2 The tasks of the permanent OBR |
35. The resources the OBR will need and how it should
be structured will depend on the tasks it is to carry out. The
broad parameters of the OBR's remit have already been set:
- The Office for Budget Responsibility
(OBR) will make independent assessments of the public finances
and the economy. It will have direct control over the forecast
and make all the key judgments that drive the official projections.
It will have full access to the necessary data and analysis produced
by the Treasury.
- The OBR will also present a range of outcomes
around its forecasts to demonstrate the degree of uncertainty.
Based on these range of outcomes, in each Budget and Pre-Budget
Report the OBR will confirm whether the Government's policy is
consistent with a better than 50 per cent chance of achieving
the forward looking fiscal mandate set by the Chancellor.
- The OBR will also have a role in making an independent
assessment of the public sector balance sheet, including analysing
the costs of ageing, public service pensions and Private Finance
These tasks can be distilled into forecasting, assessing
the likelihood that the fiscal mandate will be achieved, and commentary
about the sustainability of finances. However, that still leaves
considerable detail unsettled.
WHAT WOULD SUCCESSFUL FORECASTING
36. However sophisticated the modelling, and however
accurate the data used, forecasting will always require a considerable
amount of judgement.
In future those judgements will be made by the OBR rather than
the Chancellor. Our witnesses warned that giving the OBR responsibility
for producing forecasts will not necessarily produce more accurate
forecasts. As Professor Besley said, "this organisation is
bound to fail if that is the way in which we judge it, because
we know that the success of short-term economic forecasting is
extremely limited", and Professor Wren-Lewis agreed that
"forecasts are always wrong".
37. One of the reasons for establishing the OBR was
to remove both the possibility that a Government might distort
the forecasts (not necessarily intentionally), and the fear of
such bias. Our witnesses also pointed to the fact that the existence
of the OBR could improve public and political understanding of
forecasting. Forecasts are inherently fallible but the OBR should
aim to avoid a bias in either direction in each forecast of the
economy and of public finances. If in the event there is a bias
over time, the judgement of it would depend on the transparency
and coherence of the underlying judgements, as well as the performance
of other forecasters. Mr Chote suggested that it would be "very
desirable" to set out "a reasonably user-friendly way
how you approach the task of thinking about economic forecasting
and economic analysis".
38. One of the
ways in which we will judge whether the OBR is a success is whether
there is greater public understanding of the purpose and limitations
of the forecasting process, and realistic expectations of what
it can deliver.
39. There should,
and will certainly, be analysis of the accuracy of OBR forecasts.
Their quality and authority can be measured over time, relative
to other forecasts. Absolute accuracy is not a useful criterion.
Persistent pessimism or optimism will become apparent over time,
justifiable on the basis of published explanations and methodology.
40. We can envisage a situation in which a government
argues that an erroneous forecast had led it to pursue an ill-fated
policy, thereby attempting to escape responsibility for its own
decisions. The permanent
OBR might therefore be considered to have an incentive to produce
cautious forecasts. By contrast there is some evidence that Treasury
forecasts have tended to be optimistic. This may reflect government's
incentive to "talk up" the country's economic performance.
This matters because official economic forecasts can in themselves
influence economic performance, affecting business confidence,
currency, stock and government debt markets.
41. The Chancellor has reserved the right to use
Treasury forecasts rather than OBR forecasts if he considers it
necessary. Indeed, Professor Wren-Lewis considered that if "the
Treasury decides that the OBR model is wrong in some sense, I
think basically then it is up to the Treasury to decide whether
it wants to move to an alternative model or an alternative way
of doing things whereby it produces its own forecast and does
not rely on the OBR."
In such cases, the Government would have to explain and defend
its decision. The need for such an explanation suggests the Government
would not take such a decision lightly, without evidence, or without
considering the consequences for the public perception of its
commitment to independent forecasting. The
legislation establishing the OBR should not require future governments
to use OBR forecasts. It is possible that the power of the Government
to use its own forecasts will counterbalance any incentive the
OBR might have to be overly pessimistic. The OBR's reputation
would suffer if it were shown that its forecasts were so significantly
biased that the Government no longer considered them a reasonable
base for policy-making. However, it would be a major step for
Government to do this. Once the decision had been made, the OBR's
credibility would be severely, and possibly terminally, damaged.
