So spare a thought for Gordon Brown and the Budget he will deliver on 17 March. His flight path is being buffeted by all manner of domestic headwinds and crosswinds, by the strength of the pound and by the economic repercussions of the Asian financial crisis. His moving target is EMU. But unlike the pilot, he has no reliable economic or political radar with which to see where he is or where he's going. So let us remind ourselves just what he can do realistically, then move on to the issues that he is going to have to negotiate over the medium term.
The Budget is no longer used as an instrument of macro-economic management - except in critical situations such as those on display in Japan - even though the conversion to Keynesian-type stimulus is still incomplete. In general, this role has been passed to the central bank, as has been the case for much longer in the US and Germany. The role of the Budget ritual focuses instead on what economists call supply-side measures and on issues of fairness, designed to lay the foundations for sustainable medium-term economic growth and a socially acceptable distribution of the proceeds.
In this context, it is a good bet that the Chancellor will present a welfare-to-work Budget, soon followed by a consultative paper on social security in the next century. Simply put, he will lay before us further measures and thoughts to address three critical objectives for this Government: employment creation as a substitute for dependency, sustainable competitiveness in a global economy that punishes offenders quickly, and the UK as a magnet for investment.
After the Budget speech some people will be better off and some worse off, but the broad objectives will be as just described and we should welcome the longer-term strategy which is the hallmark of the Chancellor and the Prime Minister. There is precious little he can do about the aftermath of Asia. It will certainly contribute to a hefty drop in the economy's growth rate in 1998, knocking at least 0.5 per cent off whatever it might have been. In view of the data coming in for the first quarter, real GDP growth for the year might still come in at around 2.25 per cent, but I still think the marketplace is complacent about the effects of Asia. We are only now starting to see the scale of the slump in Asian economies.
I suspect the monetary policy committee was right to leave rates unchanged on Thursday. It is, of course, possible that the committee will act on the warnings in the Bank's latest inflation report and put rates up another 0.25 points, but in terms of big-picture economics it is most likely that interest rates will have started to come down again by the end of the year. And from this point of view, we shouldn't fret too much about the strength of the pound. Lower rates and a softer economy will take the wind out of sterling's sails, to the partial relief of manufacturing and exporters. The US dollar is also likely to be weaker later this year. An important caveat, though, is European monetary union. If the markets take a dimmer view about EMU, sterling might just end up as a key refuge from the euro.
The Bundesbank's convergence report will be published on 27 March, just over a month before EU heads of government announce both the countries that will go forward into EMU and the bilateral exchange rates to be used for conversion of national currencies into the euro. The Bundesbank will probably make an issue about sustainability. Breaking the code, this means that the viability of EMU is not about countries squeezing into the Maastricht corset as regards 1997 data, but about not giving an inch post-1999, making further progress on the financial and fiscal ratios and increasing the flexibility and efficiency of labour and product markets.
On all criteria, there is no question that the UK would qualify. On EU statistics, the UK's budget deficit as a percentage of GDP in 1997 was 1.9 per cent and its debt/GDP ratio 53.4 per cent. But the UK's relative fiscal position is probably stronger: the UK's structural deficit is around 0.5 per cent of GDP against 2 per cent or more for Germany, France and Italy. And the UK outscores most EU countries on some of the microeconomic issues that will determine EMU's success: labour market flexibility, wage bargaining and social security structures, pension liabilities and tax competitiveness.
Gordon Brown's flight path, then, is mostly well mapped out, despite probable buffeting from Asia, sterling and high relative interest rates. But the landing deck - EMU - is unclear, not least on account of the political decision on participation. There are other issues, including how in sync the UK and continental European economies will be in 2000- 2002 and whether UK short-term interest rates will be better aligned with European rates by then.
But long before that, the Government will have had a chance to see how Euroland looks after 1 January 1999. Beyond this, there are rumblings in many countries about a social payback for the years of tight fiscal policies. There is concern about the impact of a common interest rate at the end of this year that may be acceptable in Germany and France but too low for southern Europe.
So, for now, assume that the Chancellor will want to micro-manage the economy towards the goal of EMU - and take a fairly relaxedview that both base rates and sterling will be falling by the second half of this year. But if you want a small wager that he will use the Budget to transform your financial position and that of the UK economy, save your money. You'd be better off backing one of the teams falling ever further behind Manchester United for the Premiership title.
q George Magnus is the chief international economist for UBS and will be chief economist for Warburg Dillon Read upon completion of the integration of SBC Warburg Dillon Read and UBS.
q Peter Koenig is on holiday.Reuse content