British Budget Gets Poor Market Reception

April 22, 2009

Ten-year gilt yields are 11 basis points higher than their close on Tuesday, and the pound has lost 1.8% against the euro and 1.4% relative to the dollar.  The annual budget message failed to reassure already very worried investors.  The budget generally conforms to expectations.  The picture is a poor one.

  • Public sector net borrowing in this and the following four fiscal years has been revised upward by 62% from estimates made five months ago to Gbp 703 billion — which broken down by years is Gbp 175 billion, Gbp 173 bln, Gbp 140 bln, Gbp 118 bln and Gbp 97 bln.  The deficit doubles to 12.4% of GDP this financial year, stays near 12% in FY10/11, and remains high at 5.5% in FY13/14.
  • Public sector debt climbs as a result from 46.5% of GDP last fiscal year to 79% of GDP in FY13/14.  That figure actually looks too low.
  • Efforts to rein in the the budget deficit after this fiscal year focus excessively on the higher taxes, not less spending.  The highest tax bracket for individuals making over Gbp 150K (about $216K) jumps to 50%.  Sin taxes on alcohol and tobacco as well as taxes on fuel are slated to keep rising.
  • After conceding the biggest GDP drop this year (of between 3.25% and 3.75%) since 1945, which represents a revision from a projected 1.0% drop estimated last November, assumed growth reverts to an overly optimistic path of 1-1.5% next year and 3.5% from 2011 onward.  The future five or more years is highly uncertain, but Japan’s experience is instructive because its problems originated in the financial sector, too.  In the 17years after 4Q91, Japanese GDP expanded 1.0% per annum, a shadow of the economy’s previous performance.  It’s unlikely that Britain will emerge from its shock growing three and half times faster than Japan did.
  • If British growth significantly undershoots 3.5% per annum in the forecast out-years, the deficits will be much higher nominally and as a percent of GDP.
  • The budget speech included the protectionist remark, “a competitive exchange rate will help exporters.”  A weaker pound and deep disinflation, if not deflation, will magnify the real servicing burden of the government’s rapidly expanding debt.  Speculation will not die that Britain may eventually need to seek an aid package from the IMF, as it did in 1976.

Copyright 2009 Larry Greenberg.  All rights reserved.  No secondary distribution without express permission.



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