A basic arithmetic refresher for 11 Downing St

Although the desperation for tax cuts within the Tory Party seems to have diminished a notch or two during the past few months (reflecting the recovery in the consumer sector, and especially in housing), I doubt whether the idea has really dawned on the backbenches that the long-awaited tax cuts could be tiny or even non-existent. With the possibility of a disappointing Budget looming in November, it may even be crossing the Prime Minister's mind that an autumn election might not be such a bad idea, as the the outstanding Bagehot (alias David Lipsey) pointed out in his column in the Economist last week.

Bagehot's arguments are that the Government already risks being pushed by the Ulster Unionists, or even by its own unreliable supporters, into an election at a particularly bad moment; that the recent smack of weak government is not helping the Tories' political standing, anyway; that the economy may look at its best this autumn, but then lose its gloss during the winter; and that John Major may feel an obligation in the national interest to end the present drift.

Granted, his party will make mincemeat of Mr Major if he loses the election, whenever it is held. But can any party leader voluntarily go to the country when the most likely out-turn is annihilation, when the consumer is enjoying a strong recovery, and when the natural trend in government support towards the end of a Parliament has always been strongly upwards? Some estimates suggest that the underlying support for the Tories should now be rising by as much as a full percentage point per month as a result of improving consumer confidence, and the normal uptrend in government support as the election approaches.

Others take a more fatalistic view, arguing that the Conservatives are destined to get the same share of the vote whenever the election is held - say around 36-39 per cent, the hard core for Tory support in the post- war period.

But, even so, an October election would leave plenty of Tories claiming that another six months would have tipped the balance, or would at least have severely curtailed the Labour majority. And, what is more, they could be right. Hanging on to the bitter end may not be an attractive option, but it is the one which his party will expect Mr Major to pursue.

So a Budget probably needs to be planned for November. This is looking trickier by the month. The PSBR or budget deficit has been misbehaving for some time, which is unusual in a period of continuous economic growth. Last year, the eventual out-turn for the PSBR was pounds 32bn, about pounds 10bn more than the Treasury had expected a year earlier.

Around two-thirds of this pounds 10bn was due to the mysterious disappearance of VAT receipts, which is still not well understood in Whitehall, but which must now be reflected in the projections for future years.

The worsening PSBR problems are likely to come into sharp political focus on 9 July. That is when the Treasury will publish its Summer Forecast, which will have to come clean about the latest official projections for the budget deficit in the next two years. According to David Walton of Goldman Sachs, a combination of lower underlying tax receipts, slower economic growth and slightly higher public spending means that the path for the PSBR shown in the November 1995 Budget will have to be increased by about pounds 5bn a year.

This would leave the likely projection in the Summer Forecast at pounds 27bn this year, and pounds 20bn next year. It would also delay the achievement of budget balance, which is Mr Clarke's long-term target. Furthermore, while this is likely to be the Treasury's forecast, the eventual out-turn is expected by most City economists to be much higher still. For example, Goldman Sachs expects the PSBR to be stuck at around pounds 28bn both this year and next (assuming a pounds 3bn tax cut in the Budget).

Against this background, it is hard to see how Mr Clarke can justify making anything more than the same kind of minimal tax reductions which so disappointed the public last year. In both of the last two years, modest scope for tax cuts has been found at the last minute by shaving public spending plans to reflect lower inflation, and by off-loading public investment plans to the Private Finance Initiative. Perhaps a bit more of this type of shuffling can be done again this year, but not much.

And the option of simply increasing the path for the PSBR on top of the slippage which has already occurred is not really on either. After all, the Chancellor has recently gone out of his way to emphasise that the objective of budget balance is a genuine one, and cannot be shifted around to suit the political convenience of the Conservatives. At Westminster, there is an infinite well of on both sides of the Chamber, with almost all MPs believing that, whatever Ken Clarke says today, he will find a way to make large tax cuts in November. I advise them to think again - this is not going to be a tax-cutter's year.

In fact, it is not going to be a tax-cutter's decade. The graph shows the likely path for the PSBR in the next three years, and compares it with some important benchmarks for fiscal policy. As we have noted already, the present government's objective is a zero PSBR, but this will remain just a mirage in the next three years. If there is a change of government, Gordon Brown's fiscal objectives - first to stabilise the ratio of public debt/GDP, and second to ensure that the golden rule is satisfied by cutting the PSBR to below the total of government investment - are less stringent than the present Chancellor's. Yet neither looks likely to be attained before the end of the century. Even the Maastricht criterion may be out of reach over that period.

Naturally, all this will depend on whether the Government can keep tough control of public spending in the next few years. The present ambitious plans are based on the assumption that public spending will grow at about half the rate of GDP growth indefinitely into the future. But past evidence suggests that this will be quite impossible. A new paper on medium term fiscal policy by Stephen Hall, John O'Sullivan and Andrew Sentance of the LBS reminds us that, even in the era of Margaret Thatcher, the growth of real spending could not be held below that of real GDP, except by making large and unrepeatable cuts in public investment. All other areas of spending have stubbornly kept pace with GDP since 1979, despite herculean political efforts to cut the share of the state in national income.

Unless the next government can summon up even more political muscle to cut the share of the state than Mrs Thatcher managed, there will only be one option left - to increase the burden of tax.

And that piece of basic arithmetic will apply, whoever is next to hold the reins at No 11 Downing Street.

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