Select Committee on Treasury Third Report


Conclusions and recommendations

The Pre-Budget Report

1.  We regret this omission [of a debate on the PBR], given that transparency and openness demand that government financial statements like the PBR should be subject to parliamentary scrutiny in the Chamber of the House of Commons. We reiterate our recommendation that every year the House should hold a half or full day's debate on the Pre-Budget Report. (Paragraph 3)

2.  We can only repeat our view that as much notice as possible for the Budget date is desirable and we therefore urge the Government to regard the 2002 practice—of at least 2 months' advance notice—to be at least a working target. Advance notice for the Pre-Budget Report is also helpful. The announcement of the date for this year's Pre-Budget report and statement was made during oral Question Time on Thursday 13 November, less than one month before the statement. We believe that the same arguments hold for advance notice for the Pre-Budget Report as for the Budget. (Paragraph 4)

The economy: the recent past

3.  We note the European Commission's comment that "the UK economy weathered the recent global slowdown well". This is particularly notable in the face of the continued weakness in activity in its major trading partners in the euro area. (Paragraph 5)

4.  The Committee is concerned that the recent fall in the dollar may jeopardise global recovery prospects, although some of the evidence we received on this point was generally reassuring (Paragraph 6)

5.  In spite of a rather disappointing trend in fixed investment and exports, current estimates of UK economic growth in 2003 are consistent with the reduced forecast of 2-2½% growth published by the Treasury at the time of the last Budget. (Paragraph 7)

6.  Throughout a volatile period in the world economy the Committee observes that the MPC has continued successfully to maintain UK inflation close to the target laid down by the Chancellor. Moreover, while maintaining inflation inside the target range, monetary policy has also been able to provide substantial support to growth by delivering historically low short term interest rates to the economy. (Paragraph 8)

7.  The successful complementarity of monetary and fiscal policy has played a key role in delivering a UK economic performance over the past few years which the IMF describes as "enviable". Key tests for both monetary and fiscal policy nevertheless lie ahead as recovery emerges. (Paragraph 9)

8.  As the global economy recovers it is vital that UK economic policy adapts as anticipated to the upswing, to avoid potential problems flowing from the current imbalances in the economy. (Paragraph 9)

The outlook for the economy

9.  The Treasury's economic forecasts for 2004 and beyond continue to look more optimistic than most, although the gap between the Treasury's assessment and that of most other forecasters has narrowed, with most independent forecasters now a little more optimistic about growth in 2004 than they were in the spring. (Paragraph 10)

10.  While the probability of either a fall in house prices or a rise in interest rates on a scale that would create widespread problems for households should be viewed as very limited, we think it is nevertheless important for both the Treasury and the Bank of England to consider how policies could impact on individual households whose debt servicing ratios have become unsustainable. (Paragraph 13)

11.  The Committee attaches the highest importance to securing the best possible value for money in public spending. It is disappointing to note that, despite the welcome improvements to the control of public expenditure that have enhanced flexibility, many departments are still failing to manage their capital spending programmes as efficiently as they should. We recommend that the Treasury takes action to improve the planning and monitoring of public sector capital spending programmes within the financial year. We would welcome a report on any such action in the 2004 Spending Review. (Paragraph 15)

12.  The Committee is disappointed at the lack of progress on improving official pension fund statistics. The health of UK company pension schemes appears to be a major gap in the information flow into the Treasury's assessment of the economic outlook. Given its crucial impact on British households, we recommend that the Government show much greater urgency in ensuring the provision of regular and reliable official information on pension fund deficits. We further recommend that the Chancellor report on this issue expressly in the 2004 Budget. (Paragraph 17)

13.  The Committee welcomes the improved transparency in recent years provided by the Treasury's explicit discussion of issues such as the output gap and the cyclical position of the UK economy. It encourages the Treasury to explore ways of further improving transparency, which may include closer involvement of outside bodies or experts in the judgements made. (Paragraph 20)

14.  Although the Governor of the Bank of England has indicated that he does not think the switchover will be of major significance for monetary policy, given the focus on inflation two years ahead, we note his comments regarding the need for care in the short term in explaining the switch in the inflation target from RPIX to CPI inflation and will scrutinise the progress made in enhancing public understanding of the change. (Paragraph 25)

The fiscal balance

15.  The Committee accepts that the substance of the golden rule has not changed, but differences in phrasing in recent Treasury documents may have been a source of some confusion. We recommend that the presentation of the Government's progress towards meeting the golden rule should be standardised and be based on the average annual surplus of the current budget as a percentage of GDP. (Paragraph 27)

16.  The Treasury should make the role of the cautious case in the fiscal planning process through the cycle clearer in the Budget and Pre-Budget Report documentation. (Paragraph 28)

17.  We were surprised that there was no table contained in the 2003 PBR breaking down the changes in public sector borrowing since the previous forecast between those attributable to the automatic stabilisers, non-discretionary factors and policy decisions. We ask the Treasury to re-introduce such a table in the Budget (and future Budgets and PBRs). (Paragraph 31)

18.  While the extra borrowing envisaged since the time of the last Budget means that there is now less slack, the Government remains on track but will meet the golden rule only if its central forecasts for economic growth, tax revenues, spending, and the likely end of the current cycle are met. The Government will have to remain mindful of the consequences of any further unplanned increases in borrowing arising from any shortfall in planned tax revenues. (Paragraph 35)

