Britain’s debt and welfare bill is set to rise by more than £50bn

The winner of the Conservative Party’s leadership contest will face huge additional costs of servicing the nation’s debt and paying Social Security benefits due to rising inflation and interest rates, the Financial Times calculates.

The estimates, an update of the Bank of England’s earlier official inflation forecast from March, show Britain’s debt and welfare payments are set to rise by more than £50bn over the next financial year.

The results forecast debt service costs are likely to almost double over the next year from £50bn to £95bn as £500bn of the UK’s public debt is index-linked to the consumer price index.

That bill will go down as inflation falls, but will be replaced by higher social security benefits, which are also linked to prices and are expected to be £23 billion higher each year until the next election.

These payments give the new Tory leader hope that tax revenues will remain strong, helped by high inflation at a time when the BoE believes the economy is slipping into recession.

In March, the Office for Budgetary Responsibility said ministers would stick to their own budgetary rules and would have £30bn of room for maneuver in 2024-25. But officials close to the Treasury Department and the OBR say the financial watchdog will reveal stricter forecasts until the new prime minister takes office.

Bar chart of additional borrowing versus March OBR forecast (£bn), showing high inflation and interest rates will increase the cost of debt interest and social security benefits

So far, both candidates running for leadership have made tax and spending decisions based on March forecasts, ignoring the big growth downgrade and higher inflation and interest rates.

The UK economy shrank 0.1 percent in the second quarter, reflecting the cost of living crisis that was beginning to hurt households across the country.

Paul Johnson, director of the Institute for Fiscal Studies, said that with inflation driving up social security and interest costs, “the incoming prime minister will face a rather difficult public finance situation”.

The figures would underestimate the public finance problem for Rishi Sunak or Liz Truss if Goldman Sachs’ latest inflation forecasts come true. The investment bank said on Friday that CPI inflation is expected to peak at 14.4 percent in early 2023, according to the latest estimates of energy bills.

Poor public finances will also pose a problem for Sunak’s team, as they will undermine his campaign’s shift from emphasizing the country’s debt woes to promising future tax cuts.

Professor Charlie Bean, a former member of the OBR committee, said the squeeze on public finances meant Truss’ promised permanent tax cuts were “irresponsible”.

“It is reasonable to run a large temporary deficit at the moment,” he said. “We’ve had a shock which we hope will only be temporary, but Liz Truss is considering a permanent reduction in the tax burden and it’s quite an open question whether there’s £30billion left to maneuver.”

Some economists close to the Truss campaign say borrowing more for lower taxes is the best policy at a difficult time for the UK economy.

Tim Pitt, a former adviser to Philip Hammond when he was chancellor, said that with public services under heavy strain, “the new chancellor will be in for a major shock this autumn as he tries to keep public finances on a sustainable path “.

Julian Jessop, an independent economist, said people shouldn’t worry about borrowing more as long as debt remains under control over the medium term. “I’m less concerned if the headroom disappears versus fiscal targets that don’t make much sense,” he said.

Labour’s shadow chancellor Rachel Reeves said high inflation required “real action”.

“Therefore, the government must close the loopholes in the windfall tax on record-breaking oil and gas producers to fund better cost-of-living support for the country,” she added. Britain’s debt and welfare bill is set to rise by more than £50bn

Adam Bradshaw

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