Those hoping for a change of course when the chancellor delivers his Autumn Statement will be disappointed, write IPPR’s Tony Dolphin and Adam Lent.
Those hoping for a change of course when the chancellor delivers his autumn statement will be disappointed, write Tony Dolphin, chief economist at the Institute for Public Policy Research, and IPPR associate fellow Adam Lent
Despite the certainty the Office for Budget Responsibility (OBR) will significantly downgrade its growth forecasts for 2011 and 2012, George Osborne has far too much political capital invested in his Plan A to shift position now.
In a paper (pdf) for IPPR, we argued it was precisely this political constraint that rendered the chancellor’s programme too inflexible.
Any deficit reduction plan needs to balance sensitivity to the hawkish concerns of investors in the government bond market with the requirement of maintaining growth in the wider economy. Navigating a way through these two imperatives is difficult enough in calmer waters; but when the economic ocean is as unpredictable as it is now, it is vital to have the freedom to alter course rapidly.
Unfortunately, the chancellor was so keen to keep bond investors happy he unveiled a deliberately tight budget for a full five years. Now, due to high inflation and the eurozone crisis, the UK economy faces much lower growth than expected.
One result is the chancellor will find it far harder to meet his deficit reduction targets. So this is precisely the time when the Treasury should have enough flexibility in its plans to stop austerity contributing to the slowing of the economy and, ironically, to weaker public finances. Instead, the Treasury is struggling with a plan so rigid any flexibility risks the chancellor’s credibility.
The soubriquet “U-Turn George” not one he would relish.
Today, IPPR publishes 10 ideas to promote growth (pdf), by way of extra advice on what to announce in next week’s autumn statement. Of course, the chancellor argues his plan does include flexibility, a claim that is not entirely untrue. By focusing on the structural part of the deficit, benefits can rise and tax revenues fall during tough times without targets being missed.
In addition, the chancellor has always said he is willing to meet his targets a year later than planned. But given the severity and length of the slowdown, it seems unlikely this limited flexibility will prove enough. In our paper, we argue the chancellor should adopt an approach called ‘deficit reduction averaging’.
Under this plan the structural deficit would be eliminated over six years rather than four; something that may now be forced on the government by recent economic weakness in any case. Importantly, however, the pace of deficit reduction could be slowed when the economy is sluggish and speeded-up when growth is stronger.
We suggest a slowing of the programme should kick in as soon as the growth drops below 1.5%. If the OBR forecast comes close to the Bank of England’s recent 2012 prediction this would trigger just such an attenuation in the pace of deficit reduction.
The chancellor has claimed the sort of limited easing we propose would not have a significant effect on growth. This not only ignores the impact such a shift might have on confidence but, more importantly, ignores the way released funds could be targeted to maximise growth. For example, the Treasury’s own estimates show that increasing infrastructure spending has a powerful direct effect on the economy.
In addition, better infrastructure has the added advantage of improving the productivity of UK businesses thus locking in higher growth over the longer term. A number of arguments once used against such flexibility are now melting away. The sudden boost to growth that sharp deficit reduction was supposed to provide has not materialised.
The feared rebellion by investors in bond markets at the slightest hint of fiscal flexibility seems unlikely when low growth is as big a threat to the public finances as an unrestrained public sector. And the idea public spending will ‘crowd out’ private investment now seems like a bad joke while corporations continue to sit on a huge mountain of unused cash.
So, George Osborne won’t change course next Tuesday, but he should. Even the IMF now believes governments should relax fiscal tightening in the short-term, while maintaining a credible medium-term strategy for eliminating deficits.
This is precisely what our approach delivers.
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• UK not performing too well in the GDP growth championship – Ann Pettifor, November 17th 2011
• Osborne has put Britain in an economic death spiral: Here’s how to break out – William Bain MP, November 14th 2011
• Look Left – UK growth forecast to be worse than eurozone – Shamik Das, November 11th 2011
• New report dubs Osborne’s economic strategy a “myth” – Ed Jacobs, November 9th 2011
• With Plan B, we can have a good economy for a good society – Howard Reed, October 31st 2011