Pressure grows on chancellor to revise fiscal rules

24 Jul 08
Economists have urged Chancellor Alistair Darling to rewrite the government's flagship fiscal rules as new forecasts suggest that borrowing is set to hit £45bn a year.

25 July 2008

Economists have urged Chancellor Alistair Darling to rewrite the government's flagship fiscal rules as new forecasts suggest that borrowing is set to hit £45bn a year.

Forecasts from the National Institute for Economic and Social Research, published on July 25, warned that although the economy would 'escape recession', annual growth in 2008–10 would be 'the weakest since the early 1990s'.

'The growth slowdown will push the public finances deeper into the red. Annual net borrowing of about £45bn is now forecast for the three fiscal years between April 2008 and March 2011,' the think-tank said in its quarterly National Institute Economic Review.

This would push borrowing above 40% of gross domestic product in 2010/11, breaking the government's self-imposed sustainable investment rule.

The forecasts followed more harsh news for the chancellor from the Office for National Statistics. Figures for June, released on July 18, revealed that borrowing for the financial year so far had reached £24.4bn. This is £9.6bn higher than in the same period last year and already more than half the £43bn forecast for the year in the Budget. At the end of June, borrowing hit 38.3%, perilously close to the 40% ceiling.

The ONS figures prompted Darling to signal that the fiscal rules might be revised. He told the BBC's World at One programme that he had 'made no decision' yet but added: 'As I said 12 months ago, in the very first interview I gave as chancellor, we always keep these things under review.'

The rules would be reviewed at the end of the economic cycle, a Treasury spokesman added.

Darling's comments marked a shift from his repeated claim that the government would stay within the rules. Answering questions last month on his decision to borrow £2.7bn to fund a tax cut, he told the Treasury select committee: 'I don't accept that we're putting the rules at risk.'

But while the Conservatives mocked the apparent change of heart from the government, saying Prime Minister Gordon Brown had 'staked his credibility' on the fiscal rules, economists said adjusting the rules would be the least damaging option.

Gemma Tetlow, senior research economist at the Institute for Fiscal Studies, said: 'It wouldn't be advisable to attempt to cut spending or increase taxes when the economy is looking weak in order to meet the 40% ceiling.'

She added: 'There is nothing magic about 40%. Setting a different ceiling could be justified on economic grounds.'

NIESR director Martin Weale said the government had been relying on 'more and more fixes to obscure' the fact that the fiscal rules were likely to be broken. 'I'm not surprised reality has dawned on them,' he said, adding: 'Fiscal policy needs to change.'

Weale said: 'The framework wasn't being used to manage economic shocks, although it could have been.'

He urged that new rules should not be treated as absolute limits. 'They need to get away from the idea that either they stick to the rule or it's a disaster,' he said.

Breaching a ceiling could be the trigger for a ministerial statement or parliamentary debate, he suggested.

Charles Davis, an economist at the Centre for Economics and Business Research, said: 'Ideally, if the rules had been well defined, they should be able to withstand upturns and downturns…[that] suggests they were poorly designed.'

New rules should be 'simple and applied consistently', he said. A 'reasonable option' would be tying public spending to long-term projected tax receipts, with the government retaining power to allocate spending but with a fiscal policy committee 'appointed perhaps by Parliament' to ensure that total spending did not overshoot tax income.

Davis also accused the government of 'moving the goalposts' on when the fiscal

rules would be changed by 'redefining' the end of the economic cycle in a series of 'ambiguous' statements.

In his Budget, Darling said it remained 'too soon to assess whether the second half of 2006 marks the end of the economic cycle'.

The Treasury now maintains that the publication of the ONS's UK National Accounts Blue Book in the autumn will allow the end of the cycle to be determined.




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