Hammond's Fiscal Margin Erased by U.K. Student-Loan Reform

(Bloomberg) -- U.K. Chancellor of the Exchequer Philip Hammond faces a 12 billion-pound ($15 billion) hole in the public finances after a change to the way student loans are accounted for was announced on Monday.

The Office for National Statistics said a review has concluded that the assets should be divided into a portion that will be repaid and one that will have to be written off by the government.

Currently, the loans are all classified as government lending. Under the new system, the proportion of the debt that is not expected to be repaid will be treated as spending, and contribute toward the budget deficit. The ONS aims to incorporate the decision into the government accounts next autumn.

In October, the Office for Budget Responsibility estimated that public sector net borrowing would rise by around 0.6 percent of GDP a year, or 12 billion pounds in the fiscal year ending March 2019, if such an approach was adopted. That’s enough to all but wipe out Hammond’s 15 billion pounds of fiscal headroom, designed to provide firepower for the economy in the event of a disruptive Brexit.

Hammond's Fiscal Margin Erased by U.K. Student-Loan Reform
Here’s what the OBR said in October:

The difference between the current treatment and our estimate of the hybrid treatment illustrates the extent of the fiscal illusion created by the current approach. It suggests the current treatment flatters the deficit by £12.3 billion in 2018-19 and £17.1 billion in 2023-24. In the Government’s fiscal target year of 2020-21, the difference is £14.4 billion -- just less than the margin by which it is set to meet its self-imposed ‘fiscal mandate.’

However, the change has no impact on the overall level of government debt, the ONS said, as it is a cash measure, so is unaffected by whether the money being paid out is classified as a loan or spending.

The stock of student debt has risen rapidly in recent years and now stands at around 120 billion pounds in nominal terms, or 6 percent of GDP, with further increases seen over the next two decades.

The Department for Education expects that only around 30 percent of full-time undergraduates in England who began their studies in the 2017-18 academic year will fully repay their loans, as payments are only required when a borrower reaches an earnings threshold of 25,000 pounds. Some will either never reach that threshold or spend too little time above it to clear the debt.

The move to a new accounting system was welcomed by Parliament’s Treasury Committee, which had argued strongly for reform. The Institute for Fiscal Studies described it as a “sensible move” that reflects economic reality.

The Resolution Foundation noted that the shift erases the boost Hammond got in October when the OBR sharply lowered its underlying borrowing projections, a windfall he used to plow billions of additional pounds into the National Health Service.

“Today’s decision will inevitably affect the government’s approach to its ongoing review of post-18 education by making more explicit where the costs of the system lie with its current design,” said Matt Whittaker, deputy director of the London-based think tank.

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