Autumn statement: Government debt rises as GDP forecasts cut

Delivering his much anticipated Autumn Statement, Chancellor Philip Hammond said government borrowing would need to rise by £121bn over the course of the current parliament due to the slowdown in the UK's economic growth from the Brexit vote.

Gross domestic product was forecast by the Office for Budget Responsibility to grow 2.1% in 2016, up from the 2.0% forecast in at the time of the March Budget under predecessor George Osborne.

However, GDP growth is now forecast to drop to 1.4% in 2017, a big cut from the forecast of 2.2% in March before the Brexit vote result was known, which Hammond said was because of anticipated lower investment and weaker consumer demand due to the weak pound.

For 2018, growth is estimated to rebound to 1.7%, down from the pre-Brexit 2.1% estimate, meaning the UK's economic growth is not expected to return to 2.1% pre-referendum levels until 2019, according to the OBR.

Brexit impact could get worse

The OBR said that although there was a higher degree of uncertainty around figures than usual, it calculated that GDP growth would be 2.4 percentage points lower than if there had been a remain vote in the referendum.

While Brexiteers have made much of the fact that the vote to leave the EU impact has yet to have much of a material effect on the economy, save on the pound, the OBR said it not attempted to predict the precise end result of the negotiations and had instead made a judgement that "over the time horizon of our forecast any likely Brexit outcome would lead to lower trade flows, lower investment and lower net inward migration than we would otherwise have seen, and hence lower potential output".

In has assumed only that as the government's negotiations get under way next year that GDP growth will as uncertainty leads firms to delay investment and as consumers are squeezed by higher import prices, thanks to the fall in the pound.

What it has not factored in, but which could still occur, is the potential for firms to shed jobs more aggressively or that consumers increase their level of precautionary saving.

The OBR said these were potential "downside risks if the path to Brexit is bumpy".

Rising debt and borrowing

With the economy growing more slowly, net government debt is now expected to peak at over 90% of GDP and will only start falling towards the end of the decade, with government borrowing now predicted to be much higher each year of the current parliament.

The public deficit is expected to fall from £68.2bn in the current tax year to £59bn in 2017/18, much larger than the £39bn forecast in the spring budget.

The deficit is then seen falling to £46.5bn, £21.9bn, £20.7bn before hitting £17.2bn in 2022, meaning the public sector borrowing requirement as a percentage of GDP will fall from around four times to 3.5 and is not calculated to reach 0.7 until 2021/22.

The market's reaction to the higher debt and more borrowing helped to send bond yields higher, with the benchmark UK 10-year gilt yield up nine percentage points to 1.45%, its highest since before the Brexit referendum.

The 10-year gilt was underperforming similarly-dated US and German debt in the wake of Hammonds remarks, with a five point gain for US Treasuries to 2.36% and a similar advance in Bund yields. Prior to the Chancellor's speech gilt yields were roughly three basis points higher. Part of the movement was said to be connected to the US jobs data released around the same time.

Analyst Neil Wilson at ETX Capital said there were no real surprises from Hammond, as nearly all the measures were already known and largely priced in, with the movement in bond yields the main market response.

Economist Paul Hollingsworth at Capital Economics pointed out that the OBR's economic forecasts were more upbeat than expected, with the GDP growth of 1.4% next year above the consensus forecast and growth throughout the rest of the forecast period expected to exceed both the consensus expectation and the Bank of England's more optimistic forecast.

He noted that the weaker growth forecasts is bad news for debt and borrowing, and therefore limited the potential for fiscal boosts to the economy to £8bn per annum by 2019/20.

"Although the Chancellor’s package of measures gave a bit of money away, there is still set to be a fiscal tightening (proxied by the change in the cyclically-adjusted budget balance as a percentage of GDP) equivalent to just under 1% of GDP per year over the next three years. That said, his new fiscal rules still give him some room to scale back the pace of tightening if the economy were to take a bigger-than-expected hit over the next few years."