Sunday, December 04, 2005
Back to thin gruel for Brown
Posted by David Smith at 11:00 AM
Category: David Smith's other articles

When Gordon Brown presents his pre-budget report tomorrow (Monday December 5), we can expect several things. He will revise down his growth forecast for this year to under 2%, well below the 3% to 3.5% he was predicting in March, while insisting it is a temporary blip.

He will say, as is customary, that he is doing plenty — and will do more — for hard-working families, hard-working businesses and non-working pensioners.

There will be measures aimed at the property industry and increasing housing supply, including real estate investment trusts; confirmation that property can be included in self-invested personal pensions from April; and the launch of a consultation on “planning gain supplement” — taxing landowners’ gains on the rise in the value of their land once planning permission is granted.

Some say this may have exactly the opposite effect to that intended by reducing housing supply.

There will be action aimed at “locking in fiscal stability”. Translating from Treasury-speak, it means at the least further action to clamp down on tax avoidance and the use of loopholes. It could mean more. Oil companies, sitting on fatter profits thanks to the rise in crude prices, are having a nervous weekend.

Behind all this, however, something else important will happen tomorrow. How do people think of Brown? Probably as a chancellor dangerously addicted to tax and spend. Probably also as a politician who is distinguished from his Labour predecessors only for having delayed the day when the chickens of too much government spending and too much taxation come home to roost. Mainly, if this is not mixing too many animal metaphors, as a Labour leopard who never really changed his spots.

Is this fair? Let us see.

When Brown boasts of a record run of economic growth and the highest-ever number of people in work, critics point out this would not have happened without his spending splurge.

Government figures show that public-sector employment has risen by 680,000, or 13.2%, since mid- 1998 after falling by 816,000 over the previous seven years. Private-sector employment has risen by only 5.7%. When the chancellor complains about the deal his colleague Alan Johnson struck with the unions over the public-sector retirement age of 60, he should remember he created many of the beneficiaries.

Even the economy’s apparent immunity from recession owes much to the fact that public spending came on stream just when the global economy was weakening 4-5 years ago, preventing what could have been a severe downturn.

A new pamphlet from the Centre for Policy Studies, Whatever Happened to the Golden Rule?, lays into Brown on spending, pointing out that by 2007 average public spending per household will be more than £10,000 higher than when Labour took office with little to show for it.

“Estimates suggest that public- sector inflation is running at about 5%-6%, which has absorbed much of the extra spending,” it says. “Falling public-sector productivity has also undermined any potential improvements in the public sector.”

A paper from the think-tank Politeia, by economists Dr Ludger Schuknecht of the European Central Bank and Professor Vito Tanzi, formerly of the International Monetary Fund, suggests an optimal level of public spending of 30% to 35% of gross domestic product.

Reforming Public Spending: Great Gain, Little Pain, suggests that above that level, countries get barely any benefit in improved public services. But they do suffer disadvantages as higher taxes, combined with the public sector crowding out private-sector activity, reduce the economy’s ability to grow.

Interestingly, Britain was close to Schuknecht and Tanzi’s 30%-35% as recently as 1999-2000, when spending was 37.2% of GDP. But this year it will be 41.8% and by 2007-8 it will be 42.4%. We appear to be heading in the wrong direction.

Except that, if signals from the Treasury are accurate, Brown has a cunning plan. The illustrative numbers he will include in the pre-budget report will be for “current” public spending (everything except infrastructure and capital equipment) to rise 1.9% a year for the three years from 2008-9, the period covered by the next comprehensive spending review. Those illustrative figures usually turn into hard numbers, the spending envelope.

That represents a tight prospect for spending. It will be below the 2.5% growth rate for the economy the Treasury uses for its fiscal numbers, and further below the 2.75% figure it believes is the economy’s long-run “trend” growth rate.

It will mean, for all government departments, that the fat years are over, to be replaced by some lean years of famine. (Capital spending, by the way, is assumed to be capped at under 2.5% of GDP.) More important, it will return the public sector’s share of the economy to something fairly close to what Brown inherited.

The Brown era, it seems, will divide into three distinct episodes. The hairshirt years, from 1997 to 2000, were when he took Kenneth Clarke’s “eye-wateringly tight” spending plans and came in below them. Spending fell in real terms.

The “splurge” period covers 2001 to 2008, when the brakes came off and huge sums of money were directed to priority areas like health and education, with some rapid, faster-than-GDP growth rates for overall spending.

But it seems there will be a third period: the new hairshirt era, from 2008 to 2011, when the public sector is again put on thin gruel. At the end of it, public spending will be not much different than if it had increased in line with GDP, and some of the accusations against Brown will no longer be valid.

All we are seeing at the moment, of course. is the rise in spending.

If the economy’s weakness is prolonged, efforts to restrict public spending to even slower growth are likely to prove extremely difficult. And who knows? If Brown does move to 10 Downing Street in 2008 he may adopt the traditional role of prime ministers towards their chancellors: leaning on them to spend far more than they think prudent.

PS: In the long run most of us will be old and grey, as John Maynard Keynes nearly said, and Lord (Adair) Turner has provided an imaginative way of ensuring we are not a lot poorer. Do the chancellor and his helpers have a case in dismissing his proposal for linking the basic state pension to earnings as unaffordable?

No. A robust note from his Pensions Commission, Sanity in Numbers, shows the plan would cost only £2.1 billion a year more by 2020 than current arrangements. It only looks expensive if it is assumed the Treasury grabs back all the proceeds of equalising the state pension age at 65 for men and women (there the difference is £7.6 billion), or if pensioners are assumed to be squeezed by raising the pension credit only in line with prices (giving a £14 billion difference). The first is possible but unlikely, the second entirely implausible.

By 2050, Turner’s plan will require government spending on pensions of between 7.5% and 8% of gross domestic product, compared with 6.2% now. But the commission says existing policies would mean spending of 7.6% of GDP.

As for the new automatic opt-in national pensions savings scheme, the commission assumes only 6m people will join it, a fifth of the workforce. The rumblings from the pensions industry suggest many more.

From The Sunday Times, December 4 2005

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