Britain’s budget conundrum

By Mike Peacock
December 5, 2012

Budget statements from Britain and Ireland take top billing today with UK finance minister George Osborne cutting an increasingly lonely figure in policymaking circles as an advocate of cutting your way back to growth. While the economic policy room for manoeuvre is limited this is a huge political moment. With elections due in 2015, a feeling of recovery must be entrenched in the public’s mind well beforehand if the Conservatives are to entertain hopes of governing alone next time. So measures now and in the 2013 budget in the spring are the best opportunity to change the game.

Osborne has already said he is sticking to his austerity plan – and having made it the government’s central policy plank he has little choice although the opposition Labour party have staked out the opposite ground and hopes to capitalise. Even so, Osborne is likely to have to admit that he will miss his debt-cutting targets so that the pain will have to last for longer, well into the latter part of this decade.

As the euro zone has shown, without growth cutting debt is nigh on impossible. Osborne came into government in 2010 saying the austerity drive would be complete by the time of the 2015 election. He is expected to say today that it will stretch to 2018. Labour’s significant opinion poll lead is widely seen as “soft” but it might not be for long.

Further spending cuts are inevitable – with the welfare bill under close scrutiny — but Osborne surely has to come up with something that looks like a parallel growth strategy. A pre-announcement of 5 billion pounds for schools, science and transport projects nods in that direction but that will be paid for by equivalent cuts in government departmental spending – so there will be no net stimulus.

Under a recent sleight of hand, the Treasury has grabbed 35 billion pounds from the Bank of England’s profits from its bond-buying, money-printing programme. But independent scrutineers say this shouldn’t be used to knock a load of public debt off the balance sheet since it will have to be handed back at some point in the future. Doubtless it will be used in that way!

For the markets, the debt management agency’s statement on likely gilt issuance next year will be a key. A poll of market makers earlier this week showed the annual total may drop by around six billion pounds to 158 billion. But there remains a very big question mark over when the bond market might reassess Britain’s record low borrowing costs, particularly if a ratings downgrade is looming.

For the Irish, striving to get back to financing themselves fully on the market and exiting their bailout, austerity also remains the order of the day. The first budget votes take place this evening and with a massive majority, there is little chance of the government failing to push the harshest cuts through it may face some opposition from within its ranks. The public have accepted four years of cuts with resigned fatalism. If there are signs of that worm turning that could unnerve investors.

The government has already said it expects to miss its revenue goal for 2012 but will stick to planned savings of 3.5 billion euros for 2013 which includes a politically incendiary property tax and further cuts to health and welfare spending. But if the government guides its country out of an EU/IMF bailout programme, and particularly if it secures a deal to take the debts incurred to keep its banks going off its balance sheet, then a lot will be forgiven.

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