Leading article: The dangers of economic forecasts

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The report from the new Office for Budget Responsibility (OBR) is a double-edged sword for the coalition Government. Sir Alan Budd and his team have lowered the official borrowing forecasts for the next year (from 11.1 per cent of output to 10.5 per cent) because tax revenues are coming in somewhat above expectations. But the OBR has also downgraded medium-term annual growth forecasts (from 3.25 per cent to 2.6 per cent) and issued a higher estimate of the size of the structural deficit (up from 7.3 per cent of output to 8 per cent).

The lower borrowing forecast contradicts David Cameron's hysterical assertion last week that things are "even worse than we thought" in the public finances. To that extent the former Chancellor, Alistair Darling, is indeed owed an apology. But the lower growth forecasts and the increase in the size of the structural deficit make the case for slightly more extensive retrenchment since they imply that less revenue will return automatically. The fiscal gap that needs to be closed by spending cuts and tax rises by 2015 according to the OBR is around £10bn more.

Yet how seriously should all this be taken? The OBR's growth forecasts are now closer to private sector consensus estimates (although still somewhat higher). That is probably a more sensible assumption for the Government to work on in formulating its financial plans. But it is important to remember that those private sector estimates themselves are highly uncertain. And no economist, not even the respected Sir Alan, can be entirely sure about the size of the structural deficit, a highly uncertain economic construct.

Britain is one of the most open economies in the world. And with most consumers still heavily indebted, our recovery will be highly dependent on our ability to increase our exports. The present problems in the eurozone – by far our biggest single trading partner – make any firm predictions about the path of UK growth highly unwise. The Prime Minister and the Chancellor, George Osborne, often imply that public sector borrowing is holding back private sector growth and that there will be an upsurge in domestic business confidence and investment when the fiscal retrenchment begins. But there is simply no evidence to support that view. Indeed, what little information we have points to the opposite. A new survey by the accountancy firm BDO shows that business confidence has fallen dramatically since the coalition Government announced £6.2bn of spending cuts this financial year.

These OBR estimates do not change the bigger picture for the Government. Public borrowing needs to come down in the coming years. The UK clearly cannot continue borrowing 11 per cent of our output for the indefinite future. And next week's Budget needs to lay out a clear and credible plan for reducing the deficit. The alternative is the risk of an investor run on British sovereign debt which would push up borrowing costs throughout the economy at the very worst possible time. The Deputy Prime Minister, Nick Clegg, was right to argue yesterday that there is nothing "progressive" about allowing public spending to run out of control.

But there needs to be an understanding by the Government that the pace of cutting must be based on the strength of the recovery. If output is more robust than predicted, more can, and should, be done sooner. But if it is weak, or if we experience a double-dip recession, there needs to be a contingency plan to boost demand. What Britain certainly does not need – and what the Chancellor must avoid in next week's Budget – is an approach to dealing with the deficit based on ideology or misplaced confidence in inherently fallible economic forecasts.

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