How government debt could hit your wealth – and what you can do about it

While geopolitics and technology dominate the headlines, a quieter force is reshaping your wealth: government debt, now at its highest level since the 1960s. Standing at 93% of GDP,¹ this isn’t just an abstract economic statistic – it’s a force already affecting how much tax you pay, what your savings earn, and how much your wealth is really worth. Let’s explore why.

The era we’re leaving behind: Monetary dominance

For nearly 40 years, we lived in the era of “monetary dominance.” Independent central banks – institutions like the Bank of England that control interest rates and money supply – operated with clear mandates focused on price stability (low inflation).

Crucially, they were insulated from government borrowing requirements. This meant central banks could impose short-term pain (raising interest rates when needed) for long-term gain (keeping inflation low), even when politically inconvenient. This system helped deliver relatively stable growth, low inflation, and infrequent recessions.

But benign conditions can breed complacency. A succession of economic shocks – the 2008 financial crisis, the pandemic, and the energy crisis – forced governments to step in, supporting struggling businesses and households. That support came at a cost: mounting government debt.

The era we’re entering: Fiscal dominance

As debt increases, we face a potential shift toward “fiscal dominance” – where government debt becomes so large it starts influencing central bank decisions.

With massive debt burdens, governments might blur the boundaries between fiscal policy (government spending and taxation) and monetary policy (interest rate decisions to manage inflation). In practical terms, the government could hold down interest rates to prevent its interest bill from rising, even if that means tolerating higher inflation.

There’s no free lunch. Higher inflation might help governments manage their debt (by eroding its real value), but it achieves this by quietly eroding our savings and purchasing power.

Why this matters to you

Governments facing enormous debt burdens have limited options:

• Cut spending (politically difficult).
• Raise taxes openly (equally unpopular).
• Freeze tax thresholds (unpopular but less noticeable in the short-term).
• Allow inflation to quietly erode what they owe.

Recent governments have used inflation to stealthily increase tax burdens. Now, as the pressure on households grows, more may find themselves accepting higher inflation to help shrink the real value of what they owe.

Where we stand: The UK’s debt challenge

Britain’s public finances face a tough reality. Government debt will peak at 96% of GDP by 2028/29 – meaning the government owes nearly as much as the entire UK economy produces annually.

We’re also still borrowing billions more each year than we collect in taxes, running a deficit that was 5.2% of GDP in 2024/25. The UK has fiscal rules to ensure this returns to balance, but governments have changed them ten times since 1997 when economic shocks have made following the rules economically and politically painful.

This year threatens another economic shock, war in the Middle East. If it causes a prolonged increase in fuel costs, the government will likely act to ease the impact on the most vulnerable at the public expense. So, is there any prospect of reducing debt in this environment?

How governments can escape debt: Lessons from Japan

Japan’s recent experience provides a revealing case study of how inflation can be an effective “release valve” for an economy that was the posterchild for unsustainable public debt.

The problem

Japan’s public debt exceeded 200% of GDP with near-zero inflation (0.1% average, 2000-2021).² And without rising wages or tax income, the debt burden stayed heavy.

The solution: Inflation returns

Since April 2022, inflation above 2% has helped because:

Higher prices and wages = more income and sales tax revenue, with low interest rates making debt easier to service.

Right now, Japan’s in a sweet spot: inflation brings tax revenue while interest rates lag behind, keeping borrowing costs manageable.

The risk

The situation is fragile. If interest rates rise too much, their debt ratio will start rising again as debt is refinanced at higher rates.

The lesson

Inflation can help solve debt problems – but only if the central bank is comfortable with negative real interest rates (where interest rates stay below the inflation rate). It’s a balancing act that can easily tip the wrong way.

What does this all mean for your money?

Inflation may help stabilise the state’s balance sheet, but it has a corrosive effect on your wealth and the purchasing power of cash.

The UK government insists it won’t pursue “financial repression” – deliberately holding interest rates below inflation to inflate away debt. Our independent Bank of England and fiscal framework are supposed to prevent that. But as we’ve seen, fiscal rules are fragile, and central bank independence is a choice that could theoretically be reversed (as President Trump’s recent challenges to Fed independence remind us).

Even without overt policy changes, the government has found subtler ways to use inflation to ease its fiscal pressures.

The stealth tax you’re already paying

Rather than raising tax rates directly – which would be politically unpopular – the government has frozen tax thresholds while wages rise. This “fiscal drag” quietly pushes millions of people into higher tax brackets without any change to tax rates themselves.

Example: Your salary rises from £48,000 to £52,000 with inflation. Your purchasing power hasn’t changed. However, because the higher-rate tax threshold has been frozen at £50,270 since 2021, you’ve now crossed into the 40% tax bracket. You’re no better off in real terms, but you’re paying substantially more tax.

The numbers are striking:

• Personal allowances frozen until at least 2031.
• An additional 10.1 million people will pay 40% tax by 2030.
• The Office for Budget Responsibility estimates this “stealth tax” will cost households over £55 billion annually by 2030.
• For high-income earners, fiscal drag is particularly punitive. For every £2 earned over £100,000, the personal allowance is reduced by £1, creating an effective marginal tax rate of 60% in the ‘trap’ between £100,000 and £125,140.

Your wealth protection strategy

In this environment, your goal shifts from simply growing wealth to maximising what you keep after tax and inflation. Think of it as building financial defences; there are several accessible options.

1. Use your annual allowances

The most basic defence against fiscal drag is fully utilising your tax-efficient wrappers. Think of ISAs (Individual Savings Accounts) and SIPPs (Self-Invested Personal Pensions) as protective shields around your investments.

