Leading article: Uncomfortable truths for a stubborn Chancellor

The UK has more room for manoeuvre in the bond market than George Osborne will admit

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When George Osborne established the Office for Budget Responsibility he gave it a mandate to tell him uncomfortable truths about the state of the economy and the public finances. It is now beginning to do so. The truths hinted at by Robert Chote, the head of the OBR, in an interview with this newspaper today, are certainly uncomfortable for the Chancellor. Mr Chote suggests that the Treasury is likely to miss its 1.7 per cent growth target for 2011.

An analysis from the International Monetary Fund (another organisation whose economic judgement Mr Osborne has lauded in the past) issued a similar warning this week. The IMF has forecast growth for this year of just 1.5 per cent. It also recommends that Mr Osborne should be prepared for "significant loosening of macroeconomic policies" if growth remains this weak. By this it means more quantitative easing by the Bank of England and temporary tax cuts.

Yet Mr Osborne has stubbornly set his face against any change of course on the £110bn fiscal tightening over five years he announced last June. He has talked repeatedly of the need for rigorous fiscal discipline to maintain the confidence of the bond markets, arguing that any shift from the plan he laid out more than a year ago would spark a market panic that would force up interest rates.

There is, however, more than one way to lose market confidence. Investors in recent weeks have shown that they can be rocked just as much by doubts about a nation's ability to generate growth as concern about its determination to balance its books. Moreover, persistently weak growth could jeopardise the very goal of deficit reduction that Mr Osborne has made his lodestar. If growth does not materialise, unemployment will remain high. And if those half a million or so public sector workers who are expected to lose their jobs as the Government slashes public spending over the coming years do not find jobs in the private sector, unemployment will actually increase. And if unemployment increases, so will welfare payments. And this, in turn, means that Mr Osborne's cherished medium-term deficit reduction targets will be missed.

What the IMF argues is that under circumstances of prolonged weak growth, a change of fiscal course would be appropriate. As indeed it would. The grave danger is that a prolonged period of weak growth would turn an otherwise temporary unemployment surge into a permanently high jobless rate; and that a collapse in consumer and business confidence would become a downward spiral. A loosening of short-term fiscal policy, which would help to avert such a loss of confidence, should not therefore be seen as a jettisoning of medium-term deficit-reduction goals, but an attempt to keep those goals in sight. The UK has more room for manoeuvre in the bond market than Mr Osborne will admit. The fact that our borrowing rate has been driven so low makes it abundantly clear that investors are not worried about the creditworthiness of the UK.

The Chancellor and the Government need to understand that flexibility in the face of changed economic circumstances is not a vice, but a virtue. And it is becoming increasingly clear that Britain's economic circumstances have indeed changed – and for the worse.

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