A little finesse from Dr Feelgood

Economics

BUDGET time is a-coming up, and like any business pondering grand strategic decisions about its future, this means the Treasury team getting away for a day or two in the country to talk about it. Thus, although the Budget itself in not until 28 November, the broad options will be considered this weekend at Dorneywood, the country house used by the Chancellor.

This year, the process is more overtly political than usual. It may not be the last Budget before the election, but it is certainly the penultimate one, and there are two powerful practical reasons for wanting to run the two Budgets in tandem. First, the lags in economic policy are quite long, so in as far as a Budget affects the economy, this is the one which will determine conditions for the 18-month run-up to the election. And second, the condition of public finances in the second year will be determined in large measure by the Budget in the first. The Chancellor has, so to speak, to line up his election shot. So this is the one to get right.

But what does "getting right" mean? Most of the public discussion about the Budget has been in terms of the supposed trade-off between taxes and interest rates: the greater the tax cuts the greater the element of distrust in the markets and accordingly the less likely the next move of rates would be down. Public spending is - rightly in the short run - seen as a given.

There is a deal of sense in this sort of discussion, for the basic maths of the Budget is not affected by the political process. The problem for a government with a looming election is that this year the maths is somewhat less favourable than it looked even six months ago. There is no catastrophe, but growth is running a little lower than forecast and inflation a little higher. As a result of the first, tax revenues are below target, and can be expected to run further below target during the coming fiscal year. As a result of the second, many payments (in particular those linked directly to the retail price index) will tend to run a bit above expectations.

The outcome is that forecasts for the Public Sector Borrowing Requirement next year suggest the Chancellor will be working with a deficit of about pounds 27bn, instead of the projected pounds 21bn. This does not eliminate the possibility of tax cuts because the markets accept that a few billion either way is not very important. All PSBR forecasts have to be vague, because the PSBR is the difference between two very large numbers: that pounds 21bn figure is the gap between receipts of pounds 278bn and spending of pounds 302bn, less a small amount of borrowing by public corporations. But the fact that the figure is worse than forecast, rather than better, does to some extent limit the scope for action. The market view that net tax cuts cannot safely be above the pounds 2bn-pounds 3bn range is probably right.

You can see the political problem. The Government is able to take in tax about 1 per cent less than the number it first thought of; not an exciting prospect in itself, and one little helped by the prospect of a further couple of percentage points coming off taxation in spring 1997.

So what will be the tenor of the discussion over the weekend? Aside from basic analysis of the economy, monetary conditions, the state of public finances and all that, the talk will, I think, be of how to get the biggest bang for the buck. This means constructing a tax-cutting package that is modest in size but which can seize the imagination of the voters and push forward the frontier of tax-cutting so that Labour will have to commit itself not to reverse its main elements. I do not think, contrary to City talk, that there will be much discussion of the interaction of fiscal and monetary policy. The direction of interest rates 12 to 18 months hence is not going to concern a canny Chancellor who is not in any case completely sure that the Government will get to spring 1997.

And what constitutes the biggest bang? There will, I expect, be two main elements to the tax-cutting package.

One will be the abolition of a tax. That gets the headlines and puts Labour on the spot: would the opposition reintroduce it?

The obvious candidate is inheritance tax. It does not bring in a great deal of money in public finance terms; it is easy for the financially sophisticated to avoid, but catches the unsophisticated. Abolition would be popular not only with the elderly, but also with their heirs. The changing age structure of the country will increase the popularity of abolition in the future, so like top income-tax rate cuts, there is an appeal even to people who would not benefit immediately. And the differential house prices in the country means abolition would tend to help the South-east, where the majority of Tory voters live.

The second element will be doing something to income tax. In an ideal world, the basic rate would be cut to 20 pence in the pound in two stages - the second stage being the Budget of November 1996. This looks just about possible, but only by not indexing tax allowances fully, so that the real thresholds at which people start to pay income tax rise, or by increasing some other tax. From the point of view of equity, it is much better to raise thresholds rather than cut the basic rate, for the benefit is passed to lower earners. From the point of view of fulfilling a political aim, the attraction of a 20p standard rate has more obvious clout.

What else can the Chancellor do? There is a string of little nips and tucks to the tax system in waiting at the Treasury, and it would be sensible to expect some of these to be trotted out. But they will not have any radical impact either on the economy or the political fortunes of the Government. There is, however, one way of enabling people to feel richer without the country actually being richer, and it is to let the proportion of consumption to GDP rise further.

We are unusual in that we consume an exceptionally high proportion of our output - much higher, as the graph shows, than the US, France, Japan or Germany. The proportion, already the highest of these countries, shot up still further in the 1980s.

There are two ways of looking at this. In one sense, the long-term one, it is unsatisfactory in so far as it means we are under-investing in things that will add to growth in the future.

One has, however, to be aware that investment is only useful if it is wise investment. If it merely means building plants that subsequently have to be junked, or power stations that produce power no one needs, or low-quality public sector housing that has to be pulled down, then the investment is worse than useless. Using lean investment wisely is just as important to future growth prospects as building over-engineered capital projects.

