British Budget Preview

March 23, 2010

Chancellor Alistair Darling will deliver a pre-election budget on Wednesday starting at 12:30 GMT.  This will be a pre-budget budget, as parliamentary elections are seen likely on May 6 and mandatory by June.  Britain seems poised for a change of power, but the margin of victory could be too narrow to secure a majority for either major party.  If the Labour Party, which has controlled government since May 1, 1997 is too have any chance of retaining significant influence, Darling will need to find a way to impress the general public while reassuring investors.

Darling’s Pre-Budget Announcement on December 9 already framed up much of the budget.  Predictably at that time, he took no dramatic steps to reduce the deficit, and details of how the deficit is to be halved to Gbp 96 billion within four years (that is to FY13/14 which ends March 31, 2014) were mostly missing.  A Gbp 611 billion cumulative deficit was penciled in for the four years to FY12/13, with roughly two-thirds of deficit cuts coming from expenditures and real government spending, including debt service, amounting to just 0.8% per annum from 2011 onward.  But the identity of specific cuts was not identified, kicking that controversial subject down the road to the next government.The eye-catching headline from December’s PBR was a populist 50% windfall tax on the bonuses of bankers.  Without removing politically necessary vagueness on Wednesday, Darling has to find a way to convince people of the sincerity of the government’s commitment to cutting the deficit at least as much as indicated in December, if not more deeply. 

Outside analysts, including the Bank of England, found the size of the out-year cuts a bit too small for comfort.  Anxiety was magnified by a questionable assumption of 3.25-3.75% economic growth from 2011 onward.  Whatever Darling does to make the case that the government’s downward path for the deficit is credible, it will not be done by proposing deeper cuts now.  The deficit for FY10/11 will again surpass 10% of GDP.   For better or worse, the Labour Party will go into the coming election differentiating its plan from the Conservatives by stressing that it’s too soon for draconian austerity such as David Cameron, the Conservative leader, is proposing and that his blueprint is one that courts a return to recession.

The Labour Party is rounding out its 13th year of power.  Real GDP had risen by a respectable 2.5% per annum over the first 11 years but shows an annual rate of gain for all thirteen years of only 1.7% because Britain suffered a longer and deeper recession than most economies.  RPI inflation is now 1.1 percentage points higher than when Labour first assumed power.  The Ftse has advanced 27% or 1.9% per annum.  Three month euro-sterling deposit rates were at 6.5% then and are presently extremely depressed at 0.61%.  The ten-year gilt yield is now 374 basis points lower than then.  Contrary to a story carried on the Knight-Ridder news wire one week after the May 1997 election that the incoming Labour Government was contemplating putting sterling back into the European Exchange Rate Mechanism for future consideration as a member of the monetary union, such a move was not made then or since.  In light of widespread second thoughts about the benefits and sustainability of the euro, sterling’s possibility of ever participating has as weak a pulse now as it ever has.  Compared to May 1, 1997, the pound is now 7.8% weaker against the dollar (roughly 0.6% per annum) and has dropped 22.5%, or 1.9% per annum, against the euro.

At the risk of a premature eulogy, I’d say the three legacies of the thirteen years of Labour Party rule are

  • Shifting responsibility for monetary policy from the Treasury to the Bank of England,
  • An ill-fated decision to align Britain with the United States in the war against Iraq,
  • A redefinition of the Labour Party’s mission, which by the end was in tatters with an incomprehensibly large jump in public debt.

Copyright Larry Greenberg 2010.  All rights reserved.  No secondary distribution without express permission.



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