42. Simon Hayes of Barclays Capital was concerned
that the existence of both MPC and OBR forecasts as 'official'
forecasts could make the communication of economic policy difficult:
If the two forecasts are materially different, it
will be difficult for the authorities to argue that monetary and
fiscal policy are appropriately co-ordinated. If they are engineered
so as not to be materially different, it raises the question of
why effort is being duplicated across two public institutions.
We do not consider this a problem. The MPC is charged
with setting interest rates on the basis of its own economic judgement;
it is appropriate for it to retain its own forecasts. Part of
the rationale for the OBR is to raise public understanding of
forecasting; the uncertainties and judgements in the process are
demonstrated by two forecasts.
CONTROL OF MODELS AND DATA
43. The forecasts produced by the interim OBR used
the Treasury's models and sub models. Simon Hayes considered that
the OBR should "own" macro-economic forecasts:
There is a set-up cost associated with this but it
need not be an onerous one. Diminishing returns quickly set in
with macroeconomic forecastingthe accuracy gains from increased
sophistication are questionable beyond a basic leveland
the Treasury model should provide a suitable baseline.
Sir Alan Budd agreed, but considered that "ownership"
was not necessarily straight forward:
The OBR must be able to use the models that are required
for forecasting processes. Ownership is a slightly difficult
issue, I am not even quite sure how it is defined, but certainly
if a model is being used to produce OBR forecasts then in that
sense it must be owned by the OBR. There is not just one model,
there is a suite of models, but any model which the OBR is using
it must own in the sense that it knows what it contains and is
responsible for its outputs.
Professor Wren-Lewis agreed that "the OBR has
to be in charge of the model it uses."
44. Several witnesses drew attention to the way in
which models could be tested and reviewed by outside experts,
and this is something that the permanent OBR may wish to consider.
There was general agreement that the OBR should be open about
the forecasting models it used. The
OBR should have discretion in the models it uses in drawing up
its forecasts. It is a matter for the organisation itself as to
whether it is content to use the Treasury models, or wishes to
make changes. Whatever course the OBR takes, there would be benefits
in it being as transparent as possible about the models it uses.
The OBR should also be cautious about attempting to increase the
sophistication of the model in search of dubious increases in
accuracy. As many witnesses pointed out, a sophisticated model
cannot remove the need for forecasters to exercise their judgement
and incremental benefits to an already highly complex model may
be nugatory or perverse.
45. The OBR will also need to have confidence in
the data underpinning the forecasts. Many witnesses considered
the OBR should be given "statutory access" to data,
other than the personal data used by HMRC. As well as using existing
data, the OBR may need to suggest changes to the data collected.
As Mr Chote said:
I think it should be deciding what data it needs
to do the job it is tasked with doing. There is an iterative
process there about looking at what you have through the normal
channels and then saying, "Well, actually, this could be
done better. We need more, different information," or "Is
this really being approached in the right way?" That sort
of relationship you have seen in the past with the Bank of England
interacting with the Office for National Statistics, raising any
concerns they may have there, and I think the OBR would presumably
raise similar sorts of concerns if it found, for example, that
it was not getting the information it thought it needed to be
able to validate the social security spending forecast, to take
one example. The OBR should not be at all afraid of saying, "We
want more or different information," if it is available.
In written evidence, Professor Besley noted:
Some kind of link to ONS would be usefulthe
Bank as you know is asked every year to comment on ONS's performance
and OBR could be given the same status both in relation to ONS
statistics relevant to the conduct of fiscal policy.
The OBR should have the power to
check the quality of fiscal data itself, and to request that the
ONS does so. It
should also be free to use any existing data it thinks fit in
constructing the forecast, and to recommend changes in data collection,
if it considers that this would improve the forecast or its ability
to assess the likelihood of achieving the fiscal mandate. Where
a recommendation may increase the overall cost of the OBR's work,
it should be required to seek an external view on the benefits
and costs of the change, and report this to the Treasury and to
FREQUENCY OF FORECASTS
was some disagreement in the evidence we received about how often
forecasts should be produced. The Industry Act 1975 requires the
Government to produce a minimum of two forecasts a year. Forecasts
will have to be produced with each fiscal event. In general opinion
favoured two forecasts,
but it has been suggested to us that four forecasts a year would
be worthwhile. It
has also been suggested that the OBR should monitor the fiscal
environment between forecasts to establish how the reality is
deviating from the forecast.
