What long term plan?
The Conservatives are worried about the economy. Their key election message will be the economy. That has always been the battleground for 2015. Opinion polls putting the Conservatives well ahead of Labour on economic credibility measures support their strategy, but they must continue to appear credible for the strategy to work.
The British economy is growing strongly and the United States’ recovery appears robust so far. However, the eurozone appears at risk of another recession and even deflation, while Japan has already slipped into another downturn according to the latest official estimates. There are risks too from the ebola outbreak and Russian action in Ukraine. The outlook is mixed therefore and the United Kingdom will not be immune from problems happening elsewhere in the world. This is the point David Cameron wants people to draw from his Guardian article this week, with repeated mentions of a ‘long term economic plan’. He does not want us to focus on the failure of his economic policy at home.
On the face of it, there seems little to worry about. Although the pace of growth may have slowed slightly, around three per cent GDP growth is expected this year, with the Bank of England expecting that another 0.5 per cent will be added to the growth rate as more accurate data comes in. We cannot expect growth to always happen in a balanced way, because some sectors will lead, but often the data plays catch-up with reality. We saw this with recent revisions, which increased significantly the contribution of investment to recent growth. Furthermore, adding to the sense of optimism, average regular wages are now growing faster.
There are potential problems, however. For example, tax revenues are lower than expected, leading to higher borrowing than expected. The Office for Budget Responsibility publishes new forecasts on 3 December. These will include a new estimate of how much spare capacity there is in the UK economy. The Financial Times recently ran data through two models the OBR uses and reported that they both suggested there is no spare capacity remaining. If the OBR comes to the same conclusion, the consequences could be depressing. Government borrowing is still very high but it is expected to fall as recovery continues and spare capacity is used up. Some borrowing is unaffected by the economic cycle and forms what is known as the structural deficit. If there is little spare capacity left, that implies that more of the borrowing we are seeing is structural in nature and we have to do more to reduce it. Should the OBR revise its estimate of the structural deficit substantially that could change the terms on which parties feel able to make economic policy. It would mean more spending cuts or tax rises are required to cut borrowing in the timescale the Conservatives are targeting.
A change to the estimate of the structural deficit is not certain. The financial crisis may have changed the way the economy works and the OBR has been looking at alternative models of capacity. Nevertheless, if it does change its forecast that will not have been for the first time. The original coalition plan was designed to eliminate the structural deficit by the end of the parliament. Last time his policy was derailed, leading to a huge increase in planned borrowing, George Osborne blamed the eurozone crisis. Although this hit exports and affected business confidence it did not explain why tax revenues were not performing as expected. Now, the government is attempting to frame a new potential failure in the same way since the OBR will probably be more pessimistic about world growth.
There will be no escaping the fact, however, that the government’s economic policy has failed. The focus on ‘austerity’ immediately after the general election, including cutting back investment spending, dented confidence at a time when the economy was particularly vulnerable. The original fiscal targets have been missed and growth plans have amounted to too little too late. We are reaping the harvest of over four years of misguided policy. There is a risk that our economy’s trend rate of growth is now lower than before the crisis, which would have implications for future prosperity and spending on services such as health and education. David Cameron talks about a ‘long-term economic plan’ because the phrase resonates with people. But there is no long-term plan, only a short-term plan gone wrong, again.
This article was first published by Progress on 19 November 2014.