• ISAs let you shelter £20,000 annually from tax. Investments grow tax-free with no tax on income or gains. For someone paying the 39.35% additional-rate dividend tax and the 24% higher-rate tax on capital gains, that protection is substantial.
• SIPPs offer even more powerful immediate benefits through tax relief. If you’re an additional-rate taxpayer, every £10,000 pension contribution effectively costs you only £5,500 after tax relief. Over decades, the difference between taxed and tax-free growth compounds dramatically.

2. Low-coupon gilts – an almost tax-free opportunity

An unusual opportunity currently exists in the UK government bond (gilt) market.

Government bonds are IOUs issued by the UK Treasury. You lend money to the government, which repays at face value (£100) on a set “redemption date,” plus regular interest (the “coupon”).

During 2020-2021, when interest rates were near zero, the government issued bonds with tiny coupons – sometimes just 0.125%. When interest rates rose sharply in 2022-2023, these bonds fell in value. A bond that will pay £100 in a year might now trade at £96.

Here’s why that matters: gilts are exempt from capital gains tax for UK individuals. That £4 gain when the bond matures at £100 is completely tax-free. For higher-rate taxpayers who’ve exhausted their ISA and pension allowances, this option could deliver “tax-equivalent yields” of 6% or more – returns you’d need to take significant risk to match elsewhere after tax. The same benefits apply to some corporate bonds.

3. Assets that protect against inflation

When inflation is the concern, some assets offer better protection than others.

Inflation-linked bonds (“Linkers”)

These government bonds adjust both their income payments and redemption value in line with inflation. If inflation rises, so do your returns – in theory.

The reality is more complex. Long-dated linkers bought when yields were ultra-low (like in 2021) have proven exceptionally risky. One such bond fell 85% in value despite soaring inflation, because interest rates rose so sharply from such low levels.

Today, many linkers price in high future inflation expectations, potentially limiting their upside. They’re sophisticated instruments requiring careful evaluation of whether the price you’re paying offers good value.

Gold as a store of value

Physical gold stands apart because there’s limited supply and it has no counterparty risk – meaning its value doesn’t depend on any government or institution staying solvent. Historically, it tends to perform well when geopolitical uncertainty rises or confidence in government finances wavers, maintaining or growing its value in inflation-adjusted terms.

The downsides? Gold pays no income, has no obvious valuation metric, can be volatile and if it’s held indirectly through things like gold ETF shares or digital gold products, does carry counterparty risk. However, in a diversified portfolio, investing in gold financial instruments provides resilience in scenarios where most other assets struggle.

Equities: Your long-term inflation fighter

Over the long term, shares in companies offer the most reliable inflation protection. Over the last decade, global equities outpaced inflation by 9% annually, while UK equities delivered a 5% real return. In contrast, cash struggled to keep up, losing about 2% of its purchasing power each year.³

Why do equities work? Because companies can adjust their prices as costs rise. While they might struggle during sudden inflation shocks (when interest rates jump and input costs spike), over the long run they adapt. Your ownership stake in productive businesses grows in value alongside the nominal economy.

How should you balance these elements?

The goal is building a “multi-regime” portfolio that protects you across different economic scenarios:

• For inflation resilience: Inflation-linked bonds and “real” assets like gold and commodities provide ballast when prices rise.
• For growth: Equities, particularly those in strategic sectors supporting AI or energy, offer long-term capital appreciation and inflation-beating potential.
• For flexibility: Shorter-term, high-quality cash assets preserve capital and provide liquidity for future buying opportunities.

This isn’t a “set it and forget it” strategy. Market conditions change, and your allocations should flex accordingly. For example, when government bond yields are under pressure, shifting towards shorter-duration assets or tax-efficient gilts makes sense. When equity valuations become stretched, increasing defensive positions protects against downturns.

The bottom line: Take control of what you can control

The structural forces pushing governments towards using inflation and stealth taxes to manage debt appear unavoidable. For many advanced economies, including the UK, the political barriers to tackling debt through spending cuts or open tax rises are simply too high.

That means the burden of adjustment falls on private wealth holders – on you and me.

The good news? You have tools (and us) at your disposal. By fully utilising tax allowances, making informed choices about bonds and real assets, and maintaining a diversified portfolio balanced for multiple scenarios, you can build robust defences against financial repression.

This era requires more than just picking good investments. It demands integration of tax planning, strategic asset allocation, and an understanding of how government debt dynamics affect private wealth. The investors who navigate this successfully will be those who recognise the challenge early and act decisively.

The sovereign debt super-cycle isn’t going away. The question is: are you positioned to protect your wealth through it?

If you have questions about your positioning or would like to understand more about theses market dynamics, contact your wealth manager.

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¹Public sector net debt (PSND) was equivalent to 93% of GDP at the end of 2024/25, OBR

²LSEG Datastream, 31 March 2026

³LSEG Datastream. Total returns from the global and UK datastream indices deflated by UK Consumer Prices Index and annualised over the 10 years to the end of January 2026.

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Information contained in this document is believed to be reliable and accurate, but without further investigation cannot be warranted as to accuracy or completeness. The information provided should not be mistaken for formal planning advice; it is imperative that you seek relevant advice for your own personal circumstances. RBC do not provide tax or legal advice and we would recommend that you seek appropriate advice in these areas. Rates of tax will be based on individual circumstance and tax rules are subject to change. The value of investments, and any income from them, can fall and you may get back less than you invested. Neither simulated nor actual past performance are reliable indicators of future performance. Information is provided only as an example and is not a recommendation to pursue a particular strategy.