Hamish McRae: Chancellors can't do that much

Budgets matter for what they do to public finances, not what they do to the economy
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The Independent Online

The Budget – but of course not the real Budget, for that will be the emergency one in June. Indeed we shouldn't rule out the possibility of there being a third Budget this year, should the emergency one fail to convince global savers or should there be another election in the autumn.

So there is an element of make-believe about the events today. The information about what is happening – the performance of the economy and the scale of the deficit – should be taken seriously, for the Treasury has won the battle with No 10 about the need to be realistic.

But for the future? Well, the plans will be interesting in that they will be one response to a set of disagreeable realities and, despite what the politicians proclaim, there is always an element of continuity in economic policy, whoever is in government. But they won't happen, or at least not in the form they are set out.

All that is obvious. But there is another element of make-believe about this Budget that goes far beyond party politics. There is an implicit assumption that is made by all chancellors and would-be chancellors that what they do has a profound effect on the economy.

Gordon Brown carried this tendency to extremes but Alistair Darling, George Osborne and Vince Cable are, to judge by their utterances, all to some extent in thrall to the same misconception. Budgets matter, but they matter first and foremost because of what they do to public finances. They matter much less for what they do to the economy.

It is as though the chancellor is on the bridge of a great classic ocean liner. White uniformed officers stride about peering at the horizon through binoculars. There is a storm ahead and the captain orders the course to be changed. The helmsman puts the wheel over and they telegraph to the engine room for more power. For a while the crew and passengers are reassured.

But nothing happens. The ship heads straight into the storm and the engines, far from driving the ship forward, seem to lose power. So a 6 per cent deficit isn't enough to "support growth"? Let's have the engine room boost power to a 12 per cent deficit. Still nothing happens. And nothing happens because the engine room – the private sector – knows that the orders from the bridge are absurd and the captain is about be relieved of his command.

So the country's finances have to be fixed and the next three, four or five Budgets have to do that. But they cannot support the idea, propounded by all three main parties, that government financial policy can reshape the economy in any significant way. Over time, government policy can assist wealth creation and economic growth, just as it can also damage this. But in the short and medium term all governments have to work with the economy as it is, not as they would like it to be.

The big economic question facing the country is this: what can we do that other people in other countries cannot do just as well or better? It is naturally a question that confronts all countries but it is particularly stark for European nations, including our own, with our ageing populations, our relatively high standard of living and our heavy reliance on global trade.

Five years ago the answer would have had at its head financial services. It would also have included pharmaceuticals, telecommunications, the creative industries, higher education and so on. And it is certainly true that the economy is more broadly-based than the people who lament the decline of manufacturing suggest. Nevertheless the biggest driver of everything in recent years has been financial services. The industry earned a surplus of nearly £40bn a year in net exports and paid some 40 per cent of corporation tax revenues. So when it faltered, the entire economy hit trouble.

But financial services are deeply unpopular with the electorate. It does not matter that banking is only one part of the mix and that insurance, securities trading, shipping, trade finance, legal services and so on are all huge net exporters too. Nor does it matter that most of the problems originated in the US rather than Britain or Europe. The response of both the Tories and the Lib Dems is to call for the economy to be reoriented away from finance.

The Tories have even promoted the idea that there should be a special tax on banks, even if other countries do not bring one in. I can see the political argument but can you imagine the leader of the opposition in Germany calling for a special tax on German motor manufacturers? Or the Republicans in the US calling for a special tax on US software development companies?

From a long-term strategic perspective it is always wiser for any country not to be over-reliant on any one industry, however good you are at it. In the case of Germany, until recently the world's largest exporter of manufactured goods, it is dangerous to be so dependent on manufacturing. One of the reasons why the German economy has an even sharper downturn than the UK was that it was savaged by the collapse in world trade. It is certainly dangerous for Russia to be so dependent on energy exports. And it was dangerous for China to rely so much on the US consumer.

But in all these cases countries have had to deal with economies that had specialised in their particular strengths. In the long term it might be wise for the UK to try and diversify away from finance but, in the short and medium term, the uncomfortable truth is that our best hope of reviving growth, and indeed tax revenues, is for the financial services sector to get back on to its feet as fast as possible.

You can even see an example of that later today. The Chancellor will announce that the extra levy on bank bonuses has brought in more than was expected. No other industry could suddenly pay an extra £3bn or whatever in tax. Not the motor industry, which always wants subsidies when it expands its plants, and not the entertainment industry, who demand tax concessions for making movies.

So when this Chancellor stands up today, just remember two things. One is that this is not the real Budget. The other is that neither he, nor his successor, nor the chancellor after that, can do much about the structure of the economy. They can put the helm over on the bridge but it will take an age for the ship to alter course.

h.mcrae@independent.co.uk

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