Unlike George Osborne’s June 2010 Budget and the October 2010 Spending
Review, the 2011 Budget was not a big fiscal event. The net impact on the
public finances of all announcements was minimal. The effective tightening
over the next four years remains formidable.
But the fiscal forecasts have changed, and for the worse. Given the reductions in expected economic growth this year and next, that is not surprising. The Office for Budget Responsibility was expecting total receipts to exceed non-investment spending by 0.3% of national income in 2015-16. It now expects a deficit of 0.2% of national income.
What has not changed, or hardly changed, on the official forecasts is the
cyclically adjusted deficit – that is borrowing that is thought to be impervious to economic recovery. The OBR is still forecasting a cyclically adjusted current surplus of 0.4% of national income by 2014-15. The reason is that their estimates of potential output and potential growth have not changed.
As the OBR itself acknowledges the biggest threat to the public finances is 'the possibility that we have over-estimated the amount of spare capacity in the economy, now or in the future.' In other words the forecasts are now even more dependent on a bounce back in the rate of economic growth from 2013.
The OBR cut its growth forecasts for 2011 and 2012, maintained it for 2013 and raised them for 2014 and 2015. An overestimate of potential output of
just 1.5 per cent would, on the OBR’s estimates, be sufficient to breach the
government’s fiscal mandate.
Given these forecasts it is clear why a chancellor, sticking to his plans did not feel able to engage in a net giveaway. Going forward he is going to be uncomfortably dependent on the judgments that the independent OBR makes over the (unobservable) potential output of the economy.
Paul Johnson is director of the Institute for Fiscal Studies
