RSS feedsIf imitation is the sincerest form of flattery, the new Chancellor Alistair Darling paid the major opposition parties a huge compliment when he incorporated some of their ideas in his tax proposals in the pre-Budget report. This was his first major set piece since he succeeded Gordon Brown at the Treasury and, because of the earlier election speculation, the PBR was combined with the comprehensive spending review, to the detriment of both. In a much more truncated presentation than was usual with his predecessor, Darling skated over some of the important economic assumptions underlying his tax proposals and spending plans.
Predictably, the next day’s headlines were dominated by the Chancellor’s inheritance tax proposals, his plans to tax non-doms and changes to airline and capital gains taxes, the first three of which owed a lot to Conservative and Liberal Democrat policies. Although all these have economic implications, the public comments focused primarily on the politics of Darling’s speech. The Treasury’s views on the economic outlook for the next two or three years were spared detailed scrutiny. If, however, these were to prove optimistic, the government’s tax and spending plans could be derailed.
It now seems clear that the economy is at something of a crossroads. After 60 consecutive quarters of robust growth, there is a squeeze on private and public sector consumption, the two primary drivers of activity in recent years. Darling acknowledged as much in his speech, and so scaled back the Treasury’s forecast of GDP growth in 2008 from 2.5% to 3.0% to 2.0% to 2.5%. But even this might not be enough. The consensus in a recent survey of independent forecasts was at the bottom end of Darling’s range, and some expect growth to be even slower.
Evidence is now mounting of problems in the personal sector. Activity in the housing market is easing, in terms of price increases and transactions, and the credit crunch is likely to have a negative effect on the number of mortgage ap provals. At the same time, those who took out fixed-rate mortgages several years ago are facing much higher interest charges once the initial deals expire. If above-average price rises in council taxes and utility bills are factored in, the personal sector’s discretionary income is coming under pressure. There has been no corresponding increase in earnings, while the ability or willingness of households to resort to additional borrowing to maintain spending has waned.
The public sector is in no position to fill the gap left by consumer spending, as was apparent from Darling’s speech. After several years of generous rises in spending on public services, the Chancellor signalled more restraint in the coming years. After annual increases averaging 4% in real terms since 1999, departmental spending will grow by a little under 2% a year between 2008 and 2011. This is really making a virtue out of necessity because even with this more prudent approach, government borrowing this year will overshoot the levels projected in the Budget just six months ago.
This is a familiar pattern. In fact, the sixth time in the past seven years in which borrowing estimates have had to be revised upwards. Darling has added a further £16bn to public borrowing plans over the next five years. The UK’s public sector finances which, at the end of the government’s first term in 2001 were the most robust in the EU, now look more fragile than most of the major continental economies.
Although there was enough in the Treasury kitty to give a little extra help to the health service, the Chancellor could not disguise the slowdown elsewhere. Taxpayers may welcome this new attitude (the tax burden is now at its highest level since the mid-1980s), but there are several regions of the UK that are very dependant on the public sector to sustain economic growth and any cutbacks could have serious consequences for local activity.
As ever with these statements, everything seems to work out well in the medium term and Darling, like many of his predecessors, has all the bad news in the first year or so of the forecast period, after which there is a recovery which gets the strategy back on track. But there are many questionable assumptions underpinning his calculations about consumer spending, investment, exports, tax revenues and so on. It is not difficult to envisage him coming back to parliament at Budget time with yet more revisions.
Darling had the unenviable job of getting the government’s income to fit its expenditure without putting a further strain on the taxpayer or pushing borrowing too high, a task made all the harder because he is following a big-spending Chancellor. What he presented to parliament was a series of proposals which raised a further £1.8bn to taxes over four years and £16bn to borrowing over five. On total government receipts this year of around £550bn, it hardly amounts to a hill of beans. Perhaps the political implications are more significant.
