Sunday, December 07, 2003
Brown is borrowing by the bucketload
Posted by David Smith at 07:09 AM
Category: David Smith's other articles

Not everybody is looking forward to this week’s big set piece from Gordon Brown. Ernst & Young, who as accountants should be drooling over the prospect, say it is “an essentially artificial hook for a news story, put into the calendar just so the chancellor can tell us how well he’s doing”. Spiky, and they won’t be on Brown’s Christmas card list.

Many will no doubt find better things to do on Wednesday than watch the chancellor’s address to the Commons. Neighbours, I think, is on the other channel.

There is, though, quite a lot to look forward to in the pre-budget report. It should herald the biggest change in Britain’s monetary policy since the Bank of England was given independence in May 1997.

The harmonised index of consumer prices (HICP or “Hiccup”) will replace RIPX (the retail-prices index excluding mortgages) as the official inflation target. The signs are the new target will be 2%, rather than the 2.5% for RPIX; the Bank will be required to keep it in a 1% to 3% range; and that the change will take effect immediately.

The main difference between the new and old measures is that Hiccup does not include most housing costs, hence the lower target. The other big difference is that, at 1.4%, it has inflation below target, while RPIX inflation is running at an above- target 2.7%. This leaves the Bank with a presentational challenge as it raises interest rates.

There will also be two important housing-market reviews — one by Professor David Miles on mortgage finance, and the other by Kate Barker on the supply of new housing. These are important but, having previewed them a fortnight ago, I’ll wait for the reports. Corporate tax changes will also be unveiled.

But the big story, much to Brown’s chagrin, will be the extent to which the Treasury’s borrowing projections are, once more, being overshot. The government is borrowing by the bucketload. The chancellor crossed the Rubicon on this a year ago. Until then he had been regarded as prudent to the point of obsessive, guarding the nation’s finances more fiercely than his own. Then, almost overnight as big borrowing numbers came in, he became Mr Irresponsible. Prudence was jilted.

The truth lies somewhere in between. Brown kept a tight grip on spending for Labour’s first two or three years, even resorting to statistical trickery to make his first comprehensive spending review in 1998 look more generous than it was. But he was helped by the economic cycle and one-off events like the 22.5 billion windfall from the auction of 3G mobile-phone licences in 2000.

The global recession/slowdown has hit public finances over the past three years. Tax receipts have been smaller than anticipated because of the weakness of company profits and the City. The City’s woes affect the numbers in several ways: financial-company profits are squeezed, there are fewer big bonus earners paying income tax, and stamp duty and capital-gains tax are hit. Beyond those special factors, though, the chancellor is left with a structural budget deficit, one that will remain even in normal circumstances.

The headline numbers — and they will be in plenty of headlines — speak for themselves. Two-and-a-half years ago, Brown projected borrowing of 10 billion for 2003-4. This was after the government had embarked on its big relaxation of spending and amid evidence of a serious global economic slowdown.

By November last year the Treasury’s projected borrowing for 2003-4 had soared to 24 billion, albeit alongside an expectation that borrowing would subside to 19 billion in 2004-5. Even this was not enough, though, and in last April’s budget the forecasts were up again, to 27 billion and 24 billion respectively.

But the Treasury has never covered itself in glory forecasting borrowing. During the good years it underestimated the surpluses, which some said was a deliberate attempt to deter spending ministers from getting their hands on the cash. But there has been nothing deliberate about the Treasury’s errors in forecasting deficits. It has miscalculated badly.

So far this year borrowing has been running at a 40 billion annual rate. The chancellor won’t admit to anything as big this week but he will have to go above 30 billion. Independent economists say that is where borrowing will stay for years to come. If so, Prudence won’t be coming back for a while.

Big borrowing numbers imply big tax increases. The talk this week will be of the chancellor’s 10 billion black hole and the need to fill it with higher taxes, although not until after the next election.

That, however, is a topsy-turvy way to go about it. The government has got into this situation because it over-committed itself on public spending. To blame “disappointing” tax receipts is to miss the point. The best way to ensure such receipts remain disappointing is to overload the economy with further tax hikes.

The Treasury appears to understand this. Brown is often portrayed as a chancellor desperate to hit the middle classes with further tax hikes. He is also portrayed as desperate to move into 10 Downing Street as soon as Tony Blair has the grace to step aside. The two things are not compatible. Whether a big tax rise comes before or after the election, Brown recognises it would be seen by voters as the price of his failure to manage the public finances properly.

That’s why the focus is on reining back public-spending growth. With the exception of the ringfenced NHS, the message is that departments have had their money and must live within it. The fiscal rules will be met through spending discipline. That, at least, is the hope. The danger is that the spending genie, once out of the bottle, will not easily be put back.

PS Aviva, Britain’s biggest insurer and more familiar as Norwich Union, has become the latest to shift work to India with last week’s announcement it is transferring 2,350 jobs there. What started as a trickle of financial-services jobs is turning into a flood. Researchers at Deloitte suggest that 2m of the 13m financial-services jobs in advanced economies will have transferred to India by 2008. The Department of Trade and Industry announced an investigation into the loss of call-centre jobs on Friday.

All this “offshoring”, as it is known, must surely be bad news. Or is it? However grim it is to those losing jobs, it is actually good for our economy, and part of a process that has gone on for centuries.

Economists at HSBC, a bank that is offshoring some jobs itself, have put together the arguments. They say it enables workers in the country losing jobs to move into higher-value work. It means lower prices for consumers and higher profits (and therefore dividends) for companies. And it encourages the development of new markets.

Research by McKinsey and others, mainly looking at America, suggests that about three-quarters of the economic gains from offshoring go to the country transferring jobs, with the rest to those receiving them.

Is there a caveat here? Yes. Offshoring is beneficial for the transferring country as long as new jobs are created to replace those lost. So far that has happened in Britain, although some would question whether the replacement jobs are of equal value. Research by America’s Bureau of Labor Statistics shows that only 36% of those displaced by offshoring in the 1979-99 period found new jobs at equal or higher wages.

Harry S Truman, the former president, once said: “It’s a recession when your neighbour loses his job; it’s a depression when you lose your own.” I’ll continue to take a very positive attitude to offshoring. Until, of course, they transfer the writing of this column to Calcutta.

From The Sunday Times, December 7 2003