German think tank confirms fears over UK debt levels

In a recent IEA discussion paper, Nick Silver argues that official figures display less than a fifth of the UK’s actual public debt. This is because pension entitlements constitute debt in all but name.

The Berlin-based Stiftung Marktwirtschaft, a pro-market think tank, has now released a cross-country comparison of unfunded government liabilities which appears to confirm these findings.

Stiftung Marktwirtschaft uses a model called ‘Generational Accounts’, in which current government expenditure is arithmetically allocated to age-groups. Assuming that spending per age group will stay constant in real terms, total spending is then calculated to fit the expected age composition in about 50 years. In addition, expected future spending is contrasted with expected future revenue.

Note that while Nick Silver strictly separates ‘future expenditure’ and ‘debt’, no such distinction is made here. The Generational Accounts do not take into consideration whether the government is legally committed to a particular spending path, or whether this is merely an expectation of the electorate. They do, however, give a reasoned estimate of the likely changes in spending and/or taxation.  

The results are devastating. Of the eight countries examined, only one, Switzerland, has a sound balance sheet. The UK, in contrast, is burdened with invisible liabilities of 530% of GDP, on top of its official debt. To meet these obligations, the tax and contribution ratio would have to be raised by a fifth, or spending would have to contract severely.

Unfortunately pension, healthcare and long-term care systems operate on a pay-as-you-go basis in nearly all wealthy countries, including the UK. If these systems were fully funded, people could have built up capital reserves long before the age pyramid started to crumble. Reform is still desperately needed but it will become increasingly difficult to make up for lost time.

What does this actually mean though?How will it affect how rich we are? How much of the problem will be ameliorated by economic growth?

Dear Current,if growth rates exceed the ones used in the model, this will indeed cushion the blow – however, some government expenditure are linked to growth in wages and would rise proportionally.
The message of these accounts is not that the UK is bankrupt and that we should all migrate to Switzerland. It does, however, say that it is likely that the UK will join the club of high-tax nations. Or that in order to avoid massive cuts in entitlements (respectively tax hikes), economic growth would have to be extraordinarily high.
Switzerland could afford a period of low growth. The UK cannot.

I’m not entirely convinced.Aggregate rates conceal a great deal. GDP growth rates especially. If you look at the figures composing GDP, consumption, investment and government expenditure you find that they vary greatly between countries.More to the point though, what the electorate rely on from the UK pensions system is a livable income from the basic pension provisions. Currently they don’t even get that from the basic state pension, people who only claim that must other benefits.But, growth models don’t tell us much about the cost of these provisions. They may not rise in line with general inflation.

I agree – however, it is important to note that Stiftung Marktwirtschaft is NOT saying “This is what the world will look like in 2050″. All they show is what would happen (without implying that it will) if the current levels of taxation and benefits were applied to a population with the demographic characteristics that the UK population will have in 2050. Demographic projections are quite reliable, simply because it takes an awful long time for any change to affect the demographic composition of society. Even if fertility rates tripled or quadrupled next year, it would still take at least until 2026 to have an effect on, say, labour markets.

What does this actually mean though?How will it affect how rich we are? How much of the problem will be ameliorated by economic growth?

Dear Current,if growth rates exceed the ones used in the model, this will indeed cushion the blow – however, some government expenditure are linked to growth in wages and would rise proportionally.
The message of these accounts is not that the UK is bankrupt and that we should all migrate to Switzerland. It does, however, say that it is likely that the UK will join the club of high-tax nations. Or that in order to avoid massive cuts in entitlements (respectively tax hikes), economic growth would have to be extraordinarily high.
Switzerland could afford a period of low growth. The UK cannot.

I’m not entirely convinced.Aggregate rates conceal a great deal. GDP growth rates especially. If you look at the figures composing GDP, consumption, investment and government expenditure you find that they vary greatly between countries.More to the point though, what the electorate rely on from the UK pensions system is a livable income from the basic pension provisions. Currently they don’t even get that from the basic state pension, people who only claim that must other benefits.But, growth models don’t tell us much about the cost of these provisions. They may not rise in line with general inflation.

I agree – however, it is important to note that Stiftung Marktwirtschaft is NOT saying “This is what the world will look like in 2050″. All they show is what would happen (without implying that it will) if the current levels of taxation and benefits were applied to a population with the demographic characteristics that the UK population will have in 2050. Demographic projections are quite reliable, simply because it takes an awful long time for any change to affect the demographic composition of society. Even if fertility rates tripled or quadrupled next year, it would still take at least until 2026 to have an effect on, say, labour markets.

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