Coronavirus: impact of government response on public borrowing

What impact will the government’s coronavirus response have on public borrowing?

The Covid-19 coronavirus is a major public health emergency. The government’s response is designed to minimise the overall social and economic impact and help ensure that vital public services can cope. The level of financial support this requires will leave public borrowing this year – and perhaps for longer - far higher than it was expected to be when chancellor Rishi Sunak presented his first budget on 11 March 2020 and will leave public debt at a much higher level, potentially for years to come.

To what extent will the economic shutdown lead to an increase in public borrowing?

It is still uncertain how long the current draconian social and economic restrictions will remain in place and what their ultimate impact will be on UK economic activity but, on 14 April, the Office for Budget Responsibility (OBR) - the UK’s official economic and fiscal forecaster – published a projection that the UK economy could shrink by 35% in the second quarter of 2020. Under their main scenario – in which the current shutdown of the UK economy lasts for three months and is then followed by three more months of gradually easing restrictions – economic output in 2020 is projected to be 13% smaller than in 2019. This compares to the OBR’s last official forecast – published alongside the March Budget – that output would grow by 1.1% this calendar year.

Exactly how sharp or prolonged the contraction will be is debated. The International Monetary Fund (IMF) forecast on 15 April that UK GDP would fall by 6.5% in 2020. A variety of private sector forecasters have published forecasts that lie between the OBR and IMF figures.

An economic contraction will hit the public finances by depressing tax revenues and increasing welfare spending as unemployment rises. A rough rule of thumb – estimated by the Office for Budget Responsibility for how economic growth affects public borrowing – suggests that a 13.8 percentage point fall in economic growth (the difference between 1.3% growth forecast for 2020/21 in the budget and the 12.5% contraction projected in the OBR’s latest scenario analysis) is likely to increase public borrowing by around 8.3% of national income (or around £190bn).

In its March economic and fiscal forecast (produced before much of the economic impact of Covid-19 became apparent) the OBR forecast that public borrowing in 2020/21 would total £55bn.

How do government measures directly affect public borrowing?

The government has announced a wide-ranging economic package to help support UK public services, businesses and households. We set these out in detail in another explainer and they are summarised in the table below.

The government has so far spent £14.5bn on public services, predominantly for health services. When the chancellor first announced extra spending at the budget, he stressed that as much money would be made available as was needed.

• Tax cuts and public spending – which will directly and immediately affect public borrowing – totalling over£100bn. These are permanent giveaways that will add to public borrowing and debt. The most expensive elements are exempting certain businesses in badly affected sectors from paying business rates, the government’s commitment to pay 80% of furloughed employees’ wages, and the commitment to pay 80% of self-employed people’s past average profits.
• Deferrals of tax payments totalling over £40bn. These are not tax giveaways – the tax is still due – but the government has allowed businesses and people more time to make these payments, deferring them by around six months.
• Loan guarantees of up to £330bn. Loans will be issued by the British Business Bank (for smaller businesses) or the Bank of England (for large ones), with the government guaranteeing 80% of the value of the loans. Should a business fail, the government will pay 80% of the outstanding loan. But if businesses in receipt of these loans do not fail, these guarantees will not cost any money. The ultimate cost to the exchequer is likely to be far below £330bn.

How high will borrowing be this year?

As a result of the expected recession, extra public spending and tax cuts, UK government borrowing in 2020/21 is likely to be at the highest level as a share of GDP ever recorded in the UK in peacetime.

The OBR’s latest scenario analysis suggests that borrowing in 2020/21 will total £273bn, or 13.9% of GDP. The previous record was set in 2009/10, when the government borrowed 10.2% of GDP (equivalent to around £230bn in today’s terms).

^{* England only}

^{**Cost unknown}

_{*** This is a net figure (spending minus the money recouped in income tax and NICS)​}

Source: Institute for Government calculations, OBR policy monitoring database or publicly available Treasury figures unless specified otherwise.