UK facing sovereign debt crisis in 2010

| 06-01-2010 | UK Business | Written by Matthew Bennett | 1 comment

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The UK’s Labour government, like others around the world, has now spent billions of pounds on bailing out banks and trying to stop the British economy sliding into even deeper, darker economic trouble. But how are they going to pay it all back?

At the start of a general election year, this question is not trifling; either both sides will use it to try and out-forecast the other or both sides will avoid bringing the subject up except under duress because they both know there’s no real plan yet.

Britain is already over-spent. What happens if (when??) there is another banking crisis or similar and the government has already sold so much of our children’s future to pay for today’s sins:

There is the question of whether a sovereign crisis would have a knock-on effect on British banks’ balance sheets. As such, 2010 could turn into a more chaotic year than many expect.

Would the government be able to bailout the banks again? What effect would that have on the UK’s economy? What would happen if other industries seen as key economic pillars needed bailouts?

Surreal? Apparently not. Ambrose Evans Pritchard reports in the Telegraph that Morgan Stanley has issued a report warning that:

“In an extreme situation a fiscal crisis could lead to some domestic capital flight, severe pound weakness and a sell-off in UK government bonds. The Bank of England may feel forced to hike rates to shore up confidence in monetary policy and stabilize the currency, threatening the fragile economic recovery,”

Capital flight in the UK? This would apparently put us on a par with Greece and in a worse position than Italy, Mexico or Brazil.

Can we be certain first of all that bond investors will actually buy all of this new government debt faced with the possibility of increased sovereign risk? And who is then going to pay for the government spending?

“We need to raise VAT to 20pc and make seriously dramatic cuts in services that go beyond anything that Alistair Darling or David Cameron are talking about. Nobody seems to have the courage to face up to this,” said Mr Buik.

Moody’s is wondering whether or not to downgrade the UK, for the same reasons:

‘While assumed capacity for fiscal adjustment currently supports the maintenance of the Aaa rating of the UK government, this assumption will have to be validated by actions in the not-too-distant future to continue to provide support for the rating.

“Assumed capacity” sounds a bit dodgy, doesn’t it? Doesn’t it read a bit like: “We assume the UK government has the capacity to sort this out if wants to, but we’re not sure and we haven’t seen any actual evidence that it’s going to do anything“?