Bailout adds to UK Public Debt

Well this wasn't unexpected:

Gordon Brown suffered a double blow yesterday when government statisticians recalculated Britain's national debt at £1.5tn and the CBI accused the prime minister of lacking a coherent economic recovery strategy.

As the prime minister warned in Rome that the world was being hit by an "economic hurricane", his fightback plan at home was complicated when the Office for National Statistics raised the prospect of Britain's national debt rising to 150% of national income from its current 48%.

The ONS classified Lloyds and Royal Bank of Scotland as public corporations and thus added all their liabilities - up to £1.5tn - on to the taxpayers' balance sheet. The ONS said the recapitalisations of Royal Bank of Scotland and Lloyds Banking Group meant they had in effect become public corporations, which would have to add the full extent of their liabilities to the national debt.

The move, which the Treasury dismissed as a "technical classification" with few policy implications, prompted Tory warnings that Britain was now facing a debt crisis. Kenneth Clarke, the shadow business secretary, called on Alistair Darling, the chancellor, to introduce a dramatic reduction in the growth in public spending from this April, rather than waiting until next year.

"We are going to quite staggering levels of public debt," Clarke told the BBC. "The voters are going to have to pay the interest on all this mounting debt. "

48% is bad enough. For that to be raised to 150% of GDP is, well, staggering. I can see the same thing happening in the US as well as a result of the bailout.

All this proves one thing - governments should have been fiscally responsible in the years and decades prior to this economic crisis. Many people complained about growing debt levels and how it will come back to bite later on but they were ignored by those in power.

So what will happen?

If UK public debt gets to 150% of GDP, it will mean that public spending will be dominated by debt servicing. Last year I blogged about Italy, which has public debt of around 107% of GDP. As a result, debt servicing (paying interest on debt as well as paying back government bonds when they mature) ate up 41.2% of the budget. It also represented some 17.9% of GDP.

That's right - the amount of money the Italian government paid back in debt servicing represented 17.9% of GDP. Debt servicing outstripped education spending by 5 to 1, health spending by 22 to 1 and spending on public order by 12 to 1.

The result of huge deficits is less spending on public works. Anything that the government spends money on is crowded out by the need to service debt. If public debt does hit 150% in the UK, you can be certain that the result will be either massive cuts in education and health spending, or else substantial tax rises, or else a combination of the two.

And this goes for all countries - including the US. If the cost of Bush's bailout and Obama's stimulus pushes public debt levels beyond 100% of GDP, the cost of servicing debt and paying off the principal will choke society and the economy.

All this makes me glad to be in Australia. Even though our currency is small and is blown by the winds of international finance, at least we completely paid off our public debt. Rudd's stimulus plan is therefore much more sustainable and less likely to "mortgage the future" like the UK or the US.