In any case, in the short run, people like to consume. The gap in living standards between the UK and countries such as France and Germany, when measured by numbers of personal computers, foreign holidays taken or miles driven in cars, is not nearly as large as the difference in published GDP per head might suggest. If policy can be swung to encourage a little more consumption, it might make people feel better.

In the long run this is very unsatisfactory. In an ideal world, we would consume at least five percentage points less of GDP, not talk of consuming more. But an unpopular government facing an election is not in an ideal world. So look out for any measures in the Budget - for example in deregulation - designed to encourage us to spend a bit more and save a bit less. I wouldn't put it past them.

News
people
Sport
Yaya Sanogo celebrates scoring the opening goal with Arsenal's English midfielder Alex Oxlade-Chamberlain
champions leagueLive: All the latest from the Emirates and Bulgaria, where Liverpool face Ludogorets
News
Andy Murray with his girlfriend of nine years, Kim Sears who he has got engaged to
peopleWimbledon champion announces engagement to girlfriend Kim Sears
Arts and Entertainment
An unseen image of Kurt Cobain at home featured in the film 'Kurt Cobain: Montage of Heck'
filmThe singers widow and former bandmates have approved project
PROMOTED VIDEO
News
ebooksNow available in paperback
Latest stories from i100
Have you tried new the Independent Digital Edition apps?
Independent Dating
and  

By clicking 'Search' you
are agreeing to our
Terms of Use.

iJobs Job Widget
iJobs Money & Business

Langley James : IT Support; Helpdesk, VMware; Manchester, £18k

£16000 - £18000 per annum: Langley James : IT Support; Helpdesk, VMware; Manch...

h2 Recruit Ltd: Business Development Manager - HRO - £70k+ ote

£35000 - £450000 per annum + £3k car, £70k ote: h2 Recruit Ltd: Do you want to...

Citifocus Ltd: Newly Qualified Accountants - Risk Mgmt

£Attractive Package: Citifocus Ltd: Prestigious financial institution seeks to...

Citifocus Ltd: Operational Risk Analyst

£Negotiable: Citifocus Ltd: Experienced operational risk professional with ban...

Day In a Page

Cameron, Miliband and Clegg join forces for Homeless Veterans campaign

Cameron, Miliband and Clegg join forces for Homeless Veterans campaign

It's in all our interests to look after servicemen and women who fall on hard times, say party leaders
Millionaire Sol Campbell wades into wealthy backlash against Labour's mansion tax

Sol Campbell cries foul at Labour's mansion tax

The former England defender joins Myleene Klass, Griff Rhys Jones and Melvyn Bragg in criticising proposals
Nicolas Sarkozy returns: The ex-President is preparing to fight for the leadership of France's main opposition party – but will he win big enough?

Sarkozy returns

The ex-President is preparing to fight for the leadership of France's main opposition party – but will he win big enough?
Is the criticism of Ed Miliband a coded form of anti-Semitism?

Is the criticism of Miliband anti-Semitic?

Attacks on the Labour leader have coalesced around a sense that he is different, weird, a man apart. But is the criticism more sinister?
Ouija boards are the must-have gift this Christmas, fuelled by a schlock horror film

Ouija boards are the must-have festive gift

Simon Usborne explores the appeal - and mysteries - of a century-old parlour game
Can SkySaga capture the Minecraft magic?

Can SkySaga capture the Minecraft magic?

It's no surprise that the building game born in Sweden in 2009 and now played by millions, has imitators keen to construct their own mega money-spinner
Christmas 2014: 23 best women's perfumes

Festively fragrant: the best women's perfumes

Give a loved one a luxe fragrance this year or treat yourself to a sensual pick-me-up
Homeless Veterans Christmas Appeal: Drifting and forgotten - turning lives around for ex-soldiers

Homeless Veterans Christmas Appeal: Turning lives around for ex-soldiers

Our partner charities help veterans on the brink – and get them back on their feet
Putin’s far-right ambition: Think-tank reveals how Russian President is wooing – and funding – populist parties across Europe to gain influence in the EU

Putin’s far-right ambition

Think-tank reveals how Russian President is wooing – and funding – populist parties across Europe to gain influence in the EU
Tove Jansson's Moominland: What was the inspiration for Finland's most famous family?

Escape to Moominland

What was the inspiration for Finland's most famous family?
Nightclubbing with Richard Young: The story behind his latest book of celebrity photographs

24-Hour party person

Photographer Richard Young has been snapping celebrities at play for 40 years. As his latest book is released, he reveals that it wasn’t all fun and games
Michelle Obama's school dinners: America’s children have a message for the First Lady

A taste for rebellion

US children have started an online protest against Michelle Obama’s drive for healthy school meals by posting photos of their lunches
Colouring books for adults: How the French are going crazy for Crayolas

Colouring books for adults

How the French are going crazy for Crayolas
Jack Thorne's play 'Hope': What would you do as a local politician faced with an impossible choice of cuts?

What would you do as a local politician faced with an impossible choice of cuts?

Playwright Jack Thorne's latest work 'Hope' poses the question to audiences
Ed Harcourt on Romeo Beckham and life as a court composer at Burberry

Call me Ed Mozart

Paloma Faith, Lana del Ray... Romeo Beckham. Ed Harcourt has proved that he can write for them all. But it took a personal crisis to turn him from indie star to writer-for-hire