Month: October 2010

We need to start from the current reality. Spending soared in the August figures, up more than 10% on the same month last year. In September there was a record deficit, thanks in part to the very small increase in Income Tax revenue. Slow or no wage growth and the impact of 50% tax rates on the the numbers of high income people here to be taxed and on the timing of their bonuses dampened receipts.

The government was right to make curbing the deficit its first priority. Its clear wish to do so has stablised the market in government  debt, driving down  the cost of government  borrowing  further. To sustain this gain it needs now to show that the deficit is coming under control. The government is right to think there is no choice between curbing the deficit early and leaving it to later. The latter course could bring us quickly  into Greek and Irish crisis territory.

The risks of the strategy are twofold. The first risk is Can the government deliever sufficiently constrained public spending, given the difficult politics of public sector management in the UK?   The second is, can the “Growth Strategy” succeed in so stimualting the private sector recovery that enough tax revenue and additional jobs are generated?

I discussed the politics of the public spending yesterday, and made some suggestions of other ways to achieve the savings needed that might be better politically. The government’s chosen route depends substantially on welfare and benefits reform which will prove difficult, but could be done, as President Clinton showed in the USA. It also depends on holding the line with local governemnt, who will not be too happy about their settlement. The government needs to be tough from today on extra spending in all areas. This is not time to be buying new cars, new computers, or even adding to the stocks of cartridges for printers.

Generating the revenue according to Treasury plans requires  above trend growth in each of the years from 2012 to 2015. The revenue forecasts also assume that higher rates of Income Tax and CGT raise more revenue, whereas past experience shows that above a certain rate taxpayers leave, work less hard  or find ways round the tax.

The curbs on public spending announced are not large enough overall to cause a second dip or recession. The end of increases in the public sector payroll will free some good people to work for an expanding private sector. This year there has been good job growth so far.

The government will be well advised to reduce the risks of the economic strategy by coming up with an ambitious growth package with  measures that  set a tax and regulatory framework which is compellingly attractive for enterprise.

So far I have sought to give readers analysis of the figures of the Spending review. Today I want to give my opinions of the politics, and tomorrow my thoughts on the economics that lie behind it.

I was not one of those MPs who waved their Order Papers as the Chancellor sat down. I agree with Nick Clegg that this was no time to be triumphalist. Some of the cuts are substantial and difficult. Some of the reforming policies can be misrepresented and will be campaigned against vigorously. The public sector can, as I have explained at length, combine increased overall spending with raw edges in particular areas. The cuts spin was over the top in the run up to the settlement, leading some people to believe they were in for 25% cash cuts across the board next year when total overall spending was going up in cash terms.

Already on the BBC we are seeing and hearing a parade of badly disabled people claiming they will lose their benefits. The government should  have no stomach for a fight with the severely disabled. I understand they need not fear benefit loss. I would like the government to make this clearer, and to offer more reassurance. Getting others to work who are not severely disabled should not require any threat against those who are. They deserve our support and help as a society.

Councils will be noisy in complaining about their settlements. One of the disadvantages of localism from the central government’s point of view is it gives any Council the right to make bad decisions but still to blame the centre. When cash payments are falling Councils will have more excuse to pursue this strategy. In each case Ministers will need to be able to counter with practical advice to demonstrate that their chosen settlement is a sensible one which need not entail major cuts to important services.

I am not a great fan of having battles now about cuts forecast for 2013-2015.  A lot of the “real terms” cuts which have been so prominently quantified in the Treasury document occur in two or more years time. I doubt that the government  will hold to all these figures. I expect to see revisions in the light of actual inflation, growth, and  pressures to  offer more   as an election approaches. Why go into so much detail now? Why fight a battle about a cut for 2014-15 now, which you will have to fight again nearer the time if you wish to carry it through.

