Monday, January 05, 2004
Brown's gamble on growth
Posted by David Smith at 09:06 PM
Category: David Smith' s magazine articles

The start of the year is always a time to take stock, for chancellors as well as managers. Now that Gordon Brown’s set-piece economic events are drifting later into the year, his most recent effort, the pre-budget report (PBR), provides a useful framework for looking forward.

Not so long ago budgets were always in March, while the PBR (or autumn statement that preceded it) tended to be in early November. This year, Brown’s budget was in April, ostensibly delayed by the war with Iraq (but also by the government’s internal squabbles over the euro). The PBR did not appear until December 10, well into the Christmas party season.

So what did it tell us, looking back on 2003 and forward into 2004? It told us that it was by no means a bad year for the UK economy, with growth estimated at 2.1%, in line with the chancellor’s April forecast (of 2% to 2.5% growth).

Armed with this knowledge, Brown felt emboldened enough to stick with his 3% to 3.5% forecast for 2004, with the same rate of expansion projected for 2005.

2003 was not a great year for manufacturing, growing by only a quarter of a percentage point, according to the Treasury’s estimates. Business investment hardly fared better, up only 0.75%. Both are predicted to do rather better in 2004, with growth rates of 2% (for manufacturing) and 3% to 3.5% for business investment, forecast.

Only certain people look at, or for that matter take seriously, official economic forecasts. What everybody looks at, or should do, is the amount the government borrows. This was the great fat cuckoo sitting in Brown’s nest. The chancellor was desperate to tell us how well the economy had done under his management – the longest period of economic growth since 1870, low and stable inflation since the early 1990s – all true and commendable (even if the run started under the Tories).

But when that same chancellor has to tell us he is borrowing 37 billion this year, and expects to borrow 31 billion next year, the record starts to look more than a little tarnished.

Brown’s justifications were, firstly, that his fiscal rules will still be met over the medium-term and, secondly, that every country is borrowing heavily. So, while Britain’s budget deficit is 3.3% of gross domestic product this year, France and Germany are borrowing 4.2%, America 4.9% and Japan 7.4%. Next year, borrowing in all these countries stays comfortably above 3% of GDP, while Britain’s deficit is projected to drop to 2.6%.

Not everybody, however, is borrowing. Canada has a budget deficit of 1% of GDP and falling, while Italy, usually thought of as fiscally flaky, is staying below 3%.

Will it all come right? The interesting thing this year was that borrowing came out well above target – two years ago Brown was forecasting just a 10 billion deficit for 2003-4 – even though growth was on track. The great danger, as independent economists have warned, is that funding big increases in public spending is dependent on wildly optimistic forecasts for growth and tax revenues.

What else did we learn on December 10? New financial vehicles, real estate investment trusts, will be launched to direct funds into private rented housing. The government, responding to the Barker review, will try to lean on local authorities to ease the planning constraints for new housing. It will also try to lean on the mortgage lenders to direct their customers away from short-term discounted deals and towards long-term fixed rate loans.

We also discovered that the Treasury wants to push ahead with its planned pension reform, including the controversial 1.4m lifetime cap on the size of individual funds eligible for tax relief. But just to make sure it has asked the National Audit Office to check its calculations that only 5,000 people will be adversely affected immediately, and 1,000 a year thereafter.

There were some bits and pieces for business, including a widening of the scope of the R & D tax credit, 40% capital allowances for small manufacturers and an apparent “bonfire of controls” with 147 separate bits of red tape to be scrapped. But new red tape was also introduced including, for larger companies, new transfer-pricing rules. Employer training pilots will be extended while North Sea companies can benefit from more generous exploration reliefs.

The key point, though, is that we are already into the electoral game. Brown’s “giveaways” – questionable for a chancellor already borrowing so much – consisted of nearly 900m for childcare and more than 400m to head off big council tax increases come April. That, and heading off any big tax hikes until after the election, was the purpose of the PBR.

Did it add up to a coherent strategy to improve the economy and raise competitiveness? No, but the lesson in these matters is never to expect too much. An election is not too far away and budgets, or PBRs, are as much about politics as economics.

From Industry magazine, January 2004