There is no logic to the brutish cuts that George Osborne is proposing

The chancellor constantly cites Sweden and Canada as models, but at least they tried to energise their economies

o Will Hutton
o The Observer, Sunday 20 June 2010

This week's budget brings on an awesome economic and political moment. The former Labour government had already committed to a greater and faster reduction in the budget deficit than any British government in modern times. The coalition government wants to do more; to nearly eliminate a structural budget deficit of 8% of national output – some £116bn – in five years. Moreover, it wants spending cuts to take 80% of the load. No country has ever volunteered such austerity. It is as tough a package of retrenchment as the IMF imposed on Greece, a country on the brink of bankruptcy. It is twice as tough as the famously harsh measures Canada took between 1994 and 1997. It is three times tougher than Sweden's measures between 1993 and 1995. In British terms, it is immeasurably tougher than what we did after the IMF crisis in 1976 or after the ERM crisis in 1992.

If we are going to embark on such a course, there has to be a national consensus that it is right. What is proposed, if we are to believe the pre-budget speeches and leaks, is the closest to an economic scorched earth policy we will ever have lived through. If it is to work, we have to be prepared to accept not just enormous economic sacrifice, but to regard it as legitimate. There has to be complete honesty about why the measures are being taken. The reasons have to be unanswerable. The economics must be unimpeachable. The measures themselves have to be extremely skilfully implemented and seen to be fair.

This is not the case just now. Of course the structural deficit has to be eliminated. But Britain has time to make the change. Sweden took 15 years to lower some departmental spending by 20%, not the five years the government plans. We are not in the position of Greece. Britain has a diversified economy. Our cumulative national debt is not large by international standards. Uniquely, the term structure of our debt is very long – around 14 years. Most of this year's debt will be sold to British domiciled individuals and companies, so the international sovereign debt crisis has much less impact on us. The level of interest on the national debt in five years' time as a share of national output is more than manageable. These are the truths about the situation; to claim otherwise creates distrust.

I don't think either coalition partner is aware of how high the stakes are being raised, the degree to which they are unnecessarily backing themselves into a corner, and how much the ground has to be prepared before launching the country on the unprecedented path they plan. For example, each of the counter-arguments I have raised needs to be carefully argued against, not shouted down by hysterical remarks about the sovereign debt crisis or references to private lectures from the not infallible governor of the Bank of England.

Both Mr Cameron and Mr Clegg know that their popularity will fall, but if the coalition really means what it says the consequence could be much worse. The lack of necessity over what is planned could knock the Lib Dems back to where the Liberal party was in the 1950s – a party of the margins – and irredeemably rebrand the Conservatives as the nasty party. The revival of liberal conservatism and the hopes raised by this unique experiment in coalition government will collapse.

George Osborne's aggression is hard to understand. The forecasts from the Office for Budget Responsibility show that the outgoing Labour government's plans were both credible and more than tough enough to arrive at budgetary sustainability. To go beyond them with between £24bn and £50bn of extra spending cuts and tax rises, as is rumoured for Tuesday, is unconscionable and will rightly be challenged. The ground has not been laid; the economics are dubious even for deficit hawks; the support tiny; the implications dire.

It is not too late for a change of course or, at the very least, to reproduce the best of what the Canadians and Swedes did. In neither country was deficit reduction portrayed as a necessity to keep a triple A credit rating on government debt, nor as a vendetta against a "bloated" public sector, as the coalition has suggested. Rather, the measures were sold as a vital period of pain in order to create a platform for much-needed public spending growth in the future. It was important for the legitimacy of both countries' plans, as an intriguing series of essays, "Dealing With Debt", from the thinktank CentreForum sets out, that the pain was implemented by parties of the centre and centre-left who believed in public spending. The public was readier to believe the need for cuts. The story in Canada and Sweden was that aggressive belt-tightening would release more spending in future. As a result, both governments could propose short-term reductions in pensions, unemployment benefit, wider welfare benefits and public sector wages as part of the package and get grudging acceptance. In neither country was any department or area of spending ring-fenced.

There were exceptions. Both governments symbolically wanted to show their belief in spending even amid the cuts. The Swedes boosted investment in universities, science and primary and secondry education, and while cutting unemployment benefit, they provided grants for 100,000 young people to go to university. The Canadians made sure that the poorest in Canada were insulated from the cuts. They also launched a national consultation to decide on which cuts and explain the rationale. Even so, it was a hazardous exercise. As John Springford, the essays editor comments, success depended upon a buoyant world economy.

Osborne is said to have studied the Canadian experience, hence his call for a period of national consultation between Tuesday's budget and the autumn's spending review, copying what was done in Ottawa. The trouble is that the terms of the consultation preclude any genuine consultation; the assumption is that spending is bad, the state needs to be smaller, nothing is more important than a triple A credit rating, and the British way of life has to change.

