Bill Jamieson: A fistful of spending cards – but few aces

Seldom in modern times has UK fiscal policy been prepared in such tumult. A recently installed new Chancellor, a suddenly announced spending review to come this week, an anxiously awaited budget in the late autumn – and high expectations of a proclaimed “end to austerity” with big spending announcements.
Sajid Javid is seen through the door of 11 Downing Street. Picture: Stefan Rousseau/PASajid Javid is seen through the door of 11 Downing Street. Picture: Stefan Rousseau/PA
Sajid Javid is seen through the door of 11 Downing Street. Picture: Stefan Rousseau/PA

From schools to hospitals, police numbers to social care, there is barely a branch of government that is not slavering in anticipation of a splurge of money after the thin-gruel Philip Hammond years.

But beware. It is more likely that the ghost of Spreadsheet Phil will haunt Sajid Javid’s debut performance. Timing may suggest change and liberation. But context is everything.

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For the new Chancellor’s spending announcement scheduled for Wednesday unfolds against a background of acute political mayhem, a falling pound, an economy on the brink of recession, growing election fever – and a troubling rise in the budget deficit. And such is the turmoil ahead at Westminster this week, the package itself may be a casualty.

Businesses and households may be salivating over the prospect of a positive change in fortune in a spending review widely viewed as the precursor to a general election. After all, it seemed only yesterday that a Conservative Party leadership campaign was studded with grand spending ambitions – and tax cuts. Some estimates put the total cost of the wish list at more than £30 billion, enabling Labour front-benchers to taunt that it was the new Prime Minister, not Jeremy Corbyn, who had discovered “a magic money tree”.

But prepare for disappointment. The new Chancellor may seem to have a fistful of spending cards to play – but few of them are aces.

First, Javid himself has said there will be no blank cheque. He says he intends to stick to the existing borrowing rules. That would mean limiting the deficit to below 2 per cent of GDP and still aiming to eliminate the deficit altogether by 2025.

The Chancellor could opt for some jiggery-pokery and recast the fiscal rules, or avoid reference to them altogether on the grounds that the review is only intended to cover the immediate year ahead.

But he also needs to reassure markets – and particularly the pound, which has already fallen 16 per cent against the dollar since the referendum vote and has renewed its slide in the past two weeks. A flight of confidence is the last thing he wants to risk.

Second, the generous spending pot that the Treasury was thought to have at its disposal is not quite so large as the £30bn touted earlier. One reason is a change in the way that student loans are accounted for: a reclassification was required because (surprise, surprise) only around 30 per cent of the 2017-18 graduates are expected to repay their loans in full. So the government will effectively have to write off these debts and pay the bill itself.

This could reduce the Chancellor’s headroom to below £15bn. Add in potential tax cuts – the talk of raising the threshold for higher rate tax and a £1.5bn fall in fuel duty – and even less will be left over.

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Third is the recent slide in the public finances. Figures released in July for the financial year to date showed a sharp deterioration in the budget deficit. Until recently the Treasury was able to show a continuing fall in borrowing. The budget deficit fell sharply in 2018-19, shrinking to £23.6bn or just 1.2 per cent of GDP, the lowest on both measures since 2001-02.

But the most recent numbers showed that deficit reduction has gone into reverse. There was still a surplus on the month, given the traditional end-July deadline for the payment of Corporation Tax and self-assessment bills. But a £3.5bn surplus of tax revenues over public spending recorded in July 2018 has shrunk to £1.3bn. Add up the deterioration in the public finances across the four months of the current financial year and the year-to-date deficit totals £16bn or 60 per cent higher than a year earlier – way above the full-year forecast of the Office for Budget Responsibility of a 24 per cent increase.

And the explanation? With tax receipts coming in higher than forecast by the OBR, the explanation for higher borrowing would appear to lie with a splurge in public spending. And with extra funds already pledged for the health service, education and the police even before the Chancellor clears his throat, this rise in borrowing looks set to continue.

Finally, there is the need to hold some financial firepower in reserve for no-deal Brexit contingencies and for some measure of economic stimulus in the forthcoming budget. Irrespective of Brexit, the UK will have to contend with a deepening global slowdown in the period ahead. Recession fears have mounted in the US, while German GDP slipped 0.1 per cent quarter-on-quarter in the April-June period. The Bundesbank warned that weakness was expected to continue in the third quarter, leaving the economy on the brink of a technical recession. Industrial production fell 1.8 per cent in July, to be 6.2 per cent lower year-on-year.

Here at home, the latest CBI distributive trades survey pointed to sharply weakened retail sales in August, dealing a blow to hopes that consumer spending might help the economy return to growth in the third quarter. A particularly concerning feature of the survey was the sales balance recorded at the lowest level since December 2008.

Consumers clearly have a key role to play if the economy is to return to growth in the third quarter. But earnings growth may have peaked in the three months to June (when they reached an 11-year high of 3.7 per cent) while employment growth is likely to slow.

Arguably the government’s biggest challenge in the immediate weeks ahead is to sustain business and consumer confidence in the midst of one of the most severe political crises that the UK has faced. An unnerved economy could quickly tip into full-blown recession. Put in this context, for all the new Chancellor’s positivity and fresh-faced approach, his spending review with all the constraints on his room for manoeuvre, may struggle to avoid disappointment.

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