Voters trust their governments to balance the books and their hard-earned tax money – but it doesn't always work out that way. On Thursday the United Kingdom reported its first January deficit from tax receipts since the statistic started being kept in 1993.
January has always been the best month for swelling the government coffers as corporation tax is received. Just look at the January figures dating from 2000 as compiled by the Office for National Statistics (ONS) in the table below.
| Year | U.K. Tax Revenue for January |
| 2000 | £ 11.353Bn |
| 2001 | £ 11.168Bn |
| 2002 | £ 6.646Bn |
| 2003 | £ 4.626Bn |
| 2004 | £ 4.038Bn |
| 2005 | £ 8.796Bn |
| 2006 | £ 11.199Bn |
| 2007 | £ 9.702Bn |
| 2008 | £ 13.854Bn |
| 2009 | £ 5.361Bn |
| 2010 | -£ 4.339Bn |
Thursday's reading was a shock, not least because economists had been forecasting a surplus of 2.6 billion pounds ($3.5 billion), which could have gone towards paying off its sovereign debt. The government instead borrowed 4.3 billion pounds ($5.8 billion), the first time it has had to do so in the month of January since records began in 1993.
How will the Government explain this statistic away? Though the U.K. is not in the euro zone, it has still strived to shadow parameters specified by the region's Stability and Growth Pact of maintaining a national debt to GDP ratio of under 60%. Prime Minister Gordon Brown and his Downing Street neighbor, Chancellor Alistair Darling, state that at 61.7%, Britain is close to that level.
So I wonder why no political journalist asks the Downing Street Duo about who will have to pay the pension of the Civil Service, or make the payments on the Public Private Initiative schemes? These will be paid by the government, and the Institute of Fiscal Studies has suggested that when those outflows are accounted for, the true level of British debt to GDP will be nearer to 115%--as bad as Greece. When it comes to debt, the center of U.K. politics should be called "Drowning Street."
British government debt is classified by the three major rating agencies as triple-A--well above Greek debt which is just a step away from junk--but Standard & Poor's have the U.K. on a negative outlook. Even Moody's, which has Britain on a stable outlook, has indicated that its triple-A rating may well come under strain as the national finances continue to fall into the red.
Prime Minister Brown claims Britain is best placed in Europe to face the recession and will lead the way out of it. That is a fallacy that would be home in Pyongyang. Too harsh? No, not really.
In France, fourth-quarter GDP for 2009 came at 0.6%, revised higher from the earlier call of 0.3%. In Germany the revision was flat, down from the flash estimate of 0.7%. British growth was forecast at 0.4% although the release was 0.1%. Look for the revision on Feb. 26--will the U.K. be leading the way to prosperity? More likely it will be stuck in a low gear, if not slipping into reverse.
Given the flexibility in Britain, we should be better on the growth and the tax-take front. After all, the U.K. is the largest economy in Europe with seniorage rights, meaning it can print its own currency and set its own interest rate.
Curious then, that Moody's classifies the U.K. as a "resilient" triple-A, whereas in Europe, France and Germany, who are the heavyweights of the euro zone are seen as "resistant" triple-A. Curious given these nations are unable to set interest rates or money supply levels that are tailored for their specific economic conditions.
Growing consensus is that the rating agencies will not act on the U.K.'s status until after the national election. No wonder the opposition Conservative party thought they could be seen as financially astute by pledging to tackle the deficit this year.
That won't be easy. If they win the election, which might be held on May 6 according to some reports, and they had a budget no later than June 24, Britain would already be three months into the new fiscal year. It's hard to actually drive measures through to make a real improvement in the books in the first 12 months.
Clearly the debt situation will take several years to control. After the election there is an immediate need for a credible plan to convince investors and rating agencies that the U.K. is not heading in the Greek direction. That is not the judgment of the markets at the moment, since credit default swaps (which measure the cost of insuring against default) for Britain are at 46.5 basis points over Germany, down from 60 basis points on Dec. 21, 2009. Currently Greece trades at 301 basis points over Germany.
Are we at a point where international investors will reject British debt? The budget deficit is heading toward 9% of GDP at a time when inflation was up to 3.5% in January--the fastest annual pace for 14 months--and former members of the Bank of England's Monetary Policy Committee are calling for inflation as a way of reducing the real money value of outstanding debt.
If inflation creeps back into the British economy, then investors in gilts will start seeking a wider spread over other leading European nations. That will raise financing costs, making debt reduction even harder.
Stephen Pope is the chief global equity strategist of Cantor Fitzgerald in London, covering debt and equity markets as well as economics, politics and corporate strategy.
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