This was a bold, and indeed a big, budget but its impact on the economy will be minimal. It was designed to make a political, rather than an economic, impact, and in that regard it was brilliantly structured to make life extremely difficult for the Conservatives.
It pivots around two major headline-grabbing measures – the 2% cut in corporation tax and the 2% cut in the basic rate of income tax. But each of these was offset by revenue raising measures which almost exactly financed the cuts – the reduction of various allowances against corporation tax and the abolition of the 10p starting rate of income tax.
As a result, although there will be some companies and some individuals who will lose out and some who will gain, a very large number will be left in pretty much the same position as before.
In contrast to the impression given by the budget speech, the Chancellor has not released extra money to fund increased departmental spending. Indeed, he has confirmed that over the next three years the growth rate of public spending will be only 2% real, down from 5% over the last 5 years. Even Education is only set to get 2.5%, compared to 6% over the last 5 years.
Accordingly, provided the spending numbers are adhered to, in the next few years the economy will have to adjust to a much-reduced expansionary push from the public sector.
Although the overall fiscal package was neutral, projected borrowing was once again revised up, due to lower than expected revenues from the North Sea. The fiscal position remains concerning and any marked shortfall in economic performance would see the borrowing numbers at uncomfortable levels. I believe that a fully prudent fiscal stance would require taxes to be raised, perhaps by as much as £10 billion.
The Chancellor’s economic forecast is broadly unchanged but, on a central view, I feel that it is rather optimistic. Moreover, the downside risks are great, arising from the possible consequences of a further rise in interest rates and/or a slowdown in the US economy.
So the Brown era is ending with the economy in pretty good shape but the public finances much less so. His legacy will be threefold: - the institution of the MPC, the decision not to join the euro, and the huge increases in public spending. His successor should continue to benefit from the first two but may have to pick up the bill for the third.
Economic Adviser to Deloitte
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