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Last updated: March 20, 2013 11:27 pm
Normalising diminished expectations has become the job description of George Osborne, the chancellor of the exchequer. The government, he insists, has the best strategy to deal with the toxic legacy it inherited and dangerous economic environment it confronts. Given this, he claims, he has done what he can by delivering a “Budget for people who aspire to work hard and get on”. The opposition, he implies, not only brought ruin, but is only concerned with the lazy and complacent.
The politics look shrewd. The net fiscal impact of this Budget over 2013-14 to 2017-18, inclusive, is a mere £140m. Thus, the Budget is neutral, though this is only true if one assumes the measures addressed at tax avoidance are successful and also ignores the off-balance sheet cost of the “help to buy” and “build to rent” programmes, which amount to £5,085m from 2013-14 to 2015-16.
Yet within the tight envelope, the chancellor succeeds in providing favours to three core constituencies. The first is business, via a further 1 percentage point reduction in corporation tax, to 20 per cent, a £2,000 employment allowance in national insurance and sundry small schemes. The second is the Liberal Democrats, who obtain a rise in the income tax allowance to £10,000 next year. The last is “aspiring” working and middle classes cultivated by Margaret Thatcher in the 1980s, to whom he offers lower beer prices and, not least, an effort to help young people into the business the British love best: house speculation.
The economics are vastly more problematic, which, in the long run, may also determine the politics. The chancellor cannot disguise the brutal fact that outcomes for economic activity and public finances are slipping still further from the expectations with which he launched the government’s programme in the emergency Budget of June 2010.
Tax receipts, as the Office for Budget Responsibility states depressingly, are set to be weaker over the next few years than it expected in December. “As a result, public sector net borrowing will be broadly stable at around £120bn last year, this year and next, after adjusting for recent policy decisions with a temporary effect on the headline deficit,” notes the OBR.
On the same basis, net borrowing was 7.8 per cent of gross domestic product in 2012-13, and is now forecast at 7.5 per cent in 2013-14 and 6.5 per cent next year. These figures are 0.2 per cent, 0.6 per cent and 0.7 per cent of GDP worse than in the December forecast.
Far worse, back in June 2010, the forecasts were for 5.5 per cent of GDP in 2012-13, 3.5 per cent this year and 2.1 per cent in 2014-15. Net debt is forecast to peak at 85.6 per cent of GDP in 2016-17. Back in June 2010, it was forecast to peak at 70.3 per cent of GDP this year. Slippage is huge.
The biggest question is whether government policy can accelerate economic growth in the short to medium term. If so, it would be hugely welcome. The OBR forecasts growth of only 0.6 per cent this year, 1.8 per cent in 2014 and 2.3 per cent in 2015. These forecasts for 2013 and 2014 are substantially worse than those last December. Growth is, once again, jam tomorrow but never jam today. Even by 2017, GDP would be a mere 10.8 per cent above 2011 levels. The output gap – a measure of spare capacity – would be 2.3 per cent of GDP, only a little below 3.7 per cent next year. (see charts.)
The chancellor stressed that “our economic plan combines monetary activism with fiscal responsibility and supply side reform”. If one is optimistic, one could argue that a few of the measures could make marginal contributions to the last of these. But the core of the growth strategy for the medium term rests on the fiscal and monetary elements.
A potentially significant change could be in the remit of the Bank of England’s Monetary Policy Committee. The government asks the latter to set out “clearly the trade-offs it has made in deciding how long it will be before inflation returns to target”. Also, “the new remit ... recognises that the Monetary Policy Committee may need to use unconventional monetary policy instruments to support the economy while keeping inflation stable. And it makes clear that the committee may wish to issue explicit forward guidance, including using intermediate thresholds in order to influence expectations on the future path of interest rates”.
This is a plea to Mark Carney, next governor of the Bank, to come to the rescue. Can the Bank oblige? The obvious constraint is the overshoot on inflation, reinforced by the pessimism on potential supply. The more constrained is supply, the less is the room for manoeuvre. Certainly, the buoyancy of employment is consistent with supply pessimism.
Yet the view that nothing can be done is dangerously overdone. The OBR’s pessimism on the growth of potential supply is, as it itself writes, “consistent with the view that the financial system will remain impaired for some time to come and that the persistently negative output gap will itself weigh down on potential GDP”. But neither of these constraints are givens. If the financial system is impaired five years after the worst of the crisis, while output is below potential, something must be done to lift both of these constraints – and urgently.
The case for ensuring the financial system functions properly is surely overwhelming. No less important are measures that generate demand, while expanding supply. Yet the proposed cuts in corporation tax will encourage retention of corporate earnings, not higher investment.
Similarly, the focus on the liability side of the public sector balance sheet ignores the opportunity to expand assets through higher public investment. In the OBR’s forecasts, the latter is projected to rise just 2.6 per cent this year, 5 per cent in 2014 and a mere 1.8 per cent in 2015. The Budget writes of raising capital spending, but by £3bn a year, or 0.2 per cent of GDP from 2015-16. It would be desirable to do vastly more.
The government’s strategy is quite clear. Unfortunately, it is working too slowly largely because the economy is flat. This sad fact has, in turn, created a debate over whether the constraints are mainly on supply or demand. The intellectual answer must be: a mixture of the two. But the policy answer is: address supply and demand simultaneously. This requires a range of reforms aimed at promoting public and private investment, including a more rapid restructuring of the financial sector.
The failure of the Budget is simple: it will not make much difference. That is not good enough. Greater radicalism is needed.
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