that Britain’s AAA status will be endangered unless fiscal retrenchment is implemented soon, something that global bond markets are relying upon too. Moody’s assert:
‘While assumed capacity for fiscal adjustment currently supports the maintenance of the Aaa rating of the UK government, this assumption will have to be validated by actions in the not-too-distant future to continue to provide support for the rating.’
Britain cannot sustain this level of debt. We near an Ireland-style downgrading followed by an era of ruinously expensive borrowing. Labour’s political and economic strategy dictates that fiscal adjustments will not be undertaken until 2011. Tomorrow’s Pre Budget Report will contain time saving measures, in the form of further cheap, low yield gilts and perhaps more Quantitative Easing, to allow the government to execute its strategy, borrow cheaply and prepare for future retrenchment. Will the markets wait that long?