Markets need overall numbers but did not need every bit of detail for the later years. Markets will need to see soon evidence that in practise spending is coming under control and revenues are remaining buoyant, which is not the case in the latest figures.   We know the headline figures from the Budget can be revised, as the Chancellor increased capital spending for each of the next four years in this Spending Statement.

There are areas which could have been reduced to allow more space for better settlements in the areas which are causing the most grief. I still think the government should have pushed harder to cut the EU budget, or to re-open the question of the UK rebate. Conservatives never accepted the surrender of part of the rebate by Mr Brown and Mr Blair. The UK cannot afford large increases in its EU contributions at a time of deficit crisis.

I am glad the government  has decided to stop overseas aid to China and Russia. I wish it would stop all aid to the faster growing and more powerful emerging economies, and say that for the next two years it has to pocket these savings. It should resume more generous overall Aid programmes once the deficit is under proper control.

I want the government  to do more to reassure public sector workers. There do need to be substantial savings from fewer employess, doing more with less. This should be done without compulsory redundancies, so all public sector workers can be reassured they will have work even if  their job is abolished. The Chancellor tells us staff turnover is running at 8%. I  have been assuming 4% in my figures. At 8% the state could reduce employee numbers by 500,000 with no redundancies  within the first two years, whilst recruiting new teachers, doctors nurses and other crucial specialist staff from outside. Any public sector administrator or other generalist whose job is no longer needed should be offered an alternative post elsewhere within the public sector.

A stronger use of natural wastage, combined with a two year pay freze for all but the lowest paid, should achieve more than the stated plans, given the overall increase in cash spending. The  Treasury needs to cut its debt interest programme. Earlier back office and other savings will help do this. It does also have to accelerate the asset sales programme, so more of the immediate excess spending can be paid for from sales proceeds, cutting the interest bill.

These measures would leave more money to alleviate where the shoe is currently pinching.

The UK is looking inwards with the “debate” about public spending. Meanwhile events elsewhere may have a bigger impact on our economic future. On Tuesday China raised her interest rates, seeking to slow her inflation rate which is lower than than our RPI inflation. There were serious wobbles on Wall Street, as investors worried about the security of title to various packages of mortgages that have been sold around the markets and banks.

It was a timely reminder that a lot remains to be  fixed in the world economy. In the run up the G20 there has been a chase to the bottom, with various countries seeking a lower currency. The modern form of protectionism stalking the markets is the attempt to get a currency down or keep it down. The spat between the US and China over the relative value of the renminbi and the dollar is just the most important of a series of such arguments.

Real world interest rates make the Bank of England’s official rate look increasingly irrelevant to the private sector. The Monetary Policy Committee solemnly meets to settle the government’s rate of borrowing. You, I and UK companies cannot borrow at anything like the official rate, and even savers now get rather more than Base rate for their deposits. The Bank keeps the rate low to help the public finances. The US does the same, and adds in  there the prospect of printing more money just in case the markets don’t want to go on picking up all of the bill.

In the UK the government would be wise to accelerate the asset sales programme to cut the amount of borrowing, given the government’s wish to spend so  much more than it collects in taxes. There are limits to how long a country can hold interest rates artifically low in order to borrow more at low rates for government purposes. There are also prudent limits to how much a country should seek to devalue its currency through excess money creation. Do it too much and you import a lot of inflation.

This week’s figures for public borrowing showed a new record level for September, higher even than 2009.  The Spending Review showed the pressure of higher debt charges continuing to drive up total spending. Revenue from Income Tax was disappointing suggesting some of  the high earners have gone elsewhere.

The Channcellor’s economic strategy relies heavily on above trend growth for four years, delivering large increases in tax revenue.  The Spending plans bring the deficit down only because of this forecast buoyancy in tax receipts. We need to watch both sides of the account to see how well it is going.

There’s not a lot to add from the Statement today. As expected, total cash public spending rises every year for five years. Departmental  Expenditure Limits are flat, rising from £326.6 bn to £328.9 billion from this year to 2014-15.

