Why Rachel Reeves is facing a ‘persnuffle kerfuffle’ over debt rules

As she makes her final preparations for the Budget, Rachel Reeves has already indicated that she will present a package of tax increases and cuts to public spending plans amounting to around £40bn per annum over the next few years.

Those have proved controversial but just as important, albeit more technical, are the changes she is making to the rules about controlling the national debt. Even before Wednesday’s big event, she has already announced some potentially radical changes...

A substantive change to the policy followed by the government led by Rishi Sunak, which was that the national debt, as a share of the national income, should be falling by the end of a rolling five-year trajectory. This was widely criticised for being too rubbery – the rolling target was rather like chasing a rainbow – and prone to politically convenient adjustments.

Instead, Reeves is looking at three changes. Two were in the Labour election manifesto: that the current budget moves into balance, so that day-to-day costs are met by revenues, and that debt must be falling as a share of the economy by the fifth year of the forecast.

The third change is that the definition of the national debt for these purposes will be altered. Instead of focusing on the huge “public sector net debt” mountain (of around £2.7 trillion, or 98 per cent of annual GDP), a new measure will take into account the assets of the British state – more of a balance sheet approach. The domestic analogy would be a homeowner who worries about the size of the mortgage without remembering the value of the property it bought. This measure is called “public sector net financial liabilities” – or PSNFL, thus nicknamed “persnuffle” by economists, leading to the current debate being called a “persnuffle kerfuffle”.  The practical effect is to allow more room to borrow to invest, with the rise in the debt clearly linked to a rise in national assets that can yield a return to service that debt.

Because the government desperately needs to boost the long-term growth rate; all else depends on that. If it works, it means more productive investment, higher productivity, raised living standards, better public services and lower tax rates than otherwise. And, if all goes well, a second term in office. The new rules could create headroom to borrow as much as another £50bn to invest in infrastructure – but not to spend on, say, public sector pay rises or tax cuts. There’s also the matter of the £100bn a year the government spends on servicing the debt – much more than the defence budget, for example.

There must be some doubts. Defining investment in this context can be problematic, as can measuring returns. Building a new toll motorway with a high probability of yielding clear monetary returns in due course, and more generally boosting regional business growth, makes an obvious case for itself. But what about an NHS hospital? How can we measure the more elusive gains to workforce productivity and prolonging the useful economic lives (or not) of those being treated? Do the wages of the skilled staff count as “investment” because they too are part of the “machine”, and without whom the hospital couldn’t function?

An even more problematic area is investment in green energy: the benefits to slowing climate change yield no conventional financial return to the Treasury, or holders of UK government debt, because the planet doesn’t contribute to GDP and can’t pay taxes.

Reeves argues that such doubts will be dispelled by ensuring that the general approach is endorsed by the likes of the IMF and the independent Office for Budget Responsibility. Individual large projects will be overseen and checked for economic viability by the National Infrastructure and Service Transformation Authority, the Office for Value for Money and the National Audit Office. So no cheating and no disastrous overspends, then.

Yes, and borrowing more usually drives interest rates higher, notwithstanding the uses to which the funds are put. The extent to which this is true is very much up to financial markets. If investors have faith in the UK’s prospects, and trust the “character” of the government, the rules don’t matter so much, even if you change them. As with all lending by any bank, for investors in the UK it is a matter of trusting your client to honour their debts. The Liz Truss experience showed what happens when that trust is lost. Reeves understands that extremely well.

We don’t talk about that but the public finances, like much else, would probably be healthier had it not happened. But that’s not much use to us now.