Britain’s public finances are in a rotten state. The deficit-reduction plan announced by George Osborne when he came to office more than four years ago is way off track. On current trends, borrowing to fill the gap between taxes and spending will be in the region of £100bn in 2014-15. The shortfall in the first five months of the financial year is higher than it was in 2013-14.
Clearly, this leaves the chancellor with some explaining to do. As things stand, in his autumn statement later this year he will either have to announce that his plan is still further behind schedule or announce new spending cuts or tax increases to make good the slippage. That’s not where he would prefer to be with an election looming.
Some caution is needed. There is still time for a pick up in tax receipts in the remaining seven months of the financial year and that is precisely what some analysts, such as Samuel Tombs of Capital Economics, expect to happen. Tombs thinks Osborne will get a last-minute splurge of income tax in January when the self-assessment returns flood in and that will help him hit his targets for 2014-15.
But even were this to happen, the underlying problem would remain. Osborne’s original plan was for the budget deficit to be below £40bn in 2014-15. It will be at least double that.
There are two main reasons for the slow rate of progress. The first is that growth over the course of the parliament has not lived up to expectations. In the past two years, the economy has broadly expanded at the speed Osborne envisaged back in 2010. But in 2011 and 2012 it performed well below expectations, and these two years of flat-lining hampered deficit reduction.
The chancellor had the option of imposing new tax increases or spending cuts to keep to his plans but wisely chose not to do so. Instead, he allowed his targets to go by the board.
The second factor has been the shape of the recovery. In its analysis of the August public finances, the Office for Budget Responsibility provided an explanation for unexpectedly weak income tax receipts: low paid workers were not earning enough to take them above the £10,000 threshold at which income tax starts to be levied. The recovery has created plenty of jobs, but many of them are badly paid. The public finances speak volumes about a nation of zero-hour contracts and self-employed workers scratching a living.
One other point made by the OBR is that tougher financial checks on those applying for mortgages appears to have slowed down demand for home loans, with knock-on effects for stamp duty.
There are three conclusions to be drawn from all this. First, deficit reduction will take two parliaments not one. Second, the deficit is sensitive to the state of the economy. Third, it is not just growth but the quality of that growth – and the distribution of the spoils of growth – that counts.