There are big cuts in CLG  Communities , down from £2.2 bn to £1.2bn, and cuts at Transport, down from £5.1 billion to £4.4 billion.

Education, Health, Defence, International development, Work and Pensions, Scotland, Wales and Northern Ireland , Cabinet Office and Intelligence all have cash increases.  Home Office, Local Government, BIS, Justice, Environment and some smaller departments have cash cuts.

Capital did not suffer as large a cut in some cases as expected. Transport capital, for example, will average around the £7.7bn level of this year for each of the four years.  CLG Communitiies capital is hit hard, falling from £6.8 billion to £2 billion.

The oddest line in the printed document is CLG Local Government capital. It reads zero for every year including the first year, yet is given a 100% cut figure  in the final column.

At last the BBC and others accept what readers of this website have known for weeks – that cash spending carries on rising under the government’s  plans.  We have heard of the increases in Health, Schools, Pensions, EU, Overseas Aid and debt interest.  Today we hear of the programmes that are being cut, and doubtless there will be much reporting of those. Viewers and listeners need to remember that where cuts are being made, they will be made over a four year period, and are often reported in so called “real terms” where various estimates are made of how much extra cash a service says it needs to stand still.

Much  is being made today of the 500,000 job loss figure seen on Mr Alexander’s briefing document photographed through his car window. Let us put this into perspective. There are around 6 million public sector jobs in the UK, an increase of more than 1 million over the last decade. At least 250,000 public sector employees resign or retire every year, so over a four year period you could cut the workforce by 500,000 without a single redundancy, whilst replacing people in  all important posts like doctors, nurses and  teachers.

Let’s have one last go at putting public spending into a normal perspective. Let us say your salary last year was a healthy £60,000, thanks to Labour. You are told that you will have a cash rise every year, taking your salary up to £69,250 in 2014-15.  Unfortunately your interest bill is going up because you have a large mortgage and you are  still adding to your credit card debt.  How much do you think you would have to cut out from your “real” budget by 2014-15?   Would you be planning major surgery if your pay increase was only £9,250 a year by 2014-15? If you simply add 7 noughts to those figures you have current total public spending, or the public sector’s total income including  borrowing for current purposes.

In order to make the most of the extra £92.5 billion by 2014-15 the public sector needs to keep down its costs. If it buys more cheaply the money goes further. If there is a wage freeze there will be a bigger real increase in total spending, and more jobs can be saved. In the recession the private sector was most flexibile in cutting costs and preserving jobs, faced with a far worse revenue  position than today’s public sector.

I just hope the public sector will now seek to manage well and wisely. It might be surprised to see how far £650 billion can go. I will also be more interest in the 2011-12 figures, than alarm over the 2014-15 figures. A lot can happen before 2014-15 arrives.

There is plenty of scope for confusion over the government’s announcement on Wednesday. The government will break down its five year forecasts of spending by department and between its different categories of spending. It may offer “real terms” as well as cash figures.

Some people will concentrate on taking five year changes and adjusting them for estimated future price and wage inflation, to give an impression in selected areas of large cuts.  I would suggest we give more weight in any anyalysis to the 2011-12 figures.

It is highly likely some of the 2014-15 figures will be changed before we get to that year. There might be new priorities between departments by then. An imminent election may lead to a reappraisal of overall spending. Pay and price inflation will by then be known for the period 2011-14, which may cause adjustments to be made. If inflation has come in lower the benefits and pension bill will be lower, if higher the reverse.

The government’s main concern since taking office has been to curb the runaway deficit it inherited. This is about controlling cash spending as soon as possible, so what happens next year to cash spend is very important. If the government does well with its welfare to work programme then it could save money on the welfare bill for the best of reasons as more people get jobs, and reduce the deficit more rapidly. If the Bank starts to get a grip on inflation, that could relieve some of the cost pressures on spending, which would also help.

