Tony Blair’s finance minister and successor in waiting, Chancellor of Exchequer Gordon Brown has a reputation based on his “prudent” handling of the economy. Now it looks like not only are the wheels starting to come off but an elephant has just sat on the hood.
The general indicators like the rate of unemployment, retail sales, house sales and banruptcies were starting to look worrying. Now the Office of National Statistics has made a technical ruling on how debt is recorded that threatens to derail a mainstay of their econmomic management.
UNEMPLOYMENT
The headline rate of unemployment is fairly static and comparatively low but that conceals a number of factors that make it look not so rosy. This from the BBC site as are the other links.
In the three months from January to March, the government’s preferred ILO measure of unemployment fell by 15,000 to 1.4 million. On a monthly basis, the number of people out of work and claiming benefit rose by 8,100 to 839,400 in April.
Meanwhile, average earnings growth in the three months to March rose by 4.6%, down 0.1% on the previous month. Jobs continued to be lost in manufacturing, which reached a record low of 3.23 million in the quarter to March, with 82,000 fewer people employed in manufacturing than in the same period a year ago, the figures from the Office for National Statistics (ONS) showed.These figures to do not cover recent heavy job losses at MG Rover, IBM and Marconi.
So apparently OK but that fall of 15,000 claiming unemplyment benefit can be explained by:
….the number of economically-inactive people increased by 14,000 to 7.86 million – representing a fifth of the working age population. This measure includes people taking early retirement, looking after a relative or those who have given up trying to find a job.
This particularly affects women who might have been looking for work but have given up as they could not find one that paid enough to compensate for the cost of working, including child care. The Government has also announced a scheme to get people receiving “disablility benefit” back to work. There are people who get a higher rate of benefit as they have problems getting a job because of long term health problems. The numbers of these were artificially increases by the Conservatives to reduce their unemployment figures when they loosened the qualification for getting it. Now David Blunkett is in charge of the ministry and “getting tough”, we are likely to see the reverse happening.
RETAIL SALES
In the last 24 hours, major declines in sales or profits have been reported by three major UK retailers; Boots (principally pharmacies), Next (clothing) and Sainsbury’s (food and general retailing). Nationally the last three months reported showed an increase in value of just 0.2% over the same period last year.
HOUSE SALES
The volume of house sales in the first three months of 2005 was down 34.8% against the same period in 2004. Annual price growth continued to ease, with prices up 10.3% on the same period in 2004, compared with annual growth of 11.8% seen in the previous quarter.Recent surveys from mortgage lenders have hinted that the market is cooling.
BANKRUPTCIES
The number of people going bankrupt in England and Wales has hit another record high during the first three months of 2005, official figures show. The Department of Trade and Industry said the number of individual bankruptcies reached 10,091.The number of bankruptcies was 24.5% higher than a year ago and up 2.8% on the previous quarter.
HOW THIS AFFECTS THE BUDGET
While these indicators are not too worrying themselves, they indicate a slowdown in the economy to a near freexe. Consumer confidence is obviously at a significant low. The stagnation in the housing market will further affect retailing as much of the purchase of major appliances and furniture co-incides with house moves.
Most significantly, in his Budget just before the election, Brown presumed that the economy would grow at a much faster rate. Unlike the USA, estimates of income from taxes and expenditure are fixed before the start of the financial year. There are built in “contingencies” for things like the cost of the Iraq war or tsunami relief. The spending plans are governed by how much the government calculates it will get as tax income. Built into that is an expectation that the number of people employed and their wages will increase and that income from sales taxes will also rise. Those calculations are undermined by the actual results.
A QUICK PRIMER ON “PSBR”
One of the main measures of economic performance is what in the UK is called the “Public Sector Borrowing Requirement”(PSBR). This is not the same as the “budget deficit” in the US but more like mortgage borrowing.
Let me give a simple explanation. Let’s say you purchased a house for $100,000 and financed the entire cost on a mortgage. You have an asset worth $100k and a debt of $100k which balance out. So long as you can afford the mortgage repayments, everything is OK. The PSBR is like the line of credit you get to buy, if you can afford it, you could borrow more and get more assets. The PSBR measures the amount the government borrows long term each year to build “capital project”. This could be many things like roads,schools, hospitals and public housing. Obviously the nation continues build these whereas you would only buy one home.
Just like your bank manager looking at your income and seeing if you can afford the mortgage, the PSBR is a measure of whether the government is acting responsibly. There are limits in how this can rise. The money market would lose confidence and force a rise in interest rates, there are political decisions about its level and external pressures like the assessments of the World Bank and IMF.
The last Conservative government started to use an accounting device to keep expenditure “off the books”. Under a variety of names and detailed arrangements, they got private companies to borrow money and build say a hospital and to maintain it for a certain number of years. The governememt then leased back the hospital until the end of the contract which could run for 25 years. Then they either buy it at low cost or walk away. Very similar to the sort of arrangements you get when you lease a car.
Although the total cost is more – to pay the profits of the company for one thing – it moves the “capital cost” out of the PSBR and just increases the government’s “current expenditure”. This enables the government to authorise significant and politically advantageous improvements in the infractructure while not affecting the PSBR. (There are considerable democratic downsides to this which I do not have time to explore here).
THE NEW FACTOR
Over the sourse of the years the government has had to make the conditions in the contracts more advantageous for the companies to attract the investment. In particular they have recieved more and more quarantees to pass on to the banks that the lending is safe. As the scope has widened to things like running the London Underground renewal, maintenance and repairs, there becomes a point where the government has to bail out the company in the event of it going bankrupt. Otherwise the country could grind to a halt. Labor has used various names as the schemes changed – “Public Private Partnership” has become “Private Finance Initiative”. Friday the Financial Times will report a significant change in the way these are to be considered in relation to the PSBR:
The Office for National Statistics has decided to include billions of pounds of capital expenditure undertaken under the private finance initiative in public sector net debt figures, a move that will reduce Gordon Brown’s room for manoeuvre against his fiscal rules.
The classification change will also mean that there is no longer an accounting advantage for public sector managers to procure big projects through the PFI. That could lead to fewer PFI deals in future, harming the prospects for companies that are heavily engaged in PFI contracts, such as Carillion, Skanska and Serco.
By the end of 2004, the government had signed PFI contracts worth £42.7bn and the reclassification will affect around 57 per cent of these deals. These are the contracts deemed to be “on-balance sheet” because little risk has been transferred to the private sector.
The size of the revision is likely to be smaller than the £24bn value of on-balance sheet PFI deals signed so far, as it will affect only the capital expenditure element of each PFI deal at the time a private company spends the money.
But it will raise the Treasury’s forecast for public sector net debt as a share of gross domestic product closer to the chancellor’s self-imposed limit of 40 per cent, making tax rises in this parliament more likely unless Mr Brown changes his fiscal rules.
The chancellor’s sustainable investment rule says that “net debt will be maintained below 40 per cent of GDP in each and every year of the current economic cycle”.
The upshot of all this is clear for the promises made by the Government at the election earlier this month will be seen as broken. Either the ambitious public spending programs on hospitals and schools will have to be reduced or taxes will have to rise. Blair promised that the basic and top rates of income tax would not rise. They got into huge problems when they made a similar promise at the 2001 election and then got a report on National Insurance (pensions and healthcare). In order to get more for those, the rate of the NI contributions from pay was raised. In other words, an income tax rise in all but name. The one area where promises were not made was in VAT (sales tax) or duty on petroleum, alcohol and cigarettes. So expect to see big rises in these indirect taxes at the next buget, possibly a few months before Blair resigns and Brown tries to get elected as Leader by the Labour Party.
