Sunday, December 13, 2009
The strange case of Dr Jekyll and Mr Darling
Posted by David Smith at 09:00 AM
Category: David Smith's other articles


After careful observation stretching back over the past 30 months I have come to a disturbing conclusion. There are two Alistair Darlings.

There is the Darling who, in setting things up for last week's pre-budget report (PBR), took the trouble to brief many journalists privately on the broad thrust of what he was trying to do. This was the Darling, an engaging enough fellow, who stressed that politicians had to be honest with people, that he wanted the outside world to know that he was serious about getting the budget deficit down and that he would do nothing to undermine the City.

This Darling was, according to him and his officials, determined to set out clearly how public spending would be brought to heel. He was also more interested in the City's long-term health, and rebuilding Treasury revenues from financial services, than bowing to calls from the mob to bash the bankers.

Then we had this other Alistair Darling, the Mr Hyde to his Dr Jekyll, who delivered the pre-budget report on Wednesday. The only public spending he told us about was spending he intended to increase, and he duly did so. As for the bankers, they were landed with a populist 550m windfall tax on their bonuses. How did it happen?

Let me say at the outset that bankers have only themselves to blame for being hated by the public. While the bonus culture probably played only a minor role in the crisis, they should have been brighter in seeing which way the political wind was blowing, and not just in Britain.

A period of lying low, for at least a couple of years, would have been the sensible thing to do. A bit of PR, like paying bonuses into a charity pool, might have helped.

Just because the bankers have been stupid, however, does not mean the chancellor should be stupid back. The windfall tax will cost taxpayers in the short run, and it will cost them even more in the long run.

Ben Broadbent, an economist at Goldman Sachs, is not a disinterested party but his numbers look plausible. He believes without the windfall tax, bonuses in the eligible period (until April) would have been about 2.5 billion, on which the Treasury tax take would have been more than 1 billion. The effect of the tax will be to reduce payments to 1.1 billion, on Treasury estimates, on which it will receive 550m windfall tax plus another 220m in income tax and a few million in National Insurance. The net effect will thus be to reduce Treasury revenues, compared with what they would have been, by 200m to 300m.

Longer term, of course, the effects could be much greater. As Broadbent put it: "If it increases the perceived likelihood of more such "one-off" measures in future, the levy has serious implications for the incentives to locate business in the UK non-financial as well as financial." The price of this bit of political gratification could be high.

People used to talk of Labour's prawn-cocktail offensive to win friends in the City. Nobody told Darling you were not meant to pour prawn cocktails over their heads. This was symptomatic of a pre-budget report that, to me, defied any logic. Business hates the extra increase in National Insurance that it, and its employees, have been promised for 2011. The hated "tax on jobs" is creeping ever higher.

It has got the CBI's dander up, in combination with the latest reform of pension tax relief that it thinks will make most reasonably well-paid executives stay out of their company schemes, with damaging consequences for those schemes.

I think business could have just about been persuaded, however, if the extra tax was for the purpose of getting Britain's 178 billion, 12.6% of GDP, budget deficit down. But it was not, and I am genuinely puzzled. The chancellor raised National Insurance, froze the higher-rate threshold, taxed the bankers, introduced a 1% limit for two years on public pay settlements (which should have been a limit on the pay bill, to encourage the search for productivity and efficiency gains). Yet for what?

The PBR, despite the headlines, represented a net loosening of fiscal policy, as the Treasury admits. The Institute for Fiscal Studies (IFS) points out that extra spending on "frontline" health and education and maintaining police numbers adds up to 15 billion over the two years from 2011, against extra taxes of about 9 billion.

At a time when the priority should have been setting out a clear and decisive plan for getting borrowing down over the medium term, the chancellor made the challenge for him, or more likely his successor, even harder by adding to spending.

I do not agree with everything Vince Cable says but the Liberal Democrats' Treasury spokesman was right to say: "Alistair Darling should have laid out exactly where cuts would be made. Instead, he chose to pretend that everything was fine and that he could carry on with tax and spend."

As it is, nobody is fooled. Thanks to the IFS, we know the Treasury's numbers imply real cuts for departmental spending that is not ringfenced of 6.9% a year in real terms from 2011, or one fifth over three years. That is what the numbers imply, though after last week I have no confidence in the ability of this government to deliver them, even after a general election.

People have rightly drawn the contrast between Darling and Brian Lenihan, Ireland's finance minister, who on the same day announced deficit-cutting measures, overwhelmingly on public spending, of 4 billion (3.6 billion), 2.5% of GDP.

Where Lenihan was bold, Darling was cautious. He did not need to act immediately but the absence of a medium-term plan to deal with Britain's deficit, which is similar to Ireland's, was irresponsible. As the Reform think tank put it, the score last Wednesday was Ireland one, Britain nil.

Perhaps the real Darling got lost somewhere in Downing Street, diverted by a lot of Brown and a load of Balls, as has been suggested. Either way, given that the spring budget if we have one will be even more ostrich-like than last week's effort, the fiscal uncertainty will continue.

The markets and the rating agencies let Britain get away with it because it is bigger than Ireland, which is unfair. It would be unwise to rely on Britain getting away with it indefinitely.

PS: The Bank of England may be independent but it is having its card marked closely by the Treasury. The Bank, which left interest rates unchanged at a 315-year low of 0.5% last week, and signalled that it would persist with the existing 200 billion of quantitative easing until February, is seen as a vital cog in the recovery, to the point where the Treasury is even offering public views on where interest rates may be heading.

So, in the PBR, it said: "Bank rate is at a historically low level of 0.5% and is expected to continue to provide an ongoing and powerful stimulus throughout next year." It added: "Market expectations are for Bank rate to remain at 0.5% until the second half of 2010, then rise moderately, while remaining below 4% by the end of 2012. While still low by historical standards, this implies that there would be greater space for the MPC [the Bank's monetary policy committee] to use interest rates to support demand by 2011-12."

There we are. The Treasury expects Bank rate to remain around its present 0.5% for most of next year and thinks that, if it comes to helping out the economy, it need not rise as high as 4% in 2012. Mervyn King, the Bank governor, has been saying a lot recently about fiscal policy. It looks like the Treasury is getting its own back.

From the Sunday Times, December 13 2009