Yesterday’s blog entry identified growth, or the lack of it, as the biggest problem underlying the UK’s 2011 Budget and the credibility of the coalition government. Without substantial growth, which was originally forecast for this year at 2.6%, but is now expected to be 1.7%, there can be little hope that the ‘broken’ public finances will be mended. Higher public spending in the form of increased benefits and lower tax receipts are likely to derail deficit reduction plans. These are the ‘automatic stabilisers’ that kick-in to compensate for loss of demand in a recession.
Faced with the likely failure of his policies in this case, the chancellor’s inclination may well be to cut further and deeper while accelerating the advantages already conferred on big business through generous corporation tax cuts and off-shoring incentives. Note that each 1p cut in corporation tax is worth about £900 million. The 2p cut from the start of next month, then, equates to close to £2 billion. By 2014, when the rate falls to 23%, the exchequer will face a massive shortfall in tax revenue from that source, compared with today.
On Thursday evening there was the unedifying sight of Robert Chote, former director of the Institute for Fiscal Studies (IFS), skewered by Paxman’s questions on Newsnight on BBC2. Chote is now chair of the Office for Budget Responsibility which provides economic forecasts in preparation for the UK Budget. His former employer produced a post-Budget briefing yesterday which highlighted the challenges facing the government. The IFS analysis reveals that the impact of the austerity measures will hit the poorest households the hardest.
According to the IFS analysis of the personal tax and benefit changes, the poorest 10% of the population will be over 6.5% worse off. The highest-earning 10% will lose out by only 3%. Over the whole parliament, tax and benefit changes will cut household incomes by 5% or £1,500 per year. Across the entire UK, only those earning more than £100,000 will lose more than the poorest individuals.
Overall, higher inflation and lower growth are threatening to blow the government off its chosen course. This will not lead to any change in the direction of policy. It is safe to assume that the drastic fiscal tightening will persist even if, at first, it doesn’t yield the results the Chancellor seeks. In the teeth of benefit cuts and tax rises, though, how long the country will be prepared to give him may be another thing entirely.