UK Budget: The UK is recovering from austerity. Here’s why

CNN Business

The last time a British finance minister revealed tax and spending plans, markets went haywire and the country’s prime minister eventually lost her job. The new government is not looking for a repeat performance.

Chancellor Jeremy Hunt is due to present a budget on Thursday that will aim to restore confidence in the UK’s ability to manage its public finances. But that may be easier said than done.

The country is staring down the barrel of a grueling recession, and investors are staying on the sidelines as interest rates rise. That requires Hunt, who has acknowledged Britain faces “extremely difficult” decisions, to strike a delicate balance.

Media reports indicate the government is looking to raise between £50 billion ($59 billion) and £60 billion ($70 billion) through a combination of tax increases and spending cuts, many of which which may not come into effect until after the next election. in 2024.

“If you do too much, too soon, you risk making the recession worse,” said Ben Zaranko, senior research economist at the Institute for Fiscal Studies. “If you delay everything until after the next election, you risk not being seen as credible.”

A new wave of austerity could help restore the government’s standing with financial markets after former prime minister Liz Truss’s budget, which featured an unorthodox combination of major tax cuts and increased borrowing, sparked panic.

But it will do little to ease fears about the country’s dire economic outlook. The UK is one of only two G7 economies that have contracted in the third quarter. It is now smaller than before the coronavirus pandemic. The Bank of England predicts a long recession, which could last until 2024.

New cuts could make matters worse. When the government adopted an austerity program in 2010 after the Great Recession, it cut 1% of the country’s GDP, according to the UK’s budget watchdog. Just four years ago, former Prime Minister Theresa May pledged to end almost a decade of austerity.

Now, tax rises could further depress consumer confidence, already close to an all-time low, and spending cuts risk putting more pressure on public services that are already buckling under enormous pressure .

Still, Hunt intends to show he has a plan to reduce public debt as a proportion of GDP in the medium term. It is currently at 98%. The Office for Budget Responsibility said in July that it could reach nearly 320% over 50 years.

“We need to make some tax rises, make some spending cuts, if we want to show that we are a country that pays our own way,” Hunt told Sky News on Sunday.

How did the UK get here? There is no shortage of finger pointing.

Part of the problem is global in nature. Interest rates have risen rapidly around the world as central banks try to curb inflation. This has driven up borrowing costs for the government, causing a shock after years when money was cheap.

At the same time, rising energy costs, exacerbated by Russia’s war in Ukraine, have forced governments to step in to cushion the blow from crippling energy bills, shortly after spending large sums to help households and businesses overcome the pandemic.

Hunt has ruled out plans to cap energy bills for typical households at £2,500 ($2,981) over the next two years. Instead, support will only be guaranteed until next spring. But the measures will still be costly.

However, the government cannot blame all its problems on the rest of the world.

“You can just look at how the UK is doing in relation to all the other countries in Europe, and it’s obvious there’s a UK-specific element to it,” Zaranko said.

Britain’s departure from the European Union has weighed on trade and exacerbated labor shortages in key industries. It has also contributed to a devaluation of the pound, down 20% against the US dollar since the Brexit vote in 2016, which has helped fuel inflation by raising the price of imports.

“The UK economy as a whole has been permanently damaged by Brexit,” former Bank of England official Michael Saunders told Bloomberg TV this week. “If we hadn’t had Brexit, we probably wouldn’t be talking about an austerity budget this week. The need to raise taxes, the spending cuts wouldn’t be there.”

And while inflation in the US cooled more than expected in October, falling to 7.7%, in the UK it is still rising strongly, reaching a 41-year high in 11, 1% last month.

This reinforces expectations that the Bank of England will need to keep raising interest rates and could keep them higher for longer, although the recession may complicate those forecasts.

The country’s labor market also remains extremely tight, with an employment rate below pre-coronavirus levels and a record number of people out of work due to long-term illness.

“The UK stands out because the supply of labor has been very tight, perhaps more so than in other countries,” said Ruth Gregory, chief UK economist at Capital Economics.

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