14 November 2008
By Tash Shifrin
The government could announce a combined package of tax cuts, benefit measures and capital spending to provide a 'fiscal stimulus' to the economy in the Pre-Budget Report, economists have suggested.
Prime Minister Gordon Brown this week repeatedly signalled that 'unfunded' tax cuts – paid for through increased borrowing – might be on the cards. He called for co-ordinated international fiscal strategies ahead of the G20 summit on November 20 and the PBR on November 24.
Chancellor Alistair Darling has also suggested that capital spending could be brought forward to stimulate the economy and create jobs, citing Keynesian economic theory in support.
The latest figures show that unemployment has risen to 1.82 million, while the Bank of England's inflation report highlighted a grim outlook for the economy, with output set to fall by 2% next year.
Economists have been divided over the relative merits of tax cuts and capital spending to lift the economy, with capital projects having the advantage of providing long-term infrastructure improvements but being harder to put in train quickly than tax measures.
But Robert Chote, director of the Institute for Fiscal Studies, told Public Finance that a combination of tax cuts, increased benefits and tax credits for poorer people, and capital spending 'would seem sensible'.
He estimated that the 'fiscal stimulus' needed to kick-start the economy would be around £15bn – or 1% of national income. 'The government may feel that if they're going to take the hit… they might as well do enough to make it worthwhile,' he said. 'If they do go down the path of a package of that order of magnitude, they'll spread it across a combination [of measures],' he predicted.
Chote suggested that increased benefits or tax credits would be an 'attractive' option because poorer people were more likely to spend the money quickly, pumping it straight into the economy.
The tax break introduced by Darling in May to help those hit by the abolition of the 10p tax rate – a one-off measure costing £2.7bn – was likely to be extended, Chote added.
The Conservatives attacked Brown's 'unfunded' plans, arguing instead for National Insurance credits for employers who took on unemployed people – a £2.6bn measure they said could be funded from savings in the benefits bill.
But Martin Weale, director of the National Institute for Economic and Social Research, said: 'We should be looking at an increase in government borrowing, otherwise the impact [on the economy] will not be that great.'
Speaking as he released the inflation report, Bank of England governor Mervyn King gave a nod to Brown's proposals, saying: 'In these extraordinary circumstances, it would be perfectly reasonable to see some use of fiscal stimulus, provided two conditions are met.
'One is that it will be temporary, purely temporary, and secondly it will be clear that there was a medium-term plan to bring tax spending back into sustainable balance.'
In his Mais lecture last month, Darling pledged an eventual return to sustainable public finances but failed to say what would replace the fiscal rules.
Weale said: 'He needs some sort of fiscal framework.' The rules had been 'fine – it's adhering to them that matters', he suggested, adding: 'Once the depression is over, we will have to have higher tax and a surplus on the current budget – that's what it means.'
PFnov2008