In normal circumstance, we see no case for more than two forecasts
a year: even if short-term
forecasting were more precise than it actually is, changing tax
and spending plans within year is intrinsically undesirable. While
we agree with the NIESR that "expert commentary on state
of the public finances should not be left to twice yearly forecasting
do not consider that this is a task for the OBR; such commentary
is already widely available. While there may be cases when sudden
shocks to the economy mean it is desirable to have a further forecast,
we expect that to be rare. While
forecasting will be a key task of the OBR, there is no point in
devoting resources, either to increase detail or frequency, to
forecasts which will have no practical application or benefits.
In normal circumstances, the OBR should produce two sets of forecasts
a year. An extra forecast would be desirable if there were significant
monetary or fiscal policy changes or significant external shocks.
47. The interim OBR was given two tasks in relation
to fiscal sustainability: beginning work on an independent assessment
of the public sector balance sheet and fiscal sustainability and
providing an initial discussion of public sector liabilities and
their implications for the public finances.
48. In its advice to the Chancellor, the interim
OBR proposed an annual report on the longer-term sustainability
of the public finances. This would include long-term fiscal projections.
It would be particularly important that the organisation examine
factors such as the Private Finance Initiative and pension liabilities,
which some have argued may currently not be properly presented.
It should consult with other interested parties before deciding
how these should be represented.
49. The OBR's engagement in this will not be without
controversy. It is notable that although each year the Congressional
Budget Office prepares a baseline budget, showing projections
for the next 10 years, its independence is safeguarded by legal
rules about how that budget should be constructed:
The baseline is constructed according to rules set
forth in law, which generally instruct CBO to assume that current
spending and revenue laws continue without change. Thus, the baseline
is not a prediction of future budget outcomes. Rather, it reflects
CBO's best judgment about how the economy and other factors will
affect federal revenues and spending under existing laws. Each
summer, CBO updates its baseline projections, incorporating a
new economic forecast and the effects of laws that have been enacted
to date in that session of Congress.
We also note that "in accordance with the CBO's
mandate to provide objective and impartial analysis, CBO's reports
contain no policy recommendations."
support the interim OBR's recommendation that the permanent OBR
should produce an annual report on the long-term sustainability
of the public finances. This report should contain no policy recommendations.
51. The terms of reference for the interim OBR required
it to make a judgement on whether the Government's policy was
consistent with a better than fifty per cent chance of achieving
its fiscal mandate.
52. Several of our witnesses argued that the new
OBR should have a wider commentary and research function on fiscal
sustainability, arising out of the functions outlined above. For
example, Professor Besley argued for an OBR with a broad remit
along the line of "safeguarding fiscal sustainability in
the UK" and be able to comment on issues falling within that
Taking an example from the past, had the OBR existed
since, say, 2000, I would hope it would have produced commentary
on some of the risks around fiscal policy with respect to the
taxation that was being raised from the financial sector and that
it would have felt perfectly justified to raise such an issue
independently because it felt it was an important part of the
outlook. To constrain artificially in any way the ability of this
body to comment on what is germane to that broad objective I think
would compromise its independence and compromise its institutional
53. The staff of the International Monetary Fund
(IMF) went further than Professor Besley. They suggest that the
OBR could have a role in "scoring" individual government
policy and reform suggestions from non-governmental sources, including
the Opposition. Professor
Wren-Lewis also advocated the costing of Opposition policies by
the OBR; although Professor Besley and Robert Chote both expressed
concern about the resource implications of such a move, which
would be considerable.
54. There are other risks associated with an OBR
with a commentary function that is too broad. The Institute for
Fiscal Studies stated in its February 2010 'Green Budget', and
Robert Chote reiterated in his evidence to us, that the OBR should
comment on whether changes to the fiscal rules were consistent
with long-term sustainability. However, the Green Budget continued:
An OBR should not be tempted to offer advice on broader
economic policy issues, as some of its overseas counterparts do
(for example, in Sweden). The cost of commenting on broader economic
policy could be getting drawn unnecessarily into conflict with
other parts of the policymaking process and thereby reducing the
credibility of the OBR on its key functionthe production
of high-quality independent fiscal forecasts.
