Britannia Radio

This sets out what Bootle thinks will happen in the PBR. It makes a kind of nasty logic but will do us no good at all. Reducing our debts cannot wait while we play political games. We are all going to inhabit a new world soon and the sooner we get the hang of it, the less pain it will cause.

Christina

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TELEGRAPH 7.12.09

Never mind this 'Phoney Budget Report', debt is a future Chancellor's lot

This Wednesday we are once again set to enjoy what will doubtless be a dour presentation of our national finances from Mr Darling, sounding not so much like a Chancellor of the Exchequer as like a bank manager. Come to think of it, given the Government's huge stakes in banks, that is not inappropriate.

By Roger Bootle

I am often asked whether the financial markets will be much bothered if the Chancellor fails to announce a significant fiscal tightening.

My view is that they will not be fazed at all because they do not view this pre-Budget report (PBR) as the real thing. And by this I do not mean that it isn't the Budget proper, because sometimes PBRs can be like a real Budget. No, this is not the real thing because this PBR is all about politics, namely how best to discomfort the Conservatives. It is not so much the pre-Budget report as the 'Phoney Budget Report'.

This will also apply to what you might think of as the real Budget in March or April. The real, real Budget will come after the election, whoever is in power.

Over the last few days, we have been guided to expect that the Chancellor will defer any fiscal tightening until later, thereby giving preference to economic (and electoral) concerns over fiscal ones. The reaction in the financial markets has been very muted. This does not surprise me. I expect the reaction to Wednesday's speech, almost whatever it contains, to be similarly restrained.

In fact, my suspicion is that the financial markets will be more influenced by how the Conservatives react to the PBR, and by how the electorate reacts to it, than by anything the Chancellor says or does. [I was just about to add that, but he’d already thought of it! -cs]

As to the speech's contents, I would not be surprised to see some tax cuts and expenditure rises announced for the next year, paid for, and indeed more than paid for, by tax rises and expenditure cuts in future years. A bit more jam today but much less jam in future.

Areas which could find themselves the beneficiaries of the Chancellor's short-term largesse include the housing and labour markets and savers and pensioners who have been hit hard by the current very low interest rates. It would not surprise me if he tries to steal some of the Conservatives' thunder by announcing some sort of reduction in corporation tax, and possibly tax concessions for small companies.

I would also not be surprised to see the Chancellor bring forward capital projects from the future to boost spending (and aggregate demand) in the short–term. After all, although total public spending is set to rise by about 4.5pc next year, public sector investment is set to fall by 17pc.

But if he is to retain any credibility he must announce some measures to bring the deficit down in later years, thereby putting some flesh on the bones of the proposed Fiscal Responsibility Act, which is supposed to ensure that the deficit is halved within four years. He may well try to cut the deficit in the short term by selling some assets. The Channel Tunnel, Dartford Crossing and the student loan book have all been mooted as possible targets. He may also be able to bring in some more money by advancing the due dates for the payment of corporation tax.

Special levies on the banks would undoubtedly be popular, whether in the form of a windfall tax or a levy on bonus pools. But unless such imposts fell on individual bankers – a simple super-tax on bankers would be especially popular – rather than the institutions themselves, this could be counterproductive since the Government is trying to bolster the finances of banks in an effort to get them to lend more. Reducing bank profitability doesn't seem a very clever way of trying to do this.

Nevertheless, the Chancellor may well think it apposite to announce further measures to hit high earners in general, which would be a clumsy, indirect way of getting at the bankers, as well as directly at the Conservatives.

The new 50p tax band could be brought in at a lower level of income than the £150,000 initially proposed. And other restrictions on allowances for high–earners have been mooted. An increase in Capital Gains Tax is a near certainty in due course, if not now. The gap between 18pc and the 50pc top income tax will be untenable, as well as unjust. Mind you, higher CGT won't bring in much revenue. The total yield from CGT this year is only likely to be about £2bn.

Indeed, this is a more general problem. The deficit is so huge that it is difficult to imagine any plausible package of tax rises having much impact on it. If the deficit turns out to be about £200bn, as I expect, this will be equal to the total revenue from income tax and VAT combined. The revenue from all duties – on fuel, booze, tobacco, betting, air travel and vehicle excise duty – totals about £50bn. So the deficit will be roughly four times the size of this combined revenue.

Meanwhile, government expenditure is about a third larger than total revenues. So only radical reforms and constrictions of public spending, aided by sustained economic growth over a long period, which would boost the tax take even at constant rates of tax, can do the trick for us.

Fortunately, or unfortunately for Mr Darling, it looks as though he doesn't have that long in the job. He is left to stare at the mess left by a decade of profligacy and self–delusion without yet being able to do much about it. I reckon that bringing down the burden of Britain's debt will be the dominant theme for at least a decade of Budgets, if not two.

So, even if by some miracle Mr Darling survives to deliver more than one more Budget, debt reduction is likely to be the task for several Chancellors. I suppose that you could say that this is an achievement of sorts – to have shaped the agenda for an apparently never-ending succession of Chancellors, stretching into the future like the heirs of Banquo's ghost. And I suppose you could see that as a fitting end to what has been, in more ways than one, a peculiarly Scottish tragedy.

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roger.bootle@capitaleconomics.com

Roger Bootle is managing director of Capital Economics and economic adviser to Deloitte. His new book, The Trouble with Markets has just been published by Nicholas Brealey.