Office for Budget Responsibility expects a contraction in GDP of 0.1% this year and growth of 1.2% in 2013
George Osborne was forced to admit that the grim outlook for economic growth means he has broken one of his two self-imposed fiscal rules and the Tories will go to the polls in 2015 promising another three years of austerity.
Back in 2010, when the brand new Office for Budget Responsibility published its first assessment of the economic outlook, it was expecting Britain’s recovery to be in full bloom by now. Growth in 2012 was forecast to be a healthy 2.8% this year, rising to 2.9% in 2013.
But ever since that first outing, the OBR’s forecasts have repeatedly been pummelled by reality, and on Wednesday it announced that it now expects an outright contraction in GDP of 0.1% this year, and anaemic growth of just 1.2% in 2013.
According to its chairman, Robert Chote, the downgrade would have pushed the public finances £105bn off course over the next five years without the series of one-off factors that flattered Osborne’s figures.
The OBR’s latest forecasts fell more closely into line with the bleak City consensus. In his speech to the House, Osborne insisted Britain was “on the right track;” but said that there were “no quick fixes,” for an economy still working through the after-effects of the deepest recession in a century, and what he called the “decade of debt”.
According to the OBR, the weaker-than-expected performance of the economy reflected three factors:
• Consumer spending was lower in real terms after high inflation devalued shoppers’ spending power.
• Business investment failed to recover as expected as a result of bank loan rationing and is likely to stay depressed compared to the OBR’s original forecasts.
• Net trade is weaker than expected after British firms failed to capitalise on the lower pound to improve sales abroad. The OBR said the euro crisis, slower growth in China and the economically unstable situation in the US were to blame.
Osborne seized on the OBR’s assessment that the government’s austerity programme was not to blame for the deterioration in the economic outlook.
Chote’s view contradicts the International Monetary Fund, which warned governments to restrain spending cuts after it calculated that every pound cut from government spending reduced output by an average £1.30.
Judged by the two rules he set himself when the coalition came to power, the OBR scored Osborne one out of two. It said he looks set to meet his first rule, the “fiscal mandate” – to balance the budget over the coming five years, adjusted for the economic cycle.
But Chote said the government will take a year longer before it can reduce the UK’s debt as a proportion of GDP – busting Osborne’s second rule, that public debt as a share of GDP should be falling by 2015-16.
He said: “We now expect debt to rise in that year, to a peak of just under 80% of GDP, and then to start falling in 2016–17. So we believe that it is more likely than not that the government will miss the supplementary target.”
Shadow chancellor Ed Balls was thrown off balance by the fact that despite the double-dip recession, the deficit will actually be £11.5bn lower than previously forecast this year, adding £108.5bn to the public debt, instead of £120bn – a fact the chancellor gleefully pointed out.
The total was flattered by a series of one-off factors, including the expected £3.5bn revenue from the sale of the 4G phone network; the £11.5bn windfall from the Bank of England’s Asset Purchase Facility; and the Royal Mail’s pension fund being taken on to the government’s books.
Danny Gabay, of City consultancy Fathom, said: “We do feel uneasy about a system where internalising the Royal Mail pension deficit, selling some ‘air’ (otherwise known as 4G licences), and seizing the proceeds of APF gilt purchases can apparently lead to a material improvement in the public finances.”
Even with this extra helping hand, though, Osborne was only able to hit his first target by extending austerity for another year.
In 2010, he had expected to be able to stop swinging the axe before the end of the parliament, in 2015. He is now promising cutbacks until 2017-18, with much of the pain falling on benefit claimants, who will see their payments increase by 1% a year, instead of being uprated in line with inflation – a measure that will bring in £3.7bn a year, but squeeze the living standards of poor families.
Crucially, the OBR has also attributed most of the downturn in the economy since its last outing in March to a short-term, cyclical downturn, instead of a more permanent, structural crisis in the economy.
Since his “fiscal mandate” is adjusted for the economic cycle, if Britain is still stuck in a slump, Osborne can run a deep deficit without busting the rule.
Economists outside the OBR were puzzled at precisely how its latest forecasts had been arrived at. Jonathan Portes, director of the national institute for economic and social research, said: “They’ve just thrown out their previous approach and made up a number instead.” The OBR now expects the cyclically-adjusted deficit to be 0.9% in 2017-18; but in cash terms the Treasury will still be borrowing £31bn.
Some City analysts claimed the OBR’s growth forecasts still looked too upbeat: Chris Williamson, of Markit, said they contained, “some eye-catching numbers which still have an air of undue optimism about them”, highlighting its prediction that the modest recovery next year would be partly driven by a 5% rise in business investment.