HAMISH MCRAE: Savers will pick up the tab for the coronavirus crisis

We learned two things last week about the impact of Covid-19 on the nation’s finances. 

One was that the increase in the national debt is likely to be larger than even the pessimists expected. The other was that it will mostly be savers who will have to take on the burden of paying it off.

The news on the finances was the Government’s deficit in April. In one month it borrowed £62billion, much more than the deficit for the whole of the last financial year, and about £20billion more than the market expected.

This was the result of a double blow. Spending was up by 52 per cent as the Government piled money into the various schemes to try to keep the economy going. And tax revenue was down by 42 per cent, mostly because the VAT deferral scheme meant that there was no VAT revenue at all.

Since GDP unsurprisingly fell, the result was that the debt to GDP ratio shot up, rising from 80 per cent to nearly 98 per cent of GDP.

That is the highest it has been since the early 1960s, when we were still paying off the debts of the Second World War.

Many of us had expected this ratio to climb eventually to around 100 per cent of GDP. Well, we have nearly managed that in one month.

Activity will eventually resume, that VAT will start to be repaid, the economy as a whole will recover. But there are huge uncertainties. As the Office for Budget Responsibility said on Friday, it will take many months before the true scale of even the initial shock becomes clear.

But realistically our national debt is going to end up well over 100 per cent of GDP, perhaps 110 per cent, conceivably more.

To put that in perspective (and make you feel a bit better!) it was around 260 per cent in 1820 at the end of the Napoleonic Wars; 180 per cent in 1919 at the end of the First World War; and 240 per cent in 1946 after the Second World War.

Eventually the debts were paid back. But how?

That leads to the second thing we learned. On Wednesday, the Government sold £3.8billion of three-year bonds yielding minus 0.003 per cent. 

Aside from a tiny blip in 2016, this is the first time the UK has ever sold debt at a negative interest rate, though in Europe and Japan government bond yields have been negative for some years.

Why on earth should anyone lend to the Government, any government, and get less money back than they paid over?

Like many simple questions it is quite hard to answer, but the short explanation is that the regulators require banks and some other financial institutions to hold government bonds as part of their reserves. If that means they lose money on this, that’s just tough.

There is an expression for this. It is called financial repression, and it means compelling savers to get less back for their money in real terms than they put in.

In the past, this has mostly been done with inflation. We managed after both the First and Second World Wars to squeeze down the real value of the debts in this way.

But we also increased taxation, so the whole burden was not on savers. Some of it was on earners too. Income tax was introduced by the Prime Minister William Pitt the Younger as a temporary measure in 1799 to help over the cost of the Napoleonic Wars.

It was repealed in 1816 after the Battle of Waterloo but then brought back in 1846 because the country’s debt burden was still so great. Taxes shot up after the two World Wars of the last century.

And now? It will be a bit of both. I could see some additional taxation, perhaps an additional levy on income tax dedicated to the NHS. But they can’t put taxes up much because that would clobber the economy, something you absolutely don’t want to do.

However, if they can borrow for free it is bit of a no-brainer to allow the debt to pile up now, and gradually whittle away the real value as inflation picks up in the years ahead.

So what should savers do? That is another story to be explored later, but remember there are always winners from economic disruption as well as losers. Trouble is, right now the list of losers is rather longer.