LONDON (MNI) – The Office for Budget Responsibility is set to slash
its growth forecasts in the Autumn Statement but while this will push up
borrowing it is set to have little impact on fiscal policy – at least
not yet.

The government’s fiscal rules, and the margin for error in the
OBR’s spring forecasts, probably provide enough leeway to ensure
Chancellor of the Exchequer George Osborne will not have to tighten
fiscal policy in response to the deterioration in the growth outlook.
Given the weakness of economic growth he even looks set to bring forward
some capital spending to try and kick start the economy.

By using up all his wriggle room though, Osborne looks set to leave
the public finance forecasts with little room for error and vulnerable
to shocks – a potential worry with the Eurozone teetering on the edge of
financial disaster. Back in March, the OBR forecast growth would be 1.7%
this year, 2.5% next and 2.9% in 2013. Since then the economic storm
clouds have gathered leaving these far too optimistic.

The Bank of England’s latest, implied projections in the November
Inflation Report showed 1.3% growth in 2011, just 0.9% in 2012 before
rising to 2.8% in 2013. The average independent forecast is for growth,
based on the Treasury’s own compilation, is for 1.0% growth this year,
1.2% next and 2.1% in 2013.

Geoff Dicks, now at Novus Capital and a guiding light in the early
days of the OBR, said in a note that the OBR will typically stay close
to consensus near term on growth. That is because its task is to use its
access to confidential information, and expertise, on the fiscal side to
produce public finances projections based on non-controversial growth
predictions.

So the OBR can be expected to slash its growth forecasts down to
around 1% this year and next and such a large downgrade will have a
large upward impact on borrowing, mainly due to lower tax receipts. For
now, Osborne, can just about get away with ignoring the higher borrowing
and not be forced into announcing further fiscal tightening. When
Osborne came to power in 2010 he talked about eliminating the structural
deficit in the lifetime of this parliament.

The fiscal mandate he actually adopted, however, was more subtle –
giving him a get-out clause. It was “that the structural current
deficit should be in balance in the final year of the five-year forecast
period,” that is a rolling five year fiscal target which just happened
to match the end of parliament when he first announced it. Its secondary
target was to see public sector net debt falling by 2015-16.

The good thing about a rolling, cyclically adjusted fiscal target
is in bad times “you don’t need to immediately adjust fiscal policy,”
Gemma Tetlow, at the Institute for Fiscal Studies, says. The bad thing
is it is difficult to say whether you ever hit your target, she adds.

With fiscal tightening plans clearly in place, playing the deficit
rollover this time around is unlikely to upset markets. Ex-Chancellor
Gordon Brown, though, was ridiculed for moving the goalposts of his
Golden Rule when he was in charge of the Treasury and the markets are
unlikely to let Osborne get away with it again and again.

The OBR’s March forecasts showed the government on track to meet
its target with the cyclically adjusted current budget surplus showing a
surplus of 0.4% of GDP by 2014-15 and 0.8% by 2015-16.

Tetlow points out that this provides a buffer for Osborne, as not
only is there a cushion of 0.8% of GDP over target by 2015-16 but,
because of fiscal drag, the buffer should be even larger when the target
rolls over to 2016-17.

Back in March, the OBR forecast that there was a roughly 70%
probability that the cyclically adjusted current budget would be in
balance in five years’ time. Even if the probability falls to 51%,
Osborne could claim to be on track to meet it.

Some analysis has indeed suggested the forecasts could end up
showing the finances on track to meet the fiscal mandate with no margin
for error.

One problem for Osborne is that the OBR is likely to cut its
estimate of the ouput gap, reducing the amount of the deficit that can
be attributed to the cyclical factors.

Dicks says as a rule of thumb a 1% narrowing of the output gap
would add 0.7% to the structural deficit and in part because of this
the current budget could stay in deficit through until 2015-16.

The get out for Osborne, however, is that if the OBR extends the
forecast to 2016-17 it “will effectively give the Chancellor an extra
year in which to achieve his mandate”, and he can still claim to be
on track to meet it, Dicks notes.

Not only may Osborne be able to claim he is meeting his fiscal
mandate, but he even looks set to provide some stimulus spending,
through infrastructure investment and credit easing.

In a weekend interview with the BBC Osborne was asked about the
chances of getting rid of the structural deficit by 2014/15 and replied
that the rule said “we would eliminate the structural deficit actually
on a five year horizon,” underscoring the room for maneouvre he has left
himself.

He also revealed some details on credit easing, saying it was going
to be called the National Loan Guarantee Scheme and “the government will
underwrite the loans the banks make to small businesses in order to cut
the interest rates that small businesses pay.”

He said the government will make Stg20 billion available for the
National Loan Guarantee Scheme “within an envelope that could be as
large as Stg40 billion.”

As the scheme is based only on guarantees, rather than actual
payments, it should not impact on the basic fiscal arithmetic.

–London newsroom: +44 207 862 7491 email: drobinson@marketnews.com

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