Historic inflation crunch swells UK interest bill to highest on record

Historic high inflation has swelled the amount of money the UK government spends on servicing its debt to its largest level on record, reveals official figures released today.

Britain’s debt interest bill for the year to March climbed 77 per cent over the last year to nearly £70bn in a further sign that Chancellor Rishi Sunak’s room to support households through the cost of living crisis is limited, according to the Office for National Statistics (ONS).

That figure is the equivalent of the combined £57bn the government spends on defence and the home office.

A large proportion of the government’s stock of debt is linked to an old measure of inflation, meaning the amount it has to pay out to holders of gilts climbs as prices rise.

The ONS estimates the retail price index uplift to interest payments amounted to around £35bn over the last year.

“Rising inflation is pushing up our debt interest costs, which mean we must manage public finances sustainably to avoid saddling future generations with further debt,” Sunak warned.

UK consumer price inflation hit seven per cent last month, the highest rate since 1992.

Debt interest payments are forecast to top £80bn this year as a result of prices trending even higher and the Bank of England pushing through more interest rate hikes.

The UK’s stock of debt has soared due to the government ramping up spending during the pandemic by launching packages such as the furlough scheme to cushion the virus’s impact on the economy.

Increased Covid-19 related spending has pushed the stock of the country’s debt as a proportion of GDP to over 96 per cent, levels not seen since the 1960s when the UK’s public finances were still recovering from the effects of world war two.

However, a rebound in economic activity triggered by an end of the most onerous virus restrictions has partially restored the Treasury’s tax receipts, reducing the need to take on more debt.

The government borrowed nearly £152bn over the course of this year, less than half the £318bn clocked during the height of the pandemic in 2020/21.

Government borrowing is the difference between what it takes in tax revenue and spending.

The Chancellor’s package of support to help households through the cost of living and energy crisis – including a council tax rebate and an energy bill loan – led to borrowing coming in £24bn higher than forecast by Britain’s fiscal watchdog, the Office for Budget Responsibility (OBR).

The cost of living crunch is hitting both the public finances and households’ living standards, which are projected to fall at the quickest rate in 66 years as a result of wages failing to keep pace with an annual inflation rate of seven per cent.

A 54 per cent uplift to the energy price cap, compounded by higher prices and a heavier tax burden swelled by the 1.25 percentage point national insurance hike, is squeezing household finances.

Economists expect Brits to slash spending in response to the living standards hit, leading economic growth to come in much weaker than first thought at the beginning of the year.

Both the International Monetary Fund and the OBR have cut GDP growth expectations for 2022.