Examination of Witnesses (Questions 121-139)
MR DAVE
RAMSDEN, MR
MIKE WILLIAMS,
MR EDWARD
TROUP, MS
SARAH MULLEN,
MR CHRIS
MARTIN AND
MR SIMON
GALLAGHER
18 MARCH 2008
Q121 Chairman: Good morning. Welcome
to our session on the 2008 Budget. Mr Ramsden, a warm welcome
to you and your colleagues. Can you introduce them for the shorthand
writer, please?
Mr Ramsden: I can, Chairman. On
my far right is Chris Martin, a Director in the Public Services
and Growth Directorate who has particular responsibility for the
environment, next to him is Edward Troup, Director of Business
Tax in the Treasury, next to him is Mike Williams, Director of
Personal Tax in the Treasury, and on my far left is Simon Gallagher,
a Team Leader in the International and Finance Directorate, he
works in Financial Services, and Sarah Mullen, Director of Public
Spending. I am the Managing Director for Macroeconomic and Fiscal
Policy.
Q122 Chairman: What factors explain
the divergence between the Treasury and most outside forecasters
regarding growth?
Mr Ramsden: In putting together
our Budget forecasts we have had to take account of what is an
incredibly challenging global environment. We have long-term challenges
such as climate change which we have tried to emphasise in this
Budget. More immediately and what has been a particular focus
of this Committee, we are dealing with a period of exceptional
uncertainty in the global financial markets. You wrote a very
valuable report on this at the end of February. We have also had
within the UK the events around Northern Rock where there has
been a written statement made this morning. The uncertainty is
unlike anything I have seen in the last 15 years that I have been
working in the Treasury. That is the backdrop to our forecasts.
Two particular aspects impinge on the forecasts. One is the judgment
about how long these extremely unusual credit conditions are going
to last. The second, which is really the key issue for the forecast,
is the impact on the real economy. This is central to the judgment
that we and all other forecasters have made. What we have tried
to do in forming our judgments—and this is where we may
differ from some outside forecasters—is look at the data
on the real economy and whether that has been developing as we
expected at Pre-Budget Report time. Also, which has been picked
up by a lot of the comment on this Budget, we have attempted to
put the current position in a longer-term context, looking at
the performance of the UK economy and how it has dealt with past
shocks, it is what we have described as its resilience. Where
that leaves us is with a forecast, which I think is a very realistic
forecast, of growth of 1.75 to 2.25% this year and growth of 2.25
to 2.75% in 2009. We produce these forecasts to frame our fiscal
judgments and our assessment of the fiscal position and, as you
know, to do that we take the bottom end of the range of our forecasts
to drive our fiscal forecast. Our fiscal forecast is running off
a forecast for growth in 2008 which is 1.75%, which is actually
in line with the independent average for 2008. In 2009 our forecast
is running off a bottom end of the range which is 2.25%. Why do
we think growth will pick up in 2009? It is partly this analysis
of resilience. It is also that there are some upside risks to
the growth forecasts even for 2008. There is a lot of momentum
from 2007, ie the business surveys have stayed strong and the
labour market remains resilient. Those would be the points I would
highlight to distinguish us from independent forecasters.
Q123 Chairman: The experts that we
had before us yesterday and quite a number of the submissions
have suggested that the Treasury forecast regarding the credit
conditions is pretty optimistic. It has been suggested that you
may not be living in the real world.
Mr Ramsden: I think we are very
much living in the real world. I was a little bit surprised by
some of the comments you had from the external experts last night.
They did not think we had done justice to the risks in the forecast.
If you read Chapter B, as I am sure you all have, there is extensive
discussion of some of the issues that you have raised at this
Committee, the issues around housing and around the impact of
the credit position. On the credit position, what we have assumed
is a normalisation of conditions by the middle of 2009 and with
a start in that normalisation from the end of this year. By the
middle of 2009 we will have had two years of not normal credit
conditions. When we talk about normalisation we are not saying
that we think the interest rate spread over the bank rate will
go back to the conditions that it was at last May or June when
it was unusually low, but we do think it is going to go back from
the very heightened levels for the spread that we see at the moment.
That is a judgment that we have made. We have been very clear
about that. I think that shows that we are having, like all forecasters,
to make judgments based on our analysis of both the real economy
and what is going on in the financial sector and the interaction
and we think those forecasts are realistic.
Q124 Chairman: In a way we do not
really know where we are at the moment, do we?
Mr Ramsden: As I said a moment
ago, this is a period of exceptional uncertainty. We do not even
have complete data for 2007 yet. We have financial market data
which is changing every day. All forecasts are based on a judgment.
