Borrowing to be revised up & Osborne’s excuses don’t add up
Big news on the public finances in today’s FT. It would seem that the Chancellor’s Office has had their first look at the OBR forecasts and they don’t like what they see.
In an attempt to get their excuses in first, we have a front page story in the FT. A story which doesn’t seem to entirely stack up.
Ignore the ephemera about a ‘Learjet levy’ on private planes and the entirely expected news that the OBR is going to downgrade growth – the big news is that borrowing forecasts are being revised up.
Apparently this is because of the ‘wrong kind of inflation’.
Normally one would expect inflation to help close the deficit as incomes, and hence tax revenues, rose. But as the labour market is stagnant, wages aren’t rising whilst inflation linked benefit charges are.
As the FT reports –“The combination will leave borrowing significantly higher than the OBR forecast from 2012 onward, even though tax revenues have exceeded expectations in 2010-11.”
So – growth down, borrowing up, but apparently this is due to the ‘wrong sort of inflataion’. I have three problems with this line of defence.
First – the fact that inflation is risising, earnings are stagnating and real wages are falling is not ‘new news’. It’s been obvious for sometime. Meryvn King made a major speech on this very topic two months ago. It seems odd that the OBR would haved just grasped this fact.
Second – as Mervyn King has noted one the major factors behind higher inflation in 2011 has been the impact of January’s rise in VAT. Osborne can hardly blame ‘the wrong sort of inflation’, when his own policy is helping to stir that inflation.
Finally – and we’ll know more tomorrow when we get the OBR numbers, but I’m not sure that higher inflation really can explain missing the borrowing forecasts.
Back in November the OBR forecast that CPI inflation in Q4 2011 would be 2.8%. The Bank of England’s latest median forecast is for it to be 4.2% in Q4 2011. So let’s assume that the OBR raises it’s CPI forecast by 1.4%. Is this really enough to explain a ‘significantly higher’ borrowing forecast? It seems unlikely.
Especially as this is just a one year effect, in later years the Bank predicts CPI falling back to 2%, something the OBR is unlikely to disagree with (to do so would be a major challenge to the Bank).
Can one year of 1.4% higher inflation make a ‘signifigant impact’ on the public finances?
To get some sense of the numbers involved, it’s worth looking back to the June budget when Osborne switched the indexation of benefits, tax credits and public service pensions from RPI to CPI, which was then about one percentage point or so lower. This saved £1.2bn in 2011/12, rising to £2.2bn in 2012/13, £3.9bn in 2013/14 and finally peaking at £5.8bn in 2014/15.
Presumably temporarily higher than forecast CPI will only really have a major impact on 2011/12 and 2012/13. Even if it cost 50% more than the CPI switch saved we’d still only be taking extra borrowing of £1.8bn next year and £3.3bn the next. This is hardly ‘a signifigant’ increase in borrowing.
Today’s Treasury briefing just doesn’t seem to stack up. What seems far more likely is that the OBR has concluded that the benefit bill is going to increase primarily because of higher unemployment and slightly because of higher inflation. The Treasury is, naturally, focussing on only the second part of this and getting its excuses in first.
We’ll know more tomorrow, but this strikes me as desperate stuff.