Hard times for Mr Osborne

George Osborne The latest public finance figures brought more bad news for Mr Osborne

The governor of the Bank of England seemed to let George Osborne off the hook on Thursday night, in his TV interview for Channel 4, when he said it would be OK for the chancellor to miss his debt target because of slow economic growth.

Mr Osborne will be glad for the support, even if critics will say the Bank governor should not be publicly opining on fiscal policy. It's fair to say the chancellor's not getting much help from anyone else - or the UK economy.

Today's August public finance numbers are a case in point, with another record amount of borrowing for that month. So far the deficit is running more than 20% higher than last year and well above the Office for Budget Responsibility forecast. This is getting increasingly difficult to explain with "special factors". (The big special factor this time - sales of Olympic tickets - meant more money for the Treasury, not less.)

We're used to hearing Labour politicians say that the coalition's deficit policies have failed. But lately, many others have been saying the same thing.

Here's the basic problem, neatly summarised in the opening paragraphs of a recent report by the Centre for Policy Studies (CPS).

"The Coalition came into office in 2010 with the stated aim that it would eliminate the current structural deficit within five years and stem the increase in public debt as a proportion of GDP. The Coalition is not achieving these aims."

As the CPS point out, both the prime minister and the chancellor like to boast that they have cut the overall budget deficit by a quarter. But that is not the borrowing target the coalition set itself.

The central target was to eliminate the current structural deficit - that's the borrowing which is not for investment and not expected to go away naturally - with economic growth.

That measure of borrowing has fallen by only 13% - or roughly an eighth - since the coalition came to power, from 5.3% of GDP to 4.6% of GDP. That is a much worse sound bite for Prime Minister's Questions.

You might labour under the misapprehension that government spending has been "cut" (as the CPS highlight in their note - many do). It hasn't. It has continued to rise in real terms, in large part because debt interest payments have risen. The fall in the overall deficit has been entirely due to cuts in capital investment and increases in taxes.

"You don't need to be Keynesian", say the authors, "to think these would be more damaging to growth than front-loading current expenditure cuts." (In case you were wondering, the Centre for Policy Studies was co-founded by Margaret Thatcher.)

What went wrong? Well, we know that growth has been much slower than expected and - crucially, for the government - the OBR decided, in the last Autumn Statement, that we were not going to get back a lot of the output we had lost.

As I explained at the time, that one decision almost took the government back to square one when it came to cutting the structural deficit.

Public sector pay

But there's more to this story - described in painful but fascinating detail by Brian Reading in a new report for Lombard Street Research. Among other things, Mr Reading is a former economic adviser to Ted Heath and ex-Economics Editor for the Economist.

The funny thing is, if you look simply at the spending side of the ledger, the coalition has been strikingly successful: public expenditure in 2011-12 came in £5bn lower than planned.

That undershoot was largely due to lower-than-expected spending on social security payments, which departments cannot easily control (though the Secretary of State for Welfare and Pensions would say he has helped to keep unemployment down.) But ministers have also over-delivered when it comes to squeezing administrative budgets. These have been cut by more than 40%, not a third, as Mr Osborne planned.

As Mr Reading notes, this cut helped make possible a £17bn increase in non-administrative spending, which sounds like good news for front line services.

So, you can see why Mr Osborne might be feeling rather put-upon.

On the face of it, the coalition has more than delivered on spending restraint, while allowing extra funds to flow to the "frontline". Yet the right are lambasting the chancellor for failing to cut spending, and the newspapers are full of stories of core public services being squeezed.

Oh yes, and he's in danger of missing key fiscal targets, and borrowing so far this year has been higher than in 2011-12. What gives?

The answer, in a nutshell, is public sector pay and tax revenues.

One reason we haven't noticed the "extra" money flowing to the front line is that it has been swallowed up by pay rises, which, in turn, have meant much, much bigger-than-expected cuts in public sector employment.

Since 2010, the number working in the public sector has fallen by 300,000 more than the Office for Budget Responsibility predicted. Why? Because pay has risen three times faster than expected - by 9% instead of 3%.

But wasn't there a pay freeze, you might ask? Yes, but as the Financial Times reported recently, at least six government departments, plus the NHS, the Police and the Armed Services, have been unable to impose it.

Many civil service contracts require annual pay increases for staff, in line with their seniority and length of service. In most cases, departments decided those legal requirements trumped the freeze.