What we have tried to do with ours is set out clearly the basis
for that judgment.
Q125 Mr Mudie: You have just repeated
that this is a time of exceptional uncertainty. They say a week
is a long time in politics. Is a week a long time in Budget making?
Would it be the same Budget if you were delivering it tomorrow
in view of the past few days?
Mr Ramsden: My advice in terms
of the forecasts and the assessment that I would make would not
change a week on. If you look at the data that has been published
since the Budget and I would particularly draw the Committee's
attention to the inflation figures that were published this morning,
those show, as we were expecting, a rise in the CPI measure of
inflation, but RPI inflation is flat in February.
Q126 Mr Mudie: Is that not a sideshow
to the main events that are happening in the States that look
as though they could very well move over here? Do you think the
data on inflation is more important than Bear Stearns?
Mr Ramsden: No, I did not say
that.
Q127 Mr Mudie: Tell us how you think
the Budget, if it had been delivered tomorrow, would not have
changed because of Bear Stearns?
Mr Ramsden: The reason I drew
attention to the inflation number this morning was because it
is a critical number for the Bank of England and it is a critical
number for us in our assessment of what is going on in the economy.
We have drawn attention to the risks from the financial sector
and the risks from the short-term increase in inflation. Inflation
actually came in, as published this morning, very much as we were
expecting. I thought it was useful information to pass on. I was
not making an assessment of Bear Stearns relative to inflation;
I was just trying to draw attention to the real economy data that
came out. Bear Stearns has happened.
Q128 Mr Mudie: Is the Tripartite
Committee meeting at principal level?
Mr Ramsden: What has happened
over the last few days, as has happened over the whole period
since last August, is that there has been intensive contact between
the tripartite authorities.
Q129 Mr Mudie: Is the Tripartite
Committee meeting at principal level?
Mr Ramsden: The tripartite principals
have been in intense contact over this weekend.
Q130 Mr Mudie: In a tripartite formally
constituted group? I would expect the Governor, the Chancellor
and the FSA to speak to one another daily. Has there been a formally
constituted Tripartite Committee meeting at principal level?
Mr Ramsden: There may well have
been but I cannot confirm that now.
Q131 Mr Mudie: In the last few days?
You do not know?
Mr Ramsden: There may well have
been.
Q132 Mr Mudie: Do you think you could
send someone out to phone the Treasury and tell us?
Mr Ramsden: Yes, we can do that.
Q133 Mr Mudie: Has the Treasury been
a party to recent decisions to put this liquidity into the market?
Mr Ramsden: Action like that is
the responsibility of the Bank of England but they keep us informed.
Q134 John Thurso: I would like to
return to the link with the United States. It is clear that the
sub-prime virus has infected Britain heavily through the financial
markets, perhaps more heavily than people thought it might six
months or so ago. The consensus this morning by most commentators
on the news was that the US was already in recession; it was just
a question of how long and how deep it would be. How much of an
effect is that going to have on the UK given that we are still
so strongly coupled in so many ways to the US economy?
Mr Ramsden: It will have an effect
on the UK. To go back to Mr Mudie's question, I think it is clear
that the position of the US is considerably weaker than we were
expecting at PBR time. I was certainly not trying to downgrade
the impact of the problems in the US housing market and in the
wider financial sector the US has had on the US economy. 16% of
our exports are to the US so there will be an impact on the UK.
Also, as you describe it, because of the interconnectedness of
global financial markets we can expect that the credit problems
that have spread out across the world financial sector are going
to have more of an impact on us than we thought at PBR time. We
already marked them down significantly at PBR time for 2008, that
is why we have marked them down further and why, therefore, by
the second half of this year, when we think the credit conditions
will be having their most significant impact, our forecast for
growth in the UK is down 1.5 to 2% on a year earlier. So we have
a real deceleration in the UK economy which is reflecting these
conditions, but that is still growth even at that weakest point
of 1.5 to 2%. We think that because of the underlying resilience
of the UK it will then start to grow again. Our forecasts for
next year for growth, that is 2009, are compared with the bounce
back we have seen in the UK economy from previous periods of below
trend growth such as in 2005 and 2001-02. Those were followed
by years of growth at 3%. We are not forecasting anything like
that for next year. I really want to get across to this Committee
that we are not under-estimating the impact of the difficult credit
conditions at the moment, but we have made judgments based on
both the latest data and our expectations of how the credit market
positions are going to unfold and normalise to lead to that forecast
judgment.
