Financial markets shrugged off Chancellor Philip Hammond’s Budget of 22 November, despite the Office of Budget Responsibility’s downward revision of Britain’s near-term growth prospects. There is nothing unusual in this.
The date for a return to budget balance has receded every year since 2010. Hammond’s speech indicated that balance is unlikely to be reached before 2025, against the 2010 budget forecast of 2015. As ever, the chancellor has combined today’s give-away with tomorrow’s promised take-away.
Consecutive chancellors have set themselves flexible fiscal rules. Success is never measured by what happens, but by what the OBR forecasts will happen according to existing policy at an always-changing future date. This charade has been played out in every theatrical Budget statement for the last seven years. Markets probably see through it.
Perhaps it is not so odd that markets did not react to Hammond’s speech, regardless of the unprecedented size of the OBR’s downward revision to growth on only six months’ worth of new data. Markets have more important things to worry about, notably the UK’s exit from the European Union. But markets have failed to respond to Budgets throughout the past two decades. Movements have been no different from any other time, and median changes have been below average on Budget days.
Markets may be unaffected by Budgets for two reasons. Either budgetary policy changes are so brilliantly designed so as not to upset markets, or they don’t matter for markets. Either way, the basic tenant of Treasury fiscal orthodoxy is undermined. Austerity rightly began in 2010 when a failure to address the 10% of GDP budget deficit could have led to bond and equity market crises.
Despite mounting evidence since then that markets do not care about precise Budget changes, policy is still dictated by the assumption that they punish fiscal profligacy.
When the confusion of fiscal rules and OBR forecasts is unravelled, annual Budgets become no more than orthodox Keynesian-cycle demand management.
This does not alter the original need for retrenchment. But it does suggest spending cuts, coupled with monetary profligacy, have contributed to slow productivity and weak output growth.
Hammond has effectively abandoned austerity. In 2010 his predecessor George Osborne boasted, ‘The government will carry out Britain’s unavoidable deficit reduction plan in a way that strengthens and unites the country… Reducing the deficit is a necessary precondition for sustained economic growth.’ Reality has proved otherwise.
Needlessly rapid tightening has so damaged growth as to be largely self-defeating.
If this is correct, abandoning austerity could boost growth prospects – but always subject to the ever-uncertain Brexit outcome.
Brian Reading was an Economic Adviser to Prime Minister Edward Heath and is a Member of the OMFIF Advisory Board.