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Careful not to cut spending too soon

David Hellier
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ANOTHER day and further signs there is some life left in the poor battered UK economy.. Yesterday it emerged that house prices rose for the third month in a row in June, according to government figures. And takeovers are back, it would seem, with the blue-chip insurer Friends Provident succumbing to an increased &pound;1.85bn bid (as we predicted in Monday&rsquo;s paper).<br /><br />It would be wrong, however, to think we are heading out of the woods with any sort of gusto.<br /><br />Today the Bank of England will give its view on the current state of affairs in the UK economy in its monthly Inflation Report and, as ever, the thoughts of governor Mervyn King will be considered with great interest. He is unlikely to be jumping for joy.<br /><br />Today&rsquo;s jobless figures will also provide food for thought about the strength or otherwise of any recovery.<br /><br />David Kern, chief economist at the British Chambers of Commerce, said yesterday: &ldquo;There has been a worrying increase in unemployment over recent months, and unless there is an indication that this trend is abating, it is highly likely that the jobless total will rise above 3m next year.&rdquo;<br /><br />The thing that scares people most is that the recovery, such as it is, will be snuffed out before it has really got going.<br /><br />Some, like shadow chancellor George Osborne, argue the recovery could be blown off course because the government has lost control of public spending and there is a risk that the UK will lose its credit rating.<br /><br />The government is convinced of its own plans to return to fiscal stability within five years.<br /><br />So far the response to the crisis has been to stimulate the economy, through quantitative easing, through investing in the worst off banks and via a VAT reduction to 15 per cent. <br /><br />Just as there is a danger in public spending being too high, there is also a danger of cutting it too soon. Many feel the US in the 1930s tried too quickly to tighten economic conditions after the banking collapses following 1929 and it was that policy that led to the depression.<br /><br />The government&rsquo;s forecast for capital expenditure shows it coming down from a high level now &ndash; partly inflated by spending on the Olympics &ndash; to around 1.5 per cent of gross domestic product in five years&rsquo; time.<br /><br />On current spending the government is targeting average increases of 0.7 per cent per year, which means that if the health budget is frozen others will need to be cut.<br /><br />Both parties accept the need to move towards fiscal balance but the difference seems to be that the Conservatives would move quickly.<br /><br />Labour is planning no tightening this year or next, though its opponents say if re-elected (unlikely) it would be forced to make cuts sooner.<br /><br />Partly it depends on your view of the recession and on how long you believe the economy will continue hobbling along like a wounded soldier. Attack it too soon with a fiscal tightening, though, and you may just have a fatal casualty on your hands.<br /><br />Or, as a recent paper by think tank Centre Forum says: &ldquo;A blind rush towards fiscal balance could bring back the recession with a vengeance.&rdquo;<br /><br />david.hellier@cityam.com<br /><br /><strong>&bull;Allister Heath is away</strong>