Q135 John Thurso: Turning to the
eurozone, there has been quite a lot of press comment more or
less suggesting that the eurozone has not suffered from the problems
in the credit markets in the same way as we have vis-a"-vis
particularly the eurozone. That comment is probably looking a
bit sick today. Do you expect growth prospects in the eurozone
to be more vulnerable now as a result of what has been happening
over the last few weeks?
Mr Ramsden: If you look at our
main forecasts, we have revised down growth in the euro area for
2008, so we have growth slowing from 2.5% in 2007 to 1.75% in
2008. We do think credit conditions will have an impact on the
euro area and that matters to us because the euro area accounts
for three times as much trade as the US does for the UK. I think
it is fair to say that if you contrast it with the US, the US
is probably a source of downside risk to our growth forecast and
the euro area is potentially a source of upside risk to our forecast.
If you look at the central forecast of 1.75% for 2008, that is
below trend, whereas the euro area has been growing significantly
above trend in the last two years. The latest data on industrial
production for the euro area in January was actually really quite
strong and that was the second successive month. There have been
encouraging business surveys in Germany. It is important to keep
these issues in perspective. There are these very difficult credit
conditions which potentially are going to impact, we have made
judgments that they will impact, but then there is also an assessment
of the real economy and how these credit conditions will play
out into the real economy.
Q136 John Thurso: How concerned are
you that the UK's current account deficit is now at its highest
level as a proportion of GDP since quarterly records began in
1955?
Mr Ramsden: Could I just answer
the previous question that I was unable to be clear on at that
point about the Tripartite Committee? The Chancellor, the Governor
and the Chairman of the FSA have been in very close contact over
the weekend. The Chancellor has been talking, as have others,
to Hank Paulson. Yesterday evening there was a formally constituted
tripartite principals' meeting as opposed to those kinds of informal
discussions. Apologies for the fact I could not give you a clear
answer earlier.
Q137 John Thurso: The current account
deficit is now at its highest level as a proportion of GDP since
records began. How concerned are you?
Mr Ramsden: I think that the current
account, as we tried to set out in Chapter B of the Budget document,
is a forecast and an economic consideration. I will not go through
the definition of what the current account is telling us, but
it certainly contains information and we look closely at it. If
you look at what happened with the numbers that were published
for 2007, on the trade side, trade in goods and service, that
has not changed really very much at all compared with previous
estimates for 2007. That deficit has picked up a bit since 2005,
but you would expect that during a period of above trend growth
for the UK economy. Some data that came out on Budget Day revised
down the estimate of the trade deficit in 2007 from 3.7% to 3.5%.
I am not underplaying that that trade deficit is still at 3.5%,
but that just shows how the data can change. The real change on
the current account for 2007 was the estimates produced by the
ONS for investment income which was revised down very significantly,
as we set out in a box B8 in the Budget document. That investment
income balance, as we have tried to emphasise in the Budget document,
is a very difficult thing to estimate. It is based on a survey
of inward investment and it is based on estimates of the asset
and liability position of the UK economy that we set out in Chart
B. So you can see that that net income balance, as set out in
Chart A of box B8, has moved down very significantly. We think
that there are issues there that we need to keep a close eye on
as to what is driving that, but there are also data issues around
that. These are very difficult things to estimate. What is clear
is that the current account position is sustainable to ensure
the balance of payments.
Q138 John Thurso: Could I just ask
about sterling and, in particular, to what extent you might be
concerned that the continuing depreciation of sterling will place
the inflation target under stress? What are the risks there?
Mr Ramsden: As you have almost
emphasised in your question, starting in 1992 but formalised since
1997, the Government has had an approach to macroeconomic stability
based around targeting inflation, so there is no exchange rate
consideration which actually feeds into that policy, it is an
inflation targeting policy. If there is depreciation in sterling,
as there has been since the PBR, as of Budget Day the depreciation
was 7%, as we drew attention to in the Budget document, that runs
a risk of imported inflation.
Q139 John Thurso: This morning sterling
is at its lowest level since pre-1997. Is that a matter of concern?
Mr Ramsden: The exchange rate
for sterling is determined in the markets. There is a risk of
imported inflation and it will depend how in the production pipeline
those factors are taken into account. As we stress in other parts
of the Budget document, over recent years there have been real
squeezes on margins throughout the pipeline which has meant that
inflation has not picked up in the UK. On the other hand, we do
think that the position of the UK economy in terms of the contribution
from exports and net trade will improve as a result of that exchange
rate depreciation. You have those two factors that you have to
take into account.
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