19.  The Committee notes that the UK's fiscal position remains comparatively strong internationally and should remain so if it strengthens as planned through economic recovery. (Paragraph 37)

20.  The End of year fiscal report should analyse the Treasury's performance in the preceding two years against its forecasting record separately for receipts, and different portions of expenditure. It should also analyse the forecasting records of previous Pre-Budget Reports. (Paragraph 38)

Tax receipts

21.  Receipts have come in weaker than expected despite growth being on target for the Treasury's forecast. The factors behind this decline in tax receipts may be structural or may be cyclical. The Treasury's projections for tax revenues up to 2008-09 suggest that it does not see the problem as predominantly a structural one. This is contrary to the view of some of our expert witnesses. A shortfall in expected receipts for a given level of GDP is a phenomenon that has also occurred in other countries including the USA, although compared to countries in continental Europe the UK's public finances remain in good shape. In the USA research has been undertaken into why revenues as a percentage of GDP have declined. We recommend strongly that the Treasury undertake similar research in the United Kingdom and publish it as soon as possible. (Paragraph 40)

22.  We note that the Treasury continues to project a rise in the ratio of tax receipts to GDP over the forecast horizon from 35.9% in 2003-04 to 38.2% in 2008-09. We recommend that the Treasury includes in future Budgets a discussion of the risks underlying this tax forecast. This assessment should be informed by the research we recommend the Treasury carry out at paragraph 40 above. This will be an opportunity for the Treasury to explain in more detail the assumptions on which it makes its tax forecasts. (Paragraph 42)

23.  Since the projection forward of an improved relationship between income tax receipts and GDP in 2001, receipts have consistently come in under the Treasury's forecast. We note that the Treasury's projections of income tax receipts, which rise as a share of GDP, imply increasing numbers of people paying income tax at the higher rate. We would welcome more information on the proportion of salaries paid in annual bonuses and how the Treasury is forecasting them going forward. To improve our understanding of the 2004-05 forecasts we ask the Treasury to publish the components of the forecast in greater detail differentiating between PAYE, self-assessment, bonus payments and income at standard and higher rates. (Paragraph 46)

24.  To improve transparency and aid the Committee and other outside observers to understand the forecasts for tax revenue, we recommend that the Treasury should publish details of how the receipts from the major taxes are forecast, including wherever possible the model used and all the economic determinants that feed into the model. (Paragraph 47)

Public expenditure

25.  We note that it is unusual to provide no margin at all for annual managed expenditure in future years. An explanation should be given as to why it is envisaged that, in contrast to previous practice, no AME margin is provided for the next two financial years. (Paragraph 49)

26.  We note the Regulator's concern at officials' late intervention [in the access charges review]. It is essential that the allocation of public spending between capital and current expenditure is carried out in a way that reflects the substance of the spending. Government funded increases in capital expenditure on the railways must be correctly treated. We request that the Treasury provides further information and transparency in regard to the classification of current and capital spending. (Paragraph 51)

27.  This Committee attaches the highest possible emphasis to ensuring that any increases in public expenditure are delivered efficiently and result in improved outcomes, rather than in cost inflation. The current measure of government output does not adequately reflect improvements in quality and is therefore a bad measure of public sector productivity. It is absurd that a reduction in class sizes, for example, should count merely as an increase in cost and a reduction in productivity, with no account taken of any improvements in the quality of education. We welcome the Atkinson review of measures of government output, productivity and associated price indices. We note that the preliminary findings of the review are to be published by July 2004, in time to inform the 2004 Spending Review. (Paragraph 54)

28.  In the light of the review of the measurement of government output, the Treasury should assess the extent to which any under-estimation of the real rate of growth of public sector output could affect estimates of GDP growth and the output gap. (Paragraph 55)

The housing market

29.  The Committee believes that improving the functioning of the UK housing market has a key role, not only in terms of stability and growth in the UK economy, but also in tackling social inequalities by improving the access of families and others to decent housing at an affordable price. We also note the important role of the housing market in promoting labour mobility and regenerating deprived areas. We welcome the interim reports of the Miles review of fixed-rate mortgages and the Barker review of housing supply. Alongside any policy recommendations their final reports should also estimate how long it would take for any shift to fixed-rate mortgage finance in the UK, and improvements in housing supply, to produce a detectable difference in terms of smoothing the operation of the macro economy. We may examine the detail of any recommendations made as part of our regular scrutiny of the Budget. (Paragraph 57)

30.  The Treasury should assess the extent to which allowing self- administered pension funds to invest in residential property by buying individual houses, rather than via any new type of Real Estate Investment Trust, will increase the sensitivity of the economy to the housing market and create opportunities for abuse. If the proposals are implemented the Inland Revenue should ensure that a robust regime is in place to prevent tax avoidance. (Paragraph 59)

Taxation of small incorporated businesses

31.  We would welcome further details (in advance of the Budget) of the nature of the Government's proposals for changes to the way tax is paid by owner managers of small incorporated businesses on the profits extracted from their company. (Paragraph 61)

Child poverty and the Child Tax Credit

32.  We welcome the Government's action to reduce child poverty and note the substantial progress made so far. The approach needs to establish an effective balance between providing income to the parents through the tax credit system with expenditure on services aimed at increasing opportunity for both the parent and the child. (Paragraph 62)

Savings

33.  We, therefore, request an explanation for [the] apparent contradiction in policy and recommend that the proposed ISA reductions should be reconsidered. (Paragraph 63)


 
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Prepared 21 January 2004