George Osborne’s latest Budget may turn out to be the fiscal equivalent of cricket’s underarm moment. On Wednesday, the chancellor’s gamesmanship of the fiscal rules reached its zenith.
A decade ago, Gordon Brown was roundly criticised for gaming his own fiscal rules. Those rules required a balanced budget over the economic cycle, excluding capital spending. They were judged to be some of the world’s best by the IMF, but proved insufficient to smother Brown’s ingenuity. He redefined the economic cycle to his advantage and reclassified increasing amounts of spending as capital to evade the balanced-budget requirement. By the time he left office, the rules were no more than a fig leaf. Few remember that he satisfied the letter of the rules until the financial crisis erupted; rather, it is remembered as a time of opaque fiscal mismanagement.
Osborne began his term as chancellor by establishing the Office for Budget Responsibility (OBR) to shine a powerful light on the public finances and avoid the murkiness of the past. He also set himself a pair of fiscal rules: to eliminate the deficit within five years, and to have debt falling as a percentage of GDP by 2015-16. The OBR has been the great triumph of his fiscal management, and provides an enduringly positive legacy of his attempt to right the public finances. It has a reputation for unflinching transparency and its independence has grown with each passing year.
Unfortunately, the chancellor has become increasingly effective at meeting his fiscal rules while trampling their spirit. Most of the censure Osborne has faced alleges that his policies retard economic growth by cutting spending unnecessarily fast. He is alive to these criticisms and announced this week that he will not only meet a new, tougher, fiscal rule but will also end austerity before the end of the next Parliament. As a bonus, he was able to meet 2010’s original target of ensuring debt falls in 2015-16. That target had previously been abandoned as implausible – a fiscal rabbit from Osborne’s hat.
He squared the circle with what the OBR’s chairman Robert Chote described as a “rollercoaster” path of spending. For the next three years, spending will be cut faster than at any point in the past Parliament, thus meeting the fiscal rule. In the final year of the next Parliament, spending will rise dramatically to demonstrate that austerity is over. Finally, rapid asset sales this year will pay down enough of the debt for the debt rule to be met.
The plan is poor fiscal policy. Forced asset sales mean low prices, as the sale of Royal Mail vividly illustrated. Rapidly cutting the deficit will neither lift wellbeing nor improve the sustainability of the public finances. With monetary policy still close to the zero lower bound and the slump in the Eurozone threatening Britain’s export markets, jeopardising growth with unnecessarily large cuts to government expenditure is extremely risky. Moreover, the real threats to the public finances come in the form of rising NHS and pension costs as the population ages. Neither will be addressed by Osborne’s plans. This Budget is a triumph of politics over economics, but the chancellor, like his predecessor, is merely responding to the incentives he faces.
The fiscal rules determine the shape of fiscal policy, and it should be no surprise that each chancellor finds a way to meet them that maximises political gain. The solution is not to bemoan Osborne’s evident skill at the game, but to change the rules – as the ICC did after the underarm incident.
The problem is that no rules are immune to being gamed by an expert player. What is required is a neutral umpire with a strong understanding of good fiscal policy. Today, the OBR can fulfil that role, if its mandate is expanded. Asking it to assess the Budget for its impact on wellbeing, and its consistency with long-run fiscal sustainability, would be a good start.