The UK’s public finances are on an unsustainable long-term trajectory, given the growing cost of state pensions and the mounting climate emergency, the Office for Budget Responsibility has warned.
Richard Hughes, who chairs the budget watchdog, said government debt would rise to 270% of GDP by 2070 – up from less than 100% today – if current policies were left unchanged.
“The UK public finances are in an unsustainable position in the long run. The UK cannot afford the array of promises that it has made to the public,” he said.
In its annual assessment, the OBR points out that the UK has “the sixth-highest debt, fifth-highest deficit and third-highest borrowing costs among 36 advanced economies”.
The watchdog says efforts to restore the public finances in the wake of a series of big economic shocks – including the Covid pandemic and the energy crisis – have “met with only limited and temporary success in recent years”.
The government is also facing an increasingly challenging global backdrop, the OBR says, such as the impact of Donald Trump’s trade war and a promise to increase the share of GDP spent on defence to 5% by 2035.
The OBR repeats its assessment, made alongside Rachel Reeves’s spring statement, that average US tariffs of 20% with the rest of the world would shave 1% off UK GDP, and all but eliminate the government’s headroom in five years’ time.
With Rachel Reeves under pressure from colleagues to loosen her fiscal rules, the OBR argues that in fact, such guidelines have had little impact on reining in tax and spending over the past 15 years.
“While getting a measure of public debt falling as a share of GDP has featured in eight out of nine UK fiscal frameworks since 2010, underlying debt has risen by 24% of GDP over the past 15 years and by 60% of GDP over the past 20,” it says.
Hughes described Reeves’s rules, which allow more borrowing to fund investment than those of her predecessors, as “among the loosest we have ever had”.
He also echoed the warnings of a string of economists, including the former Bank of England deputy governor Charlie Bean, that the £9.9bn headroom Reeves has left herself against her fiscal rules is too narrow.
“In light of how risky the 2020s are turning out to be, the chancellor has left herself, and actually her recent predecessors also left themselves, relatively small amounts of headroom against their fiscal targets,” Hughes said, adding that less than £10bn is, “not very much, given the array of risks to any five-year outlook for the economy and public finances.”
With Reeves under intense scrutiny in the run-up to the autumn budget, the OBR also confirmed that it was re-examining its productivity forecasts – stressing these are important for determining its economic projections.
“Just a 0.1% change in productivity growth over the next five years would be enough to speak for the headroom that the chancellor set aside in the March forecast, so it is a very important assumption that drives our economic and fiscal forecasts,” Hughes said.
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Looking ahead, the watchdog highlights the risk of rising pensions costs, given the UK’s ageing society, and inadequate levels of saving into private sector pensions.
The cost of the state pension, which has been ratcheted up by the triple lock, has risen from 2% of GDP in the mid-20th century, to 5% now, the OBR says – and is poised to reach 7% of GDP by 2070 if the policy remains in place.
Hughes stressed that this was not just due to demographic changes, but the design of the policy, which has cost much more than expected in an era of volatile inflation.
The OBR also says that the decline of traditional defined benefit pensions risks undermining demand for government bonds, which these schemes tended to use to match their liabilities – making the UK more reliant on foreign investors to fund its debts.
“These overseas investors are, by their nature, as comparison shoppers in the global debt market, likely to be more fickle and flighty than their domestic counterparts,” Hughes said. The vulnerability of the UK’s public finances to the markets was underlined last Wednesday, when investors sold off government bonds, driving up the yield – in effect the interest rate – amid speculation about Reeves’s future.
The climate crisis is another big factor threatening the government’s fiscal position, the OBR warns, driven by the costs of transitioning to a fossil-fuel free economy, and mitigating the damage wrought by extreme weather – as well as the huge loss of revenue from fuel duty, as motorists switch to electric vehicles.
In total, the OBR says that if temperatures rise by 3C, the climate crisis could add 74% of GDP to government debt by the early 2070s, relative to its last long-term projection.
A Treasury spokesperson said: “We recognise the longstanding economic realities the OBR sets out in its report. This is why we are committed to ensuring stability in the economy through our non-negotiable fiscal rules which have allowed us to invest in the UK to drive a decade of renewal and put more money in people’s pockets.”
