Select Committee on Treasury Memoranda

Memorandum submitted by Mr Martin Weale, National Institute of Economic and Social Research

1.  The Budget shows very little change as compared to the situation described in the Pre-Budget Report. Like the Pre-Budget Report, the Budget itself shows current expenditure exceeding current income over the present economic cycle and thus shows the Golden Rule being broken. There are, however, a number of points of interest.

2.  The figures for government borrowing on current account for 2004/5 show that, with most of the data for the year known, the Treasury has finally moved in line with the projections made by independent forecasters such as the National Institute. Table 1 compares the National Institute forecasts with those produced by the Treasury over the last two years.
HM Treasury NIESR
March 2003£-1bn April 2003£-11bn
March 2004£-11bn April 2004£-15bn
March 2005£-16bn Jan 2005£-14bn

3.  Public current spending is forecast to rise by 5 ¾ % in the coming fiscal year. This rate of growth is in line with the Treasury's projection of nominal GDP growth but is faster than the growth in nominal GDP implied by most independent forecasts. Current revenues are, nevertheless projected to rise by 8.3% with further buoyancy needed in 2006/7 to close the budget deficit with the Treasury anticipating considerable revenue buoyancy in corporation tax and, to a lesser extent in income tax revenues.

4.  The share of profits in national income is high at the moment and reported company earnings have risen sharply over the last six months. This means that if, in future the profit share does no more than stabilise, there is likely to be some buoyancy in revenue. Nevertheless it is difficult to avoid observing that, at the current stage in the economic cycle pressures to produce optimistic forecasts of borrowing are particularly strong.

5.  A particular point of concern is that, while the Treasury suggest that output is still below trend, most standard statistical methods of identifying trend output, point to the output gap having closed in the last year. If this is true, then growth at the rate the Treasury is forecasting will provide a budgetary outturn which is flattered by the state of the cycle.

6.  Most fundamentally, as the table above shows, forecasts cannot be expected to be perfect. This committee has in the past asked HM Treasury to produce fan charts for its budgetary projections. The need for these is as strong as ever. Even without them, it is reasonable to ask what would happen to the Treasury projection if the oil price were markedly lower than is assumed. Tax revenues from the North Sea in 2005/6 are projected to be £3.4bn higher than was thought a year ago and perhaps this gives some guidance as to the revenue uncertainty associated with the oil price.

7.  The long-term fiscal projections are a valuable attempt to look further ahead than the usual budget horizon. The element of uncertainty surrounding these must be much greater than that affecting the other projections. Some guidance as to the effects of, say, uncertainty about mortality, would be useful.

8.  There are a number of other measures such as the lifting of the stamp duty threshold on purchases of residential property. There is a strong case for a fundamental review of housing taxation; taxes such as stamp duty reduce mobility and discourage people from adapting their housing to their needs. Thus it would be better to see a shift in taxation away from purchase and towards use of housing.

9.  Of other measures announced perhaps the most interesting is the re-introduction of very long-term government borrowing. There is a strong case for active management of the public debt, with the government buying in long-dated stock when interest rates are high and issuing it when rates are low. With a period of very low long-term rates perhaps just ending, it may be that this change in borrowing policy comes slightly too late to be of greatest value to the tax payer. The Debt and Reserves Management Report does not indicate whether the government's liabilities have been managed efficiently although the debt management objective is clearly stated as "to minimise over the long term the costs of meeting the Government's financing needs, taking into account risk". Readers are told that this is achieved in part by adjusting the maturity and nature of the Government's debt portfolio, but there are no numbers to show whether the adjustments have been successful.

10.  The Government should be encouraged to show further flexibility in its approach to borrowing. For example the introduction of savings loans (where the lender pays the government a fixed contribution each year and receives a lump sum at the end) would make retirement planning simpler and fill a gap in the market. In turn this would be likely to reduce the cost of long-term borrowing to tax payers.

17 March 2005

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