Budget '99: Brown bound by the Third Way

Measures that will win applause on Tuesday may unravel in the long term ... Tories point to

When Gordon Brown rises in Parliament on Tuesday - bringing the complex, if contrived, political theatre surrounding the annual presentation of the nation's Budget to a climax - he will require all his son-of-a- Presbyterian-minister training in self-denial to suppress a sigh of satisfaction.

After 22 months in power the Chancellor has emphatically achieved the two tasks he set himself for the first half of the Government's first term.

"He's delivered stability," says Darren Winder, UK economist for Warburg Dillon Read. "He's got economic management under control."

The Chancellor can be confident as he looks ahead. The odds on achieving the two tasks he has set himself for the second half of the Government's first term in power look pretty good.

"He wants to improve productivity by improving the use of human capital through improving health and education," says Mr Winder. "He wants to do this while making the business community more entrepreneurial."

The Treasury badly underestimated the significance of the Asian and Russian economic collapses and the crisis in the international financial system, but it has recovered its equilibrium. Mr Brown is expected to strike a confident note on the economic outlook after the first half of this year. This means he is likely to cut his forecast of 1 per cent growth in 1999 - perhaps by a half. But he is almost certain to predict a "soft landing" for the economy - a low point in the economic cycle without a dip into recession.

The watchwords for the Budget are likely to be "prudent", "steady as she goes" and "boring". This will disappoint few.

"The economy is going along pretty well," says Ruth Lea, the Institute of Directors' policy unit head. "So, please, Chancellor, we don't want fiscal stimulus. Please, Chancellor, we want a boring Budget."

Polls show that the middle of Middle England - the segment of the population employed by major companies - feels more at ease with itself today than it has for four or five years.

So the verdict on Mr Brown's Budget will probably be positive. Is the Chancellor moving the economy along the right track? Thumbs up from the public. Is he underpinning the Government's popularity? Thumbs up from the New Labour faithful.

To put it another way, the discussion generated by Mr Brown's Budget will take place on his own terms. The themes of the Budget have been trailed as "enterprise" and "fairness". Most of the comment will address itself to how closely the Chancellor has come to meeting his own targets.

The Tories will almost certainly accuse Mr Brown of being a tax-and-spender by stealth. Last week Tony Blair blunted this attack by acknowledging that taxes have risen. Taxes and social contributions as a percentage of the nation's gross domestic product were 35.4 per cent in 1996-7. They are forecast to be 37 per cent in 2001-2. Mr Brown will be unapologetic about this. Indeed, he will take all steps necessary to ensure the economic downturn does not unbalance the Budget.

The Chancellor will, in sum, remain in Micawber mode. He will remind Parliament of his "golden rule" - restricting government spending over the life of the economic cycle to the amount of government income. Simultaneously, however, he will seek to soften New Labour's image as neo-Thatcherite.

So the Chancellor will stress policies aimed at wealth redistribution as well as wealth creation. But he will do this by reaffirming his commitment to make the nation's pounds 100bn annual social security programme more efficient.

There will be criticism of the Budget this week, but it will probably be muted. Critics are likely to speak at cross-purposes.

Tax experts will question the effectiveness of Mr Brown's measures. For example, he is expected to announce tax credits for spending on research and development by small firms. But, says Lucy Chennells, of the Institute of Fiscal Studies: "Companies with fewer than 400 employees account for only 29 per cent of R&D spending."

Lobbies for the poor, meanwhile, are likely to question announcements underpinning the fairness theme. The Chancellor is expected to introduce a new 10p rate of tax. However, says Tom Clark, of the Institute of Fiscal Studies, the reduced tax band could amount to less than meets the eye. It won't redistribute wealth to people not paying income tax, he points out. Nor will it necessarily persuade people at the low end of the wage scale to be quicker to take low-paying jobs.

"A 10p rate of tax will be worth pounds 3 a week to many people qualifying," Mr Clark says. "But 85 per cent of that pounds 3 could be taken away through benefits lost as a result [of taking low- paying jobs]."

Economists outside the mainstream will question the economic assumptions on which Mr Brown's Budget is based. Whether the Chancellor cuts his forecast for 1999 growth from 1 per cent to 0.6 per cent or 0.4 per cent is insignificant, they will say. What is significant is that the world economy looks fragile. The economic cycle could be seriously disrupted by a crash on Wall Street or the spread of deflation from Asia to the West.

"The UK economic picture is all right," says Malcolm Tulloch, a financial forecaster at Tulloch Research. "But the UK remains exposed to outside events. It remains a high-risk economy."

Mr Tulloch and other bears are not that critical of what the Chancellor is expected to say on Tuesday. Their concern is what he will not say. The bears see the Chancellor taking little action to pre-empt the dangers of a fragile world economy still recovering from the Asian crisis, and now, possibly, heading into a US-European trade war.

On balance, Mr Brown can be expected to deliver an economically and politically adroit Budget. It will be consistent with mainstream forecasts and the sense of most voters of where the country should be heading.

The risk is that to claim the centre ground, New Labour has made too many compromises. The risk is that the Third Way is ultimately a tangle of self-negating, too-clever-by-half policies, which attempt to smooth out unsmoothable contradictions.

If the global economic picture does turn darker than forecast, the Chancellor's impressive achievements to date - likely to be crowned on Tuesday - could come unstuck fast and he could be too tied down in Third Way compromises to react.

WHAT TO WATCH OUT FOR

n Economic assumptions: current Treasury forecast is for 1 per cent growth in 1999. Watch for: a cut in this forecast - allied to reassurances that the UK will avoid dipping into outright recession before rebounding.

n Mr Brown's enterprise theme: the Chancellor will stress that the Government has done a good job in providing a sound framework for business. The chink in his armour is the high pound hitting exporters. Watch for: what Mr Brown says about bringing sterling down against the euro.

n Mr Brown's fairness theme: the Chancellor is expected to introduce a new 10p rate of tax. Watch for: the fine print. It will determine whether the new tax band deals with the loss of benefits suffered by those taking low-wage jobs.

n R&D tax credits: the Chancellor is expected to offer tax breaks to small firms for research and development. Watch for: an enhanced scheme for Venture Capital Trusts. Also: creation of a public-private Enterprise Fund to provide start-up loans.

n Extension of small business capital allowances: the Government last year offered small businesses a temporary 100 per cent allowance on first- year capital spending. Watch for: this temporary allowance to be made permanent.

n Employee share ownership schemes: Mr Brown is expected to announce new tax incentives for companies offering employees share option schemes (a diluted form of the discredited stakeholder society idea). Watch for: the fine print. It will determine whether schemes are available to privately held, as well as publicly quoted, companies - many small, entrepreneurial companies start out privately held.