This is going to hurt_2

23 Feb 12
As the UK feels the pain of the harshest austerity package since the war, don’t expect any letup in George Osborne’s March Budget. Better get used to the new normal, says Tony Travers
By Tony Travers | 1 March 2012

As the UK feels the pain of the harshest austerity package since the war, don’t expect any letup in George Osborne’s March Budget. Better get used to the new normal

Photo: PA

The chancellor’s Budget is almost upon us. George Osborne’s speech on March 21 will surely bring bad news – certainly compared with what he said in 2011. Growth is down, unemployment is above the projected level and the eurozone’s ongoing near-death experience remains a threat to Britain. There is even the prospect that the country’s triple-A credit rating could be downgraded. The only glimmers of hope are offered by optimism about expansion in the services sector and a faint sense that the economy cannot stay in the ­doldrums forever.

Britain could face years of low growth, with the ­certainty of public expenditure cuts until, at the very earliest, 2017/18. There is a serious possibility that government spending will continue to fall or be held flat in real terms till the early 2020s. We can expect at least a decade of public sector austerity – the longest such period since 1945. For most people working in central or local government, there is little likelihood of seeing significant real-terms growth in provision before, say, 2022.

The Conservatives’ opinion poll ratings have held up extraordinarily well as they have led a coalition government that has both cut spending and attempted to reform public ­services. British voters seem to like a little economic masochism: they certainly accept it with remarkable insouciance. The Trades Union Congress has been unable to cobble together more than token opposition to changes to public sector pensions.

Meanwhile, the Labour Party has been forced by perceptions that it was ‘in denial’ about the deficit to come up with a new stance (not one that is widely ­understood, it must be said) in relation to coalition cuts.

The deficit is slowly being reduced, although not as fast as Labour projected it might when they left office. One thing is certain, however, and that is that Osborne is not for turning. He has stuck doggedly to ‘Plan A’, through almost two years of assault from the Opposition, economists and the unions. Not having a ‘Plan B’ is evidently part of the overall strategy: any sign that the coalition might abandon its economic policies is seen as the slippery slope to compromise and (in the government’s terms) failure.

If the European economic outlook worsens and ­contraction deepens, it is almost inevitable that further public expenditure cuts will be required. Britain might well be facing a double-dip recession. The Liberal Democrats have been pushing for tax cuts for lower-earners in an attempt to boost growth. As well they might:

unemployment in the North is now over 11%, which is dreadful by any standards. Among the young, the lack of employment is far worse. In regions that are heavily dependent on public sector jobs, the long-haul austerity programme means that unless the relatively small private sector can be ­kindled into fast expansion, further rises in unemployment are inevitable.

The problem is, ­several interrelated bad things are happening at once. ­Private sector growth is constrained at a time of public sector contraction.  Outside the Southeast, house prices are falling. Private sector debt is being repaid rapidly. Consumer spending is, at best, flat. Exporters face bad market conditions in Europe and America. It is small wonder that public and political aggravation has increased to the point that bankers’ bonuses have become a lightening-conductor for a sense of injustice that stems from a feeling that the people who caused the crisis are unaffected by the catastrophe they created. As a result, ‘ex-Sir’ Fred Goodwin has been stripped of his knighthood over the near collapse of Royal Bank of Scotland. The now state-owned bank’s latest chief executive, Stephen Hester, is probably the first of several executives to be hit by a fire-storm of distaste over performance payments. Even Network Rail bosses were dragged into the controversy because their bonuses were seen as implausible.

The speed of executive pay increases (not just in banks) in recent years has been charted and seen to be ‘excessive’. It is hard to believe that significant bonuses will survive anywhere in the public sector in the years ahead. Similar forces have been unleashed overseas, too – President Sarkozy’s proposed financial transaction tax is another indicator of fed-upness with bankers.

Bankers’ failures, real or imagined, have triggered a wider debate about the future of capitalism. Labour leader Ed Miliband has urged the government to clamp down on ‘predatory’ companies. Deputy Prime Minister Nick Clegg has stated he would like more ‘John Lewis’ type partnerships and co-operative ownership models. Within the policy-making class, there is unease at the path taken by parts of the market economy.

No one in Britain has yet to come up with a plausible alternative to Western capitalism with its defence of property and political freedom. What is sought is a kinder and less unequal version of the system that operated until 2008. A regulated market economy is still the only ­possibility, although the scope and scale of ­regulation is up for grabs.