The future pattern of deficit reduction is also very dependent on rising tax revenues, largely forecast to arise through a decent rate of economic growth. The government will need to review its strategy in the light of growth rates achieved, given the importance of this to the plan.

Mr Alan Johnson yesterday for the Opposition agreed the deficit needed to be brought down. His proposal was to increase capital spending by an additonal £10 billion, to be paid for by a larger tax on banks. As he has previously stated that such a tax should only be imposed if there could international agreement to it, to avoid loss of more business from the UK, this does not add up  to much of a strategy.

There are just three central figures in the Treasury Red Book which sum up this government’s 5 year plan. They are figures that very few commentators and journalists seem to want to understand.

If you compare 2014-15, this government’s last planned year, with the last year of Labour, you should expect;

Public sector current spending up by £92 billion or 15% – a small real increase if inflation is 2% or less – that’s £11,500 per head instead of £10,000 per head, or £46,000 for a family of four

£176 billion more collected in taxes in Year 5 – that’s around £12,0000 extra for an average family of four

£451 billion more borrowed over the lifetime of this Parliament – that an increase in the public debt larger than the total debt inherited by Labour in 1997.

It’s difficult to say this is unduly mean on the public sector, given the huge deficit and rising interest rate bill.

An extra £451 billion of debt means extra interest payments of around  £13.5 billion a year if interest rates stay as low as they are currently.

The main winners in gaining extra spending are the EU budget, Overseas Aid, Debt Interest, Pensions, Health, Schools and Equitable Life holders.

The banks tell us not many businesses want to borrow money. Many have unused overdraft or loan facilities. They say there is money there if you want it. They have just announced a useful £1.5 billion equity fund for small enterprises.

Companies tell us there is a shortage of money to grow their companies. Some report facilities being withdrawn, high arrangement costs, and high rates compared to base rate if you do get a loan offer. Small entrepreneurs have to offer high levels of personal gurantee. Banks still seem to like property backing to loans, which may not always be possible in business.

So who is right? As always there is some truth in both these positions. I do think if we want faster growth there needs to be easier credit for business.

The banks are still slimming their balance sheets to hit ever more exacting targets from their regulators. RBS is slimming from £2.2 trillion to £1.2 trillion. It is a global bank, but some of that is liquidity withdrawn from the UK.

If the government wishes to speed things up it should ask the Regulators to call a halt to making the banks ever more prudent, at least for a year or so. If things start to warm up, then the Regulators should ask for more cash and capital to calm them down. The main reason QE has not fuelled a more rapid inflaiton is the strict controls on the banks lending it on. We do not need more QE. We need a sensible and controlled release of some of the pent up money already in the system for more productive uses.

Rumours are going araound that instead of doing this the Regulator is about to demand a still higher level of prudence. No wonder there are difficulties for businesses in getting access to capital.

We now know the broad shape of the public spending decisions to be unveiled this week. They are:

Health spending – up in cash and real terms
Schools spending – up in cash and probably in real terms
Contributions to the EU – substantially up thanks to loss of part of the rebate
Overseas Aid – up in cash and real terms
Benefits spending – all benefits to be increased in line with inflation
Pensions – to be increased by more under a new system which includes an earnings link
Equitable Life holders – £1.5 billion of compensation not in previous budgets
Debt interest – up substantially, as this government plans to add £450 billion to the public debt over the five years of this Parliament.
Child Benefit – to be removed from people on c. £40,000 a year and above to save £1 billion a year after 2012-13.

This morning the BBC announced that schools spending was likely to go up. You could have read that here on this website, forecast at the beginning of the public spending process. Given the increases in overall cash spending it seemed very likely that Schools would join Health as a priority area for increases.

Instead of seeing it was bound to be given the overall figures, the BBC spent the morning on the Today programme asking what extra would be cut to make room for this surprising generosity. They never once considered that several areas of spending have to go up to use up the increases in total spending that have already been announced!