Leading Article: This recovery is looking good

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BRITAIN'S economic recovery has reached a defining moment. Yesterday's industrial production figures show that output has been rising for more than two years as consumers have slowly loosened their belts. The Government must now judge whether the recovery has deep enough roots to withstand this week's tax increases and whether, in the longer term, it can escape the resurgence of inflation on which British economic revivals have so often foundered.

The signs so far are encouraging. Since the economy passed its nadir, largely unnoticed in the spring of 1992, high street spending has been the engine of growth. Consumer expenditure has risen strongly while investment has languished and a stubborn trade gap has acted as a drag on growth. But in recent months the recovery has begun a welcome rebalancing: the output of investment goods has picked up while production of consumer goods has become more subdued.

The recovery is now beginning to look a lot more like that of the early Eighties, when investment and the restocking of storeroom shelves led from the start. Output of investment goods has risen by 1.8 per cent in the three months to February, three times the rate of growth in the consumer sector. This is all to the good: investment will provide the foundations for an enduring industrial upturn by creating new productive capacity, while excessive growth in consumer spending would threaten a surge in imports and a yawning trade gap.

The tax increases should reinforce this trend, subduing consumer spending but probably not derailing it. Consumers have had months to prepare for the assault on their wallets and purses, which will not be as abrupt as this week's political sparring might suggest.

Rises in excise duties have already been imposed and VAT on fuel will be paid only as quarterly bills arrive. Income-tax rises and higher national insurance payments only bite with each successive pay packet, while the last cuts in mortgage tax relief are still a year away. These are slow-burn effects, so they are unlikely to bring the recovery to a sudden and shuddering halt.

Political damage to the Government may well be more dramatic, however. Whatever the short-term temptation to offset this blow with lower interest rates, economic reality argues for a policy of masterly inactivity. Further cuts in borrowing costs are probably unnecessary to keep the recovery going, although inflation remains sufficiently subdued to allow for a change of heart if consumers over-react.

The real dilemma for policy- makers will come in a year or so, when the Government fixes its attention more closely on the next general election. Inflation should still be under control, economic growth is likely to be steady, if unspectacular - and siren voices will begin to call for tax cuts. If the recovery is to endure, and not to burn itself out in rapid price rises or surging imports, these calls must be resisted. That will be the key test of whether Britain has managed to kick its inflationary habit.