The Budget will inevitably hint at the longer-term nature of Britain’s economic challenge. Both public and private debt will need to be reduced. This move away from indebtedness will take a number of years, depressing prospects for growth. Even when the public sector deficit has been reduced, the government will still find it hard to sustain real growth in the NHS, schools, the police and other services within the tax burden people are willing to tolerate.

Thus, even when the current, extended, period of constraint comes to an end, it is very unlikely that there will be another splurge of public spending of the kind that occurred between 2000 and 2010. After a decade of reduced spending on most services, the 2020s will see modest real increases – probably in line with growth in gross domestic product. Such a pattern would be radically different from the Blair-Brown decade, when the NHS and schools enjoyed real-terms increases of 6% per annum or more. Thus, at the end of the Osborne-initiated austerity there will be limited capacity to make good the impact of the ­previous decade.

The ‘new normal’ outlined above is very different from the old world of public spending and services that were expected to expand over time, even if there were occasional periods of cuts. It is, of course, wrong to extrapolate from the middle of a boom or of a slump and assume that current conditions will prevail for all time. But there can be no doubt the financial crash and subsequent impacts on the economies of the West have produced a once-in-a-century shock that will take ­decades to get over.

Indeed, if the above analysis is anything like correct, attitudes and expectations about public services will have to be radically changed. For example, in the NHS, access to new pharmaceuticals and treatments will be restricted and it is hard to see cosmetic and other ‘lifestyle’ procedures continuing. Public health interventions will be the only significant way to achieve big changes in outcomes. The private sector in health care will surely expand.

For the police and local government, the scale of spending cuts will be much greater than within the health service or schools. Councils have already been singled out for the largest spending reductions and, because they have handled them without political catastrophe, can  expect to be required to cut much further. On the basis of existing deficit plans and economic growth, real-terms cuts of a further 15% or more should be expected on top of those already announced up to 2014/15.

It is hard to imagine what the public sector will look like after up to a decade of spending reductions, followed by several more years of increases, at best, in line with GDP growth. Certainly, there will be many mergers of service units. There will be fewer hospitals, police and fire stations. There will almost certainly be a major reorganisation of local government, leaving us with a smaller number of councils. Over time, people will come to expect less of government and will depend more on themselves. Many Conservatives (and some LibDems) will welcome this shift away from the state.

The current crop of reforms to the health service, schools, the benefit system and social housing are being undertaken for reasons generally expressed in terms of improving performance and/or providing better incentives. However, the government is probably hoping that the fragmentation of the NHS and the changes to social security will make it possible to reduce spending. Whether or not it does, only time will tell.

If this all sounds alarmist, the Institute for Fiscal Studies has recently calculated that if Labour had followed the economic path they have suggested, the UK’s deficit would be some £200bn higher in 2016/17 than under the coalition’s policies – equivalent to additional debt of almost 15% of GDP. While shadow chancellor Ed Balls would argue that with higher public spending, growth would have been stronger, there is no doubt Labour faces real difficulties in framing an ­economic policy for the next general election.

There has already been anguish on the Left at Balls’s suggestion that the next Labour government would, to some extent, accept the coalition’s cuts. His ‘Plan B’ appears to tolerate much of what is in Osborne’s Plan A. In reality, an Opposition has little choice when it wins an election other than to live with the legacy inherited from its predecessors. But if Labour goes into the next election promising big increases in spending programmes, they will appear to be arguing to increase the deficit and thus to be ‘in denial’.

Polling suggests many people still blame the last government for the current economic mess. Anyone listening to the tone of Labour frontbench commentary on the government’s spending programme would, at present at least, conclude that a vote for Labour meant voting for higher expenditure on the NHS, ­education, the police and benefits.

Even the pessimistic tone of this article so far assumes there will be no dramatic failure within the eurozone in the next year or two. That is, the analysis above is based on a future where the UK economy sees another two or three years where growth is 0% to 1% before returning to 2.5% to 3% – and where there is no subsequent deep recession.

We are only in the first year of public sector ­austerity. It does not feel good. Problems such as reduced entitlement to care and longer hospital waiting lists have started to emerge. Yet we are only in the lowest foothills of a large mountain range. For the present, the government continues to be empowered by the majority of the electorate to carry on with the most radical programme of spending constraint in modern times. The British have not required external intervention from the International Monetary Fund or the European Union to deliver this dose of austerity. The chancellor has been lucky so far: external events may have damaged the British economy but they have also made Plan A look largely unavoidable.

The March Budget will confirm whether Osborne has any ­proposals to change tack. It’s unlikely.

Tony Travers is the director of the Greater London Group at the London School of Economics. This article is published in the March edition of Public Finance magazine

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