New fiscal rules make room for manoeuvre

LBS economist analyses Chancellor’s Autumn Statement

In his first Autumn Statement Phillip Hammond unveiled three fiscal rules to limit government spending, a London Business School economist states.

Writing yesterday in Forbes, Linda Yueh, Adjunct Professor of Economics, London Business School, analysed the three new fiscal rules:

“The Autumn Statement is the first indication of where the new UK government is headed in terms of fiscal policy. It’s a tricky course to navigate as the Chancellor manoeuvers between the Prime Minister’s wish to help JAMs (just about managing families) while showing an ability to bring down the level of government debt.

“The Chancellor’s solution is to adopt a new fiscal mandate, which is a looser set of rules around government spending with targets that don’t need to be met until the next Parliament.”

The three new fiscal rules revealed in this year’s Autumn Statement are looser than previous ones, explains Yueh.

“Firstly, the welfare cap won’t apply until the next Parliament. Secondly, public debt now has to fall as a share of GDP by the next Parliament and, finally and most significantly, how the budget deficit is measured,” Yueh states.

The Chancellor mentioned several times that the effects of Brexit are to create uncertainty about the future, explains Yueh.

“The new fiscal deficit gives the Chancellor more “fiscal headroom” to raise spending in case of a downturn. The Office for Budget Responsibility (OBR) estimates this fiscal rule gives the government scope for nearly 2.5% of GDP (£56 billion) more structural borrowing in 2020-2021.

“Notably, the Chancellor has said that he will borrow to invest and fund innovation, which are both areas that require funding to support economic growth. He has committed to spend 0.4% of GDP (£9.5 billion), mostly in infrastructure spending but also with some measures for JAMs including raising the National Living Wage and revising the Universal Credit.

“It still leaves 1.2% of GDP (£26.5 billion) of scope for borrowing by the government in case the economy weakens. In other words, if the potential negative impact of Brexit is worse than the OBR estimates, which is to reduce the size of the economy by 2.4% over the Parliament, then the government can raise spending and still meet the fiscal rules,” says Yueh.

“If economic growth is boosted as a result of more investment in infrastructure and innovation and giving some help to JAMs, any missed fiscal targets may well become as unimportant as the other missed ones. Importantly, in the meantime, the new ‘fiscal mandate’ would have helped the Chancellor manoeuver a delicate path