Better to exercise a little more caution

It is time for some second thoughts about that Budget. The markets very quickly made up their minds, and nothing that follows should be taken to do more than nibble at their enthusiasm. In any case a British Budget, be it good, bad or indifferent, is only one of many influences on security prices, and by no means the most important. World trends in interest rates and the global economy matter far more.

What is worth doing, though, is to question the markets' enthusiasm for cutting the fiscal deficit as quickly as the Chancellor intends. The direction of policy is unquestionably right - everyone accepts that the Chancellor had to project some sort of path towards fiscal balance. But the wisdom of cutting at the pace at which he intends is more doubtful.

Some calculations from Kleinwort Benson suggest that the retrenchment is far tougher than the equivalent cutbacks in the early 1980s. In real terms underlying public spending is forecast to fall by 1.3 per cent next year while, after depreciation, public sector capital spending is forecast to fall by 18.5 per cent in real terms.

Faced with this, Kleinwort has cut its forecast for economic growth next year. It now reckons that growth will peak at 2.5 per cent a year in 1994, but fall back to the 1-1.5 per cent region in 1996.

It is worth paying attention to this, for the Kleinwort team has been good at forecasting how fast the economy has grown during the past year, picking up the solid take-off this year well ahead of other commentators. If the team is turning more sceptical now, then it does at least deserve attention.

There is a second reason for caution. At some stage quite soon it would be wholly natural were the recovery to falter. The domestic recovery has been fine - witness the extremely strong car sales and decent year-on-year rise in retail sales. It will be a good Christmas.

But the normal pattern of economic recoveries - in as far as there is any 'normal' one - is for at least one pause after the initial take-off. In the early 1980s we had two pauses, one about a year after the bottom, and a second and more serious setback after another 18 months. The US also has had an uneven recovery, which only now seems wholly secure.

This 'theoretical' case for expecting some hesitation is supported by practical evidence. Privately, several British companies will acknowledge that the past two or three months have been disappointing. A summary of several conversations with companies and their bankers might run like this. They are not as worried as they were 18 months ago when it was very difficult to see any growth at all. But after a first half to the year that was really encouraging, the past few months have been disappointing. Actual throughput has been fine, but forward orders not quite as strong as they ought to be. Yes, the recession is clearly over, and yes, because firms have reorganised themselves to be profitable at a lower level of demand, it will be possible to produce decent results. But it is difficult out there.

This nebulous feeling that all is not quite well has been confirmed by a few public announcements, most recently by the advertising agents Saatchi & Saatchi. Anyone interested in the pace of recovery would do well to read the news from frontline businesses such as advertising.

Faced with these uncertainties, there is at least a reasonable case for wanting to be cautious on the fiscal side. Kleinwort argues that the Chancellor has not been so.

Whether that is right or wrong remains to be seen. There is, however, a rather different line of criticism which comes to much the same conclusion by starting at the opposite end of the argument: that the Chancellor does not need to correct the fiscal deficit as quickly as he plans. The British government, it argues, is underborrowed by world standards.

If one looks at central and local government debt around the world per head of employed person, Britain does appear close to the bottom of the league: only Japan is lower. OECD figures show that whereas we have only dollars 21,000 of debt per employed person, France has dollars 31,000, Germany dollars 35,000, the US dollars 37,000, Italy dollars 61,000 and Belgium dollars 72,000. One moral might be: do not buy the public sector debt of Belgium or Italy. Another is that provided there is a clear path towards balance, the UK's creditworthiness should be strong enough to withstand the interim borrowing.

Both these cases have merit, and if the recovery does seem to falter some time next year, we will hear more of them. Much will depend on whether the private sector comes in with substantial support for investment projects to take the slack left by the Government. If one were really cynical, one might say that the combination of a slow recovery and a strong fiscal position is exactly what the Government seeks to justify tax cuts in two years' time. But that is far in the future. Meanwhile, it is worth noting that Mr Clarke's Budget was tighter than it seemed.