This morning has seen something of a think tank old reliable in play. The Institute for Fiscal Studies has put out a press release on the issue of fiscal rules in the UK so let us take a look. The emphasis is theirs.
On current policy borrowing next year could be £63 billion, £23 billion more than the most recent official forecast and £19 billion more than our estimate of borrowing this year. With borrowing not forecast to fall before 2022–23 it is not clear that the manifesto pledge to target current budget balance three years out would be met even under current policy.
The drama fades with the use of could which reminds me of this from Scritti Politti.
Nothing, oh nothing
Because baby, baooo
I’m a would be
W. O. O. D
I’m a would be would be
B. E. E. Z
Actually if you look at the numbers the situation has improved by £4 billion as one of my themes is in play.
If the pattern observed in the first ten months of the financial year continues for the next two, government borrowing will be £44 billion this year. This would be £3.5 billion lower than implied by the OBR’s restated March 2019 forecast.
Yes the first rule of OBR club is that the OBR is always wrong. In fact the accuracy of its forecasts is the exact opposite of the seriousness with which its missives are received by the chattering and think tank classes. The problem here is partly one of spurious accuracy as the numbers are far more doubtful than it implies. Also a collective one that it gives the impression that it knows things that it would be more honest to say are unknown and indeed unknowable. I did warn at its inception that it would turn out to be like the Congressional Budget Office which in theory is a great idea, but in practice I simply note that it has changed its forecasts recently by one trillion dollars due to lower US Bind yields and hence debt costs. Or the size of President Trump’s fiscal boost.
Indeed the IFS press release shows a clear case of theory crumbling in practice. So let us start with the theory.
Fiscal targets can help guide and constrain policy and ensure sustainability.
And now the practice.
There have now been 16 fiscal targets announced over the last decade.
Actually it gets worse.
If the target to balance the current budget were abandoned in this Budget it would be the shortest lived of them all. Abandoning it now would surely undermine any credibility attached to fiscal targets set by this government.
Now the second sentence just looks silly after the one in bold above. Actually it has its problems even without that as there have been two major changes for the government. Firstly that Chancellor who set the rules has departed and secondly we have a government with a solid parliamentary majority as opposed to being a minority one.
Whilst I am looking at the problems here let me slay another beast.#
The Chancellor has a fiscal target to ensure that current spending is no higher than tax receipts, and so borrowing is for investment only.
Anyone with even a cursory knowledge of the public finances will know that “current spending” is a vague, vacuous beast hard to specify. Indeed both Goodhart’s Law and the Lucas Critique imply that under such a rule investment may not be what we think it is.Some bright spark will be dispatched to make sure that favourite schemes qualify.
The IFS have picked out the nearest date to the EU Leave vote they can without being too indiscreet and calculated this.
Then, the Government was forecasting an overall budget surplus of £10 billion in 2019–20, whereas we are now on course for borrowing to run at around £44 billion: an increase of almost £55 billion.
Along the way they are kind enough to demonstrate again my first rule of OBR Club.
back in March 2016, the OBR was assuming that growth would by now have returned to the robust real growth rates of about 2% annually that were considered normal before the crisis.
There are all sorts of begged questions here. For example did the EU Leave vote reduce growth? Probably via the higher inflation that the Bank of England encouraged. But it is also true that we have seen growth slow downs elsewhere and more recently we have seen a fiscal boost.
Although I note the IFS is unable to avoid a point I have been making which is that another indicator tax revenues suggest the economy has been doing better than the GDP numbers imply.
Instead, revenues have held up remarkably well in the face of low growth since the 2016 referendum.
Indeed in one of its never-ending investigations into its own mistakes the OBR has been on the case too.
They highlight that household spending has proved more robust than expected, boosting VAT revenues, and capital allowances have been used less, increasing corporation tax revenues.
Although care is needed as whilst bad is bad so can good be.
While this has actually worked to boost tax revenues in the short run, it will disguise a negative long-run effect as depressed investment now gradually feeds into lower growth and therefore reduced tax revenues in the future.
In fact in the IFS world good may be even worse than bad. I would simply point out that whilst in theory we want higher investment we learn again and again that such definitions can be unreliable in practice.
A Missing Piece
My jigsaw would start with this piece as opposed to it being tucked away towards the bottom of the monthly report and only 3 words in the press release.
On the other hand, the cost of servicing the UK’s debt has been lightened by enduring record-low interest rates. As a consequence, debt interest spending is on course to be over £4 billion lower than what the OBR forecast in March 2016. And this is despite higher than forecast borrowing in the intervening period.
Let me put this another way. I recall the original OBR forecasts and they would have the Gilt yield they use about 4% higher than what it is now. Typically they look at a 15 year yield which is 0.67% as I type this as opposed to more like 5%. Of course for infrastructure purposes we should be looking much longer but these days that does not make the difference it used to as the 50 year yield is 0.76%. Or if you prefer the yield curve is pretty flat.
Whatever happened to those who were all over social media about the yield curve?
We can out it another way which is the longest-dated UK Gilts yield the same as Bank Rate if you are willing to overlook 0.01% which is an extraordinary development when it is a mere 0.75%.
There are several lessons here and let me do a song from think tanks like the IFS and Resolution Foundation to government about fiscal rules.
Next comes the extraordinary gift that “independent” central banks have given to governments and public finances. Both new borrowing and refinancing have been done on ever more favourable terms. Let me give you an example as in just over a week a UK Gilt with a coupon of 4.75% will mature and even if we borrow for 50 years we will pay 4% less than that for the £32 billion. Actually for the bit the Bank of England will buy even less but let’s not over complicate the issue.
Also there is the issue that we are entering a phase which may be ever more uncertain than usual. What I mean by that is that a pick-up in the UK economy looks set to be overrun at the pass by the impact of the Corona Virus. Of course the latter is extremely uncertain by virtue of being new. The only thing we can be reasonably certain of is this.
While taxes are already high by UK historical standards, they are often increased in the first year of a parliament. ( @IFS )