Bill Jamieson: Instant fix no way to mend economy
OSBORNE, be radical! Our triple-A credit rating has been lost and a triple-dip recession still threatens. Deficit reduction targets have been missed. Debt continues to soar. And the economy is in dire need of revival.
Little wonder pressure is ramping up on Chancellor George Osborne from all sides to be bold in his Budget on Wednesday. From the big battalions of business to the opposition benches – and even within the coalition Cabinet – the calls for big, game-changing measures have grown in volume and intensity.
Even if Prime Minister David Cameron had not already ruled out a resort to a spending or borrowing splurge, historical experience of “game-changing” budgets counsels caution. Previous attempts by UK chancellors to break out of stagnation or avert recession by “bold radical measures” have either fallen far short of expectation or paved the way for a worse budgetary crisis in later years.
The problem is not that “radical budgets don’t work”, it is that they require a long- term perspective and consistent action. To effect a lasting change in economic performance, a sustained sequence of measures is required by way of follow-through. Time and patience are then needed for these to work.
Unfortunately, the political cycle demands the instant solution approach and measures to achieve short-term, voter-friendly results. On top of this is the political pressure to avoid vote-losing policies such as rises in taxation and reductions in public expenditure. These are difficult to sustain for any period of time. All this does not strip George Osborne of an ambitious Budget on Wednesday. But any advice for him to go for an instant hit would not serve him or the country well.
One of the most outstanding examples of a budget first cheered for its stimulus then rued for its consequence was that of Conservative chancellor Anthony Barber in 1972. This dramatic “dash for growth” comprised £1 billion of income tax cuts and big tax concessions for industry which, he predicted, would add 10 per cent to the UK’s growth in two years. It was followed soon after by a ballooning trade and budget deficit, the trebling of oil prices, the three-day week, widespread industrial action and rampant inflation. A deflationary budget was required 15 months later together with an attempt to enforce an incomes policy. This led to a confrontation with the miners and the defeat of the Heath government in 1974. Inflation hit 25 per cent and the stock market collapsed.
The Denis Healey budgets of October 1974 and April 1975 could be said to be a direct consequence of the forces unleashed by the Barber Boom. VAT on petrol was increased to 25 per cent, and a new tax on North Sea oil profits was also introduced. Food subsidies were reduced and public spending cut by £900 million. A year later Britain was forced to seek an emergency loan from the IMF.
The Geoffrey Howe budgets of 1980 and 1981, to bring inflation under control, were deeply unpopular.
No less dramatic in its immediate consequence than the Barber “dash for growth” was the “Giveaway Budget” of Nigel Lawson in 1988.
Fearing that the economy was slowing, and anxious to prove his low-tax credentials, he took the standard rate of income tax down to 25p, with the top rate cut to 40p. Conservatives, fired up by a prediction of a huge budget surplus, cheered to the echo.
But the Treasury’s forecasting proved awry. Growth, far from slowing, was accelerating and house prices took off. Before long, interest rates had to be doubled, the trade deficit mushroomed and inflation rose sharply. The consequence was a severe recession (1990-91) and a soaring budget deficit. His successor, Norman Lamont, was forced to leave the Exchange Rate Mechanism. This debacle destroyed the credibility of Conservative economic policy and laid the foundations for the Blair triumph of 1997.
The long chancellorship of Gordon Brown saw ten budgets dominated by booming rhetorical assurances of prudence and “golden rules”. Each brought an exhaustive list of adjustments to tax rates, bands, grants, exemptions, extensions and allowances. Listening to them was an experience akin to being caught in a blizzard of fiscal pins and needles. Whatever “prudence” was achieved while public spending was swept inexorably upwards was buried in a household and business lending boom, a runaway housing market and the onset of the global financial crisis.
Such a bleak litany would surely cause a chancellor to do the minimum possible, eschew bold stimulus with its track record of tears, accept that sustainable growth is a function of productivity not artificial stimulus and concentrate instead on bringing public spending and borrowing under control. The deficit reduction plan has already become, according to a pre-Budget Centre for Policy Studies paper, “a protection of government spending plan”. For calendar 2012, the deficit hit £103bn, £12bn higher than in 2011.
However, there are more cards in the Chancellor’s hand on Wednesday. One immediate priority is to broaden and improve the Funding for Lending Scheme to ensure more credit is available for small companies. He could also accelerate and enlarge plans for the planned business bank and encourage equity investment in venture capital.
He could bite the bullet to fund more infrastructure and capital spending projects by cutting welfare spending, look further at schemes to attract private sector investment in infrastructure projects, and boost the housebuilding sector. And he could give the Bank of England more wriggle room on keeping inflation low without abandoning the 2 per cent inflation target. He could give the Bank more time to meet the target, or broaden the bandwidth of tolerable outcomes to between 1 and 3 per cent.
However, borrowing significantly more would be a mistake when the deficit is still over 8 per cent of GDP. And while some departments are facing deep cuts, the overall level of government spending is hardly falling over the course of the parliament: spending in 2014-15 will be just 3 per cent smaller in real terms than spending in 2009-10 (after a 62 per cent rise between 1997 and 2010).
He should concentrate on the core problem of the public finances and longer-term measures to help productivity. An “instant fix” will not solve these long-term problems.