The UK's Economic Gamble
Introduction
In the United Kingdom (UK), it is rare to find a more sensitive subject to discuss than the National Health Service (NHS). In this country, it is almost akin to a religion. Swathes of the population who have benefitted from the NHS shower it with praise, and the mere suggestion of constraining spending on the NHS would be enough for a political party to lose a general election.
The terrifying prospect of death and uncomfortable lingering illnesses is enough for a population to cling desperately for access to these services. Many of the great tragedies of life, from unemployment, homelessness and child poverty, governments regularly exploit to ensure that a steady flow of funds feeds into the government’s latest pet project.
Many bleeding hearts will proclaim the purest intentions behind supporting these services. Still, as the government grows and manages increasingly extensive programmes, it is hard to hold it accountable for the amount of money it spends. The NHS, in particular in the UK, is a veritable black hole, swallowing funding at an insatiable rate.
As a result of such spending, the UK is now at a financial crossroads.
Public spending has soared over the past decade, pushing the government into deep debt. In response, the new Labour Chancellor, Rachel Reeves, has proposed further borrowing. She has outlined a plan to balance financial discipline with growth through increased taxation and strategic investment in further government projects.
However, history suggests that governments rarely invest wisely, and the risks of this scheme backfiring are very high. While her strategy is innovative in theory, it is likely to be a high-stakes gamble that risks repeating many past mistakes, particularly those seen in Japan, leading to its lost decade. This article will explore how government spending has increased, outline Reeves’ approach and the risks it presents, and consider the implications of how the country adopting Bitcoin as a currency could provide an alternative solution to these problems.
Rising Government Spending
Over the past two decades, UK public spending has grown markedly. Expenditures on key areas have increased to meet rising demand and sought to modernise ageing infrastructure. In addition, several crises have required government intervention, such as Brexit and the COVID-19 pandemic, which have increased the government’s costs.
Unexpected financial events are rarely well-considered in government budgets, and due to mismanagement and poor planning, they often require more expense than anticipated.
In the financial year 2024-25, the projection for total public spending is approximately £1,276.2 billion. I have given a demonstration of the rise in spending over the previous twenty years and a breakdown of the costs by category in the tables below:
In addition, the projection of public sector net debt is now at £2.6 trillion, or around 97.5% of GDP. This situation poses serious financial challenges.
Funding future growth in an environment with such significant debt is exceptionally difficult. Imagine someone without investments with a yearly salary of £50,000 and a total debt of £48,700. The interest on the debt could become so expensive that it would be difficult to use their salary to buy anything else, above and beyond their rent and food.
The Rachel Reeves Strategy: A Homeowner Balance Sheet
Chancellor Rachel Reeves has proposed changing how the government manages its accounts. Technically, she is shifting the focus from Public Sector Net Debt (PSND) to Public Sector Net Financial Liabilities (PSNFL). Don’t lose your mind just yet – I will explain this!
The Traditional Approach: PSND as a Mortgage-Only View
Imagine a homeowner who carries a mortgage and credit card debt. Under the PSND framework, the government’s debt is much like a homeowner’s outstanding mortgage and credit card balances – offset only by cash in a bank account. However, this measure ignores the homeowner’s most valuable asset: the house itself. Even if the homeowner borrows heavily to renovate the house and boost its value, that increased asset value does not factor into the PSND calculation.
Under these rules, a financial analyst would consider all borrowing bad, whether it funds investment or wasteful spending.
A Broader Picture: PSNFL as a Full Balance Sheet
Under Reeves’ revised rules, the government would measure its fiscal position more like a comprehensive balance sheet. In this view, all liabilities (the mortgage and credit card debts) are offset not only by cash reserves but also by the value of the house – that is, by productive public investments such as roads, railways, digital infrastructure, and other assets. Theoretically, if the government borrows money to improve infrastructure, the resulting increase in economic output (or “house value”) can help offset the borrowing
This approach encourages borrowing for productive, growth-enhancing investments rather than day-to-day spending. The ultimate aim is to reduce PSNFL as a percentage of GDP by 2029/30, implying that the relative debt burden falls as the economy grows.
It is important to note that neither PSND nor PSNFL includes tax income as part of the calculation.