With such a massive overrun in pay, the only way to meet the cash spending plans was to cut numbers instead. Two-thirds of the losses have been in local government - which helps explains why many people feel their "frontline services" are indeed being cut.

Brian Reading cites the example of Devon and Cornwall police, which recently admitted it had investigated only 34% of reported crimes in 2011 - down from 40% in 2010. The chief constable blamed the loss of 700 officers.

Likewise, the National Audit Office has found that "the UK border agency has so far cut personnel by 1,000 more than planned as part of the programme to save £350m between 2011-15." Rightly or wrongly, many of us will feel we have seen the consequences of that this summer.

Poor design?

Mr Reading believes the failure on public sector pay speaks to a general failure to focus on the right things in designing the deficit strategy. Like most economists, he believes the coalition should have thought more about the impact on growth in thinking about where to cut. (Note we are talking about how to distribute the pain, here, not whether to have it all.)

He is particularly damning of the coalition's decision to go along with Labour's planned one-third cut in net public investment over five years. As he notes, this was always a bit strange, given that borrowing for investment was explicitly excluded from Mr Osborne's deficit target.

"If the government had believed its own fiscal mandates, it would have cut capital expenditure less quickly or even increased it to offset the damage from current spending cuts. Neither the current budget balance nor net debt would have been increased."

Mr Reading says the poor design of the plan contributed to its own failure by needlessly hurting growth. Mr Osborne would disagree. So, perhaps, would Sir Mervyn King.

But there is no argument that slow growth has hit tax revenues - and that, in turn, has almost certainly led to a situation in which Mr Osborne is either going to have to abandon his promise to have the stock of debt falling in 2015, or announce fresh spending measures or tax rises for the next two years.

The original plans had tax revenues rising nearly £70bn in the first two years of the programme, public investment falling £20bn, and public spending rising by around £50bn. In fact, both investment and current spending have come in below target, as I mentioned earlier. But by April of this year that had been more than outweighed by a £14bn shortfall in revenues.

As a result, overall borrowing in 2011-12 was nearly £10bn higher than hoped. And, as we have seen in these latest public finance figures - the trend so far this year has been in the wrong direction.

These are the hard realities, which will almost certainly look worse in the December Autumn Statement.

The IMF doesn't want Mr Osborne to react by announcing more tough medicine to meet his debt target. Nor, apparently, do many in his own party.

Now Sir Mervyn King has told him he does not have to. No doubt, the chancellor is relieved to hear it. But he'd be forgiven for also feeling pretty depressed at the reaction he is getting to the first two years of Plan A.

Stephanie Flanders, Economics editor Article written by Stephanie Flanders Stephanie Flanders Former economics editor

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  • rate this

    Comment number 207.

    206. Satm "Osborne is just another career politician."

    Worse still he has never run anything not even a whelk stall and is actually only a part time chancellor (working on Tory election strategy the rest of the time).

    But as he hasn't the faintest idea about real economics or money so how can we condemn him?

    We do have the right to expect he is competent, but he isn't (just like Mervyn King)!

  • rate this

    Comment number 206.

    Osborne is just another career politician.

    Arguably the only person to have entered the Houses of Parliament with honest intentions was Guy Fawkes.

    Nice to know that Nick Clegg is branching out a bit. I enjoyed his attempt at Hip-Hop - a serious contender for Xmas No. 1 methinks.

  • rate this

    Comment number 205.

    I wonder often, usually whilst sharpening saxes, who and how, decided was the correct level of government debt. Now don't get me wrong, 'cos the interest rates paid, are a far worse gamble than merchant banking self regulation - but it stems from the broader question - What is fair return on investment, given that customers are over charged for goods and services. That is the fact of the business.

  • rate this

    Comment number 204.

    Infrastructure payback timescales - good point. Spain has a new airport yet to be used, and a new railway with 2 passengers a week. Good future investment, or maintenance liability? HS2 anyone? If construction industry exported prefabs or bridges, the yes, invest now.

  • rate this

    Comment number 203.

    GO is good at presentation. His 2010 Budget speech was good & presented superbly; it also hinted at good things to follow in its wake.

    Nothing has materialised apart from shambles.

    He needs a behind-the-scenes technician so that he can be front man. Getting sensible policy past the rest of the Tory hierachy, let alone the LDs will not be easy but Cleggie appears to be waking up a bit.

