I suspect to most
people what Rachel Reeves announced yesterday went like this. The OBR
published a forecast, something it has to do twice a year. Compared
to its forecast that went with last year’s October budget, things
have got worse, and if Reeves did nothing she would now breach her
fiscal rules. As a result she chose to announce cuts to disability
benefits which the
government estimates will throw at
least 250,000 people into poverty.
That is not the full
story (see below) but there is enough truth in it to make most people
think this is a very odd way to conduct fiscal policy. They would be
right. The idea for the title of this post comes from remarks
made by Charlie Bean (ex Bank of England, MPC and OBR)
at a Resolution Foundation meeting. He notes that Reeves has, wisely
according to many, committed to holding just one Budget each year. It
follows, he suggests, that what he calls the ‘adult’ response to
the OBR’s new forecast would be for Reeves to simply note it, and
commit to changing tax and spending plans in the 2025 Budget later this year to
ensure the fiscal rules are met.
By October all the
spending plans will be settled, and the Chancellor will be
considering if and how to change taxes. In a changing world
potentially everything will be on the table. Even from a very
self-interested political point of view, if she ended up making the
same changes to disability benefits as she announced yesterday that
announcement will be competing with all the other Budget news and so
will have less of a political impact.
So why didn’t she
take the adult approach yesterday of just noting the new forecast?
The charitable explanation is to blame the Truss debacle, or rather
the mistaken lessons that politicians and others have drawn from it.
But if that is the case it really is rather silly and juvenile. News
about the economy and public finances hits the bond market on a daily
basis, and the OBR forecast is just one more item of news. If you
have previously announced that you will only make major fiscal
decisions once a year, there is no reason at all to think the bond
market will react to the OBR forecast in a more significant way than
any other piece of public finance news. Nor does cruelty earn you
market credibility.
The less charitable
answer as to why she didn’t take the adult response of deferring
decisions until October is that the Chancellor found it politically
convenient to suggest she had been forced to cut disability benefits
in order to retain fiscal credibility. If that is the case, then it
involves deliberate deception. To see why we need to briefly look at
what changed between now and last October.
The OBR’s forecast
yesterday incorporated assumptions about public spending across the
board, and not just disability payments. Below is a chart of the path
in yesterday’s OBR’s forecast of total public sector receipts
(‘taxes’) and total public spending excluding net investment
(i.e, current expenditure plus depreciation, labelled CE+D) as a
share of GDP. Looking at GDP shares has a number of advantages,
including abstracting from the main effect of changes in real growth
as well as inflation.
The ‘golden’
fiscal rule, which says forecast taxes need to equal planned current
spending, means that the two lines need to meet by the end of the
forecast period. They do so mostly because of higher taxes, but also
because of spending cuts. The share of current spending including
depreciation in GDP for 2029/30 is 41.4%, compared to 42.1% in the
last completed fiscal year of the previous Conservative government.
That in my book is a spending cut, when as I argued in
previous posts that increases in spending are desperately
needed.
Here are the same
chart from the OBR’s budget forecast.
It is the same
pattern, but in October both lines ended up above, rather than below,
42% of GDP. What has happened over the last six months is that the
forecast for taxes has fallen, so the government has reduced its
spending plans to meet its fiscal rule. The government has chosen to
respond to lower forecasts for taxes by reducing public spending,
rather than increasing some tax rates, and that is a political
choice. [1]
Some of the reasons
people give for not liking what has happened I think miss the point.
Getting the OBR to do the forecast rather than the government is
neither here nor there, as any Treasury forecast will reflect similar
developments in the public finances. (Been there, seen that.) That
fiscal plans are reacting to a very uncertain forecast is unfortunate
but how else besides a forecast can you compare spending plans to
future taxes? You certainly don’t want to tie current spending to
current taxes, but equally allowing future spending to drift apart
from expected future taxes makes
no economic sense either.
The main reason why
it is wrong to react to lower tax forecasts by cutting payments to
people with disabilities, and substantially increasing poverty as a
result, is because of the political choice it reflects. The
Chancellor is not having to make these cuts because otherwise she
would not meet her fiscal rules. She is making these cuts because she
has chosen to use this method rather than the many others available
to her to meet those rules. In particular, she has chosen to increase
hardship and poverty for some of the most vulnerable people in
society rather than raise taxes on those who can easily afford it. To
do this yesterday did not represent an adult and responsible fiscal
policy.
[1] This
underestimates the squeeze in departmental spending between October
and now, because overall spending has been pushed up by higher
interest rates on government debt.
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