Should we stimulate economic growth?

As the Budget approaches, is it right to increase borrowing to try to stimulate growth by

The poor performance of the UK economy has prompted discussion about how the government can stimulate the economy.  Its record here is abysmal.  Various growth plans have promised more in the anticipation than they delivered in print, let alone in practice.  We are still awaiting news of George Osborne's plan to get credit to small and medium sized businesses for example (when he should have put pressure on the Bank of England to act).  The Budget is due next month; hence debate about the alternative options available.

Shadow Chancellor Ed Balls has entered the debate with a call for tax cuts.  He is keeping with his previous call for a VAT cut but suggests alternatives.  These include raising personal allowances to take more people out of tax, or a temporary 3p income tax cut.  The downside with these, he points out, is that they would not help the poorest.  However, he urges action of some sort to avoid years of low or no growth.  Meanwhile the LibDem leader has signalled that he wants the pledge to raise personal allowances to £10,000 accelerated.  And there are calls for tax cuts from Tory backbenches.

Strange that everyone is suddenly seeming more relaxed about relaxing fiscal policy.  Especially just after a credit ratings agency - Moody's - announced it was considering downgrading the UK's AAA debt rating.

Moody's main issue was that it was worried about UK economic growth - if this did not recover as expected the government would have trouble meeting its fiscal targets.  That's because lower growth means lower tax revenues than expected and also if it means continuing or increasing unemployment levels, that means higher than expected government spending on welfare (which forms part of annually managed expenditure ie not part of departmental expenditure plans).

So you can see why people are worried about growth.  But can we afford action?

There is actually some room in the finances for some sort of action.  That includes cutting debt faster of course.  The room comes partly from the better than projected borrowing figures for the current year.  It also comes from where we are compared to the projections by the Office for Budget Responsibility (OBR), made in November.  One of those is borrowing costs, which were perceived to be at low levels at the time but are now even lower.  Ten year gilt yields were 2.5% in October.  They fell below 2% and are not far above that level now.  That means new gilts can be issued for cheaper interest cost than had been expected.  The saving may not be huge in the grand scheme of things but it might be enough to do something.  But what should that something be?

In my year ahead piece last month, I wrote about a lesson from Japan.  Japan faced (and faces) a large debt burden.  It tried various measures to stimulate growth but these tended to be of a temporary nature.  My concern was and is that governments, worried about low or no growth, finally succumb to calls for action but not really getting it propose half-hearted measures.  The good thing about the Balls proposals is that they suggest a degree of scale.

My view is that governments in these circumstances have to send a clear message out about investment and growth.  Even a clear commitment to actively promote or lead investment for the next decade, together with a simplified tax system and clear market incentives, and a message that the UK's infrastructure (including IT) will be steadily and continuously upgraded.  That should be combined with a jobs scheme which will guarantee work for all or almost all.  The reason for tackling the problem this way is that the real issue is still one of confidence.  Temporary measures can be second-guessed by people.  They respond in different ways than they do to changes they regard as permanent.  If your boss gives you a one-off bonus, you are less likely to take out a bigger mortgage than if he/she gave you a pay rise.  If businesses (and credit ratings agencies) believe government means business itself about growth, they are more likely to invest themselves.

Stephen Beer, 20/02/2012

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