With the Chancellor shifting his borrowing target goal posts almost as often as Jose Mourinho is referred to the Football Association, one persistent economic enigma has been, and is, whether Gordon Brown will meet his fiscal rules or not. According to calculations from Centre of Business and Economics research, with the economy likely to slow next year, Mr Brown is likely to hand over to his successor an economy on course to breach both his fiscal rules.
CEBR expect that the ratio of net debt to gross domestic product will exceed 40 per cent in 2008-09 due to slower economic growth #151; breaching the second fiscal rule #151; while the Chancellor or his successor are also likely to break the first fiscal rule, the golden rule, by posting public sector deficits on current account in each year up to 2010. These are key findings from the CEBR’s winter release of its Quarterly Business Forecast.
One of the Chancellorâ€™s problems is that the likes of Premiership footballers, city high-fliers and pop stars working partly in the UK are increasingly able to operate outside the UK tax net. High taxes in the UK and the easy availability of tax havens abroad mean that it is increasingly difficult to get high income earners to be based in the UK for tax purposes, so an increasing part of GDP is escaping the tax net. In addition, middle income earners are becoming increasingly averse to high rates of such taxes as VAT, income tax and stamp duty.
Another problem is that like the Bank of England (and no independent forecaster) the Treasury expects faster growth in 2007 than in 2006. This is a long shot. CEBR’s forecast is for economic growth to slow from 2.6 per cent in 2006 to 2.3 per cent 2007 and 2.0 per cent in 2008. Weaker growth in the United States, higher interest rates and low real earnings growth will cause a slowdown in consumer spending and business investment in the United Kingdom. The world slowdown will also reduce UK export growth in 2007, according to cebr, causing a deteriorating net trade position. All in all, this will also impact on fiscal revenues, with public sector net borrowing remaining high rather than falling by Â£4.5 billion as the Chancellor hopes. With public expenditure likely to remain high, public sector net debt and current borrowing are forecast to roughly remain at current levels in the next two financial years. As a result the ratio of net debt to gross domestic product is predicted to rise above the 40 per cent ceiling set by Gordon Brown in 2008-09 and the current budget will average a deficit this cycle.
On the monetary front consumer price inflation is set to retreat marginally below the Bank of Englandâ€™s targets in the second quarter, according to CEBR’s forecasts. This will give some room for interest rates to end 2007 at 4.75 per cent. However this does not rule out a further rate rise in the first quarter of 2007, particularly if wage inflation rises in the January pay settlement round.
At the beginning of this year CEBR forecasted 2006 economic growth to average 2.6 per cent, suggesting that the Chancellor was, for once, too pessimistic about growth. That forecast now looks pretty well spot on. Yet despite the economic upswing, public finances have failed to improve, and with the expectation of slower economic growth in 2007, the outlook for public borrowing is not positive #151; even after ignoring the Chancellorâ€™s projected investment spending spree.
On our CEBR, unless taxes rises are even more pronounced or expenditure growth sharply cut, the Chancellor will break his first fiscal rule this cycle and his second fiscal rule in 2008-09. All this is likely to mean larger tax collection efforts by Whitehall on the one hand, and less effort required by Monte Carlo and the Isle of Man on the other.
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