THE TREASURY makes a point of rarely showing its workings, or airing its dirty
linen in public, so we will never know exactly what happened in the days
before Alistair Darling unveiled his pre-budget report.
There is, however, plenty of circumstantial evidence that much was borrowed –
all right, stolen – from the Tories and intended as a preelection offering
to voters, until Gordon Brown pulled the plug.
So, the best officials could do on the chancellor’s decision to double the
inheritance-tax threshold for married couples was say it had been considered
by Brown in the run-up to his last budget in March. Considered maybe, but
rejected.
Likewise, the bombshell change in capital-gains tax (CGT), about which
business is justifiably up in arms, was a sledgehammer to crack the
private-equity nut.
In the summer, Darling pledged no “knee-jerk” action in this area. When Brown
promised moves at the Labour party conference, the Treasury reminded us that
Darling was alive to the “law of unintended consequences” and action would
come only after consultation.
Preserving the CGT taper system, which meant entrepreneurs could sell
businesses and pay only 10%, was important. But not, it seems, as important
as shooting Tory foxes.
Treasury officials rolled their eyes when asked about a tax clampdown on
wealthy “nondoms”, a saga that has run as long as The Mousetrap. But
political needs must, and Darling was forced to deliver the Treasury’s most
political set of announcements for years, albeit one that has unravelled
quickly on examination of the small print. I don’t blame him entirely. He
was only obeying orders.
What was left out said as much as what was in. Officials had been working on
shaking up taxation of cars, hitting big gas emitters hard. Labour’s
internal polling will have revealed that 4x4 and limo drivers could swing
marginal constituencies. So it was shelved.
For me, the interesting question is this: if that was intended to be the
preelection budget, what would the postelection budget have looked like?
What could it still look like? Will we have an earnest Darling touring
television and radio studios and, like a lawyer telling a family their rich
aunt has left all her money to the Battersea Dogs Home, break the bad news?
This, in turn, brings us to the point on which most commentators have taken
issue with Darling. Was his modest downward revision in the growth forecast
for next year to 2%-2.5% (from 2.5%-3%), the Treasury’s considered view, or
the minimum it could get away with without frightening the horses and
sending the public-borrowing numbers ballooning further?
The downward revision is modest and temporary, with growth resuming its
previously predicted path, 2.5%-3%, in 2009. There are changes below the
surface. The Treasury expects real income growth to be weaker than it did in
the March budget, so consumer spending will be more muted. Government
spending is predicted to make less of a contribution to growth.
But despite the recent turmoil in credit markets, it is more upbeat about
global economic growth in 2008, 5%, than it was in March, 4.75%. The
International Monetary Fund, in contrast, is revising down its forecast,
though only to 4.8%.
The Treasury does not expect consumers to retrench in response to the
uncertainty. Seven months ago, it expected saving ratios of 5.5%-5.75% over
the forecast period. Now it is looking for 3.5%-4.25%, close to recent lows.
How plausible is the Treasury’s story? Is it worryingly complacent? It did not
quite support those headlines about grim times ahead. I remember when
2%-2.5% growth was a triumph.
The Treasury remembers what happened in autumn 1998 when it slashed its
forecast for 1999 to 1%-1.5%, from an already modest 2%-2.5%, in response to
the crisis then raging in financial markets. Even then it was roundly
criticised for being too optimistic. But the economy grew by 3%, leaving the
critics, and I was one, with egg on their faces.
The Treasury concedes some downside risks, including tighter credit
conditions. It notes Britain has a larger financial sector than other
economies, which could mean exposure to the problems in financial markets.
It does not list the housing market as a risk, though, merely saying
house-price inflation should continue to ease. The latest survey from
Britain’s chartered surveyors suggests that weak housing activity and
subdued prices will persist.
But officials also see risks on the upside. Britain’s financial-services
industry has proved highly adaptable, and could absorb the shock from the
markets faster than has been assumed.
It notes that households have nearly £7,000 billion of net worth, £4,000
billion in financial assets, and £1,300 billion of debt. There are £1,000
billion of cash and bank deposits. While “a small minority of households”
have excessive debt, the net effect of a change in interest rates at the
macro level will not be to send most families towards the abyss.
It seems to me, then, that the Treasury’s growth forecast is not unreasonable,
and that this was not a case of burying bad news before the election that
never was.
Where there is cause for concern is over the public finances. When critics say
Britain has the biggest cyclically-adjusted budget deficit of any EU member
(preenlargement) they are right. Denmark, Sweden, Finland, Ireland, Spain,
Luxembourg and Belgium have structural surpluses. Britain has a bigger
deficit than Italy or Greece.
We perhaps should not be surprised. Brown set up the public finances to meet
the golden rule of only borrowing to fund investment. Government net
investment will be £30 billion this year, rising to £42 billion by 2012.
That implies bigger deficits – a “normal” situation in which the government
borrows £30 billion, £40 billion or more – with the Treasury adding billions
each time it revisits the numbers, as Darling did to the tune of £16 billion
over five years last week. In normal circumstances we would be talking of
tax rises to close the gap, not slipping the NHS an extra £2 billion in 2010
to make the numbers look better. The Institute for Fiscal Studies said there
was now a 44% chance of government debt exceeding the 40% ceiling in 2010-11.
We may have had a change of chancellor, but some things have not changed. It
is time they did.
PS: The Bank of England and Treasury do not always see eye to eye,
but both appear reasonably relaxed at present. The Bank’s survey of
household lending rates showed that two-year fixed-rate mortgages came down
last month by about a quarter of a point to an average of 6.33%, while
standard variable rate was unchanged at 7.69%. The expected follow-through
from the credit crisis to lending rates is not yet happening.
Mervyn King, in a speech in Belfast, devoted most of his attention to the
Northern Rock affair. He did also touch on the risks to inflation,
identified in the Bank’s August inflation report, including heightened
inflation expectations and rising commodity prices. He also said, just as
Bank rate had not been used to insulate manufacturing from earlier changes
in the world economy, “it will not be set now to insulate the banking system
from the repricing of risk”. The Bank will monitor credit conditions “over
the coming months” but these were not the words of a man itching to cut Bank
rate.
david.smith@sunday-times.co.uk
