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Mr. Michael Connarty (Falkirk, East): Does the hon. Gentleman recall that inflation was negative during the depression? People would not say that the country was exactly booming then.
Mr. Legg: I am not talking about negative inflation. Indeed, I am an advocate of ensuring that we do not have it. I shall make further comments on monetary policy later. Under the Conservatives, inflation has been brought down to a level that has not been seen for 40 or 50 years. Following the hon. Gentleman's comments, I am afraid that I must again remind the House that inflation reached 27 per cent. under Labour.
The prospects for inflation are good. In the coming year, it will fall further--because we have a very competitive economy. Competition is particularly keen in energy prices, for example. The electricity rebate-- derided by the Labour party--will make a big difference to consumers. The productivity and efficiency savings achieved in the public utilities will work their way through to people's pockets.
Indirect tax increases have been substantially reduced, the mortgage rate is falling and many firms will begin to destock in the coming months. Those trends will provide further competitive pressures in the economy. It would not surprise me if inflation came down to between 1 per cent. and 2 per cent. over the coming year.
Some concern has been expressed about monetary policy, and especially about the growth in broad money, M4. It has grown towards the top of its monitoring range in recent months, but we should not over-worry about that trend. Developments in the financial world, such as the demutualisation of building societies and substantial takeovers, are important factors in that trend. There is not yet sufficient evidence to make us over-concerned about the current level of expansion of M4. The favourable inflation background should lead to further reductions in interest rates.
There are a number of forecasts in the Red Book to which I should like to draw the House's attention. I especially welcome the section that deals with the
economy in the medium term. It has been greatly expanded and I draw attention to it because it makes a number of important points. It highlights the substantial improvements to the supply side of the economy that have occurred during the past few years and the significant and substantial margin of spare capacity that still exists in the economy. It points to there being plenty of scope for non-inflationary growth in the economy and an improvement in the long-term trend rate of growth in the UK economy. The Treasury maintains that the sustainable long-term rate of growth in the economy has increased from 2.25 per cent. to 2.5 per cent. That is an extremely welcome development. Spare capacity and improvements in the supply side are safeguards against higher inflation in the medium term and provide the opportunity for the economy to grow at above the levels we have seen in recent months.
There has been considerable comment about the Treasury's projection of 3 per cent. growth in 1996. This morning, the Treasury Select Committee interviewed Treasury officials on that and other points. They maintained that it was possible to achieve that level of growth without further interest rate cuts. However, it appears that their assumptions on that score are optimistic. Their view is that exports will increase markedly in the coming year although the figures on world trade in the Red Book show that the rate of increase in world trade will fall. They have extremely benign views on the impact of reductions in stock levels in UK manufacturing and commerce and they hope for a reduction in the savings ratio.
It seems unlikely that a 3 per cent. rate of growth can be achieved without further interest rate cuts. The weekend press talked in terms of interest rate cuts of 0.25 per cent. I believe that, for confidence to come back into the economy and for the growth rate of 3 per cent. to be achieved, we shall need an initial interest rate reduction of 0.5 per cent. and, probably, further reductions as the months pass.
I draw attention to the comments of Professor Congdon, one of the Treasury's six wise men, on the 3 per cent. growth forecast. After the Budget, he said:
There has been much talk in recent weeks about Iain Macleod and his legacy to the Conservative party. It has been right to bring Iain Macleod to the fore. Some hon. Members might remember that he was the shadow Chancellor when the Conservatives were in opposition from 1964 to 1970. He had some extremely robust views on the level of spending in the economy and on the consequent level of taxation. In October 1965, he described his views as follows:
We see in the Red Book the consequences of setting expenditure at that level. Once it gets there, we have Budget deficits that generate extra interest burdens on the economy. Last year, public spending was 42 per cent. of GDP. The level of public expenditure this year is, again, 42 per cent. of GDP. If the state becomes very big, it is difficult to reduce its size--it acquires a momentum of its own. What is more, it becomes difficult to raise taxation to pay for the expenditure. That is what is happening at the moment. The Treasury has had to cut its forecasts of the amount of taxation that the economy will bear.
Last year, the Treasury forecast what revenue could be raised in the current year. In reality, the revenue take in the current year will be £8 billion less than was forecast. For the coming year, it will be £12 billion less than forecast. There are many reasons why tax revenues are down. Admittedly the economy is growing less quickly, but people also have a natural reluctance to pay high levels of tax. If high levels of tax are set, people seek shelters, and there are plenty of shelters in the UK economy, such as personal equity plans and occupational pension schemes. Many of us know that our constituents use far less orthodox shelters to escape higher levels of tax.
Part of the purpose of having a unified Budget was to take tax and spending decisions together. We shall have to look much more firmly at the spending side so that we do not impose excessive burdens that cannot be funded by taxation.
There are a number of other important changes set out in the Red Book. It has not been brought to the attention of the House that the Maastricht criteria on the budget deficit, which we were led to believe we would achieve in 1996-97, have now gone by the board. Paragraph 4.10 of the Red Book shows that, in the last full fiscal year before decisions will be made about membership of a single currency, the forecast for Britain's public spending deficit is some 3.5 per cent. of GDP. That exceeds the 3 per cent. Maastricht criterion.
How wise my right hon. and learned Friend was when he said in his Budget statement that the public sector borrowing requirement was the difference between two very large numbers. Forecasts are often missed by quite a wide margin. Basing so much of one's economic policy around trying to hit precise public spending deficit targets each year, in strict percentage terms, risks grave dangers for any economy.
We have not been able to meet our target for the PSBR in the current year because there has not been as much growth in the economy as we forecast last year. That is the problem that exists in France today. The French cannot meet the Maastricht criteria because they have to
hold down the level of growth in their economy to defend an artificial exchange rate which requires higher interest rates than the domestic economy can bear. If politicians pursue artificial criteria come what may, they will only drive their economies into deflation.
I note with pleasure what my right hon. and learned Friend the Chancellor said about the difficulties of forecasting the percentage of the Government deficit each year and I congratulate him on his stance at the Economic and Finance Council meeting some six or seven days ago. He met other European Finance Ministers the day before the Budget to consider the Waigel stability pact, which placed further requirements on member states to the effect that, if a single currency were to be achieved, they would no longer have to aim for a 3 per cent. budget deficit but for a 1 per cent. deficit.
"If GDP growth ran at 0.3 per cent. per quarter until the end of quarter 1 1996, the annualised growth rate in the remaining three quarters would have to run at 6 per cent. (ie. at a boom rate) in order to deliver the 3 per cent. growth figure projected by the Treasury for the calendar year as a whole."
Quite a lot must happen if that growth rate is to be achieved, especially as the growth rate for the most recent quarter was due entirely to stock building. As my hon. Friend the Member for Hazel Grove said, the Chancellor will have to make some further easing. The determination and good judgment that he showed last May in countering the views of the Governor of the Bank of England on interest rates will have to be brought into play again if our economy is to perform at a healthy rate next year.
"There is a limit, and that we are already beyond it, to the percentage that we can take of the GDP in public expenditure and to the burden that one can put on personal taxation without a dramatic drop in efficiency and enterprise and there I take my stand."
He said that there was a limit to the level of public spending that we could have as a proportion of gross domestic product and, consequently, a limit to the amount of taxation that could be borne to pay for that expenditure. He made his comments in 1965, when the level of spending by the state, which he considered unacceptable, was 35 per cent. of GDP. We are now battling with expenditure levels of 42 per cent. of GDP.
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