Friday Morning Update

The OBR described how the rise in global inflation brought little net benefit to the UK insofar as the country’s public finances are concerned. In theory, higher inflation should increase nominal tax revenues (particularly if people are shifted into higher tax brackets), while also reducing the real value of debt. However, the OBR notes that the “UK, in particular, experienced the ‘wrong sort of inflation’ in 2022 with RPI and CPI (which drive increases in index-linked debt, pensions and working-age welfare payments) rising far more than both average earnings (a key driver of tax revenues) and the GDP deflator (the measure of inflation used to calculate nominal GDP).”

Indeed, last month fresh figures indicated that the UK’s debt-to-GDP has exceeded 100% for the first time since 1961. With government borrowing in May 2023 over double that of May 2022 the growing government deficit has only fed into the UK’s continuing national debt which now stands at £2.6tn.

With the country’s debt-to-GDP growing, the OBR calculate that the figure will rise 3.1% over 2023, while falling around 1.8% when compared against some countries on the continent.

Elsewhere, the OBR also investigated the UK’s public debt given developments over the past year. For example, they stated that “UK government borrowing costs have risen more than in any other G7 economy and been more volatile than at any time in the past 40 years”. This comes as the yields on 10-year government gilts have risen some 2 percentage points over the last year, compared against a G7 average of 0.5 percentage points. The OCB also cited the end of September 2022 as a particularly high period of volatility for government gilts – a period underpinned by the market’s rejection of Truss and Kwarteng’s mini-budget.

The OBR also notes that “the rise in global interest rates has fed through to the UK’s debt servicing costs more than twice as fast as in the past or elsewhere”. This comes as the UK’s net interest cost increased by some 2.6% of GDP from 2022 to 2019, compared against France’s increase of 0.5% while the US’ fell 0.2%.

Yesterday, No.10 agreed to provide a pay rise of 6% to many public sector workers including teachers, doctors, police officers and military personnel. Rishi Sunak hopes that this will put an end to strikes across the country and comes after the Pay Review Bodies (PRB) proposed pay rises. As we looked at earlier this week, 45% of those in the public sector have their pay decided by Government Ministers and these are based on the recommendation of eight PRBs. These PRB are comprised of economists and members of both the private and public sector who are assigned by government departments.

Thus far, some teachers’ unions have called off strikes though many doctors remain unimpressed, keeping open the possibility of further industrial action. According to Reuters,  “the package will mean finding an additional £5bn – 2bn this year and 3bn next year – from existing departmental budgets”. Sunak has already ruled out funding the increase through further borrowing or taxation, though according to the Telegraph foreigners who temporarily move to the UK will have to pay an extra £400 a year towards health services.

Yesterday afternoon, data from the US indicated that the Producer Price Index decelerated to 2.4% from 2.8%. This came in softer than markets expectations of 2.6% and gave markets greater confidence that the Fed may be nearing the end of their tightening cycle. Much like US CPI figures on Wednesday, the PPI print did little to impact market expectations for the Fed’s rate decision on 26 July (where markets are projecting a 25bps hike), the DXY slide further as investors considered the Fed’s cycle further down the line.