After a surprise government budget surplus in January, where government revenue exceeded government expenditure, government borrowing hit a record of £16.7 billion in February since records began in 1993.
After the COVID-19 lockdowns, the energy market saw a substantial extension (increase) in demand, but supply was not high enough to satiate[i] this level of demand and so energy prices rose as a rationing measure. This was further worsened by the Russia-Ukraine war, which saw energy supplies being threatened and had a significant impact on countries that rely heavily on Russia for energy (such as the UK) and, as a result, energy prices rose once again.
Thus, in order to maintain consumer utility[ii], the government put energy schemes into place in order to soften the impact this spike in energy prices would have on households. An example of this would be the Energy Price Guarantee, where average energy prices are expected to be kept at £2,500 until the end of June, and then drop down to £2,200 per year for each household. However, in order to finance this, the government will need to use expansionary fiscal policy[iii] and increase their expenditure, thus, they will need to borrow more money to facilitate this increased expenditure - as per the ONS[iv] and Chancellor Jeremy Hunt.
Why may this figure be surprising?
Despite government borrowing reaching record high levels, some may argue that borrowing to this level may not have been necessary considering the government managed to save £1.3bn compared to the year before by not spending as much on government interest on its debt. This may have occurred as a result of the value of interest falling at the hands of elevated inflation levels (10.4% as of February 2023). Furthermore, this level of borrowing may not have been needed as a result of the government earning £1bn in windfall taxes[v] (placed primarily on energy companies), thus the government could have used the tax revenue they earned from this in order to finance household help schemes such as the Energy Price Guarantee.
However, the amount of income earned from these methods may not be enough to properly finance and facilitate these schemes, thus, perhaps the only suitable way the government could carry out these plans is via borrowing.
What adverse effects can this level of borrowing bring?
Although many households may appreciate household help schemes like the Energy Price Guarantee (fueled by government borrowing) in order to maintain a good standard of living, this may only spark even further inflation in the future, especially considering expansionary fiscal policy acts as a demand-side policy[vi] aiming to increase Aggregate Demand. As these schemes have made it easier for households to spend on energy, thus representing increased demand for energy, energy companies may see this as a signal to increase prices even further in order to maximise profit - an understandable assumption considering firms are profit maximisers.
However, policies like the Energy Price Cap, which limits how high energy firms can put their prices (thus acting as a price ceiling), may result in these firms being unable to increase their prices beyond a set value, despite how high demand may be. As a result, the effect on inflation is not as severe.
High levels of borrowing such as this may also further increase the national debt faced by the UK, considering the British economy is usually in a persistent budget deficit as a result of, for example, increased spending on unemployment benefits (which may require some government borrowing), as well as losing out on tax revenue from income tax (especially considering that 1 in 5 people are currently economically inactive and hence do not pay income tax).
However, if the government chooses to lower state welfare benefits, such as unemployment benefits, this may force those who are unemployed to find work in order to increase their income. Thus, not only can the government spend even less on unemployment benefits (lowering expenditure), but the government can also earn more revenue from income tax as more people are in employment and are gaining income as a result. This may make the persistent budget deficit the UK usually faces a lot narrower and the UK might eventually enter stages of persistent budget surplus, thus permitting the British government to lower its national debt.
Footnotes:
[i] Satiate - to be able to satisfy, provide enough of something.
[ii] Consumer utility - a term referring to the total benefit/satisfaction gained from consuming a product
[iii] Expansionary fiscal policy - a policy that stimulates demand by increasing government spending.
[iv] ONS - Office for National Statistics.
[v] Windfall tax - a tax placed on companies believed to be earning significantly high profit due to an event beyond their control.
[vi] Demand-side policy - a policy focused on changing aggregate demand.
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