UK Budget: Weaker growth prompts more fiscal tightening

Azad Zangana, Senior European Economist, comments on the UK’s 2016 Budget

In his Budget announced on Wednesday 16 March, UK Chancellor George Osborne chose to focus on small tax breaks, reforms and micro spending announcements, while glossing over the extra austerity planned.

The Chancellor’s latest update could not have come at a more politically sensitive moment in time.

With his party split on the UK’s future with Europe, the main opposition playing on those divisions, and the Scottish National Party (SNP) threatening to call another independence vote for Scotland, George Osborne had to deliver bad news to the public without giving his enemies too much ammunition.

The key headline from the Budget was the downgrade to the UK’s economic outlook. The independent Office for Budgetary Responsibility (OBR) lowered its forecast for real GDP growth in every year, with the cumulative downgrade worth 1.5% by 2020/21.

Combined with a lower forecast for inflation, the inevitable hit to tax receipts was unavoidable.

The OBR expects the weaker macroeconomic outlook to reduce tax receipts by £16.4bn by 2019/20, with related additional spending adding just over another £2.4bn.

Without action, this would have meant that the Chancellor would break his fiscal rule of running a budget surplus by 2019/20.

In order to put the public finances back on track, Osborne announced a plan to tighten fiscal policy by £10.4bn, which in addition to an expected saving of £5.4bn from lower interest payments, would leave the Chancellor with an even larger surplus than previously forecast for 2019/20 (to £10.4bn).

The details of these plans have only been partially revealed. For example, the £3.5bn of new departmental cost savings have not yet been found.

Public sector net borrowing has been revised up in most years, and is now forecast to be reduced to a surplus with a delayed profile. The impact of this will mean more borrowing over the interim years. With the exception of this fiscal year, net debt will still be falling over the forecast period, but the level will be 3.4% of GDP higher by 2020/21 (albeit lower in cash terms).

Note, the rise in debt as a share of GDP this fiscal year means that the Chancellor has already broken one of his fiscal rules.

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