IFS Green Budget - what it says about the UK economy

The Institute for Fiscal Studies last week published this year's Green Budget, it's annual preview of the government's Spring budget (due next month).  As usual it is a detailed and comprehensive look at the UK economy and the fiscal constraints and choices facing the Chancellor of the Exchequer.  If read with careful attention to the assumptions made about the economy and prevailing conventional wisdom it is a good guide for economic policy-makers.  It makes for sobering reading.

The IFS uses Oxford Economics for its forecasting and the chapters on the economic outlook. Here are some key points worth noting:
  • 2012 was a lost year for the UK economy because GDP was flat.  However, a 1990s double-dip recession was later revised away as GDP figures were revised upwards.  Throughout the year survey data and economic indicators pointed to a stronger economy than that seen in the figures.
  • The main drag on UK economic performance last year was our trade performance, taking almost 1% of GDP.  This was not only due to poor Eurozone performance.
  • There were signs last year that the domestic economy was picking up.  The pickup in household spending was due to an increase in the saving ratio to 7.3%, its highighest for 15 years.  The outlook for household spending should improve given increased personal allowance and lower inflation.
  • Business investment grew 4% but remains 12% below previous peaks (it fell 24% peak to trough during the recession).  Investment seems to be held back not by small businesses unable to access finance (because they represent a small proportion of overall business investment) but "the slow recovery in business investment appears to be more related to fragile business confidence" in larger firms.  Oxford Economics believes this was due to heightened uncertainty due to the Eurozone debt crisis, the US fiscal cliff negotiations, and the potential for a Chinese hard landing.  Firms instead have sat on larger than normal cash balances.  These three elements currently do not loom so large in the minds of business people.
  • The rapid growth in private sector employment is unlikely to be sustained and meanwhile the IFS believes public sector job losses could exceed the Office for Budget Responsibility forecast.  The OBR forecasts general government employment will fall by 900,000 between 2010/11 and 2017/18 but plans submitted by government departments up to 2014/15 imply a further 200,000 fewer jobs; continue the trend to 2017/18 and that implies a total of 300,000 fewer jobs than predicted by the OBR (ie 1.2m fewer jobs over the whole period).
  • Using March 2008 as the start point, by April this year, "79% of the planned tax increases and 67% of the planned cuts to investment spending will have been implemented, while just 32% of planned cuts to benefit spending and 21% of the cuts to day-to-day spending will have been delivered."
The overall picture is of an economy that may well do much better this year than last, with households feeling better off and businesses feeling more confident.  However, the medium/long term trend rate of growth may be significantly reduced, capital stock in the economy may have deteriorated due to lack of investment, jobs growth may falter and spending cuts have yet to really bite.

Stephen Beer, 11/02/2013

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