5 September 2019

Has the Chancellor put an end to austerity?


Sajid Javid had the thankless task of delivering a largely pre-ordained Spending Review on Wednesday. He may simply be relieved that his first set piece as Chancellor is out of the way without any major hiccups. With luck, he’ll have more chances to make his own mark soon, but what have we learned so far?

There wasn’t a lot of upside for Javid this week. This was only a one-year review of day-to-day spending, with most of the measures already having been announced, and capital budgets (including potentially eye-catching infrastructure projects) already in place. Any remaining room for manoeuvre was limited by the existing fiscal rules. This was plainly an event where the Chancellor had to stick ‘by the numbers’.

On top of that, the speech itself was overshadowed by the turmoil engulfing parliament. When the Chancellor tried to score a few political points, one of his own predecessors encouraged the Speaker to pull him up short – not once, but twice.

Otherwise, though, Javid played an unenviable hand reasonably well. The Chancellor announced an additional £13.5 billion of expenditure in 2020-21, with every department having their budget at least protected in real terms and most seeing a sizeable increase, thus allowing him to declare an ‘end to austerity’.

Of course, there are some who still think he loosened the spending taps too far, and others who think he didn’t go far enough. The Chancellor chose (or had) to spend almost all of the notional ‘fiscal headroom’ based on the OBR’s March forecasts, rather than put money aside for tax cuts or to reduce borrowing. Thus, austerity might be over as far as public spending is concerned, but there is still no sign of a lightening of the burden on current or future taxpayers.

That said, some other lines of attack do seem to be unfair. The IFS (among others) have suggested that the Chancellor is playing fast and loose with the fiscal rules by increasing spending without a new set of OBR forecasts. In particular, it has been argued that the fiscal headroom will disappear if the economy takes a dive after a ‘no deal’ Brexit.

This argument is weak, for two reasons. The first is a rather nerdy but important technical point: the fiscal headroom is based on the ‘structural’ (or cyclically adjusted) deficit. This means that, contrary to what almost all commentators are saying, it shouldn’t depend on what happens to the UK economy in the coming year. Indeed, this was borne out by the OBR’s own stress test of the fiscal implications of a ‘no deal’, based on the IMF’s GDP forecasts, which had no significant impact on the structural deficit in 2020-21 (or even for several years thereafter).

Admittedly, the analysis in Chapter 10 of the OBR’s July Fiscal Risks report also made clear that headline borrowing and debt would increase in this downside scenario. But this is where my second point comes in: if the economy does weaken further after Brexit (still a big if), this is precisely the time when it would be right to let the deficit take the strain. Indeed, this might be when tax cuts would be most effective too. Warnings that a downturn would necessitate the ‘return of austerity’ are as empty as George Osborne’s threats of a ‘punishment budget’ ahead of the 2016 referendum.

Perhaps paradoxically, though, the IFS has also been one of many voices arguing that there is still a lot of work to be done before past austerity is unwound. Perhaps the loudest voice here is the New Economics Foundation, which has claimed that ‘it will take up to 11 years for the government to reverse austerity at the current pace’.

This is dodgy too, for several reasons. Most importantly, it assumes that the level of public spending in 2010 was somehow optimal, and therefore that we need to return to it. This is surely wrong when looking at spending as a share of GDP (the basis of the ‘up to 11 years’ claim), since that ratio was inflated by the recession. But it is debatable for other measures too. We need to get away from the idea that more public spending is always better than less.

For now, the economics of the public finances will have to take a back seat to politics. But soon, the fiscal rules will need revisiting, and an Autumn Budget is imminent. The Chancellor will presumably be hoping he is still in place to deliver that too. A full multi-year Spending Review is now due to follow in 2020. Difficult decisions on the long-term finance of pensions, health and social care cannot be put off for ever either, given the increasing demographic pressures. These may prove to be unenviable tasks too.

Julian Jessop is an independent economist