Next week brings another fiscal event. One of two set-piece occasions in the year for the Government to take stock of its tax and spend plans to ensure they best suit the country.
Yet again, however, it seems destined to be dominated by the need to alter course based on changes to an economic forecast.
It is largely expected that higher borrowing costs have more than wiped away the £10 billion fiscal headroom the Chancellor left herself at the Autumn Budget.
Based on this, the government has already announced cuts to welfare, which are hoped to save up to £5 billion by the end of the parliament.
We expect this to be enough. As things stand, upward revisions to GDP in nominal terms mean that previous projections for receipts are likely to be underestimates.
We estimate that the stronger receipts will offset some of the higher expenditure requirements resulting from increased borrowing costs and inflation-linked spending.
The changes themselves may or may not be sensible; that is beyond the scope of this piece.
What is clear, however, is that for the second time in two fiscal events, the government has had to devise and enact measures to balance books in relatively short order, due to the current fiscal rules.
The measures announced at the Budget, most of which are still to come into force, were anything but stealthy. Increases to NIC rates and reductions in the payment threshold serve as a direct transfer from employers to government. This brings the risk of behavioural shifts that could adversely impact receipts in the medium-to-long term.
Surely, if given more time, the Chancellor would have found a better path. Indeed, recent announcements by the government to improve government efficiency, like removing unnecessary bureaucracy and merging specific departments, seem much more considered and more effective policies. The effects of these policies will take longer to feed through and require more work, but are less likely to hurt the economy or those who benefit from public services.
Similarly, while welfare reforms have long been on the table, there has been a lack of consultation on the policy, a lot of which also wasn’t included in the manifesto. It is difficult to argue that more time to deliver these reforms would not be beneficial to outcomes.
Among its many challenges, the government is caught in a difficult situation trying to fund policies that will grow the economy while meeting fiscal rules requiring cost savings. Indeed, it is the rules themselves that require inspection.
Putting so much power on one economic forecast with little flexibility in meeting the targets leads to biannual overadjustments in fiscal policy, requiring rushed decision-making and poor outcomes. Indeed, despite several prominent economists questioning the overarching power that the OBR has on fiscal policy, Labour decided to go one step further and enshrine that power into law, in a Bill that passed last September.
There is also a risk that the ever-increasing fiscal constraints will lead the Chancellor to utilise the Spending Review as a quick fix to alleviate some of the pressure. This would be a mistake. The austerity period taught us that you can’t cut public budgets and leave it to departments to react and become more efficient as a result. Services will likely suffer.
Unfortunately, the fiscal rules won’t change any time soon. The Chancellor has a very small window to tweak them at the start of the parliament, and did so in a sensible manner, but not by removing the short-term fluctuations. Therefore, we will be stuck with them for at least the next five years.
So what can the government do to mitigate the issues the fiscal rules cause? Firstly, leaving more headroom would be smart. While it is tempting in the current context to maximise the resources available to her, the Chancellor should consider sensitivities to the OBR’s forecast and how even small divergences can have large impacts on the outlook.
Secondly, and most importantly, the government should prioritise finding further efficiencies in public spending, and with urgency. With productivity remaining well below pre-pandemic levels, there is a lot of scope for improvement. Returning to these levels alone would bolster the public finances by tens of billions of pounds.
All in all, next week’s Spring Statement is expected to be quiet. The Government should adjust their approach to public finances in order to keep it that way for future fiscal events.