55. Dr George Kopits, the Chairman of the Hungarian
Fiscal Council, emphasised the importance of the OBR avoiding
"normative judgements or formulating policy recommendations,
as this may be seen as a departure from nonpartisanship."
56. Simon Hayes, of Barclays Capital, drew a distinction
between the OBR's becoming involved in the setting of the mandatewhich
he considered could impinge on its independenceand commenting
on the likelihood of the Government achieving its mandatewhich
he considered to be desirable.
The interim OBR's advice to the Chancellor examined this issue,
but did not make a recommendation.
He further suggested that the OBR could promote best practice
in fiscal policy.
57. Dr Frank Eich, of The Pensions Corporation, said
that he saw an important role for the OBR in raising the quality
of public debate on longer-term economic and public finance issues.
Dr Eich thought that the OBR should produce work that is accessible
to non-specialists and actively engage with Parliament, media
and the public to improve understanding.
58. The OBR's
contribution to public understanding should not be confused with
self promotion. This commentary function should be one of informing
public debate through disseminating better understanding of fiscal
policy and long-term economic trends, identifying possible risks
in the structure of the economy and provision of data. Beyond
any duties set out on the face of the legislation, the statute
should give the OBR absolute discretion over the work it undertakes.
The legislation should leave the OBR able to conduct work on the
fiscal policies of political parties along the lines proposed
by Robert Chote in evidence on 16 September 2010. There may be
also particular subjects which the Treasury, or this Committee,
consider should be examined by the OBR. We would expect the OBR
to consider such proposals carefully and, where appropriate, to
explain its decisions.
59. As an additional
defence of OBR impartiality, we recommend that the OBR's core
tasks should be set out on the face of the legislation.
60. A particular source of controversy is whether
the OBR should comment on the Government's fiscal mandate. There
were a variety of views among our witnesses and the interim OBR
did not reach a conclusion.
61. Some argued that the OBR should restrict its
commentary to whether the mandate was achievable and government
policy consistent with it. They suggested that the Monetary Policy
Committee was insulated to some extent from political controversy
by the fact it was not involved in setting the inflation target
and argued that the OBR could benefit in a similar way.
Simon Hayes was concerned that the OBR could become too closely
associated with a mandate that had been adopted on its advice.
This could undermine its perceived objectivity when assessing
the likelihood of the mandate being met.
62. At the other extreme, NIESR argued that sustainability
was integral to the mandate and the OBR would be best placed to
assess the current fiscal mandate and manage change to the fiscal
mandate itself. However they accepted this would probably involve
separating the OBR from the official forecasts.
63. Robert Chote argued that the OBR should be able
to comment on whether the mandate was consistent with short-term
sustainability. However, it should stay clear of issues such as
the pace of consolidation.
64. We agree
with Mr Chote that it would be inappropriate for the OBR to have
a role in setting the fiscal mandate. This should be a political
decision. Once the mandate is set, any OBR commentary should be
based on aggregate fiscal figures, not on individual measures.
26 http://www.hm-treasury.gov.uk/data_obr_work.htm Back
Q 82 Back
Q 133 Back
Q 111 [Professor Wren-Lewis] Back
Q 129 Back
Ev w25 Back
Ev w61 Back
Q 28 Back
Q 128 Back
Q 123 Back
Q 124 Back
Ev w33 Back
Q35, Ev w33, Ev w24 Back
Robert Barrie, Credit Suisse, Ev w15 Back
Interim OBR Terms of Reference: HTTP://www.hm-treasury.gov.uk/d/obr_terms_of_reference_080610.pdf Back
Interim OBR Letter to the Chancellor, paras 34-35 Back
Terms of Reference for the Interim OBR Back
Q 82 Back
Ev w19 Back
Q 86 Back
Institute for Fiscal Studies, The IFS Green Budget: February
2010, pp. 257-258; also Q 82 [Robert Chote] Back
Ev w15, para 9 Back
Ev w24, para. 10 Back
Advice from the Interim OBR to the Chancellor, Back
Ev w24, para 10 Back
Ev w26, para 3 [Dr Frank Eich] Back
Ev w24 [Simon Hayes] Back
Ev w6 Back
Q 82 Back