Sluggish growth makes further cuts to spending more essential than ever (City AM)

CPS Head of Economic Research Ryan Bourne writes in City AM on the necessity for further spending cuts.

To view the full article, visit the City AM website.

“SLOWER than expected growth will result in George Osborne missing his fiscal targets. In March, the Office for Budget Responsibility forecast 0.8 per cent growth in 2012, 2 per cent in 2013, 2.7 per cent in 2014 and 3 per cent in 2015. Now, the average of independent forecasters suggests 0.1, 1.2, 1.8 and 2.2 respectively. As a result, tax revenues have disappointed. The first seven months of this year saw receipts grow by 0.4 per cent on the same period last year, compared to a 3.7 per cent full-year forecast. The current deficit is therefore rising again, despite the government delivering on the spending totals it promised.

As he makes his Autumn Statement tomorrow, the chancellor is therefore once again faced with the lose-lose decision of more cuts or more debt. And the answer to this is dependent on whether slow growth is seen as inevitable, without policy changes or good fortune.

In the short term, it wouldn’t be the end of the world if Osborne abandoned his precise fiscal framework. Adverse reaction in the bond markets is unlikely, as most will have factored in that the rules will not be met. The political rationale of the debt rule in the sunny-outlook days of 2010 was obvious. But, in truth, both this and the fiscal mandate have little economic rationale. Getting debt-to-GDP back on the downward path sustainably is what matters – not just its movement between two specific years, as the second rule implies.

The mandate – for the current structural deficit to be eliminated within five years – is analogous to the government taking a penalty without really knowing where the goalposts are, and then moving the ball after each miss. It would therefore be short-termist, and bad policy, to pluck some new fiddly cuts or tax reforms to meet the existing rules (and worse to conceal failure with accounting tricks).

But it is essential that rule abandonment is not seen as reversing austerity. The UK is walking a fine line, with its primary deficit still larger than either Greece or Spain. Abandoning the current framework should be accompanied by the chancellor quickly setting out how the next spending review will take longer-term measures to ease the debt burden. With education, health, debt interest and welfare now accounting for 72 per cent of total spending, and a demographic time-bomb approaching, continued sluggish growth means big decisions are due on the essential functions of government. Government spending will have to be lower still (with an aim of 38 per cent of GDP – the average tax-to-GDP ratio since 2000/01). The next review must also be willing to re-examine some big ticket items, like eligibility for working and retirement age government benefits, and the NHS budget. This will no doubt be politically difficult, but the extent to which original assumptions were wrong means it is inevitable, sooner or later.”

To view the full article, visit the City AM website.

Date Added: Tuesday 4th December 2012