Investment Proposals
Rachel Reeves proposes the above manoeuvrings to facilitate further borrowing to £142 billion. The broad breakdown of which is as follows:
A Risky Strategy
The idea of borrowing for growth sounds promising on paper. Liz Truss and the Conservatives proposed a similar strategy in September 2022. However, here, the proposal was to borrow to fund tax breaks to stimulate growth in the private sector, whereas Reeves has proposed borrowing to fund further government spending. These contrasting strategies reflect the historical differences in each political party’s financial policies.
Unfortunately, the Conservatives had not fully negotiated with the City of London and the Office for Budget Responsibility. They failed to devise a strategy for funding the borrowing they wanted, so their plan created a brief financial crisis that left many people’s pensions at risk.
In this instance, Reeves appears to have overcome the justification for the borrowing problem, but her plan is still hazardous. Especially given the UK’s history of inefficient government investments. Many fear her strategy could backfire, leading to an economic train wreck reminiscent of Japan’s lost decade.
The Double-Edged Sword of Higher Taxes and Borrowing
Reeves’ strategy relies partly on raising taxes to service the increased debt while simultaneously funding public investment. (N.B. The above table allocates part of the additional borrowing to service debt payments). The idea is that, as these investments pay off, they will boost productivity and grow the economy, making the debt more manageable. But this is a delicate balancing act. If tax increases are too steep, they could:
- Reduce disposable income: Higher taxes leave less money in the hands of consumers and businesses, curbing spending and investment.
- Crush private sector activity: Business expansion may stall, leading companies to relocate or reduce hiring.
- Reduce overall GDP growth: Lower growth means that even if tax rates are higher, the tax revenue may not rise sufficiently to offset the increased debt burden.
In effect, if tax hikes severely dampen economic activity, the “house” may not increase in value at all—or, worse, it could even lose value, leaving the government unable to service its debts.
Market Confidence and the Bond Market
In the world of government finance, market confidence is paramount. The issuance of gilts (government bonds) primarily finances UK borrowing, the price of which market forces determine. If investors perceive that the government’s financial strategy is unsustainable or that investments are likely to be mismanaged, they will demand higher yields on these bonds. This could lead to:
- Rising borrowing costs: Higher bond yields mean the government must pay more interest, further straining the budget.
- A potential debt spiral: As borrowing becomes more expensive, the government may enter a vicious cycle in which servicing debt crowds out productive spending.
- Loss of credibility: As witnessed during the mini-budget crisis in 2022 under Liz Truss and Kwasi Kwarteng, a loss of confidence can prompt market panics, forcing abrupt policy reversals and emergency interventions by the Bank of England.
Inefficiency in Government Investment
If past performance is meant to indicate the soundness of Reeves’ strategy, things don’t look good; government investments are often politically driven, inefficient, or poorly managed. Unlike private sector investments – where companies can cut losses quickly – government projects tend to drag on even if they fail. This inefficiency can lead to scenarios where:
- Investments do not generate expected returns: Projects may become sunk costs rather than growth drivers. Examples include HS2 (£100bn+ overspend), failed NHS IT projects (£10bn wasted) and infrastructure delays.
- The “house” does not increase in value: Instead of boosting the economy, mismanaged investments could result in wasted funds and a diminished asset base.
- Missed fiscal targets: If investments fail to deliver actual economic returns, debt will rise without a matching productivity or asset value increase. i.e. the target to reduce PSNFL relative to GDP may remain out of reach.
Lessons from Japan’s Lost Decade
A stark warning comes from Japan’s experience in the 1990s. Following a massive asset bubble and subsequent crash, Japan embarked on a series of fiscal and monetary policies that failed to stimulate robust growth despite significant government spending and low interest rates. Instead, Japan entered a prolonged period of stagnation – often referred to as the “Lost Decade” (now almost three decades) – characterised by:
- Persistent deflation: Prices stagnated or fell, discouraging investment and spending.
- High public debt: Japan’s debt-to-GDP ratio ballooned, making fiscal policy more challenging. Japan’s debt is now over 260% of GDP.
- Low growth: Despite aggressive stimulus measures, including heavy borrowing to invest in infrastructure, the economy barely grew and, in some cases, shrank.
Many analysts worry that the UK could face a similar scenario if Reeves’ strategy relies on overly optimistic assumptions about growth and productive investment. If tax hikes and government borrowing do not spur sufficient private sector growth, the nation could be trapped in a cycle of high debt and low growth, with limited fiscal flexibility.