Pre-Budget statement: Caution that will keep Brown out of a black hole

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The Independent Online
THE BUDGET gives Gordon Brown his best chance to steer the course of the economy over the next few years. In yesterday's pre-Budget report the Chancellor announced that he will bow to the inevitability of a slowdown and allow borrowing to rise to protect spending on core areas of health and education.

But Mr Brown's plans rule out any danger of falling into a so-called black hole in the public finances. Despite criticism over the Government's failure, as recently as June, to see the economic downturn coming, the increases the Treasury has pencilled in for borrowing over and above its last set of targets are very modest.

The main reason for this fiscal optimism is that the Government's finances are in a far better state to start with than the Treasury expected in the summer, despite the background of world financial crisis. Mr Brown said yesterday: "Britain is far better placed than in the past to face these global difficulties."

A separate pre-Budget paper from the Treasury will argue that even if growth turned out 1 percentage point lower than its forecast, this would add just pounds 3.5bn a year to borrowing.

Yesterday's statement focused on net public borrowing requirement, the bottom-line summary of the government budget position used in most other countries.

It differs, by detailed accounting adjustments, from the figure the City likes to highlight. This is the "Public Sector Net Cash Requirement" (PSNCR), which is the new name for the old PSBR in the deeply arcane world of public sector accounting.

The Treasury now reckons that there will be a surplus of pounds 1.5bn this financial year but that net borrowing will jump to pounds 4bn next year and pounds 5bn in 2000-2001 before declining again.

The PSNCR will show a surplus of pounds 2.8bn in the current financial year, compared with the deficit of pounds 4bn (including the windfall tax) predicted as recently as June.

The Chancellor insisted yesterday that his figures are robust to the likely economic downturn in the coming year and that he will meet his "golden rule". This states that - over the course of a business cycle - current spending by the Government will be in surplus, while borrowing will be limited to what is needed for public sector investment.

This formulation allows borrowing to climb in years when the economy turns down. It means the Government does not have to counteract the effect of "automatic stabilisers" whereby borrowing rises in years when growth slows and vice versa.

Stability is, after all, Mr Brown's Holy Grail, enshrined in the title of yesterday's statement, "Steering a stable course for lasting prosperity."

Yesterday's updated forecasts show government borrowing remaining below 1 per cent of GDP even in the Treasury's worst scenario, adjusting for the position of the economy in the cycle. They also imply that Mr Brown will meet a second fiscal rule he has set himself, that public sector debt will fall below 40 per cent of GDP.

Some economists - not to mention the Conservatives - are far less sanguine than Mr Brown about the outlook for the public finances, arguing that the slowdown, or even recession, will make it impossible to attain the golden rule.

Kevin Darlington, an economist at ABN-Amro, the City investment bank, said that in the worst case, borrowing could exceed the limit implied by the golden rule by some pounds 20bn over three years. This is in line with separate estimates by the National Institute of Economic and Social Research published earlier this week.

However, Mr Darlington added: "Nobody in the City is going to worry about a borrowing requirement that is still less than 2 per cent of GDP."

He added that the Government was heading into the slowdown in a strong financial position and with a lot of caution already built into its estimates.

In the depths of the last recession borrowing soared to the equivalent of 7 per cent of GDP, while the national debt doubled in six years.

Besides, other City experts believe that the worst-case outlook for the public finances is too gloomy. David Hillier at Barclays Capital said: "The Treasury forecasts have been very, very cautious and it will stand them in good stead."

Most calculate that Mr Brown wants to have cash in hand for announcements of extra spending in the run-up to the next election.

There are two areas of disagreement between the optimists and the pessimists. One concerns the underlying economic forecast.

Yesterday's Treasury calculations are based on a growth forecast of 1- 1.5 per cent in the next financial year, 2.25-2.75 the following year and 2.75-3.25 per cent the year after that. In the medium term, they pencil in the 2.25 per cent that is thought to be the economy's trend rate of growth.

However, some forecasters expect a sharper slowdown or even a drop in national output. The gloomiest predict that the economy will expand by as little as 0.3 per cent in 1999.

In addition, estimates of how big tax revenues will be can differ sharply even for a given growth forecast. Company profits and corporation tax receipts are the most variable over the course of a business cycle, and different forecasters can come up with a huge range of plausible predictions.

On top of that, the borrowing figure is the gap between two huge numbers, for spending and tax receipts, and therefore impossible to predict with any accuracy. The average error in forecasting the borrowing requirement is more than pounds 10bn a year either way, which puts the sound and fury over Mr Brown's precise numbers clearly into context.