It is folly. Not every penny of public spending is well spent. There has to be restraint and the deficit must be lowered. Wages, pensions and welfare transfers must take a short-term hit, as they did in Canada and Sweden. But the government should also be investing in our future. It should be raising taxes on those best able to contribute. Every department should share in the pain.

I am surprised at the Liberal Democrats. They have an obligation to their party, their tradition and the coalition to argue more fiercely for a better presented, fairer, more legitimate and more balanced approach to deficit reduction than the one that is promised. And what is proposed is no good for the Tories either. Number 10 and the Treasury believe the worst can be offset by aggressively low interest rates and more quantitative easing. They will work to a degree. But what is proposed still risks everything. Politicians pay the price with lost office. Millions of British will pay a higher price – the needless squandering of their lives.

There is no logic to the brutish cuts that George Osborne is proposing | Will Huton | Comment is free | The Observer

wow, sounds like at least one country in the world is taking this crisis as something not to let go to waste....

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....attached to sanity by a bungee cord.....

The Economist sees the matter this week in a more objective light:

[...] So what are the options for healing the public finances? If Mr Osborne wiped the slate clean, he could at one extreme rely entirely on spending cuts or at the other on tax rises. The OECD study found that cures based mainly on expenditure cuts tended to be more successful in stabilising the public finances. But Stéphanie Guichard, its main author, says that when fiscal consolidations are large they typically require tax rises as well as spending cuts. There are two particular reasons why higher taxes should take some of the strain in Britain.



The first is that in the middle of the previous decade the exchequer became unhealthily dependent on buoyant receipts from frothy finance and property markets. These will not return on the same scale. The second is that fiscal consolidation will succeed only if the public accepts the package as fair. Since spending cuts tend to hurt poorer people more, it is vital to show that richer folk, who usually pay more tax, are also feeling the pinch, according to Jens Henriksson, who worked on Sweden’s fiscal retrenchment in the 1990s.

Unwelcome though it is, a contribution from higher taxes is required. Just how big it should be is a matter of dispute. The Tories have said they want to rely on taxes for a fifth of the consolidation. That may be too ambitious. If something like 2% of GDP were found by higher taxes, leaving spending to be cut by 5% of GDP, it would still be a tougher mix than all but two of the ten biggest OECD deficit-cutters managed.

Mr Osborne has several choices in raising these revenues. First of all, there is the legacy of planned tax increases left by his Labour predecessor, Alistair Darling, which build to 1.2% of GDP by 2014-15. Of this, just under half comes from higher income tax, including a new 50% top rate on annual incomes above £150,000. Higher national-insurance contributions (NICs) will raise another 0.4% of GDP. The rest is to come from increases in alcohol, fuel and tobacco duties. Although the Tories pledged before the election to reverse most of the NIC increase, that still left them in effect planning for 0.8% of GDP from extra taxes as a result of Labour’s measures.

Mr Osborne could choose to annul all his predecessor’s tax changes, including those already implemented this year, and replace them. There are arguments for sweeping them aside. The new top rate of income tax may well alienate more rich people than raise revenues from them, and the associated pension provisions are nightmarishly complicated.

On strictly economic grounds, it would be better to raise money through higher VAT or, for example, a new carbon tax. Consumption taxes are generally thought to have smaller adverse effects on growth than most other types of tax and are certainly less distorting than corporate or personal income tax, as a 2009 OECD study confirmed. If, for example, the main rate of VAT were lifted from 17.5% to 21%, this would raise 1% of GDP—more, if some exceptions from it, such as that for books and newspapers, were removed. A carbon tax could raise a similar amount and, properly designed, could have the further merit of helping Britain to lower its emissions of greenhouse gases (see article).

The snag with both, however, is that they are regressive, meaning that poorer households would fork out proportionately more of their income paying them than richer ones. If the coalition government is to come up with a plan that will not lead to serious protests, it may have to stick to some of Labour’s income-tax imposts on the better-off while raising allowances to help low to middling earners. For the same reason, there may be a case for raising the rate of capital-gains tax on non-business assets, as the government proposes, provided that gains are indexed for inflation. Taken together, such measures will enhance the perceived fairness of the fiscal-consolidation package, and could then be supplemented by a carbon tax or higher VAT to raise an additional 1% of GDP. A further 0.2% could come from other measures, such as a mooted levy on banks.

That leaves spending, and the remaining 5% of GDP needed to balance the books. On May 24th the chancellor announced a first tranche of cuts worth 0.4% of GDP in the current financial year, so he has 4.6% still to find. According to the OBR, total expenditure in this financial year (before the cuts outlined last month) will be £701 billion, or 47.5% of GDP. [...]

What's happened to The Guardian? It used to be a very good newspaper.

Quote:

The chancellor constantly cites Sweden and Canada as models, but at least they tried to energise their economies

In both 1981 and 1994 Sweden used both substantial expenditure cuts and tax increases. In 1993 Canad slashed its government expenditure by more than 7.5% of GDP.

why is Greece second on the list when they are near bankruptcy?

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....attached to sanity by a bungee cord.....

That was what they did in 1990...

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