  • rate this

    Comment number 202.

    You know what I meant!

    Are the 'infrastructure' ministries any more cash efficient - THE SPEND - than the other Ministries of State?

    What is the timescale for the payback? You neglected to answer that.

    Yours in rare rigour,

  • rate this

    Comment number 201.

    196 Up2Snuff
    "How do you work that out? And when does it generate the extra money?"

    GDP doesn't measure "money" it measures spending. Govt spending on infrastructure typically has a spending multiplier of at least 2.

    199 SRB
    Obviously when govt spends £1Bn on infrastructure they are clearly purchasing the construction.

  • rate this

    Comment number 200.

    What a surprise:

    Osborne hasn't got a clue.

    Not a great shock.
    Shocking yes. But we all knew that Gideon was out of his depth ever since he first went to school.

    What pray is the point of having this no-hoper in charge of anything?

    Ah. Perhaps he is there to make the others look good.

    A difficult task.

    Undertaken with gusto.

    He would put his back into it if he had a backbone.
    Bad smile too

  • rate this

    Comment number 199.


    When developers can't sell the homes they have already built, it seems a tad curious to expect them to build quite so many more.

  • rate this

    Comment number 198.



    See my remark in 14.

    This is going on and it is another swindle yet unnoticed by our subservient press. Last year they closed a library around here as it cost GBP100k per annum to run. There are seven senior managers on the council receiving in excess of that money in salary. Clearly a very bad choice was made. What value local government without services?

  • rate this

    Comment number 197.


    `Where is the "Get-up and Go", of previous generations gone?'

    It got up and went.

    Old joke recycled from Around the Horne.

  • rate this

    Comment number 196.

    How do you work that out? And when does it generate the extra money?

  • rate this

    Comment number 195.

    Rebuild a positive foreign trade. Identify need (easy) - identify ability to pay (cash or resources). Use knowledge and skills bank to make it happen (not so easy). Or - do nothing (even easier). Where is the "Get-up and Go", of previous generations gone?

  • rate this

    Comment number 194.

    Every £1Bn spent on housing and other infrastructure generates £2 - 3Bn in GDP. Govt needs to spend another £30Bn every year until tax receipts recover.

  • rate this

    Comment number 193.

    0.BluesBerry - ".....Osborne has 2 choices: cutting spending further or abandoning his goal of ensuring that the debt-to-GDP ratio starts falling by 2015."

    3 choices, no. 3 being borrowing a small % more, invest it wisely, see the economy grow & hit all his targets.....

  • rate this

    Comment number 192.

    why gold and silver tangible assets ,to be saved and kept for times of trouble,
    7 fat cows 7 thin cows,o georgie what does it mean,as my pal joey , build a big barn and fill it with good stuff ,in the good times, to cover the bad times,saver be ware ,dream on meryn king where arthur now to save lostalot in the casino,mervyn welsh for merlin,1st lesson in capitalist history joseph in the bible

  • rate this

    Comment number 191.

    good thing is with global warming and ice melt the joke on the titanic iceberg and all that ,well no chance of that happening nowadays, scotland hits gold in mountains good news for or freinds what with gold to go higher maybe $10,000 per ounce troy that is, texas intermedia sweet tea dropping on saudi promise to lower prices ,iran and venezuela come in to soft focus stay calm have a cupcake!!!!!

  • rate this

    Comment number 190.

    3 planets to live on, to sustain us goodbye all of natures work, 0growth fantastic +growth catastrophic,who will pick up the pieces sweet gypsy rose or deans daughter and me,cutbacks on every thing but food preservation
    meryn king for jam maker we could name top conservator and osborne the man from supermarketmoney.com surfer dude u know there worth it toss the cat another sardine dave old pal

  • rate this

    Comment number 189.

    The increase in public sector pay myth is almost true. In our local NHS trust the top ten earners have awarded themselves a 4% pay rise (average of £6000 per year extra). However, the staff on the wards will be getting a 15% pay cut.
    We're all in this together?

  • rate this

    Comment number 188.

    slow growth,just a relignment while the question of deficit and debt is answered,public sector borrowing up chillax, no problemo ,500trillion worth of derivitive trading to consider,at minimum wage how much does that equal world wide,1trillion uk debt at minimum wage how much does that equal! pay back time no


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