Peter Spencer, chief economist to the ITEM Club, comments on today’s Autumn Statement
“The government announced all of the good news from this package before the Autumn Statement because it knew that this would be overshadowed by dismal projections for the economy and government borrowing.
“The news was even worse than expected. The OBR expects the economy to grow by just 0.7% next year, well below other forecasts (with the exception of yesterday’s forecast from the OECD). This seems a realistic assessment given the pressure on household budgets and the uncertainty gripping exports and investment at the moment, but could easily be overtaken by the fallout from the crisis in the Eurozone, particularly if this begins to disintegrate.
“Upward revisions to government borrowing naturally follow growth downgrades but were awesome in their scale, pushing the projection for 2013-14 up from £70 billion at the time of the budget to £100 billion. The cumulative overshoot of £112 billion for the four years 2011-2 to 2014-15 has the effect of pushing the debt to GDP ratio up to 78% over this period. With debt ratios on that scale it becomes imperative to maintain confidence in the government debt market. We have seen what happens when confidence is lost. Interest rates increase and can reach levels that make the debt unsupportable, triggering recourse to default.
“This has made the arithmetic very tight for the Chancellor, much tighter than we expected. The huge increases in government borrowing mean that there is no relief on interest payments, despite the rock bottom level of interest rates. It means that the initiatives on infrastructure, housing and credit easing that were announced before he spoke, together with the give-aways announced today, have to be financed by economies elsewhere.
“However, given the steady deterioration in the UK’s growth prospects, the need for policy intervention has intensified. Although there were no major policy changes, the Chancellor managed to address some key issues in the UK economy with measures that are likely to promote growth. In the main, these measures are encouraging and appropriate. The variety of sweeteners extended to the UK consumer are a step in the right direction. Cancelling this January’s increase in fuel duty and lowering the increase in rail fares by 2 percentage points will go a long way in freeing up purchasing power and ease pressure on households’ squeezed incomes. The government’s plans to increase capital spending will benefit the UK’s potential output and facilitate growth in the long run. Moreover, the various measures announced to support youth employment seem sensible and were definitely much-needed.
“One area however where the Chancellor fell short of expectations was making the housing market more accessible to first-time buyers. The stamp duty tax relief will end in March 2012 as planned and there were no further measures along the lines of guaranteeing bank loans to first-time buyers. We are also sceptical about the government’s concept of ‘credit easing’ – guaranteeing bank loans to small and medium sized businesses (thus lowering their borrowing costs). Although this makes sense in theory, we are not convinced that it will be enough to ease credit conditions in the UK. The current climate is very risk-averse and banks are likely to need more than this to be persuaded to loosen their purse strings. So indeed will businesses.
“The downside is that all of these measures have to be paid for within the budget constraint, so the higher levels of capital spending mean lower levels of current spending. Public sector pay is to be capped at 1% in each of the two years following the current freeze. The OBR now expects government employment to decline by 710,000 by 2015/16 (as opposed to the earlier forecast of 400,000 by 2015 / 16). The second quarter of 2011Q2 saw a 105,000 job losses in the public sector with data for Q3 expected to be as bad if not worse. All of these numbers exceed our expectations. But the Chancellor craftily got all of the bad news out of the way today, at least assuming that the more apocalyptic scenarios for the Eurozone don’t materialise.”